Tag Archives: stock market

Stopping out

When I talk about investing with people, it’s natural that most of them don’t understand there are a lot of different types of orders. Most people know that you can place an order to buy or sell when a stock hits a certain price, but it gets more sophisticated than that. One form of sophistication is the trailing stop-loss order, which is available from any fully equipped discount brokerage.

It works like this. Suppose your shares of Baloney, Inc. (BLNY) are way up. You’re not eager to sell, but you think the markets are high, and you really don’t want to ride BLNY down the chute of a big selloff. Okay. You place a trailing stop-loss order to sell all shares, good till canceled (at Fidelity they expire after a max of six months). The trigger condition is a percentage that you choose. If you pick 1%, you must really want out, because a 1% drop in value is typical on a down market day–and isn’t even remarkable over two days or more.  If you pick 5%, it would take a very big single day of loss to trigger that, or a loss of that size spread over multiple days.

The mechanics of this are a headache for the brokerage, but that’s why they get paid. Suppose BLNY is at 100 when you place a trailing stop-loss order to sell it, trigger 5%. As of right then, the trigger price is 95. However, if BLNY goes over 100, the trigger point is recalculated (each time it gets above the high) based upon a 5% drop from the new price. So if BLNY climbs to 120, without ever declining 5% from its highest price since the order, its trigger point will be 114. That is 5% less than 120. The brokerage keeps this stuff in a separate file so it can keep updating your trigger point. When it sells, we say that it ‘stopped out.’

Seems like cheating, doesn’t it? That’s what seasoned investors do any way they can legally or practically do: cheat. Of course, you have to realize what exactly occurs with this type of order. When your shares drop to the trigger point, your order converts to a market order (and it is not going back; the die is cast). You may not get your trigger price, though it should be close. There has to be someone wanting to buy the shares for that market price. A market order, the simplest form of order, simply says ‘sell this now at what the market will pay.’ No type of order can create liquidity (investor-speak for ‘someone wants this, so I can sell it’) if liquidity doesn’t exist.

Can this hurt you? Well, there is no crying in investing. Big kid tools are for big kid investors. Most people are thinking of crash protection, but remember that once a trigger point is established for the order, it will never go down. If you aren’t serious about protecting some form of profit (or avoiding further faceplant), better not place one of these, because the smaller your % loss specified in the order, the more likely it is that a moderate market shift could trigger your sale.

My own belief on stop-loss orders is that they are for times when you think the market is stupidly high, you’ve profited handsomely from it, and you’re ready to protect the profits. I’m at that point right now. There isn’t really a good reason for the markets to be as high as they are, at least not as far as I can see; banks still aren’t lending much, interest rates on savings are an insult, there’s no big job boom, and the economy is still fought over by the macaques, gibbons, chimpanzees and ourangoutangs in Congress, who are doing nothing to help it, being too distracted by ideological feces-flinging competitions. If there’s a big long market slide, I expect to buy these stocks back at discount prices. It’s not that I don’t like the companies’ prospects; it’s just that in investing, I don’t give a damn about anything but money. I gain no emotional satisfaction from holding Berkshire Hathaway (BRK.B) shares; I just think they are a good investment. However, I’m not stopping out of those, because I think they are such a good investment they will weather a market decline very well. I’m not stopping out of my dividend farms (closed-end bond funds), because I didn’t buy them for capital appreciation. I bought them so they’d pay me money every month. They will still do that, by and large, regardless of what their prices do.

We–you and I–didn’t invent this game. We have the right to play it for keeps, for our own reasons, using whatever tools are available to us. For me, one of those is the stop-loss order.

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Being greedy when others are fearful

One of my life philosophies is that if very successful and smart people say things, one should pay careful attention.  This blog, for example, resulted from just such a situation.

I look at the markets today and I see and smell fear.  Never mind that much of the fear is generated by skewed, distortionary indices like the Dow; never mind that the media deliberately worsen it by anthropomorphizing and exaggerating the market.*  Never mind that it’s all based on taking advantage of a fundamentally innumerate public’s emotions.  I can’t change any of that.  I can, however, profit from it.

(*Think I’m exaggerating, myself? Riddle me this, Robin.  When I first started losing money buying stocks because I thought I was smarter than other people, in 1987, the useless, worthless, despised Dow was around 2000.  A 100-point triple-digit loss would be 5% at least–a really bad market day by nearly any measure.  Fast forward to our modern day of Dow 10000+.  A triple-digit loss of 100 today is 1%–essentially the expected daily fluctuation.  And yet today, even today, a triple-digit day (by itself a meaningless threshold anyway, just a number) gets big reactions, reactions like it used to get in the early 1990s.  Why?  This is stupid. If you get taken in by it, or even influenced by it, you harm yourself. And when the media characterizes the market as ‘struggling to hold gains’, you surely can see how stupid that is. The market does not care what it did five minutes ago. It does not struggle. It is not a person.)

Anyway.  My own philosophy on investing is fairly simple:  patient and ruthless.  I don’t use investing as a social responsibility tool.  I would buy Wal-Mart in a heartbeat if I thought I could make good money.  Owning their stock does not help them because the initial offering is already subscribed; if you sell it, someone else will own it.  Plus, if you want to use it as a social responsibility tool, buy up a ton of shares and then vote them against the board of directors, and start shareholder movements that annoy management. That actually affects them.

So when I see a big selloff after a week or two of selloff, I’m not nervous.  I never look at the market without asking myself what I would do if this were the day–the day it plunged 20% followed by another 10% tomorrow.  Having seen that in life, when I see the markets go south, I start doing like Buffett says:  others are fearful, so be greedy.  I am bargain hunting.  I want to buy solid income investments at bargain prices, gaining high yields.  Why do I like income? Very, very simple.  I don’t have to worry about when to sell the investment.  I just collect my money and thank them.  The important thing is to buy so cheaply that your own yield is ridiculously higher than what most people will get.

Waiting, watching and checking cash balances.  C’mere, high yields.  I won’t hurt ya.  We’ll be friends for a long time.  I won’t freak out and sell you in a panic like most people.  It’ll be great for both of us.  Stability, steadiness, profit.