Congratulations! You’ve just moved to the front of the class and leapfrogged 99% of the other individual investors out there. This is really all you’ll ever need to do to effectively manage your own investment portfolio.
For some folks, though, this plain vanilla approach doesn’t quite cut it. They want something more – something to kick their performance up a notch or to protect them from major declines in the stock market or just something to hold their interest a bit more. If this is your preference then this post is for you.
First of all, if we’re going to add a little spice to the portfolio we need to implement another safeguard and I’m going to give you two different ways to do this. Because this is a learning process we’re going to limit the amount of capital we put at risk in this new program. You can either create a “paper trading” account where you simulate the transactions for your new strategy keep track of the results to analyze and modify until you get it right.
Alternatively, you can allocate a relatively small portion of your capital to a real money test. Personally, I prefer the latter, real money option because you just can’t simulate the emotional roller coaster that the markets put you on when you’re trading or investing real money. BUT you can only put the amount of money towards this new method that you’re willing to lose completely.
This is important: if you’re going to try new, advanced methods then you’ve got to be willing to lose it all. Read the biographies of great traders and you’ll discover they all have one thing in common: they have blown up (aka, lost everything) at least once in their career. Some of them have blown up multiple times before they finally figure it out. It’s the ultimate lesson.
With that cautionary note out of the way let’s discuss some of the advanced methods you may want to explore. Market timing and hedging are perhaps two of the most popular methods out there because, when done right (with a clear and proven discipline), they can help you limit the risk of big, asset price declines.
In terms of market timing, Barry Ritholtz prefers a stock market strategy that requires you to reduce or eliminate your exposure to stocks when the S&P 500 closes below its 10-month moving average. Once it regains this level on a closing basis exposure is increased or reinstated. Others do the same when the weekly MACD crosses down and they increase exposure when it crosses back up.
In some cases, it may be more tax efficient to hedge using these indicators rather than buy and sell using them. There are ETFs that allow you to get exposure to the “inverse” price action of an index. This just means that these funds gain in value when the index goes down and vice versa.
Beyond hedging and market timing you may simply want to invest in individual stocks or learn how to trade anything from currencies to commodities. I can’t begin to cover all the bases here but I can point you in the right direction with a few book recommendations.
One final parting thought: if you’re going to try any new technique in the markets bear in mind that there are a million professional traders out there that make a living by taking the hard-earned money from folks just like you. Discipline and diligence are your only defense. I wish you all the best with your individual investing enterprise.
The Intelligent Investor
Common Stocks and Uncommon Profits
One Up on Wall Street
You Can Be a Stock Market Genius
Market Wizards and New Market Wizards
Come Into My Trading Room
Technical Analysis of Stock Trends
The New Science of Technical Analysis
Elliott Wave Principal
Buffett: The Making of an American Capitalist
The Mind of Wall Street
Reminiscences of a Stock Operator