People loved this piece. It is a simple one, filled with stuff that is all common sense. As well it should be, because my wife was a common-sense trader. She worked with me for seven years and racked up some great numbers. She was a daytrader before there were daytraders because for two years she was not allowed to go home long stock. At 3:59, like Cinderella, her positions turned to pumpkins!
You want some rules for trading? You want to know the essence of what my wife learned when she was thrown on a desk and told to sink or swim?
What the heck, as my wife is visiting the trading desk as a way station to her pending surgery, I thought I would jot down a few hard-knocks rules for you, rules that we have lived by since the last time she lorded over that desk.
(Again, thanks to all of you for your kind words. I can't believe how great the Net is. I got more than 700 well-wishers for my wife! She couldn't believe it either. Amazing.)
Discipline is more important than conviction.
My wife's trading was all about fallibility. She knew that a lot of her ideas would be stinkers, even if she believed in them. So she had ironclad rules. Don't let emotions get in the way. Don't ride things down. Don't get smitten. No idea is more powerful than a stock that's headed lower. She captured all of these in a hand-written Post-It that remains posted on my
machine, in large block letters:
Discipline Is More Important Than Conviction
(Why, you might ask, in a market where
(JDSU) goes up thousands of percent, would discipline be more important than conviction? A-ha, you are missing the point. It is not just about losses. In an up tape, my wife would talk about the discipline of staying long and not taking the easy money. In a down tape, she would talk about the discipline of hanging on to your winners but cutting your losses. (When she came in last year, she was struck by how hard it was, how much discipline it took, not to sell a stock up 30 or 40. She would marvel at the advances, which are far greater than they used to be, and even developed a rule of 10. That's where some
stocks traded in 10-point increments instead of 1-point, and you had to treat each 10 points as if they were 1 so you would not sell a stock too soon and miss a big move.)
Bulls and bears live on, but pigs get slaughtered.
I have been relying on this rule much more of late as we get to ever-higher prices on the Nasdaq. So many people write me about how
has made them millions -- I mean it, I have the testimonials -- to which I always respond with my wife's words and a harsh suggestion that I will disavow any knowledge of them if they don't
take some profits off the table because pigs do get slaughtered
(Oh boy, I can't tell you how unpopular this commandment is! I got so many responses about taxes that I stared in disbelief. Do you think they will always be giving money away like this on Wall Street? Do you think that what happened to
(BRCM) will go up forever? You should be looking at your portfolios and thinking about how you can take something off the table, even if you have to pay gazillions in taxes. There is nothing wrong ever with taking a profit. (Do not believe those buy-and-hold fanatics. They are the charlatans, not me. They would have you give all of these marvelous gains back. So what if Uncle Sam gets his cut? What good is it if you don't take your cut and you get hammered? My largest loss on my sheets right now was once my biggest gain. But I was greedy. Don't be greedy. When the curtain comes down, you will thank me for this one more than any of the others.)
There is nothing wrong with looking at the chart before buying or selling.
My wife insisted that no major action be taken on a stock until she saw a picture of it. She wanted to know where the 200-day moving average was and whether the stock was too spiked to play.
Gary B. Smith
and my wife would be best friends if she were still in the saddle.
(My wife was a chartist. She always referred to the charts. She used to come in early and print out a chart of every one of our positions and write down the breakout and breakdown levels.
, our head trader, does the same now. I love to hit up a chart on
before I buy. I am not as inclined technically as Gary, but let me tell you about a story, the only time I ever asked Gary for help on a chart. The stock was
(BA) - Get Report. I have no contact with staffers at TheStreet.com, but I was confused about Boeing, a stock I had no position in. It was going up when I thought it should be going down. We own some suppliers that are leveraged to Boeing. It made no sense to me that it was rallying. I asked Gary if it was the chart that was driving the stock. No, he said, it could rally a little more but then it would fail and hit new lows. Friday, it did just that.)
If you feel like a position of yours is going to drown you in your own pool of losses, please the trading gods and throw a maiden into the volcano.
A week ago when
was at 53, we convened a volcano meeting and sold some of the stock to relieve some of our own mental pressure and relieve the trading gods. We just did a small portion. That allowed us to breathe easier. Funny thing, it marked the bottom. Unless a stock is a real stinker -- and no maidens can salvage it -- this loss-taking clears your head and allows you to play again.
(I can't tell you how important it is to have your head clear. The only way to clear it when you are getting the &(&*%*% knocked out of you is to take a small loss. It loosens the vise and allows you to think again. You need to be clear-headed to make money. If there is a position that is dogging you, take some of it off, throw the maiden in the volcano and please the gods. This is not as silly as it sounds. You will breathe regularly and you will be able to make a better decision. Also you will have your eyes open for the next big chance.)
Never turn a trade into an investment.
We put the letter T next to a stock in our review meetings because we don't want to start justifying it as an investment. When I first started working with my wife, I would buy some
for a meeting. The meeting would occur, and nothing would happen with the stock. When we reviewed the positions, which we did incessantly, she would ask, "Why is the Heinz still on the sheets?" I would mumble something about while I may have bought it for a meeting, it turned out to be a pretty darned good story. Next time I would go to the fridge for a Diet Coke, she would sell it. She made it clear that nothing bought for one reason could ever be kept on for another. That's how losses occur.
, we review our positions out loud four or five times a day. It is excruciating. Let's say I have bought
(GP) for an upcoming paper conference. Each time we go down the sheets, I will justify it by saying, "I think they will give a great presentation." Come the day of the conference, we will leave the stock after the meeting no matter what. If it is higher, fine. If it is lower, fine. We bought it for a trade into the meeting. (We cannot turn and say, "You know, I saw them, and while the presentation didn't get anybody jazzed, it is a darned good company." Wrong! That isn't why you bought it. When my wife was running the joint, she would sell it when I wasn't looking. I would be furious. But she would say, "Hey, if you like it that much, just go buy it back." I never did, though, because I bought it for the meeting and I just didn't want to take the loss or the flat trade. That's the essence of good discipline.)
Your first loss is your best lost.
You buy something for a reason. The reason turns out not to be true. The stock is going down. Just take the darn loss. Don't be afraid of losses.
(This kind of thing happens all of the time at my shop. Let's say I bought
(ISEE) - Get Report because I heard it was a great optical play. I then find out that it is a maker of glasses, not fibers! I am down a buck. Don't wait till it gets back to even. It never will. Blow it out.)
Never subsidize winners with losers.
My wife hated it when we would sell good winning stocks while we waited for the losers to turn around. She always sold the losers and kept the winners.
(A few years ago, a
manager talked about how he sold all of his winners in his Fidelity environmental fund in order to meet his redemptions, and he ended up with nothing but losers. Ouch. Never let that happen to you. Take the losses. Clear your head. Don't sell
(USG) . Blow out of the
Trust no one.
My wife hated tips. She would make me know them better than the tipper. My wife never trusted brokers. If they burned her, she screamed. If they burned her again, she fired them. My wife never trusted hotlines or gurus or people on TV because, "They are just pumping their positions." Skepticism is a virtue in this business.
(This is a vicious one, but ask yourself, why is someone telling you to buy something? Very rarely is it because he or she wants to make you money. The person may want the commission. The person may want you to take him out of his position. Keep score; someone who has been right a lot may deserve more leeway than someone who isn't. But in the end, you must be your own guru. You must do the work.)
Don't stick around. Declare victory.
blew up recently and went down to 50, some of the people I know who were short it stayed short. My wife thought that was sheer idiocy. It is important after a big win like that to move on, she would say. Take your victories when you have them.
(Short-sellers do this kind of thing routinely.
(CPQ) . Same with Lucent. At a certain point, things can get better. Don't hold out for the last penny.)
Buy them when you can, not when you have to.
was down 35 points yesterday, my office didn't need me to know this rule. I have pounded it into everybody's heads. There are no ideal entry points. But there are moments, excruciating moments, when people are frozen as a stock falls. That's when the ice water in my wife's veins -- hmm, better tell the wrist surgeon not to be surprised! -- paid off in spades. She always bought these moments. And she made out like a bandit.
(This has been the lesson of the last 10 years. The dips, the horrible ugly dips, have been the entry points. You will always do better if you buy the weakness rather than the strength of strong stocks. Remember, this has nothing to do with buying crummy stocks or crummy companies. It has to do with buying great stocks of great companies because of some bogus dislocation.)
James J. Cramer is manager of a hedge fund and co-founder of TheStreet.com. At time of publication, his fund was long JDS Uniphase, Lycos, Cisco, Sun Microsystems and Brocade. His fund often buys and sells securities that are the subject of his columns, both before and after the columns are published, and the positions that his fund takes may change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Cramer's writings provide insights into the dynamics of money management and are not a solicitation for transactions. While he cannot provide investment advice or recommendations, he invites you to comment on his column at