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INM May 06 - It is Okay to go Out on a Limb. That's Where the Sweetest Fruit Is!
Kenneth J. Gruneisen, Founder and Contributing Writer, www.CANSLIM.net
You are assuming some obvious risk with investments that are uncertain. Some investors are better at handling riskier investments, while to others, not knowing can be almost overwhelming on the emotions. Uncertainty can make it difficult to weather each day to day rise or fall. Regular readers of this column know that normally the guidance I give is conservative. Now I am going to explain why you should go out on a limb in pursuit of juicier returns.
There are some investors who feel nervous about investing in the stock market. They consider it a risky step, especially compared to ordinary bank savings accounts, money market accounts, or CDs. Stocks are among those uncertain investments which can easily lose value, so when you buy stock you are going out on a limb and reaching for sweeter rewards. The good news for you is that over time stocks have established a history of beating those safer options.
What about going further out on a limb and using margin? As mentioned in my June ’05 INM (read here), the CANSLIM Certification course suggests that investors should use margin rather aggressively in a bull market. The course instructors, which included at least six of William O’Neil + Co’s ten in house institutional money managers, along with the famous CANSLIM® creator himself, all recommended being fully margined. In fact, margin use was a key factor in generating the magnificent gains in the model portfolios they provided for all course participants to study closely.
We have stepped out a lot further on the limb, and the risk is getting greater now that we are in stocks and margined to the hilt. How is your stress level now? Well, I bet it is higher if you own anything other than a strong high-ranked leader with sound fundamentals. How does an investor deal with the risk and properly manage their holdings when using margin? The same way they do with any stocks. Your stress is going to be higher if you don’t have a stop loss or strict sell rules you plan to follow. As always, the suggested 7-8% sell rule applies, so the right thing to do is sell whenever a stock falls that much below your purchase price.
So, if using the leverage of margin is being encouraged by the experts, what about buying options? Wouldn’t that be likely to yield even sweeter results? Not exactly! See, the problem with options is that they usually involve larger spreads and there is no way for you to limit you losses within the suggested 7-8% guideline.
Cost averaging in the manner described in the CANSLIM Certification is also a good idea to cover. Again it is emphasized that the proper way to do this is never to average down by buying more stock cheaper than your initial purchase. You bought it expecting to see it go up, so don’t put more money in when it is going the wrong way!
The expert trainers in
This whole process adds complexity, and we can safely assume that more transactions will add up to more trading fees. Keep in mind, the CAN SLIM® system was not designed to be the easiest and the least expensive way to go about investing, but it was designed to be highly successful. I am pretty sure that the guideline concerning the 7-8% sell rule is based upon your average cost of the full position purchased in the manner I’ve just described, not to average your way out. I would have to double-check my course workbook to confirm it, but obviously the same tactic could be used to gradually ease your way out of a faltering stock.
Kenneth J. Gruneisen, Founder and Contributing Writer, www.CANSLIM.net :
Kenneth J. Gruneisen has successfully completed the CAN SLIM® Certification Program. Mr. Gruneisen became a Registered Representative in 1987 and his career includes experience offering personalized assistance to investors with more than a decade of experience as a Registered Principal managing a branch office.
The recommendations made by CAN SLIM® certified individuals are their own and may not be attributed to the CAN SLIM® Certification Program, William O'Neil & Co., Investor's Business Daily or their affiliates. The CAN SLIM® Certification indicates only that the individual has successfully completed the CAN SLIM® Certification Program. CAN SLIM®, William O'Neil & Co., Investor's Business Daily and any of their affiliates are in no way responsible for any loss or damage caused as a result of the services provided by these individuals.