Rule No. 9: Defend Some Stocks, Not All

Editor's note: Jim Cramer's new book, Real Money: Sane Investing in an Insane World , is available in selected bookstores now. As a special bonus to RealMoney readers, we will be running Cramer's "Twenty-Five Rules of Investing." For more about the new book and to order it, click here. Today, we present Cramer's ninth rule of investing. To read about his first rule, click here; for his second, click here; for his third, click here; for his fourth, click here; for his fifth, click here; for his sixth, click here; for his seventh, click here; for his eighth, click here.


When the markets are hard and unrelenting, as this one has become this year, it's important to remember an adage that's well-suited for a battlefield plan but is just as valuable for a portfolio plan:

He who defends everything defends nothing.

When the market's flying and many stocks are in a bullish mode, it really doesn't matter how much you have on, or how many positions you have. The more exposure the better.

But when things get tougher, you have to recognize that many stocks that you bought for better times may not be in good enough shape to rally. You can't own everything you would like to own.

For example, you may have been playing the chemical sector with Eastman Chemical ( EMN), Dow Chemical ( DOW) and DuPont ( DD) because you saw the demand from China. Suddenly, General Motors ( GM) " blows up" and you have way too many chemical companies.

I like to say, don't defend them all, just defend some. Pick your favorite and defend that. If you try to defend them all, you simply will run out of capital or go on margin before the bottom. You will lose your reserve and not be ready if the market doesn't turn in your direction.

That's why I rank all my stocks at all times for my Action Alerts PLUS portfolio. I need to know which stocks I will defend when things get tough and which I will cut and use as sources of capital.

It's extremely important, say, if you think that the techs are going to start rallying here, that you don't just keep the whole complex. Pick the best stocks, the ones you know you will want to buy if they go lower and toss out the rest.

Let me give you an example. Storage stocks seem to be holding up rather well here. I think that sector may be worth defending. But that might mean I toss out a software stock that I'm more worried about or eliminate an Internet stock because I don't know when it will reverse. I would defend, only, say, QLogic ( QLGC) or Brocade ( BRCD), but not both.

If you rank stocks on a scale of one (buy) to four (sell), as I do at the end of every week for Action Alerts PLUS, you know that when you come face-to-face with the enemy -- an onslaught of selling -- you are ready to buy on the way down the ones you can truly defend -- the No. 1 stocks -- and you will wait on the twos until they are lower.

The nonessentials -- the ones that have no catalysts and that you are using just for exposure because you thought you liked the market -- they get the heave-ho immediately.

My wife, the former Trading Goddess, used to call this "circling the wagons" around your best names. The few first times you do it, you will curse yourself because you will be slaughtering stocks you might have had on for some time.

But you must go through this process a multitude of times before you realize how right it is and before it can become second nature.

You will end up with great costs bases on the stocks you really like, and you will have enough capital left to make a difference.

1. Pigs Get Slaughtered 2. It's OK to Pay the Taxes
3. Don't Buy All at Once 4. Buy Damaged Stocks
5. Diversify to Control Risk 6. Do Your Homework
7. Don't Panic 8. Buy Best-of-Breed
9. Defend Some Stocks
Check back for more of Cramer's Rules

At the time of publication, Cramer was long Eastman Chemical.

James J. 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. While he cannot provide personalized investment advice or recommendations, he invites you to send comments on his column to jjcletters@thestreet.com. Listen to Cramer's RealMoney Radio show on your computer; just click here. Watch Cramer on "Mad Money" at 6 p.m. EST weeknights on CNBC. Click here to order Cramer's latest book, "Real Money: Sane Investing in an Insane World," click here to get his second book, "You Got Screwed!" and click here to order Cramer's autobiography, "Confessions of a Street Addict."

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