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Investor’s checklist III. – Strategy 1.

Having a [tag]strategy[/tag] in a battlefield was a key to a battle or a war victory. Having a strategy in a [tag]business[/tag] is a key to a success in everyone’s business. People plan their work, vacation and even their family budget (well, some of them). Every morning when we get up, we may start our thoughts with a simple question: “What am I going to do today?”. At work we have schedules and plan our meetings. When it comes to investing our hard earned money, we are blind and deaf. We [tag]invest[/tag] without any plans, strategies and tactics. It is a random walk, which looses our money. About 80% of all [tag]investors[/tag] and traders loose their [tag]money[/tag]. There are many causes, one of them is a lack of any kind of strategy.

In my previous parts of this series I wrote how to prepare yourself for investing from the very beginning and how the stork market works. Today I try to describe the importance of a [tag]strategy in investing[/tag].

Search for the best strategy

If you do not know how to start and which strategy to select, start searching for it first. It shall be the part of your study process to find some strategies and think about them. Use internet, magazines and books to find some strategies and read about them. You need to find one, which would work for you. It is not an easy process. You need a strategy which you will understand and which will be easy to apply. A strategy, which is understandable for someone else, may not be suitable for you and you need to find out which one will work for you. I tried some of them myself before I found the [tag]Reverse Scale Strategy[/tag], which I have implemented about three months ago. None of the previous strategies worked well for me or were easy to understand. One strategy was either time and money consuming or completely difficult to grasp and implement. In this article I try to show you some common strategies and describe their pros and cons.

Learn your strategy

After you find the strategy, which may work for you learn it. You can open a training hypothetical [tag]account[/tag], if you wish, and you should try your strategy first. Do not modify the strategy prior you learn it. Do not create your own strategy prior you handle one of the known strategies. All such modifications and inventions lost me my money. I learned I have to find a strategy, learn it first and then I could start modifying it and building on such knowledge.
The best way of learning the strategy is from someone you know and who will be willing to show you her approach in investing. Being a follower is the best way how to learn, interact and get answers to your questions. There was an excellent experiment in 80’s performed by the known [tag]technical investor[/tag] Richard Dennis and his partner William Eckhardt. Dennis believed that everyone could learn and become a [tag]successful investor[/tag], no matter what background such investor had, if taught properly. Mr. Eckhardt disagreed and this led to an experiment known as [tag]Turtles traders[/tag] (The Complete TurtleTrader: The Legend, the Lessons, the Results, Michael W. Covel, 2007, p: xiii). Turtles were taught trading strategies and techniques and they became very successful. You can benefit the same way by having someone who can teach you strategies and techniques. If there is no one around, you should use internet, books, seminars or webinars. You can use internet forums for asking questions, subscribe to web sites teaching strategies or newsletters to get as many information about your strategy as possible. You find your way to [tag]successful trading[/tag].
Practise your selected strategy. Open a hypothetical account to try it first before you employ your own money. I am a kind of person who is not patient enough for paper trading, so I have started my own trading with a small account before I employed all my money for trading. It is a strategy of learning as well. You can do it the same way, if you want. All is up to you and your risk tolerance. Using a training account however can help you to determine which of the strategies are best for you. You can find out whether it is easy to implement, understandable, making you profits or not. After you find and verify such a strategy by paper trading I would recommend employing small money and start trading in real world. Paper trading will teach you how the strategy works and whether it is good for you or not, but it won’t teach you the psychology of investing. The worst enemy of every investor is himself and his mind. Real world investing is all about handling your mind.

Type of strategies

There are many strategies out there. They have different names and I do not know them all. Some investors invest based on many factors and indicators, some use momentum trading, technical trading, mechanical trading, contrarian trading, dollar cost averaging trading, buy and hold trading, bargain hunters, CAN SLIM strategy, Reverse Scale Strategy, and many others. Let’s take a look at some of them.

Buy and hold

This is a very common strategy and many advisers advocate using it. They say that no investor is able to predict the stock movement correctly and therefore she should avoid timing the market. As per them, the best approach is to buy a stock and hold it. How long, for ever, your whole life? How can you protect your money with this strategy? They say, it is a very good strategy for a very long term. What does it mean “very long term”? Are we talking in years or centuries? Look at the following chart showing what happened these days:

CITI monthly chart

The chart shows a monthly price of Citigroup (C). If you would have bought this stock in 2005 you could have a nice profit by the end of 2006. Since then however the stock has fallen deep to $3. The stock has lost 95% of its value since December 2006. Even if you diversify a lot, you would not be able to withstand such a loss and with the buy and hold strategy your portfolio would be plundered. Would you be able and willing to stay calm and sitting on such a loss and hoping for fast recover? How long will it take to this stock to recover? Or would you rather learn a strategy, which can help you to avoid such a loss and get rid of the [tag]stock[/tag] when it shows a signal to do so as Citigroup did on February 26, 2007? It is up to you to make the decision, which one is better. I already made such a decision and this strategy is not for me.

Bargain hunters

Bargain hunters are another group of investors who sometimes call themselves as value investors. They use various indicators to determine when the stock is undervalued to buy it cheap. Some use P/E indicator, some use other more sophisticated calculations to find stocks’ intrinsic value and some just look for a dip or price decline to buy. I didn’t find this strategy useful for me either. I do not have time to perform various calculations, searching for inputs and variables just to calculate intrinsic value of the stock. I do not consider interesting buying stocks because of their low P/E. As [tag]William O’Neil[/tag] says by watching [tag]P/E[/tag] you could easily avoid one of the biggest money makers in history such as Yahoo!, Google, Microsoft, Home Depot, and many others. All these stocks had high P/E values prior their historical run (How To Make [tag]Money[/tag] In [tag]Stocks[/tag]: A Winning System in Good Times or Bad, 3rd Edition, William J. O’Neil, 3rd ed., 2002, p:21).
Also buying on dips or price drops to buy the stock cheap is not the best idea. Many times I have heard my friends saying: “It cannot go deeper, this is so cheap!” I also experienced similar temptations even these days.

Citigroup daily chart

I looked at Citigroup again and I told myself it wouldn’t go deeper. I considered the drop from about 51 dollars of price to 22 of dollars as an excellent opportunity to buy a good solid company, which was able to survive the financial crisis. The two horizontal red lines were my support and resistance indicators and I was ready to buy the stock when it would broke up through its resistance line. I even have submitted an order to my broker the day before! Fortunately soon enough, I realized that this would be a trade against my rules and I couldn’t afford another rule-breaking. I canceled the order and didn’t buy. What followed then you can see on the daily chart.
There is one exception when hunting bargains is possible. It is when pyramiding your trades. This is another story however and I will be talking about it when describing other strategies such as CAN SLIM.

Next, I will talk about other strategies such as dollar cost averaging, CAN SLIM and Reverse Scale Strategy. Stay tuned for continuation.

to be continued…

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7 responses to “Investor’s checklist III. – Strategy 1.”

  1. Investor Relations Firm says:

    I found your blog on google and read a few of your other posts. I just added you to my Google News Reader. Keep up the nice work Look forward to reading more from you in the future.

  2. Buy Penny Stocks says:

    Nicely put I agree for the most part.

  3. Hi, good post. I have been woondering about this issue,so thanks for posting. I’ll definitely be coming back to your site.

  4. Penny Stock Forum says:

    I will be linking back I really like your site keep up the good work.

  5. Stock Forum says:

    Wish I had a site like this one, I will link back I think my readers would enjoy your site.

  6. Stock Trading says:

    I like the info and will be linking back to you from my site. Also great looking site.

  7. What is your strategy and how did you find it and implemented into trading? Can you share your experiences?

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