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Knowledge Is Power

This article originally appeared Jan. 27, 2014, on Real Money. To read more content like this, + see inside Jim Cramer's multi-million dollar portfolio for FREE  -- Click Here NOW.

Sometimes it is a game of pain. Other times it is a time of gain. They've been joined at the hip for a very long time. But in the last few months, the pain part of the equation disappeared and all we had was gain.

There are two kinds of pain: the kind of giving up the gain and the kind of taking the loss. Now, I know it seems ridiculous to those who are on the losing end of the stick, but the decision to cut your loss or take your gain is pretty much the same. If you think the stock is going down from here, you need to cut your losses. If you think that it is going to bottom, you need to stand pat.

Now, as I write in Get Rich Carefully, you want to be unemotional about the process. You don't want to make your decision based on your pain threshold because there's a rather remarkable similarity to the pain that other shareholders are feeling. You aren't alone. You don't know what to do and you panic. Initially, you feel relieved, but you are failing at that very moment of max pain to recognize that many others are giving up at the same time and that still others have been waiting for this juicy pullback to get in.

Now, let's take it a step further. The person who comes in long a stock with a big gain has the same amount of pain as the person who just bought in. There's less anger, but the same amount of pain. The reason why I stress, in all my books, that you need to be selling on the way up is because your pain is lessened and your head clearer. You are about to have the same perspective as a fresh-eyed potential buyer. That's why selling into strength is such a tremendous liberator.

But let's take that fortunate person off the table.

What you need to do know is to figure out whether you want to hold on, buy more or cut your loss and to do that you need to know what the company does, how it is doing and why it is going down.

Don't laugh. Let's look at three stocks: IBM (IBM - Get Report), Twitter (TWTR - Get Report) and Starbucks (SBUX - Get Report).

Right now, if you own IBM you are faced with an easy decision. IBM had a horrendous quarter. That's kind of all you need to know. If the stock goes higher it is a sell. If it goes lower it is a sell. If it stays here it is a sell.

Starbucks, on the other hand, just reported a fantastic quarter on all counts. If you bought it at $80, you buy more. If you don't own it, you buy it. And if you came in much lower there is no real reason to sell other than market jitters. There is nothing wrong with Starbucks.

Twitter's the tough one. Nobody has any idea how it is doing. None. Nada. If you bought it at $70, you have to ask yourself why. If you did it because you think that Twitter is going to dominate over the next ten years, you buy more. If you bought it because it was hot, guess what? It's not. You have to hope that it heats up again. I don't like hope. You see, hope should never be part of the equation.

If you don't own it? Then you buy Google (GOOG) or Facebook (FB - Get Report), which were down for no reasons. The decline in Google, at one point down $33, was so ridiculous as to take your breath away. Facebook fell out of bed, too, to a very good place to buy.

In every single one of these stocks, what matters is pain tolerance. Your pain tolerance does NOT just stem from your constitution. It stems from you knowledge of the situation. Knowledge equals power in this business and knowledge can trump pain. If you don't have it, these days are excruciating. My advice? Either learn how to get knowledge or default to mutual funds. You shouldn't be owning stocks (and this from a guy who loves the process of the stock market). You are just going to lose too much money.

Action Alerts PLUS, which Cramer co-manages as a charitable trust, is long GOOG.

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