This week, I’m out of the office, but I wanted to remind you of an important article I wrote three months ago. The market was headed lower and there was a lot of gloom and doom in the media. I didn’t believe it then and I was proven right.
But the biggest takeaway from this article is how important it is to take the time to use the TradeStops tools to understand the risk you’re taking in your individual stocks and in your overall portfolios.
And in keeping with this theme, since this article came out, we have conducted a dozen webinars and written almost 30 articles to help you get the most out of your TradeStops subscription. We understand that managing your portfolios takes time and effort. We want you to earn more profits and take fewer losses.
Over the next several months, we will continue to conduct training and strategic webinars. Look for an announcement very soon as we roll out a major upgrade to TradeStops.com that will make your investment experience even easier.
I’m proud that my members are the best and most knowledgeable do-it-yourself investors. I have heard many of your personal stories about how TradeStops.com has helped you to achieve your goals in ways that were never thought possible. It is satisfying that the work of the TradeStops.com team is making a difference in your lives.
Now, on to the article…
Markets are a mess. It’s time to double down.
No, it’s not time to double down on your losing positions. It’s time to double down on your commitment to being a disciplined investor … and your use of TradeStops.
To that end, I’m debuting a brand-new series of exclusive, invitation-only webinars this week that showcase how the TradeStops system will safeguard your investments, grow your portfolio, and sidestep the wealth-destroying pitfalls of 2016. More on that below.
But first, these market conditions are where the rubber meets the road. This is where disciplined investors earn their reward and undisciplined investors pay the piper. It’s a serious time.
I’m personally skeptical of the full on bear market case. It would take a sustained break below 1830 on the S&P 500 to tip me to the bear side. I am, however, fully prepared to be proven wrong and I’ve made sure that if I am wrong, I won’t get hurt too bad.
Making sure that you don’t get hurt too bad when you’re wrong is the great secret to ultimately succeeding as an investor. You’ve got to be in a position to live with your losses. You can’t allow the markets to dictate your emotions. You can take risks but you need to understand the risks you’re taking … and be comfortable with them.
I once asked an early market mentor of mine, a forty year veteran of the markets, “What’s the difference between the winners and the losers in the markets?”
I’ll never forget his reply.
“The winners don’t need the money.”
You can’t risk more than you can afford to lose. It is advice I took to heart. You should too.
Yes, we all want to grow our wealth through investing in the capital markets but that happens gradually, over time, like a tree growing in the forest. Your tree needs roots to grow. You can’t afford to risk your roots.
Given current market conditions, I want to make sure that everyone knows how to use TradeStops to manage market risk – from our basic users to our lifetime users.
So let’s take a look at how to use TradeStops to double down … on your risk management.
Again, I’m going to be covering all of this in detail during the webinars I’ll be hosting this week (see below) so don’t worry if you miss any of the details but I do want to make sure that everyone understands the foundations of TradeStops here and now.
The most basic function of TradeStops is trailing stop loss alerts. If you’ve been following TradeStops for any length of time then you know that trailing stops are an effective risk management tool for individual investors because they limit losses and un-limit gains.
TradeStops has three different types of trailing stops currently but they all share similar properties.
Fixed Percentage Trailing Stops
The 25% trailing stop is the bread and butter of the TradeStops service. It’s a time-tested strategy which, backed up by my extensive back-testing, has proven to be a simple but effective simple risk management system over and over again. It’s widely used by popular analysts like Porter Stansberry of Stansberry Research and Alexander Green of the Oxford Club.
It’s easy to add a 25% trailing stop to any position that you want to track. Just choose the Custom option at the bottom of the Add Position window:
Or from the Trailing Stops section of the Add Alerts dialogue box if you’re adding a new alert to an existing position:
There is one critical piece to understand when adding any trailing stop – the Start Date for your alert. The Start Date is the date from which you want to start tracking your stop. TradeStops will search for the high closing price from the Start Date to today. Whatever that high price is, the stop loss will be trailed from it.
Here is an example of a 25% trailing stop on Walmart with a start date of October 1, 2014:
The high close after this start date was in early 2015 at just over $90 and the stop was hit in late August at about $68.
On the other hand, if you got into Walmart on June 15, 2015 and you are using a 25% trailing stop then your stop has not yet been hit:
The high after June 15, 2015 was in early July 2015 at around $74. 25% below that puts the stop around $55.
So you can see that start date is a very important part of using trailing stops, along with the percentage stop loss level.
One final note on adding trailing stops to positions, if you’re using a synchronized portfolio, you can have trailing stop alerts automatically added to any new positions by going to the Settings area of TradeStops (see the drop down under your name at the top right of your TradeStops screen) and then the Alerts section of Settings.
Set Create Alerts for Stocks to Yes and then choose your preferred default stop loss from the drop down menu on the right:
Volatility Based Trailing Stops
VQ trailing stops are available in the basic TradeStops service and are based on our proprietary volatility metric called VQ or Volatility Quotient. Rather than always use a fixed trailing stop like 25%, the VQ Trailing Stops use volatility to tune the trailing stop to the stock.
The VQ percentage is the amount of price fluctuations that an investor should expect in a stock if he is planning on holding the stock for at least a year or more.
The current VQ on Walmart, for example, is about 12%.
Indeed, 12% proved to be a critical threshold for Walmart after its January 2015 high. Once Walmart broke that initial threshold, it kept falling. In fact all of the big steps down in Walmart over the past year have been moves of 10% to 12% in range as shown in the following chart:
That’s why the VQ on Walmart is about 12%. Walmart tends to fluctuate less than 12% most of the time. When it does move down more than 12%, it often is a sign of more trouble to come.
The final type of trailing stop offered in TradeStops is the Smart Trailing Stop or STS. The STS is available to Pro and Lifetime members as part of our Stock State Indicator suite of services (Smart Trailing Stops, Re-Entry Rule alerts, Smart Moving Average and Low Risk Zone alerts).
The STS is very similar to the VQ Trailing Stop in that it uses VQ% as the percent to risk on the stock. What’s unique about STS is that it automatically identifies the important high close for you, no matter when you bought the stock.
For the past year, the Smart Trailing Stop on Walmart has been based on the January 2015 high in Walmart of $90. The Smart Trailing Stop was stopped out automatically around $79 in May of 2015. If you had tried to create a new Smart Trailing Stop any time after that in 2015, you would have been informed that the Smart Trailing Stop in Walmart was already stopped out and that it was best to stand aside until a new Re-Entry Rule was triggered.
Walmart is still awaiting a new Re-Entry Rule signal … but that’s a tale for another day.
I hope that this refresher in the foundations of TradeStops and good risk management has been helpful to you. And I hope that you’ll double down on your investment in TradeStops and take advantage of these market conditions by being a more disciplined investor.
Stay safe … and smart,
Richard M. Smith, PhD