Never Lose Money on the Sharemarket Again...

Today, I'm going to make some of you uncomfortable.

Yes, you'll be uncomfortable, but if you follow my advice, you'll also become wealthier. Much wealthier, and you'll be taking fewer risks.

Don't be Like Your Brother in Law (Who Has AMP Shares)

If you follow the Naked plan, in time you'll be able to brag about your portfolio.

You'll be telling people how you managed to ditch the dogs, like AMP, National Australia Bank and QBE.

You'll never have to write off disasters like ABC Learning, Gunns or Ten Network.

All by sticking to one simple rule.

This is actually the 3rd in The Naked Investor's 'getting into the sharemarket' series.  What happened to 1 and 2 you might ask?

Well, they're coming.

But this week, I've seen a lot of people break today's rule, so I thought I'd disrupt the pattern.

Meet The Oracle ... Of Houston

So let's go West, and let me introduce you to the Oracle of Houston. That's right, Kenny Rogers.

Kenny's a country singer. He's also worth about US$250 million, so you should listen to what he says.

He's written a lot of stuff, which nearly all sounds the same (to my Naked ears, anyway).

Most of you know today's message:

You've got to know when to hold 'em
Know when to fold 'em
Know when to walk away
And know when to run

There's other words as well, mainly about trains, whisky and cigarettes, but let's focus on those first two lines for the moment.

You've Got to Know When to Hold 'Em

This one's easy, and it's one I get asked a lot.

"When should I sell my shares? When they've doubled? Tripled? Gone up 20 per cent?"

Let's leave tax out of this for the moment, because tax isn't a reason to do anything -- it's just something you should consider.

If you've got shares that you understand (go and fetch your crystal ball, and read part 1 of this series) and the business is performing well, I reckon there's only two reasons to sell:

  1. You need the money
  2. You can invest the proceeds better somewhere else

That's it. If you were looking for a mathematical formula telling you how to lock in profits, set stop losses and bail out at the top of the market, then I'm sorry. I just don't believe in any of that stuff.

The truth is this -- great fortunes are made by having investments in one, two, or if you're really lucky, three companies that do really, really well.

If you were one of the early investors in Apple and sold out when the share price doubled, you'd get my drift.

There's a pencilhead out there somewhere shouting at his/her screen, saying that Naked bloke doesn't know anything about portfolio construction and risk management. I do, but that's not the point - small investors aren't fund managers. They invest in the market to make money, and if you own shares in a company and the share price is going through the roof, why the hell would you sell?

Let's go back to Kenny for a while, and this is the tip that could make you rich.

Know When to Fold 'Em

Here's what most investors do:

1. Shares go up. They sell them, saying 'nobody ever went broke taking a profit'.
2. Shares go down. They hang onto them, and tell their partner they'll sell them when they can get back what they paid.

There's a third, terrifying habit some people have, and I've seen it in action this week.

3. Shares go down. They say 'well, they were good value at $6 when I bought them, so now they're $4, they must be a screaming bargain. I'll buy more, which will reduce my average cost.'

There's a technical term for this. Stupidity. I know I'm sounding cranky here. I just hate seeing people lose money when they don't need to.

Fund managers don't chase share prices downwards. Neither should you.

And with that out of the way, here's today's golden message. Go and tattoo this on your firstborn.

Sell On Bad News

No ifs, no buts. No exceptions.

I don't care whether it's a profit downgrade announced to the ASX, the unexpected departure of a CEO, the loss of a major contract, or news of a legal action against the company.

You don't think, you just sell.

Do you think that's a bit extreme? I don't, and here's why.

First up, if you sell at the first hint of bad news (and you can check this one, but it's 100 per cent true) you will never end up with shares in a company that goes bust. That's because every failed company in ASX history has given multiple warnings in the form of bad news before the axe fell.

Second (and this also applies to life, relationships and the behaviour of your children), the best predictor of future performance is past performance.

In other words, bad news is nearly always followed by more bad news. If you sell at the first hint of trouble, you'll save yourself a lot of pain.

Let's go graphing. Here's a chart of Ten Network over the last year:

Those little red arrows? They represent bad news.

So if you'd bailed out last year when the company posted its full-year results, you'd have got more than $1 per share.

Now, all shareholders are likely to get is a 'thank you' note from Jamie Packer.

Look, it's painful to sell shares at a loss.

But trust me here -- it's a lot more painful to be left with a box full of worthless share certificates, and if you sell on bad news, it will never happen to you.

This is all sounding horribly negative, although I wouldn't lay it out like this if it wasn't true. And you won't read this strategy in 'Money Magazine'.

Coming up next -- Step 1 in the Naked guide to shares.  I think you'll get a lot out of it.

But before I sign off, here's some more wisdom from Kenny.

Know When to Walk Away, Know When to Run

If you've done your research after reading step one (again, crystal balls and all that), there's no rule that says you have to invest in something. If you've got any doubts at all - any - just walk away.

Finally, if you get an unsolicited phone call trying to sell you anything -- whether it's a blender, investment property or share trading software -- put down the phone and do your Forrest Gump thing. Run, and keep running.

1 comment:

  1. Not too sure on your comment on “sell on bad news”. The odds of a share price going down and then going bust is pretty slim, especially on established Aus companies. I totally agree if you’re referring to more speculative, less blue chip options, but it’s a matter of analysing the reasons for the drop and taking a punt on whether their problems are long term, yeah? Or am I completely wrong? Haha, thanks :)