With the S&P 500 rallying back above 1,700 last Friday and perhaps closing in on yet another record high, it’s again time to step back, pause, and reflect on the easy gains to date.
The availability of easy money flowing into the economy has propelled the stock market higher. And with the new Federal Reserve chairman appointee Janet Yellen to take lead in January, we could likely see the continuance of easy money and stock market gains into 2014.
While it hasn’t been all that difficult to make money over the past four-plus years of the current bull market, it could get tougher. This means that you may be able to make money on stocks deemed bearish by traders. (Read “How to Profit by Buying ‘Bad’ Companies.”)
Right now, you may be sitting on a heap of gains, and the stock market could likely move higher if the government resolves all of its issues. But you need to understand that being prudent is important for protecting your gains and achieving success in the stock market. If you get too greedy, you’ll likely see your profits sink.
It all comes down to risk management and the way you run your financial assets.
While things may seem great as the stock market advances higher, as we’ve seen over the past few weeks, when turmoil arises, stocks are quickly sold off. To help avoid major cuts to your gains, you should always think of a potential exit investment strategy. Optimism in a bull stock market can turn extremely quickly, even with the whispering of a single word like “tapering.”
I would use the current rally to take some profits off the table and/or take some losses on stocks that you know are stinkers and have little chance of rebounding. (We all have these.)
Another favorite strategy of mine is to set a price target for a stock. You simply sell the stock when it reaches that target.
If the gains have been massive, take profits on a portion of that position and let the remaining portion ride. For example, let’s say your position is up 100% or more. If you sell 50% of the position and keep the remaining 50%, you effectively create a zero-cost trade as you have recouped your initial investment. You can ride the remaining 50% stake as risk capital. It’s as simple as that.
You might also want to consider setting mental or physical stop-loss limits on both winners and losers. The only warning I have for you here is to be careful when the volatility increases and wild swings in the stock market materialize; these could take you out of your position prematurely. Another idea to consider may be stops that are used when a stock is moving higher, which are called trailing stops, and are regularly adjusted as the stock rises to safeguard profits.
So if the stock market moves higher, keep these strategies in mind, and don’t let your emotions or greed take over risk management.