Ten Commandments of Trading:  1  |  2  |  3  |  4  |  5  |  6  |  7  |  8  |  9  |  10 

 

 

Keep It a Trade

 

 

Commandment 1

 

Never turn a trade into an investment.

 

That's the number-one commandment of trading, and yet, no matter how many times I say it, no matter how many times I scream it, people just don't listen.

When I came up with the Ten Commandments of Trading, which I detail in Jim Cramer's Real Money, I did so after analyzing literally billions of dollars in losing trades. Remember, I am a lab — no, I am the lab, because of the millions of trades I have made in the last 25 years and my insanely rigorous method of analyzing any bad trade north of $5,000.

The sheer magnitude of the sample alone made it worth my while. My tremendous masochistic streak made it doubly worth my while. I would analyze positive trades only when they generated $20,000 in profit, but anything that generated more than $5,000 in losses got the microscope, big time.

The commonality of many of those losses? They started out as trades, a stock bought for a specific event, a specific catalyst, and I turned them into investments, because I failed to wipe the trade off the books the moment it got busted. The bigger the loss, the more I rationalized. I would buy the equivalent of a Research In Motion for the era in advance of the quarter. The results would come out, and I would say, "You know, I am really in it not for the results but for the new Blackberry iteration, so let's buy more." I would dig in my heels. I was more likely digging my grave.

Or, I might say, "This time Alcoa's got to get it right. I would put some on." Then the quarter would come out and it would be a stinker, but on the conference call management would say how things were looking up in aerospace. Suddenly, it would be an aerospace play! Buy more!

How do you decide not to go down this path? By declaring right up front that the position is a trade and noting exactly why you are buying the stock and when the catalyst is going to occur. The stock comes off no matter what after that catalyst.

This is a brutal rule. It is so easily disobeyed that we seem to do so instinctively. But if you are like me and you sit there and are obsessed with the losses, you just don't have time to keep disobeying this rule. It's just too darned damaging to your psyche in the long-term.

Start the process today. You buying the Yahoo! (YHOO - news) for the quarter? After that quarter is reported, you skedaddle, no matter what.

Promise?

Random musings: If you like these commandments, my book is full of them. All equally brutal. All taking advantage of my myriad mistakes. Why let them happen to you?