When to take profit

The recent rally in stocks, crypto and real estate markets has brought to mind an important topic which many investors old and young struggle with — at what point do you crystallise your gains and lock in profits?

Investors are often torn between the tradeoff of holding on for more gains or protecting their investment against downside risk. I personally never like selling assets unless I can reinvest at more favourable terms — lower risk, higher return or both.

We often get caught into the psychology of chasing prices. One must remember that pricing is just another source of information. The price of something is what investors are willing to accept for exchange at that point in time, whether it goes up or down shouldn’t impact me unless there becomes a fundamental change in my risk/reward relationship.

Risk management is important

Selling is really about managing downside risk. If you were guaranteed to own an asset that never goes down in value, why would you sell? We only really ever sell because we fear that the market will move against us and we can lock in our position to protect from that occurring.

I believe risk management is the single most important ingredient in successful trading. I always invest with risk management first and foremost as my guiding principal. If the market moves against me and I’m horribly wrong, I want to make sure that I have options and can withstand the storm.

For stocks and crypto, I also use stop losses to protect me from crazy downside risk that comes with electronic trading. My stop loss is where I can’t afford to lose anymore. I often take frequent small losses when trading but when I’m in profit, I aim big and let my position run.

For real estate the situation is different. Every real estate transaction I make is made on a number of scenarios going against me — what happens if I lose my tenants, I hit unexpected maintenance charges, the market tumbles 30% etc.

I always start small because I want my losses to be small if I’m wrong. I’m happy being wrong often, as long as my incorrect trades and investments are small. When I’m right, I want a big payoff.

My risk/reward mindset is always asymmetrical — I want at least 10x upside for each unit of downside risk. For example, I want a $100k payoff for each $10k risked trading on the markets or deposit on real estate investment.


Ride your gains

One of the best investment notes I read over the holiday period was published by Microstrategy (Michael Saylor’s firm, he is a big Bitcoin bull and very public in the media-sphere these days). Definitely worth reading, the 2020 shareholder letter is here.

The part that stood out to me the most was this:

In AMZN’s early years, most investors were hesitant to buy it even as they loved using the service, believing each year that they “missed it again,” that the price had run away from them.

Why? Because in each those first 12 years, AMZN’s high price that year was, on average, 175% higher than AMZN’s open price of that year. Whoa. With that kind of price action, it is understandable why, year after year, investors thought they “missed it again.”

Yet, though understandable, year after year investors were, with high consequence, very wrong: in the ensuing 12 years – years 13 through 24 – AMZN increased 62x.

You have to be psychologically ready and comfortable to make huge profits when you get something right. It doesn’t happen often, but when it does, don’t fall into the trap of fear or self doubt. Making big profits is just a part of investing. If you’re correct, let the market reward you. Don’t doubt your ability to make big gains.

Keep it in perspective

I recently came across a great quote from JP Morgan that read “…I made a fortune getting out too soon..”

To me this is very important. If you have made your 2, 5, 10x or whatever relative to your risk target, its OK to get out and bank your gains too early. Some of the best investors I know have sold out too early, missing another potential 10, 20 or even 30% but they are at peace because they delivered what was appropriate to their risk/reward ratio and targets.

Don’t fall into the curse of comparison. Always set you targets before making an investment. If you want to hold an asset to retirement or have no need to sell, stop looking at the price unless you want to buy more. Don’t worry about a market crash if your time horizon is long. Take small losses if you’re wrong, don’t be a hero.

Making money is more important than being right.

The next few years are likely to be exciting and big gains lay ahead of us. If you would like to get my updates delivered to you weekly, subscribe below and share with someone who you think will benefit from what I have shared above.

Thank you and God bless.