As I settled into my seat at the blackjack table yesterday ($5 minimum, because I’m a high roller) I made note of the people sitting around me. There were the two cute blondes seated to my right, pretty much the whole reason I picked that particular table. Naturally, they left after about 4 hands. To my left was a young black man, who didn’t know the proper blackjack strategy, but was making up for his ignorance by betting much more than the minimum bet. He often had $25-$50 riding on a single hand.
What was more interesting was his attitude about his chip stack. Once his original $100 was converted to chips, he clearly didn’t think of it as money anymore. He made reckless decisions, like putting all his money at risk a couple times when he got low on chips. These decisions actually worked out well for him, as he left the table with about $300. This was a lot more impressive than my meager $22 profit.
As I watch my fellow gamblers, I find they almost universally make one psychological mistake, one that’s made by all sorts of investors. When they’re making a profit, they view that profit as somehow not belonging to them. They say they’re playing with the “house’s money,” which implies they don’t really consider it a profit. It’s no surprise gamblers are guilty of this, gambling is hardly an activity rational people think they have profit from. But investors often make the same mistakes.
How many investors do you know who actually sell when things skyrocket in value? Take gold for an example. If you bought the shiny yellow metal a few years ago, you’re basically swimming in profits. If you bought enough of it, you could buy some hooker love for a very long time. This would be a waste of money because all you need is 5 minutes, but I digress.
Instead of selling, many gold investors are pounding the table for even higher gains. You’ve all heard the reasons why we’re apparently in the greatest gold bull market of all time. Governments are printing money like crazy, which will inevitably lead to hyperinflation for some reason. Europe is a mess right now, but once America and Japan follow into the debt abyss, gold will really spike. Blah, blah, blah.
Why don’t these gold investors take money off the table? If you’re bullish on other hard assets, you can diversify into U.S. real estate, a beaten up sector that really only has one direction to go. Or you can buy natural gas, a commodity which is bound to get more attention as a green fuel as time goes on. Hell, even oil is a smarter bet here than gold, especially if all this tension with Iran ever gets past the tension point. Iran, such a tease.
The reason gold bugs can be still bullish on gold is because they’re playing with the house’s money. They’re up considerably, so they can afford to take some risks. And one of those risks is continuing to buy gold or it’s less sexy cousin, silver.
Maybe it’ll work out for them, but it probably won’t. These are the same people who were calling for $200 oil back in 2008, higher real estate prices in 2006, and for the tech boom to go on forever in 1999. They get caught up in the moment, not realizing that they should sell when they’re up big. A profit doesn’t become a profit until you sell the investment. Too many people are reluctant to sell because they don’t see the profit as belonging to them. All it looks like is numbers on a piece of paper or a computer screen to them.
Don’t fall victim to this psychological trap. And I think I have a way of protecting you. It’s all about setting targets.
Firstly, I don’t really care for stop losses. For the unaware, a stop loss is a price you set that will automatically sell a stock. Say you buy shares of Nelson Inc. for $10 a share. Nelson Inc. in is the blogging, prostitution and gambling business, in case you’re wondering. You want to protect yourself, so you set a stop loss at $9 per share. Once the stock hits $9, it automatically gets the punt.
So 3 weeks after you buy, Nelson Inc. is down to $9.15 per share. After the market closes one day, news comes out that one of my hookers has gotten syphilis. Obviously, this isn’t good news. So the next morning, the stock opens at $7.50. Guess what price your stop loss would have kicked in at?*
c) Impossible to tell
Multiple choice quizzes are fun!
Instead of setting up your account to automatically do your selling for you, all you need to do is set targets in your head. If you liked Nelson Inc. at $10 a share, you’d probably like it even more at $7.50. Take some time to digest the news and to figure out if it’s really that bad, or if it’s Mr. Market overreacting again.
It’s the same thing with setting a sell price. Considering I like to pick contrarian investments, I often have sell targets that are 200 or 300 percent higher than the current price. What I do is look at the range where the stock traded at its highs, then pick a number at the bottom of that range. I know that a stock reaching it’s former trading range is a lot easier than a stock making new record highs.
If you set a sell target before the stock ever gets there, you’ll be less likely to fall into the trap of being greedy when the time comes to sell. Now if you’ll excuse me, I have a fortune to go make at the blackjack tables.
*The answer is actually c, but in reality would end up being close to b.