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Ignore Your Gut and Use a Trading Discipline: Jonathan Hoenig


On March 16, 2012, the Dow Jones Industrial Average was up 7.5% and running higher like a scalded chimp. Less than three months later the Dow had given back every point of the gains and then some.

In the third week of September "the most important stock in the world" hit all-time highs just over $700 a share. Since then Apple (AAPL) has plunged some 40%, leaving true believers in the house of pain. Those who bought and held the Dow and Apple exactly one year ago today are up 11% and down 21%, respectively.

The question is how to tell the difference between an opportunity to buy and a last, best chance to sell. The difference between success and failure in investing is almost entirely about managing your money effectively and not giving away your gains.

The Capitalist Pig himself Jonathan Hoenig agrees. "Worry about your losers, the winners take care of themselves," he explains in the attached video. "The real difficulty is so often not necessarily selling the winners, but doing your best to stick with them." He's echoing one of the mantras of portfolio management on Wall Street: If you sell your winners and buy dips, you end up with a portfolio with nothing but garbage.

Since emotions are the enemy of good trading, your "gut" isn't just useless, it actually causes financial damage. Apple bulls who bought dips all the way to the highs last September made a fortune sticking with the company through years of violent fluctuations. The success that Apple bulls had after a decade of buying dips led them to treat the real collapse of the stock as just another dip, in many cases turning handsome profits into losses.

For the folks at home looking to hold on to their hard-won gains, Hoenig suggests using a discipline he calls "staggered stops." The idea is simple: divide your holdings into tranches and use stops on portions of your positions. Throwing out figures, Hoenig offers a 10% drop as the first sell signal followed by 15% and so on.

Such a plan would have kept investors at least partially long almost every market bounce over the last few years and, perhaps more importantly, kept them from getting vaporized by the Apples or Blackberrys (BBRY) of the world.