These three simple rules of investing won’t create a trading strategy for you, but they can help you keep the right mindset when you run into uncertainty.
If you’re looking for a more robust rule set, check out 10 Basic Rules of Investing According to the Legends, or Benjamin Graham’s Seven Criteria for Picking Value Stocks for more detailed guidelines.
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3 Simple Rules of Investing That Every Investor Needs to Know
There are, of course, many approaches to investing. You can look at technical analysis, or different ratios, or stick to dividend stocks, or just hand all your cash over to a broker and hope for the best (although we’re big proponents of investing on your own). You can follow rules that focus on growth investing, or short selling, or options trading.
When it comes down to it, though, there are three simple rules of investing that you pretty much always need to follow. The first two come from Warren Buffett. The third one is ours, as far as we know.
- Rule #1: Don’t lose money.
- Rule #2: Don’t forget rule #1.
- Rule #3: Make money.
Any rule that you can come up with around investing is based on one of these three. And even though they are simple, they aren’t necessarily easy. Now let’s look at how they function in real life.
Following the Rules
The easiest way to make money in the stock market is to buy stocks when the market is going up. It’s always easier to swim with the tide or run with the wind at your back. Stock markets are no different. And when markets are going down, you should work extra hard to weed out your losers and move toward cash for the same reason. In other words, don’t lose money.
It’s also smart to cut your losses short. When a stock starts falling, the only theoretical limit is zero. And the longer you stick with it, the less capital you have to put to work with your next investment. If the criteria that got you into a stock no longer holds true (fundamental, technical, dividend yield, etc.), you should consider selling and preventing a modest loss from becoming a bigger loss. In other words, don’t forget rule #1.
The other thing we often recommend to investors is to do nothing. Doing nothing can be the hardest thing to do, but if your investment is acting as expected and hasn’t triggered your mental stops, sometimes sitting on your hands is the best move you can make.
The power of compound growth can swell your account dramatically—if you are patient. Long-term investments make more money than short-term investments. So learn to develop staying power. Let your profits run and run and run. This is how you make big money in the market. Not by taking 10% and 20% profits but by thinking big—in terms of 100%, 200% and larger profits. In other words, make money.
That being said, don’t be afraid to take partial profits if your winners are growing and taking up a larger and larger share of your account.
What do you think? Are there investing rules that you like to stick with? Share your ideas in the comments below.
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