The Best Way to Lose Everything

The Best Way to Lose Everything
by Alexander Green, Chairman, Investment U
Investment Director, The Oxford Club

SmartStops comment: Excellent article and great example of the pitfalls of over confidence and lack of diversification. Reminds me of the well known hedge fund manager (he wrote a book) who was proud of the fact that he never used stops. He has now gone completely broke twice in the last few years losing all of his investor’s money and many millions besides.

This true story is intended to point out that there is often the assumption that good traders don’t need stops. Actually they need disciplined stops more than the bad traders. Unfortunately the bad traders are doomed to go broke quickly whether they use stops or not. Meanwhile the good traders will survive and be around for a long time. The good traders will be making many trades through all sorts of unusual and risky market conditions. They all know that sooner or later they will be glad they used stops.

Excerpts: Back when I was still managing money 10 years ago, I had a client who transferred in a rather sizable account. There was only one problem. Over 90% of his net worth was tied up in a single stock, Ericsson. He refused to use a trailing stop or sell a share of it or even to use a position sizing strategy.
I warned him it was crazy to have his entire financial future riding on one stock, especially since he was retired. "That's what everybody keeps telling me," he said. "But the stock keeps going up. I'm glad I ignored them all."
I congratulated him that the stock had appreciated so nicely. But I reminded him there might come a time when it didn't do so well. But he was stubborn. He wouldn't part with a share. Furthermore, he grew weary of having the same conversation. He transferred his account out again.
You may already know how this story ends. From a high of over $105 in March 2000, Ericsson took a breathtaking dive. It traded at less than $5 two years later. This is the kind of mistake - especially when you're already retired - from which recovery is simply not possible. However, I sometimes see other investors making similar mistakes.
Everything we do - asset allocation, trailing stops, position-sizing and stock selection - is done with an eye to not only maximizing returns but also limiting risk.

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