Long-Term Value-Investors Can Always Benefit from a Trader Mentality
Today’s guest post is by Michael Trinkle.
Long-term value-investors may be quite content to eke out small returns in the short-term because they know from experience that the compounding of small returns can lead to significant gains over longer periods of time. However, this past year, as well as the past decade, has been a long-term sideways “ranging” market where traditional long-term returns of 10% are anything but the norm.
No one is suggesting that all investors discard time-honored investment principles in favor of a trader’s mentality, but a sideways ranging market has generally been the province of traders that enter and exit the market at will, always searching for short-term profit opportunities. However, there are a number of technical skills that could benefit fundamentalists, if they only chose to investigate another investment discipline where active trading predominates.
One sad fact in our society is that very little investment training is provided in our hallowed halls of academia. Except for a small minority, the majority of us learn from reading books or attending special seminars on the topic, a real hit-and-miss approach. For this reason, we rarely get a fully-rounded comprehensive understanding of the art of investing, its many alternative forms, or the many tools designed after of years of study to assist an investor in the process.
It certainly does not require a lot of money, but a modicum of time is required that will pay dividends to any investor that is willing to make that investment. Commodities, futures and foreign currencies are the markets where active trading proliferates. Risks are high, and specialized training is a necessity, along with experience and emotional control, to be successful in these areas. One does not need to trade in the forex market to learn from it. Brokers will provide you with a free forex demo account and “virtual” cash to learn the basics and hone your skills. The key points to follow when actively trading are as follows:
- Always have a plan for entering and exiting a position before it is opened;
- Always place stop-loss orders below your entry point to mitigate risk;
- Always cut your losers off, and let your winners run with trailing stop-loss orders to lock in your gains;
- Use technical indicators to optimize entry and exit points.
These rules are very similar to longer-term investing techniques, with the exception of the last bulleted item. Many long-term investors have never learned the basics of technical analysis or have heard the process demeaned by critics. Technical indicators were never intended to be perfect. They can give false signals, but their consistency may provide an “edge” when an “edge” is all that is needed to execute and profit from a winning strategy.
The following chart provides an example to illustrate these points. In 2010, a value-investor would have heard much about precious metals being a “safe haven” when the debt problems surfaced in Europe and created a crisis felt the world over.
Market Chart
If the long-term investor had invested in Silver in late August, the rapid upward trend may have caused him to gulp hard. The RSI, a popular momentum/leading indicator, in combination with the MACD crossover, would have signaled an overbought condition. The insertion of a trailing stop-loss order would have locked in his gain.
Timing in sideways markets is critical, and learning how to read technical signals can optimize timing considerations and lock in ”paper” gains. Time spent learning the nuances of technical indicators can provide valuable benefits in ranging as well as trending markets. Always remember that “paper gains” are not real until realized and cannot be compared with a real trading experience in any way. And of course, historical and past performance is not in any way a guarantee of the future events and results.
Thanks Michael, for an insightful article!
Readers, What say you? Do you agree with Michael’s approach?
I do see value in what Michael is saying about sideways markets (I which I had played it more this year)…
-MR
I agree with having a plan for enter and exit. When trading small penny stocks, I put in a limit good-till-canceled order for 120% of the stock. The balance I may keep, or divest if certain factors come to pass. But I’m not much of a short-term trader.
I use to short-term trader, and I made money at it, but I don’t have the time anymore…
Also, in these time who knows which way the wind will blow tomorrow…
One can always build a story around historical data… but convince me with one company, any company, and tell me what the charts foretell.
If it turns out true, I’m a believer!
Good point 🙂
I used to keep a closer eye on technicals, and then the market would have some major hiccup and all my ‘technical rules’ didn’t matter anymore.
I agree that if you are an avid individual stock investor that technicals may help. (I wouldn’t trade without looking at them.) However, I feel much better sleeping at night with my money in index funds. I don’t have the time or stomach anymore for individual stocks!
I just play a little bit in active trading personally, just fun money 🙂
I have access to options trading too, but I’m too chicken 🙂
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Like everyday tips, I used to monitor things like P/E ratios and all that, but I quit after I realized there is one thing that you cannot predict, and that’s people’s emotions and knee jerk reactions.
It just feels like lately stocks are more driven by fear or hope then they are by data.
Since baby boomers probably make up a good portion of holdings I don’t know what to think about who’s going to cash out completely vs stay partially in the market. It’s really difficult to predict.
Nowadays my unscientific method is that if the market is down for a while or has a really big drop,, I’ll use that to buy something and hope it rebounds. That’s about all the analysis I’ve done. Maybe in a year, I’ll be more proactive.
I think that’s best, as Warren Buffett says: Be greedy when others are fearful, and Fearful when others are greedy 🙂
I don’t need my money now, so sideways markets are fine. If they stay sideways for another 10 years, that means another 10 years that I got to pick up assets for relatively cheap, no?
Especially, if you use Dollar cost averaging 😉
Although, I have to admit, I probably would have done well in this environment if I did as the Michael states above. I have in the past, and did quite well with it 🙂
I look at technical stats sometimes, but it is all for fun. Like Kris, it doesn’t fit my risk tolerance (surprise 🙂 Anyway, I do think that trading skills are important and have some value for long-term value investors too; however, it really depends on your overall investment plan. For example, just because someone does not need access to his investments right now doesn’t mean he does not want it. The plan dictates everything with respect to the market IMHO.
Sounds like a good way to go about it!
Sounds like a bunch of hooey to me that has nothing to do with value investing and a lot to do with outright speculation. Value investing is about trying to buy a dollars worth of value for 50 cents, not timing the market, and hanging on until the marketplace recognizes that value. If the upfront analysis is done right there’s no need for stop loss orders and other techniques used by those who lack conviction. To track the example in the article, value investors would have been buying gold and silver in the early 2000’s when everyone hated it, and would have sold out a little early, probably a year ago, when speculators pushed the price beyond its intrinsic value. Yes, they would have missed some upside, but they would have stuck to their discipline and circle of competence.