Are You a Genius? Or is it a Bull Market?

We only do things regularly and happily that have emotional resonance for us. So if we trade there must be an emotional payoff of some kind. Does it make us feel smart to earn a good return? Do we feel like a pirate plundering the others in the market? The market is a completely unstructured place where we play out our inner stories. So it is important to know what that is.

This is from Vitaliy Katsenelson at Minyanville.  Psychotherapy for Traders in a Bull Market

Lately I’ve been getting this powerful feeling that everything I touch turns to gold. Every time I buy a stock, it goes up. Did I finally figure out the stock market game? Did I find a secret way to follow Will Rogers’ advice: Buy stocks that go up, and if they don’t go up, don’t buy them.

No, I didn’t get much smarter — and my stock-picking skills haven’t improved that much over the past year. I was simply a willing participant in the latest (cyclical) bull market. A bull market makes you feel smarter than you are in the same way a bear market makes you feel dumber than you are.

Feeling smart makes you do the opposite of what you should be doing. The euphoria of the golden touch is a dangerous thing, because it can make us careless. We forget about risk (since we haven’t seen it in a while) and focus only on rewards. You have to actively make yourself aware of the 4-letter word: R-I-S-K!

How do you do that? My favorite way is to remind myself how dumb I am. I pull out an annual return report of a company on which I lost a boatload of money and masochistically try to read it from cover to cover, reliving my errors.

Or you can join Losers Anonymous and every time you sit down at the computer to look at the market say: “Hi, my name is Gil, and I am a loser. I have it in me to do serious financial damage to my account.” (This is from Alexander Elder’s book Trading for a Living: Psychology, Trading Tactics, Money Management (Amazon link)). The first time I read this, it really offended me. But the more I think about it, the more realistic it seems. He argues that just as an alcoholic has to acknowledge that they are powerless over alcohol, traders have to acknowledge that they are powerless over the market. We can only limit our losses, not eliminate them.

If you let the market tell you what to do, you have no process.

We all have stocks in which we lost a lot of money because we were overconfident. We tend to forget about them during a bull market. But I suggest you remember them now, so you’ll have fewer of those names to remember in the future. Risk is still there; it’s just hiding under the joyful sentiment of the bull market.

Believe me, it will show its ugly face. It’s just a matter of time.

Discipline Counts
In a bull market, it is easy to forget about selling discipline and then turn into a “buy-and-forget-to-sell” investor. Every time you sell a stock, you look dumb because it usually goes up afterward.

I recently sold several stocks. Shamelessly, paying absolutely no attention to the fact that I sold them, they went higher. I don’t feel smart about that decision. However, when I bought those stocks, I set valuation targets. When they approached the targets, I quickly reviewed their fundamentals. They hadn’t changed much. The decision was obvious: Sell.

Cyclical bull markets teach us not to sell, while cyclical bear markets teach us not to buy. If you let the market tell you what to do, you have no process.

But the bell doesn’t ring when bull or bear markets are over.

You can’t worry about marking the top in every sell. My objective isn’t to buy at the “bottom” and sell at the “top.” My objective is to buy a great company when it’s cheap and to sell it when it’s fairly valued. I suggest you do the same.

Not to pick nits, but you can also put in trailing stops so that the market tells you when to sell. No need to trust your own valuation model.

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