As we’ve said before in this space, investing isn’t for the faint of heart. Those new to the process are sometimes surprised by just how rough the investing ride can get. Successful investing requires a solid, trustworthy strategy. And it requires emotional fortitude.
Especially if your strategy calls for some trading throughout the year, which is the case with all Sound Mind Investing strategies except Just-the-Basics, one of the uncomfortable realities is that you’ll occasionally have to "give back" some of your gains.
Follow the signals
At SMI, our strategies are not based on opinions or hunches. Instead, they are based on objective, time-tested, momentum-based rules. As a result, our sell signals sometimes don’t occur until a particular investment has declined from recent highs. But our objective, process-driven strategies require more than a one-day or even one-month downward slide in order to light up the exit sign. So, by the time that light appears, some recent decline has often occurred.
A recent example of this occurred in Sound Mind Investing’s Dynamic Asset Allocation strategy, which called for the sale of gold (PHYS/GLD) at the end of last month. We exited the recommended fund with a spectacular +91% over the course of just two years. But by the time the sell signal finally appeared, the investment had pulled back significantly from its most recent high. This type of pullback before a sale is not particularly uncommon when employing trend-following strategies.
Hopefully everyone who bought the fund when we first recommended it was happy with a +91% two-year return. But that gain came with the cost of giving back some return at the end.
Setting expectations
Losses can be hard to handle, even when “loss” really amounts to giving back some of a significant gain. The research on investor psychology shows that most of us dislike losses far more than we like gains, and giving back some of your gains can feel like a loss.
That’s why one of the best ways for investors to manage their portfolio is to manage their expectations. In investing, the path toward gain is almost always marked by giving back some of the gain at the end. You have to expect it and accept it.
If you are a long-time investor, how has the expectation of giving back some of your gains helped you succeed? If you are relatively new to investing, how prepared are you to give back some of your gains?
