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  • Henri Caron

April 2020 - Caught up again!

My current year’s performance is back to positive again, hereby outperforming the SP500 significantly for this year. I’d like to use the opportunity to share what has been going on in my mind over the past weeks and showing why holding on to assets when a major downturn occurs is far more beneficial than reacting emotionally and panicky. I am concluding with my view on the use of stop-losses.

If you look at the chart of my Current Year-to-Date (CYTD) performance, you notice that all was well up until end-February, after which we started to see drops of more than 10%. Was I panicking during those drops? It is definitely not pleasant to see your own portfolio value, as well as my AUM falling by 30-40%. It is rooted inside people’s minds to action upon most recent information and trends they perceive. So yes, each time the markets dropped, I became nervous and wanted to sell. Alternatively, when the day after there was a rebound I told myself I should have invested more. Now if I had followed that train of thoughts, I would have ended up selling after each drop, hereby taking major losses, and buying after strong rebounds, hereby missing the profits. This is a strong example of trying to time the markets. Alternatively, you could set stop losses at 90%, lock in that loss when markets drop, and buy back once you’re confident that markets are in bull territory again. Albeit a softer form of market timing, I’m not in favour of this approach. Especially when markets are behaving as erratic as they do today, when is the right time to step in? And how much of potential profit must you forego before stepping in? "J.P. Morgan Asset Management's 2019 Retirement Guide shows the impact that pulling out of the market has on a portfolio. Looking back over the 20-year period from Jan. 1, 1999, to Dec. 31, 2018, if you missed the top 10 best days in the stock market, your overall return was cut in half. That's a significant difference for only 10 days over two decades!" Source: https://www.nasdaq.com/articles/what-happens-when-you-miss-best-days-stock-market-2019-04-11-0 .

My CYTD performance chart below starts on January 1st 2020 with a (fictive) $10.000 invested amount, and simulates my performance as if someone was copying me with a copy stop-loss set at 60%. This means that if my positions lose 40% of their value or more, the position will be closed automatically. With the COVID-19 outbreak this happened to quite some positions. If you compare the initial (fictive) $10.000 on January 1st with the $8.711 on today (April 18th), you would assume an approximate loss of 13% CYTD. Yet, when you compare with the performance in my personal stats section, which is the performance I’m actually achieving, I’m at a sleight gain of of 0,37%! The difference of more than 13% is completely attributable to the use of stop-losses, which I always set to zero. A stop-loss is a very useful tool when you open a position with a defined target price at which you want to take and limit your loss. Too many people use stop-losses as kind of an emotional protection barrier for when things go sideways. However, if you think of it, stop-losses are nothing else than what I describe in the first paragraph of this post as emotional behaviour: When markets drop, (automatically) sell-off your assets with a loss. The truth is that this doesn’t stroke with my view on long-term value investing. A sudden drop in price doesn’t necessarily affect the long term value and perspective of a company.

Like I said, setting stop-losses can be interesting when you define the target price at which you want to get out. This decision should be based on facts and not on emotions. Otherwise said, you should have rational explanations on why an asset might reach a certain price — you shouldn’t be saying you want to be randomly limiting your loss at 10% by using a stop-loss. Both technical trading and extensive fundamental analysis can offer ways of defining target prices, but both require much more time and effort. Extensive fundamental analysis requires deep understanding of the business, the respective company, financial modelling of both company-specific financials and macro-economic data,… and above all it is very time-consuming because you need to do it for each individual company. Major institutions often have entire teams doing this full-time, analysing data streams and lobbying with the right key people so to get relevant information into their targets more effectively. This is not something I, as an individual investor, can compete with. Technical trading on the other hand is something I am currently developing and trying to incorporate into my strategy.

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