Personal Investors and Discipline

When, Not Could
I remember practicing wind sprints for track and field in high school.  I noticed a guy around my own age hanging around the track as I practised.  I  would get into the starting blocks, in the ready position, then set, and Go!  Over and over, again.  The bus would get me to school 45 minutes early, so I had lots of time to change and practise before classes started.  On this particular day, the person watching me didn't seem to have anything better to do, so he just hung around watching me.  I didn't even say anything to him, I was just trying to concentrate and visualize for my next race.  After quite a while our eyes met, and he said, "You know, I could be just as good as you if I practised like you do."  I had no doubt, as I was less gifted at sprinting than my brother.  For all I knew the only difference between my success and my bystanders lack of it, was the discipline I applied in training most mornings.

Not Just A Game
We need to do what we know, and not just know what to do.  There is a big difference between the two.  When it comes to learning about investing I encourage people to paper trade.  This lets them learn the mechanics of entering a position, tracking it, and then, later, selling it.  No matter how long we paper trade, it will never completely prepare us for the real thing.  When there is serious money involved, dealing with the emotions that come up becomes the real key to success.

Buy High; Sell Lower?
Everyone knows we need to buy low and sell higher, but people who lack the proper discipline usually end up buying high and selling lower.  Without a proper plan people end up wanting to buy after the trend is well established, and sell when the pain gets bad - usually at a bottom.  In fact, that is what causes the bottom - when those wanting out have done so, the price can begin to rise, again. 

Self Protection
The problem is compounded when people buy and sell on impulse.  Rumours and opinions generate greed or panic.  Fear is contagious - when a run starts in the market, it will often overshoot the bounds dictated even by logic.  In fact, there is a saying that the markets can stay irrational longer than we have the ability to stay solvent.  There are definitely times when fundamentals, and even times when the technical indicators defy logic.  These are times when we cannot rely on emotions, let alone logic.  We need a tried and true methodology that will protect us from ourselves, but we also need the discipline to stick to that proven strategy.

Self Deception
This past fall, I simply could not get myself to believe the government stimulus in the U.S. economy would drive the stock markets as high as it did.  I kept waiting for them to fall.  Instead, I needed to follow my own methodology and take advantage of one of the best market rallies ever.  These are the times when proper discipline saves us from getting it all wrong by falling victim to the deception of our incorrect impulses.

Less Emotion, Not Emotionless
That is not to say we should not be passionate about what we do and how we do it.  It does mean managing our emotions so they do not blind us, preventing us from seeing what is really going on.  Good strategies keep us on track doing what we know works.  One of the most important factors that gives great investors an edge is their ability to be disciplined in executing proper strategies.  I believe there is only one other thing more important than this, and I will blog about it next time.

Do you consider yourself to be a disciplined investor.  If not, why not?

Personal Investors Are Self-Confident

No Doubt
I went back and forth as to whether I should label this particular trait as self-confidence, or self-reliance.  In either case this trait has to do with one's ability to prevent self-doubt from inhibiting good decisions.

Why Sell?
I wish I had a nickel for every story I have heard regarding the person who sees their broker about taking a profit, or minimizing a loss, only to get talked out of it.  The person then sees the broker as responsible for the problems they are having.  Perhaps there are almost as many instances when the broker had talked us out of doing something foolish.  We minimize those situations, so they don't readily come to mind.  I don't have any research on the subject, but I would be willing to bet that for most of the times we get talked out of doing something by the broker, we end up regretting it.  The reason for this is simple.  Despite our misgivings, there are more reasons for the broker to have us hold the position then there are for them having us exit it.  Unfortunately, few of those reasons favour us, and our success.

Homework, Not Ratings
Which brings me to the subject of stock picks.  The best Personal Investors use the ideas from others to do their own research..  I never buy a stock based on ratings, recommendations, or rumours, yet people are inclined to do so too much of the time.  I only buy a stock when my homework tells me the stock, on a historical basis, is on sale, and the momentum favours doing so.  Also, any investment we make needs to be consistent with our risk tolerance.

How Much Is Too Much?
I never rely on those incredibly dumb surveys used to assess investor risk tolerance.  If anything, for our own protection, we want those surveys to show us as being on the very conservative side.  This limits the amount of risk any broker might exercise on our behalf.  Regardless, I decide how much money I am prepared to lose on an annual, monthly, weekly, and daily basis.  When any of those amounts are exceeded, I exit and wait for evidence of more favourable conditions.  I talked about the best method I know to reenter the markets in a previous post Stock Market Bottoms.

Confident Choices
We need to understand that we have nobody else to blame for the state of our investments when they are under performing, or just plain losing money.  We can blame greedy bankers, untrustworthy brokers, bad timing, and any number of other things.  Instead, we need to do a little bit of homework.  That will tell us how, when, and what to buy, not what others want us to.  Our picks need to be consistent with our tolerance for risk.  Any time our losses exceed our tolerance, I believe it is best to exit, and not wait for others to tell us to do so.

Knowing how, knowing when, knowing what, allows us to have confidence in the composition and performance of our own portfolio.

How confident are you in your portfolio?

Personal Investors As Risk Averse

Investing, Not Gambling
It may seem odd  that I would see the best investors as being risk averse.  After all, no risk, no reward, right?  But this isn't gambling, this is investing.  The odds are stacked against the gambler - eventually the house always wins.  I invest only when I believe the odds are in my favour.  I see people putting their money into penny stocks, or wanting in on the next hot thing, or Initial Public Offering  (IPO).  I ask myself, why? Now, I'm not saying there is no money to be made in these areas, I'm just saying for most Personal Investors the odds are against it.  Very few people have the necessary skills.  These are also areas that manipulators work to their advantage.  People get fooled, believing their loss would be small while their return could be almost infinite.

Loss vs. Gain
Personally, I am less interested in how much I can make as I am in how much I can lose.  The bottom line is, any loss is significant.  I believe the best Personal Investors have a low pain tolerance for loss.  That is one of the reasons I now believe it makes no sense to buy anything with only the hope that, one day, it will be worth more than what I paid for it.  Such is the thinking behind Buy and Hold - buy now, hold until it is worth more than what we paid, even if it means suffering major losses.

Lesson Learned
But, what if the markets go down before going up?  It happened to me - once. Leaving the company I had worked at for many years, I took the proceeds of what was to be my pension and invested that money in the stock market.  In the following six months, or so, the market dropped by more than 25 percent.  I sought advice, which went from, no need to worry, to, too late to sell!  In my case, I was lucky.  It only took a little more than a year for the market to get back to even.  Knowing what I do today, I would have made more than a seven percent rate of return during that same period of time.

Capital Gains or Capital Losses?
When the Tax Free Savings Accounts (TFSA) were first introduced, some advisors were saying not to hold equities in such accounts since we can never claim the losses as a tax deduction.  My reaction to that was, if we are losing money in our TFSA, then we are doing it wrong!  I would rather avoid the taxes on my capital gains than on my losses, as long as I keep my losses small. 

First Rule Of Investing
Warren Buffett has said the first rule of investing is to not lose money.  After the experience of mine with my pension proceeds, I looked for methods of limiting my losses.  I could buy and hold and just wait it out and hope I lived long enough, or I could develop an exit strategy which would leave me with most of my money to buy at a better price.  People will point to the cost of commissions and fees and taxes and say it isn't worth it.  But, why wouldn't I pay a couple of commissions to end up with several percent more in my account?  Seems like a reasonable trade off to me!

Win or Lose?
The successful personal investors, I know, aren't easily fooled by the promise of huge returns.  They know their success lies in the ability to limit their losses by minimizing risks.  Doing so let's even the smaller gains accumulate and compound while others are praying for a chance to get back to even.

How is your risk tolerance? 

Personal Investors As Quick Learners

The Speed Of Learning
Much has been written about the traits of a good trader/investor.  In this post I am referring to the Personal Investor.  Speed is the single largest advantage the Personal Investor has over the Institutional Investor.  By that, I do not mean speed of execution of trades, but the ability to get in, or to get out of a position in the market.  It takes institutional managers weeks to completely execute a position.  The average Personal Investor could take as little as a day.  For that reason, I believe one of the key traits of a Personal Investor is that of being a quick learner.

Need To Know Basis
Quick learners have the ability to take in a large amount of data, process it quickly, no matter how conflicting and varied, and come to a definite decision.  The mistake too many people make is to want to develop an expertise in a particular area.  The only certainty in this world is that the rate of change is increasing.  The commitment of time and effort to become an expert slows people's ability to adapt to new changes.  We have all heard the expression that a person with only a hammer sees everything as a nail.  The person who can learn the most the quickest, is the type of person who will be the most successful in today's world - and not just when it comes to investing!

True Colours
Not only must Personal Investors have a knack for learning quickly, they have to be able to do it under pressure.  Panic is the enemy of good investing practices.  We cannot say we are a quick learner unless we can do so under pressure.  You see, the thing I have learned is we can only say we have a given trait if we are able to apply it when the chips are down.  This is a good way of distinguishing between innate, as opposed to learned behaviours.  No matter what, when push comes to shove, that is when our true character shows itself.

Non-Linear Thinking
Being a quick learner may be helpful in various situations, but it is necessary in order to be a successful Personal Investor.  The mistake too many make is to get caught up in the trap of linear thinking.  We see it every cycle - people pile in at the end of the trend, and bail out at the wrong time.  Why?  Often it is because they think the future is an extension of the past.  The successful investor needs to be able to recognize the winds of real change.

Critical Success Factors
This also means recognizing the few critical success factors that determine success or failure.  I loved the story in Blink! where Malcolm Gladwell talked about the hospital that was trying to quickly diagnose emergency patients with real heart problems.  The doctors could not believe a brief questionnaire could be developed to distinguish between real heart issues and others.  There are so many factors involved, how can they be reduced to a set of only a few key questions?  In fact, that is just what they were able to do.  Investing is the same.  We are led to believe that we have to understand cash flow, accounting, industry trends, inventory management, micro economics, macro economics, financial ratios, to name a few. 

Up or Down?
Nothing is further from the truth.  We need to be able to assess if, historically, the stocks of a company are on sale, and if they are in an uptrend, or a down trend.  Add a sell strategy to the mix, and that is all we really need to know.  Learning to do so is quick, and means we don't have to be an expert in analyzing balance sheets, evaluating industries and projecting trends.

Quick, Simple
I believe the best Personal Investors learn quickly, are not victims of linear thinking, and understand that success is determined by a smaller number of critical factors.  Everything else is, in reality, just more noise and confusion.

How do you rate in your ability as a quick learner?

Traits

The Question

Before I traded my corporate cubicle for a home office, I had to do some research.  The primary question I was attempting to answer was, am I the  kind of person who would be successful at being self-employed?  For instance, it made no sense to me to take a person who loves to be around other people and expect them to enjoy driving a truck by themselves on long hauls, days and weeks at a time.  How suited was I for self-employment?

Personality
Everything I had learned to that point suggested there were, basically, four personality types, and three motivational styles.  Most people seem to be motivated through an affiliation with other people they like and enjoy.  Next are those who derive the most self-satisfaction from achieving and accomplishing.  The other two personality types can more, or less, be seen as people who have a strong need to be recognized within their sphere(s) of influence.

Simplistic?
The problem with categorizing people is that it is a simplistic approach, at best.  It is impossible to say people are this, or that, without exception, and without giving consideration to the melding of various traits - sometimes depending on the circumstances involved.  In my own case, my research was so overwhelmingly in favour of making the change, I only regretted not asking the question much earlier.

Purpose
My spiritual beliefs suggest that we are a unique combination of interests, talents, skills, abilities, and purpose.  Yes, I believe that we all have a purpose - one which is directly related to our interests, abilities, and the circumstances in which we find ourselves.

Who Is In The Driver's Seat?
For all these same reasons, I also have to ask, should people actively manage their own investment portfolio?

First, let me ask a different question.  Should most people learn to drive a car?  Most would say, why not?  There are good drivers, and not so good drivers.  There are different reasons for wanting the ability to drive oneself, and others.  There are some that should never drive, and others who are unable to.  For those who can't, would you suggest they get a ride with an unsafe driver, or in an unsafe car?  If they don't know about driving, or cars, how are they going to tell the safe ones from the not-so-safe ones?  We can provide alternatives for them by making public transit available, and through the use of taxis, but the need for education remains.

Not being a driver is no reason for not being educated about what constitutes good driving and what the characteristics of a safe vehicle are.  A failure to make good decisions is to put one's life in jeopardy.  As a different example, I don't want to be the one to fix the roof of my house, but I need to be educated about when it is time to do so.  If we don't have any interest or desire in who or what we invest in, then we had better find someone we can absolutely trust with our very survival!

Success Traits
For the rest of us, I am going to write a couple of future posts identifying what I feel are the traits that make people successful in the stock markets.  There has been much written on the topic, but most seem to confuse personality traits with skills.  I want to concentrate on the few personality traits which I think make for success.  Like the classifications used for personality types and motivational styles, I'm not sure anyone is the perfect fit.  The real key is to employ our strengths, and to identify weaknesses and their potential for causing us to lose money.  With that awareness, we can play to our strengths and begin to mitigate the possibility of loss.

What is your opinion?  What are the traits you feel would lead to success in the stock markets?     

Portfolio Update

Click To Enlarge

September lived up to it's reputation, again, this year as being the worst for returns.  I have seen a tiny increase in my portfolio, but am largely out of the market.  I am happily observing the machinations of the markets from the safety of sitting on cash.  None of the usual seasonality has kicked in, at this point, but I have little interest in taking much of a long position before Greece defaults.

The return I am showing for XIU (iShares TSX 60 ETF ) remains at the same level as July (when it crossed the 200-day moving average) since it continues to be at a price below its 200-day moving average.

Nine month return for TSX @ September 30, 2011 = -13.36 percent
Nine month return for Basic Timing Model using XIU = -0.98 percent
Nine month return for Advanced Timing Model (my returns) = 2.97 percent
Money for charity = $411.27

Does anyone think we are going much lower from here?  It's okay to say so, either way.  Like most of the expert advisors, nobody is going to hold you to it.