Reflections on 2008 and a plan for 2009

2008 will long be remembered by traders and investors alike for a variety of reasons, both good and bad. For the educated and prepared ones 2008 either turned out relatively OK if they reduced the exposure of their long positions and went mainly to cash, or for a small percentage, absolutely wonderful if they were able to trade the short side of the market and profit from the cascading share prices of the bear market. 2008 was mostly an absolute disaster for long term ‘buy and hold’ investors and for those abdicating responsibility for their investment decisions to fund or investment managers! Most fund managers cannot greatly reduce their exposure to the market due to the size of funds under management. We’ll post a blog about fund managers’ performance in 2008 in the near future.

To reflect on the damage done to the portfolios of these people I thought I might share with you a sample of just some of the stories we at Share Wealth Systems have heard from prospective clients over the past few months. Whilst the stories below are 100% factual, the names have been changed to preserve the anonymity of the people involved. I’m sure you too have heard many similar stories and are well aware of countless numbers of people who have lost substantial amounts of money, and in some extreme cases, their asset base as a result of not having a well defined and executed trading plan or system for exiting their share portfolio’s, or hedging them, when the market continued in steep decline.

Joe used an investment manager to make his entire investment decisions. Joe’s investment managers were buying stocks in late 2007 and during 2008 that were clearly in down trends with no evidence of a trend reversal. There is no explanation for their decisions other than they had to be seen to be doing something, so committed capital to the market with little or no risk assessment (market, sector or liquidity) and with no exit strategy in mind. This is evidenced through taking relatively large individual positions (> $100K) in stocks with position sizes that were well in excess of 100% of the daily traded value of the stock. These stocks have now fallen between 60% and 88% and were still held at the beginning of 2009 having a detrimental affect on the overall portfolio, which remained 90% exposed to the market during the entire bear market.

Jane had a broker trading leverage on her behalf using CFDs. The broker was trading a portfolio of $275,000 and was way over leveraged when the January 08 fall wiped out 95% of the portfolio’s value. Neither Jane nor the broker had any idea of what they were really doing. Nor did they fully understand the true concepts of leverage and the effects it can have when things move rapidly against your open positions. Whilst CFDs, like most leveraged instruments, are a tremendous trading tool when fully understood and used correctly, they can produce catastrophic negative results when not. Many CFD traders, like Jane, have no real plan or strategy for engaging the market. They were simply drawn to the romantic, maybe greedy, allure of CFD trading like moths to a light. Throwing themselves into over leveraged trades with reckless abandon in the “never ending bull market” as they became fearful of missing out on the profits that were being generated in the share market. When the market turned and went sour on them, they had no idea what to do. Many waited and held onto long positions in the vain and mistaken belief that this was ‘just a minor correction’ and the market would return to its continued thrust up and they would be back in profit. But it never came and they were wiped out as prices tumbled into the black abyss of the bear market.

Roger had been steadily accumulating resource stocks over many years, convinced that the so called commodity super cycle and the ‘China effect’ would continue to drive resource prices and thus the companies that mined and processed these higher and higher. He too thought the first move down was just a much needed market correction and that the market would shortly return to ‘normal’. He continued to hold his shares. He had a particularly large position in RIO Tinto which he had built over the years and had watched it climb to almost $150.00 per share giving him in excess of $1 million in profits. His broker and his wife both told him not to sell in January 2008 when the market first started to crack, and RIO dropped back to around $100.00 so he hung on. Initially it looked like a great idea as RIO recovered and went on to make a new high of almost $160.00 per share in May 2008. Then, in line with the rest of the market RIO started to slide. When it reached $100.00 neither Roger nor his “financial advisers” panicked as they were convinced it would simply turn around again as it had done a few months ago and before long would be once again back at new highs. But then it crashed through $90.00 and in less than 2 weeks was a bit over $60.00. A brief rally pushed it back up to over $85.00 and Roger assumed the worst was over and happy days were here again. Then, it cracked again and fell sharply to $30.00. Roger and his “advisers’ watched paralysed, as the $1 million profit evaporated. They were unable and unwilling to react and take decisive and objective action because they lacked a detailed plan that included an exit strategy!!

These are just 3 of hundreds of similar stories we have heard. Investors must plan for the one-off event from left field that can take them out of the game in any strategy that they are using. The techniques to achieve this will typically mean putting a handbrake on profits when the market is conducive to making profits.

Rather than being negative though, 2008 must serve as a positive call to action – a call to develop a trading plan and strategy that has clearly defined entry and exit rules, money management and position sizing rules, and a definitive and proven ‘edge’ for trading the market. Mistakes have been made during 2008. We learn by making mistakes and seeing the mistakes that others have made. The learning is only complete when we make changes and improvements to the approaches that we have used and then execute those changes when challenged by the market to do so.

It is simply not good enough to place trust in others when it is your money on the line, or to not have a strategy or system for professionally engaging any active investing in the market. YOU must take responsibility for your trading and investing decisions and have a clearly defined and unambiguous set of rules for achieving this. The SPA3 system will allow you to trade and invest in the share market in a professional and businesslike manner, without the need to listen to others. It will also ensure you have a proven and decisive set of rules to enter and exit EVERY trade.

2009 does not have to be like 2008. Instead of wandering around in the wilderness, we plan to inspire you to sit down and write that trading plan.

By clicking the link below you can access “the six main components of a trading plan”. The trading plan components disclose essential areas of “Active Investment” success. These simple foundations are put in place by SPA3 clients before executing in the market.

If you would like to see how SPA3 implements the six main components of a trading plan you can register for a demo at the following link.

I wish you consistent and objective active investing in 2009.