Perhaps you have recently been walking in the forest.
Or maybe you went on a picnic. Or even went swimming in
a river; all wonderful, refreshing activities. In each case,
however, you have to know what you are doing. Otherwise
you could walk into a patch of poison ivy, get swept by
the current, or even get seriously injured.
The same applies to the marketplace. If you treat it in
a casual way without proper planning and preparation, you
could get hurt. Financially, not physically. Of course,
the marketplace is not something natural like a forest or
an ocean. Quite the oppositeit is an extreme example
of something structured by humans. Nevertheless, there is
an important similarity. It is so huge and complex, with
so many facets and nuances that, just like nature, no single
individual can fully understand it.
When it comes to walking in a forest or swimming in a river,
we have grown up with simple rules such as stay on
the path or dont swim beyond your depth.
As we become more experienced, we may strike off into the
trees or swim across a river. Even here, there are rules
or principles, and it is these that I want to examine to
see if they can help us in the marketplace.
First of all you need to know your capabilities. For example,
how far can you walkor swim? You dont start
on 20 mile hike if you have never walked more that a mile
or two. So my first golden rule is:
First Golden Rule of Investing: Know who you are
before you start investing in assets that have riskdont
use the marketplace to find out.
Some questions you can ask yourself include: Do I like
to work things out for myself or do I prefer to rely on
other people? Do I like getting information by talking to
people or by reading? What type of information do I prefer,
technical or expository? What is my risk tolerance? How
would I feel if stock I bought for $20 went to $10 overnight?
What if it stayed there for a week? a month? a year?
Coming back to walking and swimming, you dont want
to find yourself halfway across a one-mile lake and then
start asking yourself why are you there. Yet the same thing
happens repeatedly with investors. They buy a particular
stock but dont have any clear reason for doing so.
Their brother-in-law said it was a sure thing. Or they read
something in the Wall Street Journal. Or the stock had a
low p/e ratio, or a high return on equity. In the right
context, each one of these might be a perfectly good reason
for making a purchase. However, frequently it is the case
that people buy a stock because of a vague combination of
a whole lot of reasons such as these. Then, when the market
conditions change, they have no framework for deciding what
to do next because they are not sure why they made the purchase
in the first place.
When you know why you bought Intel, for example, you will
have a stronger basis for knowing what to do when its price
goes up, or down, or even stays the same. For instance,
if Intel starts to go down in price and you bought it as
a momentum play, then you will probably want to sell as
quickly as possible. But if you bought it as an undervalued
stock, and if the fundamentals have not changed, then you
might want to buy more.
This brings me to my second golden rule.
Second Golden Rule of Investing: Know why you are
buying a particular stockdont wait until its
price goes up or down to think about it.
In my investment workshops I teach people how to analyze
companies and then make a two-minute presentation to the
whole group on their suitability as a stock purchase. This
helps them to focus on substantial issues regarding these
companies and gives a sound basis for making a buy/pass
decision. They are also encouraged to maintain a stock book
in which they list the pros and cons of each stock they
are interested in.
Warren Buffett said that when he looked back over his investments
in his early partnerships, the larger investments always
did better than his smaller ones. He attributed this to
a "threshold of examination and criticism and knowledge
that has to be overcome or reached in making a big decision
that you can get sloppy about on small decisions."
Finally, we know that to enjoy nature we shouldnt
be in a rush. This is also very true with the marketplace.
So my final golden rule is:
Third Golden Rule of Investing: Take your timeyou
are investing for the rest of your life.
Buffett said recently that he doesnt get paid for
activity, just for being right. "As to how long well
wait," he continued, "well wait indefinitely."
No one makes you buy a stock. If you know what type of investor
you are, and why you would buy a particular stock, then
you will be better able to determine a reasonable price
to pay for it. Then you can quietly wait until Mr. Market
offers it to you at your price. Wishing you happy and successful
investing!
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