A big part of being strong financially is that you know
where you are weak and take action to make sure you
don’t fall prey to the weakness. And we ALL are weak.
—DAVE RAMSEY, FINANCIAL EXPERT, AND AUTHOR
Even with proper execution of every trade, there will still be times when you make mental errors or return a loss. There is no way to experience gains 100 percent of the time, but you can decrease the number of occurrences that return a loss and significantly improve your overall return if you take the time to identify your behaviors and, more important, learn from your experiences as an investor.
One of the most unlikely success stories comes from one of my larger investments during the recession. It unfolded from a purchase I made near the lowest point of the financial recession in 2009. Up to that point, I had been successful at trading the ups and downs in the market but was still losing money like everyone else during this two-year span. However, I kept my eyes open for companies that I believed were undervalued, like Google, and I was prepared to use the period as a way to load up on cheap stocks.
Throughout the recession, there was one stock that I watched with pure amazement, and it was Citigroup. I was amazed at the rate at which the stock dropped over a period of two years. I would play little games with Citigroup and try to determine how much lower it could fall, and it just kept falling beyond my wildest dreams. It went from $55 to $31 in less than six months, only to free fall to under $20 less than four months later. I was amazed at this volume because although I knew the financial situation in the United States, I was still unable to process the speed of loss for one of the world’s largest financial institutions.
At $20 a share, I almost pulled the trigger, but just before I did, the stock dropped again and pretty much continued until it reached a price of $1. During this time of great fear, I strongly believed that the stock was presenting value, and at $1 a share, it was offering an unprecedented level of value. Yet I still decided to wait with the intention of eventually purchasing the stock to capitalize on its low price.
The stock began to rise in March. It went from $1 to $2 and then ultimately $3 in one month’s time. At that point I was feeling good and confident that an investment in Citigroup would provide me with large gains and a stock that was sure to at least reach $20. I mean even at $20, it was still going to be trading with losses of great proportions. Therefore, I decided on a somewhat large position in the stock. If you remember, I had already owned stock in Google, but in the past, my investments were somewhat small considering the metrics of an investment in Wall Street. With Citigroup, I believed that because of its loss, the stock would recover with large gains from $4 per share, and it was an opportunity I could not pass up. However, this investment would be much different from my investment in Google because Citigroup was not a company with fundamental improvement and a fallen price. Instead, the company was largely responsible for the conditions of the market and operated with a great deal of uncertainty.
After assessing my risk versus reward, it seemed logical to initiate a position in Citigroup. I invested a fairly large position because the stock was then trading higher and had fallen to lose almost all its value. I set an order to purchase 4,000 shares when it crossed the $4 price, which happened on May 8, 2009. Keep in mind that this was around the same time that my already large investment in Google was trading at under $400 before I developed my limit-order strategy. Google had begun to recover along with the rest of the market, so I believed the timing to be perfect because I thought that we were now in recovery mode and that the large banks, with Citigroup being the most undervalued, would recover with large gains.
I will never forget the moment that my Citigroup purchase was initiated. I was the happiest guy on the face of the earth because I just knew that I had made an investment that was going to provide a 500 percent return within one year. At the time, the stock had risen 400 percent in less than three months after it had dropped from nearly $60 in two years. In my mind, I only looked at the price of Citigroup. I was emotionally attached to the thought of returns that were too good to be true and purchased a stock that I did not fully understand. In retrospect, this is a problem that I have identified in most retail investors. At this point, I was not a rookie, and prior to the recession, I had become successful as an investor and felt exceptionally confident in my abilities, which is yet another of my pitfalls that I have described. Yet my belief that I had found the diamond in the rough clouded my judgment, and the potential for gains caused me to become emotional, which is a deadly combination for an investor.
It wasn’t one week later that the stock began to drop. I watched as my $4 stock dropped to $3.50 and then to $3 over the next month. I was flabbergasted, speechless, and in shock after I had invested so much into this one security because I was counting on it for my quick road to riches. Although I had experienced a similar situation with Google, it was different because my Google investment was trading higher, and I was forced to watch Citigroup trade lower while others traded higher. Since Citigroup was not a company with improved fundamentals, my fear kicked into overdrive.
By this time, the analysts had turned on the stock and had gone from talks of recovery to talks of a continued fall. My optimism quickly turned to panic and fear that overtook my rational thought process, what little I had left. The stock continued to drop and was now lower than $3. It was approaching $2.75 and then $2.70, so finally I couldn’t take anymore and pulled the trigger. I decided to sell my road-to-riches security for a 30 percent loss.
At first, I felt much better after selling the security because the stock continued to fall below $2.50. However, just as abrupt as the security fell, it began to rise once again in the same manner as it had fallen to a price of over $5. My feelings of relief from selling the stock now left me feeling sick. I lost over $5,000 when I could have gained $4,000, a difference of $9,000, if I would have just hung on.
If you don’t profit from your investment mistakes,
someone else will.
—JEFFREY A. HIRSCH, STOCK TRADER’S ALMANAC 2012
Looking back, I understand the mistakes that I made. My assumption was that Citigroup offered value, when I never once considered why Citigroup had fallen, and I never looked at the company’s fundamentals or toxic assets, nor did I consider the economic issues that directly affected this financial institution. I made an investment on the pure fact that the stock was cheap and that it had lost a large amount of value in a short period of time. Before the recession, Citigroup was not one of the stocks that I had studied with any intensity, and I was not very knowledgeable regarding the company’s operational issues. If I had spent a little more time and due diligence, I would have known that the company was writing mortgages with its eyes closed and was lucky to have the valuation at $1 per share.
At the time, I was disgusted and sick by the amount of loss I experienced during such a short period of time. Now I have used it as a learning experience and decided to correct the mistakes that I made with this investment. Although I believed that I was investing for value, I was not. I invested because of the price of a stock with no regard for its fundamentals or its psychological value. I am often asked about the best investment I ever made. Usually, when people ask this question, they are interested in knowing about my largest return in a single day or my largest return on a single investment, but I don’t tell them about the large returns. Rather, I cite this particular investment, which allowed me to experience my largest loss to date. I always tell them about my purchase of Citigroup because I learned more about myself and my investment strategy there than with any other stock that I have ever purchased.
Some who experienced my fate with Citigroup would not have been so pleased with the result. I guess this is where my ability to look on the bright side of life pays dividends. My goal is that with each investment I can learn and become a better investor. Obviously, Citigroup and Google were special in helping me to develop as an investor. Honestly, both investments could have been interpreted in a different way. I could have just as easily looked at Citigroup as a failure and become desperate in trying to “win” my lost money back. In such a case, I would have learned nothing and probably would have lost even more. With Google, I could have easily looked at the lost gains from my first investment because it reached $610 and then fell before I sold at $525. I could have been discouraged and moved on to the next investment. Consequently, if I hadn’t learned from both experiences, it is very possible that I wouldn’t be in the position that I find myself in today.
I attribute all my success to my ability to reflect, identify my shortcomings, and learn from my mistakes. I am not an overly intelligent person who is smarter than everyone. However, I am patient, and I have used all my experiences as learning tools. With that said, how many potential learning experiences have you ignored? Do you know all your investments for the last year? If so, what did you learn?
When I worked for the Department of Corrections, I was often told to “document everything!” The reason for this was the clientele we served. They were always trying to scheme or use one staff member to get what they wanted, so we all had to be on the same page. There were 60 of them and only 8 of us, so it was important that we document every encounter or problem that would be important for others to know about.
Back in 2009, I decided to begin documenting all my investment transactions. At first, it seemed irrelevant because my brokerage firm kept everything on record, but I found out over time that the notes I was writing became important documentation that recorded all my thoughts about a particular investment. My notes reflected what I learned, what I did right, and what I did wrong. I also kept track of gains and losses for a particular investment, and I wrote down any information I gained from the trades that might be useful in the future.
Throughout this book I haven’t told you anything that you have to do to succeed. I have suggested a lot of different strategies or techniques that I have used to return gains. I have also explained emotion, fear, panic, fundamentals, and so on, but I have been loose about all the information by saying I don’t expect everyone to use limits or by acknowledging that there are several ways to make money in the market. It doesn’t have to be my way. My personal goal for writing this book is for you to be able to take something from it and incorporate it into your own investment strategy to return larger gains or learn what I consider to be the right way to invest if you are just starting off. I figure that if you can return an additional 5 to 10 percent per year, then the $25 price of this book is well worth it. But one thing I am telling you that you must do that will drastically improve your returns is to keep a journal or a folder on your computer that details all your thoughts and experiences with every stock you buy, including why you bought it.
You may not think writing investment information could serve a beneficial purpose, but you would be wrong. Keeping a journal is one of the best ways to reflect on your successes or failures, and it helps to identify any problematic behaviors that you may not notice. You should be able to record why you purchased a stock, why you sold it, how many shares you held, and your overall gain or loss, along with any other feelings or thoughts related to the buy or sell of the stock. With that said, let’s look at five benefits to using an investment log:
• Trading activity. Sometimes we as investors forget the reasons that we began investing. Our actions fail to reflect our goals, and we start making decisions that are hasty and outside our comfort zone. We become emotional investors, and then we let all reason and rationale go out the window. By documenting all your thoughts and actions, it is easy to stay on track because you will see over the course of several years the results of your actions and which actions lead to problems and which result in success. Therefore, if you’re ever tempted, which is normal, it is easy to be reminded with a detailed log of your trading activity.
• Eliminate temptation. By writing down all your thoughts and actions, you are able to realize your behaviors and draw conclusions that you may otherwise not notice, which makes it easier to avoid hasty decisions that do not fit into your goals.
• Accountability. If you write down all your thoughts related to your investments along with the reasons for the buy or sell, then you will not be able to blame the loss on outside forces, and you will be able to recognize the reasons for your success. You have to be accountable for your actions, and you can identify why you made certain choices and learn from those choices without excuses.
• Progression. You should learn something from every investment. By writing down the notes from a holding, it will be easier to evolve, get better, and keep from making the same mistakes.
• Education. Perhaps this is the most important benefit. Investors are naturally drawn to certain investments over others, and an investor will sometimes buy the same stock several times over a period of a couple years. If you document well, you will be able to look back at notes for a previous investment and find information that may help you the next time.
Taking notes serves a multitude of purposes. The ones just listed are only a few. You can write down anything you desire that might be of help to you later. After all, we are always trying to learn from our mistakes, build on what works, and become much better investors regardless of market conditions.