Selection of Investment and Trade Rules

There are three important differences between investment and trade. Not looking at them can be confusing. A novice trader, for example, can use the terms instead of each other and apply the rules incorrectly with mixed and unrepeatable results. Investing and trading are more effective when you clearly recognize the differences. The investor’s goal is to have a long-term ownership of an instrument in which he is confident that its value will continue to grow. A trader sells and sells to take advantage of short-term relative changes with a slightly lower confidence level. Goals, time frames, and confidence levels can be used to define two completely different rules. This will not be a comprehensive discussion of those rules, but to highlight some important practical implications of the differences. Long-term investment is discussed first, then short-term trade.

My teacher, Dr. Stephen Cooper explains how to make a long-term investment and buy an instrument for 5 years or more. The reason for this narrow-minded definition is that when you make a long-term investment, the idea is to “buy and hold” or “buy and forget.” To do this, you need to remove the feelings of greed and fear from the equation. Mutual funds are preferred because they are professionally managed and naturally diversify investments in dozens or hundreds of shares. This does not simply mean any mutual fund and does not mean staying in the same mutual fund for the whole period. But it means that it will remain in the investment class.

First, the fund must have a proven annual earnings record of at least 5 or 10 years. You need to make sure your investment is safe enough. You don’t always follow the markets to take advantage of or prevent short-term ups and downs. You have a plan.

Second, the performance of the instrument in question should be measured against a well-defined criterion. One such indicator is the S&P 500 Index, the average of the 500 largest and best-performing stocks in the US market. Looking back to the 1930s, the S&P 500 Index has risen by about 96% over time over a five-year period. This is very noteworthy. If someone expands the window to 10 years, they see that the Index gains 100% value every 10 years. The S&P500 Index has gained an average of 10.9% per year over the last 10 years. Thus, the S & P500 Index is a key indicator.

If one invests only in the S & P500 index, one can expect to earn an average of 10.9% per year. There are many ways to make such an investment. One way is to buy the SPY trading symbol, which is the Exchange Trading Fund, which tracks the S&P500 and trades as an exchange. Or, you can buy a mutual fund that tracks the S&P500, such as the Vanguard S&P 500 Index Fund, the VFINX trading symbol. There are others. Yahoo.com has a mutual fund checker that lists a large number of mutual funds with an annual return of more than 20% in the last 5 years. However, if possible, you should try to find a screen that has been performing for the last 10 years or more. To put this in perspective, 90% of the nearly 10,000 mutual funds available do not perform as well as the S&P500 each year.

The fact that the average market rate for the last 10 years is 10.9 percent is even more remarkable when you consider that the average bank deposit yield is less than 2%, the 10-year treasury yield is about 4.2% and the 30-year treasury yield is only 4.8. . %. Corporate bonds belong to S & P500. But there is a reason for this inequality. Treasures are considered the most reliable of all paper investments supported by the US government. While stocks and corporate bonds are considered a little more risky, FDIC-regulated savings accounts are perhaps the next most reliable. Savings accounts are probably the most liquid, followed by stocks and bonds.

To help you calibrate the security and liquidity question, long-term bondholders are now comparing their bond yields with expected stock taxes next year. Assume that next year’s expected S & P500 revenue is 4.7%, relative to the average price-to-earnings ratio (P / E) of 21.2. Again, the index’s 10-year annual yield was 10.9%. Bondholders are willing to accept half of the historical return on shares for added security and stability. In any given year, stocks may either rise or fall. Bond yields are not expected to fluctuate widely from one year to the next, although they are aware of this. Bondholders want to be free to make long-term and short-term investments. Many bondholders are traders, not investors, and accept lower returns for this convenience. But if someone has made a one-time decision to make an investment long-term, high-yield equity funds or the S&P500 Index itself seem to be the best way to go. Using a simple complex interest formula, $ 10,000 is invested in the S&P500 index at 10.9% per annum to $ 132,827.70 after 25 years. At 21%, the amount after 25 years is more than $ 1 million. If you add only $ 100 a month, plus 21% on average, the total after 25 years will exceed $ 1.8 million. Dr. C. rightly believes that 90% of the capital should be invested in several such investments.

You have already invested 90% of your funds in long-term investments, leaving about 10% for trading. Short-term medium-term trading is perhaps the area most of us are familiar with because of its popularity. Again, it is significantly more complex, and only 12% of traders succeed. The time frame for trading is less than 5 years and more than a few minutes to several years. When less than 30% of the relevant trading system is used without a trading system, the probability of being correct in the direction of trading is close to 70% on average.

At the bottom of the spectrum, you can prevent such trades from being wiped out by managing less than about 4% of your trading portfolio and allowing your winners to lose no more than 25% of certain trades. work until the maximum is reduced to 25% of the peak. These percentages can be increased after there is evidence that the probability of choosing the right direction of trade has improved.

Interim trading is based on a basic analysis that seeks to determine the value of a company’s shares based on earnings, assets, cash flows, selling history, and any objective measure of the current share price. It can also include future earnings forecasts based on news of trade agreements and changing market conditions. Some refer to it as value. In any case, the goal is to buy a company’s shares at bargain prices and wait for it to understand the market value and offer a price before selling. When stocks are set at a sufficient price, the instrument is sold if it does not see a steady increase in the value of the shares, in which case it is transferred to the investment category.

Since trading depends on the variable perceived value of a part, your trading period should be chosen according to how far you can distance yourself from feelings of greed and fear. The better he can get his emotions out of trading, the shorter the time he can trade successfully. On the other hand, when you feel an increase in emotions before, during, or immediately after a trade, it’s time to step back and think about choosing your trade more carefully and trading less. The ability to extract emotions from trading requires a lot of experience.

This is not just a moral expression. The whole universe, called technical analysis, is based on the cumulative emotional behavior of traders and forms the basis of short-term trading. Technical analysis is the study of price and volume samples of a part over time. Pure technicians, as they are called, claim that all relevant news and ratings are included in the technical behavior of a part. A long list of technical indicators has been developed to describe the emotional behavior of stock exchanges. Most technical indicators are based on moving averages over a predetermined period. Indicator periods should be adjusted to the trading period. The subject is too large to provide justice in less than a few volumes. The low level of confidence involved in trading is the reason for the large number of indicators used.

While long-term investors can only use one long-term moving average to track a steadily rising value, traders use more than one indicator to deal with shorter periods of reduced value and higher risk. Take into account your changing value expectations, time frame, and level of self-confidence in predicting outcomes to improve and replicate your results. Then you will know what rules will apply.