How to Navigate Rising Investment Perils
Stock market volatility has picked up this week, as investors fret about the escalating U.S.-China trade war and mixed corporate earnings. It’s during turbulent investment seas that I turn to Jim Fink, a trading expert whose picks consistently outperform regardless of market conditions.
Jim Fink [pictured] is chief investment strategist of the trading services Options for Income and Velocity Trader.
For today’s Big Interview, I asked Jim to provide time-proven methods to achieve investment success, without sacrificing safety.
Jim, for starters, what’s the difference between investing and trading?
This quotation from Benjamin Graham, the father of value investing sums up the difference: “In the short run the market is a voting machine. In the long run it’s a weighing machine.”
Investing is a long-term proposition, where the value (i.e., the weight of discounted cash flows) of a stock eventually determines its price. By contrast, trading is a short-term activity, where supply and demand (i.e., the votes of buyers and sellers) determine a stock’s current price.
Successful traders use a plan and have the discipline to stick to it. The fact that some traders are billionaires suggests that short-term trading can be profitable if you do it right.
Quant trader James Simons of Renaissance Technologies is reportedly worth $21.5 billion, Ray Dalio of Bridgewater Associates is worth $18.4 billion, Stephen Cohen of Point72 Asset Management is worth $12.8 billion, Ken Griffin of Citadel is worth $11.8 billion, and traders Paul Tudor Jones, Bruce Kovner, and David Shaw are all said to be worth more than $5.0 billion.
So what are these guys doing right? To be honest, I don’t really know because they are all private hedge fund managers who are secretive by nature.
Could you explain the importance of position sizing?
How much of your trading capital you risk on a trade is the most important aspect of your trading plan. According to Van Tharp, investment psychologist and author of “Trade Your Way to Financial Freedom”:
“Position sizing dramatically adds to the potential profits or losses that can occur throughout the course of trading. In fact, position sizing accounts for most of the variation in performance of various money managers.”
If you bet too little of your capital per trade, you make too little. If you bet too much, you risk going broke.
There is no such thing as a risk-free trade; there is always a chance (however small) of losing money. If you bet the farm on a trade and it turns out to be one of the few times that your trading system loses money, game over.
Losing too large a percentage of your capital makes it virtually an arithmetic impossibility to gain it back. Consequently, a trader must find the optimal “middle ground” position size for her trades.
In his book, Van Tharp describes a simulation he ran based on a $1 million portfolio and a trading system that took 595 trades over a 5.5 year period. He ran it several times with the only difference being the position size of each trade.
The results showed a huge difference in the ending account value, ranging from a gain of only $32,567 to a whopping gain of $2.1 million. Let me reiterate: all trades (both entries and exits) were exactly the same in all simulations except for position size.
Conclusion: position size is all-important!
Provide a few all-weather trading rules.
Sure. A trading portfolio should be well-diversified in order to reduce risk. Position sizing is one way to ensure that such risk-reducing diversification occurs.
A trader needs to be humble and trade in the direction of current market action rather than try to predict future market direction. Traders must keep in mind both stop-loss exits and profit exits.
Psychological discipline is important. The toughest part of trading is remaining consistent and following the rules—even when your gut tells you otherwise.
And never get paralyzed by fear of the unknown and the possibility of losing money on any particular trade. Perfection is the enemy of the good. Accept limited losses as a cost of doing business.
As they say in the state lottery, you’ve got to be in it to win it. So devise a sound trading plan, put some money down on short-term stock or option positions, and watch the profits start to roll in!
Editor’s Note: You’ve just read my interview with Wall Street veteran Jim Fink. Well, there’s one thing we didn’t cover in our discussion: his secret to making 18 times more than buy-and-hold investors.
Jim Fink has come up with a system that turns small stock movements into market-crushing winners. He’s sharing how this powerful tool works… and how you can use it to make $125,000 in the next year… at the Ultimate Profits Summit.