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January 31, 2013

A Word for Novice Investors

I've been active in the stock market for over 20 years. I enjoy and profit from Internet discussion groups but one topic that puts me in a bad mood is the excessive whining about how unfair the market is, how the big bad wolves eat our deserved lunch, how high frequency trading (HFT) hurts us, how short sellers steal our lunch, and on, and on, and on. Bullshit!

Not that it does not happen. It does. But just as you are advised to "drive defensively" my advice to you is to "invest defensively." I've taken the liberty to quote Yahoo! Answers in full [edited for spelling]:

What do you define as defensive driving?

A defensive driver is one who will do everything possible to avoid a collision.

That means that they are 100% on the task of driving and are not distracted by stereos, cell phones, passenger conversations, noisy children, the scenery outside, or anything. That means that they are mentally prepared for that task and are well rested, not ill, nor impaired by drugs, alcohol, medications or anything else. It means that their vehicle is well maintained and kept in a safe condition, like with properly inflated tires, clean windshields and wipers, reliable engine and suspension.

It means that they not only watch their own behavior, they are watching out for the other driver's behavior. They approach intersections with caution, regardless of green or red lights. They anticipate light changes, lane changes and vehicles and pedestrians entering from either side. A defensive driver is watching the traffic flow in front by several hundred yards, behind by nearly as far and to each side for a couple of lanes. Their head are on a swivel with a regular pattern of looking ahead, to the rear view mirror, ahead, to a side mirror, ahead, to the other side mirror, ahead, to the dashboard instruments, ahead and so on.

A defensive driver is one that who knows that nothing is more important, during the drive, than the complete control of his vehicle, and is aware of EVERYTHING possible that can effect his vehicle.

Source(s): Certified Instructor, National Safety Council Defensive Driving Course 4

Defensive Investing

A stock market board that I frequent but which shall remain nameless has been bitching about the evil shorts and other low lives who are stealing the worthy long investors' rightful gains - as if the stock market owed us something. This is my advice to novice investors, don't whine about reality, take advantage of it through defensive investing. This is a reprint of my post:
The law of supply and demand does work but...

> the price can differ quite materially from what the equilibrium
> as per theoretical price theory would otherwise be

because the ideal market modeled by economists does not exist.

Short selling affects the market price while it is in effect but what happens when the shorts buy back? If there is a short squeeze there is a temporary price spike to the upside like there was one to the downside on the short attack. But in time the price moves closer to the theoretical equilibrium point, to the "practical" equilibrium point to give it a name.

People think of the market as one game but in reality it is two games:
Benjamin Graham
"In the short run, the market is a voting machine but in the long run it is a weighing machine."
-- Benjamin Graham
  1. The Trading Game is a zero sum game where one trader's gain is another trader's loss. Short selling and market manipulation (if it can be pulled off) are gambits or plays that belong to this game. Ben Graham called this the voting machine.

  2. The Investing Game is a non-zero sum game where investors reap the benefits or losses on their investment. You can lose 100% of your money if the company goes broke or make your money many times over if you pick successful productive companies. Ben Graham called this the weighing machine.
On a long term chart the Trading Game is the noise on top of the Investing Game signal. This is why I say that a long term investor can safely ignore traders. In fact, a smart investor takes advantage of "irrational" dips in the stock price created by traders to improve his cost basis. Also, smart investors should ignore bullish touts because all they do is to raise the cost basis by buying higher on euphoria.

Warren Buffett
In this game, the market has to keep pitching, but you don't have to swing. You can stand there with the bat on your shoulder for six months until you get a fat pitch.
-- Warren Buffett
Unfortunately our instincts don't deal well with the above scenarios. We were indoctrinated to run away with fear (sell in falling markets) and to embrace greed (to buy in rising markets). Buffett puts is very well: "Wait for the fat pitch," easier said than done by most of us.

To sum up, take advantage of the shorts and squeeze the hell out of them at any given opportunity. Much better than whining about them. laugh

To answer the "fairness" arguments like losing money because a short episode coincides with a time when you need to take money out of the market and such...

Caveat Emptor

Quite simply the market owes us nothing, it is a dangerous place for the novice as well as for the professional who goes out on a limb (excess leverage?). Buyer beware! There are plenty recommendations out there about money management for emergencies. The central dictum is that you should not put in the market money you can not afford to lose. This money is easy for traders to shake lose. On the other hand, money you don't need for current expenses and for current emergencies is very hard for traders to shake lose. This is what "weak" and "strong" hands is all about. Greed encourages weak hands. Be a strong hand and you'll be a lot safer.

Discussion boards are wonderful when they focus on the subject matter of trading or investing but they quickly lose value when the main topic of conversation is how much someone made or lost or how unfair the market is. For individual investors the market is what it is, it is our habitat, and we need to learn to live and thrive in it as it is today.

Denny Schlesinger

What do you define as defensive driving? from Yahoo! Answers

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