Editor's note: Jim Cramer's book, Real Money: Sane Investing in an Insane World, includes Cramer's "Ten Commandments of Trading", which we've reprinted below. For more about the new book and to order it, click here. To learn his "Twenty-Five Rules of Investing", click here.
Control Your Losses
Commandment 7
Losses do you in. They always do you in. Controlling losses is the most important thing you can do. I don't really care how you do it. If it is to put on stops in trading, then so be it. If it is to decide that you are never going to let a position run a point against you, then fine. But you must heed the seventh of my 10 Commandments of Trading:
Control losses; winners take care of themselves.
Let's say you bought Apple (AAPL - Cramer's Take - Stockpickr) for a trade. As soon as that number comes out, that's the trade, for better or for worse. If you own it the next day, you are making an investment, and you didn't buy it for an investment. The loss must be taken.
It's the same if you buy IBM (IBM - Cramer's Take - Stockpickr) today because you think it is down too much. You have to stop yourself out at $79, or else that, too, becomes an investment, and an investment by default is a very vulnerable place.
What's amazing about loss control is that it works in every season. Loss control would have saved you a fortune back in 2000. Loss control would have gotten you out of pharma much higher, only to get in now, when pharma's finally right.
The only time loss control doesn't work is when you are picking a position as an investment to start. Then you are rooting for the market and the stock to go down, so you can buy it right. Loss control there means that you don't buy too much at one level so that you don't find yourself under water big and then helpless as the stock rallies because you didn't buy any stock at lower levels to trade around with.
When I review portfolios, I constantly see those that are rocked by one position. In other words, someone let one bad position go against them and go against them and go against them some more. That's because the person didn't recognize that you must be an activist about your losses; you must recognize them, remove them, contain them.
If you do, you will be shocked at how often the good positions will make you fortunes that don't get taken away.
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Jim Cramer is a director and co-founder of TheStreet.com. He contributes daily market commentary for TheStreet.com's sites and serves as an adviser to the company's CEO. Outside contributing columnists for TheStreet.com and RealMoney.com, including Cramer, may, from time to time, write about stocks in which they have a position. In such cases, appropriate disclosure is made. To see his personal portfolio and find out what trades Cramer will make before he makes them, sign up for Action Alerts PLUS. Watch Cramer on Mad Money at 6 p.m. & 11p.m. ET weeknights on CNBC. Click here to order any of Jim Cramer’s books including his latest endeavor Stay Mad For Life: Get Rich, Stay Rich (Make Your Kids Even Richer). While he cannot provide personalized investment advice or recommendations, he invites you to send comments on his column by clicking here.
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