Ask Colin

How canI adapt your risk management for my trading plan?

The detailed question was:

I’m afraid that I do not have the time or the patience to put as much effort into researching companies to find those that may be suitable for purchase; I also wish to spend more time with my family these days as I’m probably entering the last quartile of my life span.  As a result, I have been purchasing LICs and ETF’s over the last year, with some success, although I wish that I had made use of sell-stops to ensure that I would have exited the market earlier than I did, which brings me to the reason for this letter.

 

I have decided to purchase up to two LICs, probably ARG and AFI, and also several ETFs, such as the Vanguard property ETF (VAP) and the Vanguard Aus share index VAS. Although the advantage of this strategy is that I’m virtually investing in a large number and broad range of companies, I will probably be limited to say five or six investments. This means that instead of limiting the amount invested to a

maximum of say 6% in any one investment, I will need to increase that figure, but at the same time limit the potential loss to perhaps 1% of capital in each investment.  It seems to me that there is a risk of being hit with a large loss should another event like the ‘87 market fall occurs.  Your idea of monitoring CaR seems to be applicable.  Another idea is to purchase more than 3 tranches for each investment as the market progresses.

 

I would be interested to know if you have any views on the above.

I am not able to legally advise you on strategies that may be appropriate for your trading. You need a licenced financial adviser to do that.

What I will say, though, that may assist your thinking is:

  1. I do not ever invest in derivatives and that includes ETFs.

  2. Buffett prefers broad market index funds, but I have reservations about this in Australia because our market is so heavily exposed to the dangerous sectors of banking and resources. He is a long term investor, not a trader as you are.

  3. Using my position sizing and capital at risk tactics are inappropriate for a LIC-based trading strategy because the only intelligent way to use them in my opinion is as a buy-and-hold investor long term through the cycle. Trying to use them as short-term trading vehicles has many complexities including liquidity and managing the premium/discount to NTA.

My investment plan is not really a good model for your trading plan, but I hope  these comments may be of help as you work out your trading plan.

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