If Bill Ackman had been a TradeStops subscriber, he could have made almost $1 billion on his investment in Valeant Pharmaceuticals (VRX). Instead, he lost $4 billion.

Nobody has a track record of 100% winning trades. Not Buffett, not Icahn, not Soros or Ackman.

To be a good investor, you must know when the right time is to take a loss and not look back. And you must position yourself so that you never take large losses.

But why is it so difficult for investors to take losses?

Last week, we looked at how investors act irrationally by not letting winners run. That same irrational thought process is responsible for making bad decisions on selling stocks that result in losses.

What causes our irrational decisions?

According to Robert Cialdini’s book Influence: The Psychology of Persuasion, there are many different ways that humans can be influenced and persuaded. One of these is called “Commitment.” In short, our beliefs change when we have committed to a position.

For example, psychologists studied a large group of gamblers at a horse racing track. They found that people are much more confident about their horse’s chances of winning just after placing a bet than they were just before placing the bet.

They behave as if the prospects changed simply because they placed their faith and money in the horse!

People have an almost obsessive desire to appear consistent with their actions. So they tend to take a hard line based on prior decisions and work hard to justify those earlier choices.

Are investors in the stock market much different than gamblers at a race track?

In some ways, yes. In some very important ways, however, we behave exactly like those bettors at the horse race.

We double-down on our losing positions. We rationalize our positions by telling ourselves a myriad of things:

  • The market is just slow to catch on to my great idea
  • I did all the research and I know I can’t be wrong
  • The stock is cheaper now and it won’t take much of a move up to get back to break even
  • I’ll just wait a little longer to see what happens

 

When we look at these reasons in writing, they seem silly. Yet, investors will do almost anything to rationalize sticking with a losing position. And it’s not just individual investors like you and me that we’re talking about here.

Bill Ackman is one of the most well known and respected hedge fund managers in the world. His Pershing Square fund has over $10 billion in assets.

And he made a huge mistake with Valeant Pharmaceuticals (VRX) … the kind of mistake we can all relate to. Only trouble is, he was dealing in billions.

Bill Ackman “knew” that the market was making a mistake with VRX. With all the research available at his fingertips, he “knew” that he couldn’t be wrong. And he decided to double down as the stock was tanking.

Ackman first bought VRX in March, 2015 at about $180 per share and the stock shot up to over $260.

Bill Ackman

Had he been using the TradeStops signals, he would have stopped out of the trade around $200 and collected a nice profit of $1 billion. Instead, as the stock was moving lower, he doubled down on his position … and ended up losing $4 billion.

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If you want to be a successful investor, look for reasons to sell your losers instead of making up stories about why you’re smarter than the market. Here are a few to try on for size:
  • If I hit the SSI Stop signal the downside could continue for a long time
  • If I get out of this losing position I can get into a stock that has more potential upside
  • I can use the loss to offset the huge gains I’ve gotten in my other positions
  • And maybe the most important reason to sell: I have a plan and the discipline to stick with it!

 

Doing so would have left at least one investor $5 billion dollars richer.

How much money would it have saved you?

Richard_Signature
Richard Smith, PhD
CEO & Founder, TradeStops