Ask Colin

My portfolio has gone down by 30% (late March 2001). Should I wait for it to recover or should I cut my losses?

I am asked this question all the time, but particularly since the bear market began on the Nasdaq last year. The problem is that it is an impossible question to answer as it stands. This is not only because I do not give advice about specific stocks. Rather, it flows from the simple idea that unless I know your trading plan, I cannot possibly tell you what you should be doing.

Trading is a simple procedure. You develop a trading plan and then trade it. Your trading plan should provide guidance for any given market situation. So, the decision makes itself once you have a trading plan.

The problem is that most people who ask this question do not have a trading plan. They did not have an objective for the trade they ask about. Nor do they have exit rules. So, if they do not know what they are trying to do, there is no way I can tell them how they should deal with any of their trades.

For instance, if you took these positions as buy and hold investments, you should not be asking me what you should do about them. However, if you bought them as a trade, then my question is "What is your stop-loss rule?" If your stop-loss has been hit, why are you asking me what you should do? You should have already sold them. If your stop-loss has not been hit, then my question is "Has the stock given you an exit signal from your plan?" If so, you should not be asking me what to do. You should have already sold them. If no exit signal has been given, then the only reason for asking is that you are starting to rethink your plan. This is always fatal. If you feel you should change your plan, you are rationalising away a problem with the trade that you do not want to face.

However, the most likely reason is that you do not have a plan. In this case you should sell them and stay away from the market until you know what you are trying to do.

I appreciate this is a fairly "direct" and brutal answer. However, lack of a trading plan is one of the most common reasons that people fail at trading. I hope that introducing reality at this point may help you avoid further losses. If you need to develop a trading plan consider my weekend seminars, my camps or Garnett Znidaric's Trading Plan Review seminars.