Rules of trading - loss at risk vs gain on disposal

Everybody looks for making some small to big gains either on a daily or a monthly basis. Not only that most of the retail investors either want to be successful in every trade or look for covering loss by averaging out.

While the approaches may be different it cannot be perceived as wrong. Infact the best word to put in investment/trading is not whether it is a right or a wrong approach however who is wise enough to see the big picture and understand the psychology of market

Individuals trade, but the common goal is to make money. If the majority of the individuals choose to buy a stock then it moves up, likewise if majority decides to sell then the price moves down. While the concept is simple to understand how do we know we are sticking to the majority group? what if we are trading in the opposite direction, it is like driving in the opposite direction on the road when the majority of the folks are driving in the other direction. You obviously will get hit and it can be fatal. Likewise in investment terms if you trade against the majority of the group you will tend to lose money as prices will fall after your buy levels

I have made a small attempt to put some key rules of trading/investment and the main topic revolves around gaining while keeping the risk at loss in mind

Rules

1. Assessment/calculation of risk vs gain - Source of buy/sell call could be from anyone, or perhaps it is your own call. Did you assess first the loss at risk vs gain on disposal. i.e. make sure before you enter in buying or selling a stock you know what is the loss at hand if there is a stop loss hit? and if you meet the target on the positive side then what is the gain at hand? If the loss at risk is greater than or equal to gain on disposal then it is better to avoid that trade. Simple mantra to follow, loss at risk should be not more than 10% of your capital amount invested. If it is, then just simply avoid that trade and go look for another one. If it is an investment then keep a 4 to 5 year horizon and invest on quality stocks

2. Affordability - Now that you know what is the loss at risk, do you know how much would that be?. For some one a loss of 10,000 is still ok whereas for some one else even a loss of Rs 500 is some thing really really big. So it all depends on your financial condition and mental state which makes you think it is still ok to lose as you can recover it through your other source(s) of income

3. Time to wait for return or book loss - Gain is lucrative as far as your investment yielded an annual return better than the bank deposit rates. Which shows you are definitely better than the average person who puts money in the bank due to his nature of choosing low risk return options. More importantly when you think of buying/shorting a stock it is not only important to know the loss at risk but also it is wise to know for how much time you can afford to wait to see a return. A time horizon of 12 months may be a normal thing for few people whereas for another person waiting for 1 month may be a tough thing. So before entering, it is very important to not only analyze the price movement but also check the probability of movement basis time

4. Control the desperate feeling of buying/selling - This addresses your emotional state of mind, we always tend to think if we don't trade/invest today then the whole world is going to fall. Control your urge, when you see some money in your bank account don't keep getting tempted to trade/invest. Infact intelligent/wise traders don't take returns on every trade, but they know to tap the jackpot trade. Question is how good are you in tapping it?. Likewise wise folks don't invest always they accumulate money when the market falls and invest at rock bottom levels so that they can get the best out of the market when the growth starts and gets to the final stage

5. Fundamental & Technical Analysis - Now we are talking about the preparation side, what is the root cause of buying a stock or any other instrument?, is it because some one asked you to do?, or is it just because you want to give the comfort to yourself that even "I" invest/trade? We all in a way get trapped to such feelings/emotions. Always look at your portfolio of investment and diversify as much as possible. The reason is in this uncertain world, loss and gain keep happening for everybody. The question is how often are you on the winning or losing side determines your success/failure. If you are very inclined towards doing technical analysis then sharpen your axe by buying some good books, low/medium cost trading software and start practicing what you learn. Take small risks and see how it turns. Similarly if you are more of a fundamental guy, then analyze and compare company's growth, business performance etc. with industry levels, again we are talking about increasing your awareness and knowledge in a field

6. Network with like minded people - Do not live your life alone, esp. this would hold good when you want to invest/trade in financial markets the more people you know it is is always good to take views/opinions. This helps you to sharpen the axe. Don't talk to people who speculate basis news info. rather look for people who bring in strong fundamental reasoning or strong technical analysis. Use linkedin and other professional networks to connect with people and thereby develop relationship

Note : If any or all of the rules in a way hurt you, then please do apologize me for the same, as my intention is to point out common mistakes that we do in our daily life while trading. It is purely realized after going through such emotions over a period of time and by learning from mistakes and of course talking to like minded people who at some point have gone through such similar emotions