It’s a new year. That means it’s time for the same old resolutions that we never keep.
Start going to the gym. Go on a diet. Read more, watch less.
Learn a new skill. Save more money.
Well, I want to offer you a different New Year’s resolution.
One that is easier than any of the ones I mentioned above. So, if you’ve already stopped going to the gym — start doing this.
Resolve to Be a Better Trader
If you are reading this, it means you have some interest in investing.
Most people think that picking the right stock is the hardest part. But in reality, managing your trades, portfolio and psychology are more important than picking the next Amazon.
Here are three things you can start doing right now to be a better trader and a smarter investor.
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Use limit orders.
Remember the last time you were at a car dealership.
You walked in knowing the stats on your favorite car. Miles per gallon, horsepower, towing capacity. A dealer showed you their options — trims, colors and special editions.
After settling on your favorite one, you excitedly force a blank check into the dealer’s hands and say: “I’ll take it!”
Okay, that last part definitely didn’t happen. But it is what you do every time you place a market order.
After doing your technical and fundamental analysis, you know you want to buy this stock.
If you place a market order, you give the market makers a blank check and an order for them to buy this or that stock.
You shouldn’t trust a broker with a blank check any more than you should trust a car dealer. They are going to fill your order — but it might cost you dearly.
Instead, use a limit order. When buying, this is the maximum price you are willing to pay for a stock. It might get filled below that, but you know the most you can spend.
Use a limit order when it comes time to sell, too. That’s the limit for how little you are willing to take.
If you want a good chance to fill your order quickly, check the bid and ask prices.
The bid is what buyers are willing to pay. The ask is what sellers are willing to sell for. By putting a limit order between the two, you are likely to get filled quickly.
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Stop-loss and position size.
Setting a stop loss tells us when we should get out of a stock. Too many investors buy and sell stocks based on a “feeling.” Our feelings can lead us astray.
Stop-losses keep us inline. Every good trader knows their stops and follows them.
We find our stop-loss based on how much risk we are willing to take on in a position.
Most investors should only risk 1% to 2% on any position.
Aggressive investors may risk more, but make sure that you are comfortable risking that amount.
In the infamous words of Mike Tyson: “Everyone has a plan until they get punched in the mouth.”
If you risk too much, you’ll eventually get tested.
Now, let’s say we have an account of $10,000. We are willing to risk 2% per position.
That means if we hold $1,000 in a position, we need to use a 20% stop-loss.
If shares fall by 20%, we are down $200 and it is time to sell.
Remember to use a limit order!
For even better results, use a trailing stop-loss. These follow the highest price since you’ve entered a position.
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Diversification.
If you’ve ever heard the expression “don’t keep all your eggs in one basket,” then you know what diversifying is — at least in principle.
In practice, most investors don’t diversify.
They may have a certain penchant for a space like biotech, value stocks or maybe even natural resources.
Diversifying to them might mean buying different stocks within that sector.
A true diversified portfolio will have stocks from different sectors — even different countries.
The portfolio will also include bonds and a bit in precious metals or commodities.
Diversifying can also include holding real estate or even collectibles.
The point of diversification is to smooth out returns. As the economic cycle roles on, certain sectors will have their time to shine brighter than others.
Holding a variety of positions smooths out the ride — it’ll do wonders for your psyche.
Exchange-traded funds (ETFs) allow investors to get exposure to sectors they may not know a lot about.
Buying an emerging market fund or a treasury bond ETF might be the first step towards diversifying.
Time to Act
These three tips will make you a better stock trader — today!
You don’t need to commit to a new diet or sign up for a gym membership.
You can decide your position size, place your limit order and set your stop-loss on your next order.
Diversify your portfolio going into the new year and see your New Year’s resolution pay dividends.
Good investing,
Anthony Planas
Internal Analyst, Banyan Hill Publishing