Joe Fahmy on Protecting Capital

May 16, 2012

My friend Joe Fahmy has a great post up today about how and why he protects his capital. Joe and I have gone back and forth about this in the past because he simply does not like to short stocks during market corrections. In his post, he explains why he chooses to sit in cash during certain times of the year while stepping on the gas a bit during the good times. At the end of the day, we both agree on this: Know your strengths, weaknesses, and DO WHAT WORKS FOR YOU.

From The Next Big Move:

"I’ve been trading for 16 years. For the first 12 years, I would do very well during market uptrends, only to give back a good deal of profits during the corrections. I made one simple adjustment over the past 4 years: When I see potential warning signs, I now go to cash and SIT OUT! If I’m wrong, I could care less because I’m confident that I’ll make the proper adjustments and get back in the market, even if it’s at higher prices. I stopped worrying about “the fear of missing out” (which is the downfall of most traders) and I got more concerned with respecting risk and playing defense. MY NUMBER ONE PRIORITY IS TO PROTECT CAPITAL…PERIOD!

Whenever I move to cash, I get the same questions over and over: Why don’t you short? What do you do for money? Why don’t you daytrade? My simple answer to all these questions is: DO WHAT WORKS FOR YOU! My more detailed response is the following:

1) I am a trader, not an investor. The market is healthy 2 to 3 times a year. When I feel we’re in an uptrend, I trade companies that are both fundamentally and technically strong. When I see warnings signs, I get out!

2) One of the main reasons I STAY out during corrective markets is that 4 out 5 stocks move in the general direction of the market. In other words, if we are in a downtrend, I don’t care how good the company is because most stocks will get hit.

3) I’ve studied some of the best traders who ever lived, such as Jesse Livermore and Gerald Loeb. They believe that you should only be in the market when probabilities are in your favor, and that the LESS you are in the market, the better. According to Harvard Business Review, since 1886, the US economy has been in a recession or depression 61% of the time. I realize that the stock market does not equal the economy, but they are somewhat related. Again, I only want to be in the market when I feel it’s healthy.

4) In my opinion, 90% of what we’re taught about the stock market is flat out wrong: dollar-cost averaging, buy and hold, buy cheap stocks, always be in the market. The last point has certainly been proven wrong because we have seen two declines of over -50%…just in the past decade! Keep in mind, it takes a +100% gain to recover a -50% decline."

Joe Fahmy on Protecting Capital

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