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Editor's note: This week we're sharing classic advice on how to safely invest in stocks near all-time highs. Stocks still offer plenty of great opportunities heading into 2015. But it's as important as ever to "play good defense." In the classic essay below, Steve shares how a good defense is actually...
The Simple Secret to Profits From a Math PhDBy
Tuesday, December 23, 2014
Dr. Richard Smith can make you a lot more money from your investments.
Richard just spent a few days in town, and it reminded me of a couple things... For one thing, he's one of the smartest and nicest guys I know. He's also made a lifelong commitment to helping individual investors become better investors.
That commitment started from his own huge investing mistakes...
After graduating from Cal-Berkeley (one of the nation's top schools in math), Richard got a PhD in "mathematical systems theory."
In short, he knows numbers. But that didn't save him in the dot-com bust in 2000. Like many investors, he got "burned."
He vowed to never let that happen again. So he set out to figure out how to avoid similar losses in the future. And he wanted to prevent other people from making the same investing mistakes he did.
So he started looking into what the top traders were doing... guys like the ones in the popular Market Wizards investment books, for example, who had turned small piles of money into very large ones.
It turned out, "cutting your losses early" was a common theme across all those successful investors.
Individual investors typically don't do this... because they typically have no "exit strategy." They have reasons to buy a stock, but they don't have a clue when to sell. Meanwhile, a successful trade is two parts – a smart entry and a smart exit.
After much study, Richard believes the simplest thing individual investors can do to continually increase the value of their portfolios is to make sure they have an exit plan that includes cutting their losses early.
The simplest way to do that is through using "trailing stops."
If you're not familiar with trailing stops, the concept is simple... Think about each word individually: "Stop" is to stop your loss – to not let something fall by more than a certain percent. If it does, you sell.
The "trailing" part of "trailing stop" means that your "stop" can move – if your stock hits a new high, your stop moves up higher, too – it "trails" new highs in your investment.
Let me show you what I mean with a True Wealth trade we made several years ago...
In April 2007, when we entered the trade, one of China's big oil producers, PetroChina, traded around $113 per share. In 2009, PetroChina traded around $115. So in just over two years, the stock basically did nothing.
But here's how we traded it in True Wealth...
The stock soared soon after we bought it. Shares made it all the way up to more than $250. And we simply followed our rules. We sold half once we were up 100%. Then, when the stock fell 25% (hitting our trailing stop), we sold the rest.
 In short, by sticking to our exit plan, my readers made A LOT of money in a stock that went nowhere.
Richard created a simple website that tracks these things for you. He calls it TradeStops.
You enter your stock symbol, the date you bought your stock, and the percentage trailing stop you want to use. TradeStops automatically adjusts your trailing stops for you. It will also send you an e-mail or a text message when your stock hits its trailing stop.
Richard's website allows you to do fancier trailing stops if you prefer. But I don't think you need to get fancier than this...
To be a more successful trader and investor, you must have an exit strategy. Richard believes the simplest thing most individual investors can do to improve is to use trailing stops. That's why he created TradeStops. His website is the simplest way I know to create and easily follow a rational exit plan... and keep you in the money.
Check it out...
Good investing,
Steve
Further Reading:
"Have an exit plan with your investments, period," Richard told Steve. "It's absolutely crucial, but most people don't have a clue." Learn more about the trailing-stop strategy Richard prefers – and how to use it to prevent big losses – here: The Best Exit Strategy for Any Investment.
Another crucial part of protecting your investments is a concept called position sizing. Editor in Chief Brian Hunt says it's one of the most important ideas any investor can learn. "If you don't know the basics of this concept," he says, "it's unlikely you'll ever succeed in the market." Learn how to put it to work for you in this must-read interview with Brian.
Market NotesA FAMILIAR FACE ENDS THE YEAR WITH A FLOURISH A familiar Market Notes face is ending 2015 with a flourish... and confirming a thesis we've written about many times.
Over the past three years, we published dozens of charts that proved America was doing a heck of a lot better than the pessimists would have you believe. One of the clearest signals, we've often said, is the climbing revenue and share price of Wyndham Worldwide. It's one of the most important stocks most people have never heard about.
Wyndham Worldwide is the world's largest hotel chain. Brands here include Super 8, Howard Johnson, Ramada, and Days Inn. Wyndham owns several "upscale" hotel chains as well. The fortunes of hotels rise and fall with America's propensity to take business trips and vacations... so they're a good indicator of what's going on in the economy.
As you can see from the three-year chart below, things are going well. Wyndham's strong business has helped shares climb more than 100% in the past three years. Shares just hit a new high. As we close the year, it's important to remember this lesson: America is doing a lot better than the pessimists would have you believe.
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