It is worth thinking of Targets in terms of ‘Total Return’ not just any Capital Gain – the money you receive as Dividends can be considered as part of the Target amount of Return. For me personally, I tend to ignore the Dividend Element except when thinking about a Stock in my Income Portfolio (this will be covered in detail later in this Blog Series), and this means that my Returns are actually higher than the Capital Gain on its own. I do this really out of laziness as I can’t be bothered to record down all the dividends I have received – they are a Bonus but of course all get factored into my Overall Portfolio End of Year Results (‘Scores on the Doors’).
Targets must be flexible and require constant monitoring as I will cover later in this blog.
What’s the fuss about? Why are Targets so important?
Keep you in the Trade
I am pretty sure many people do not set Targets and I see this as a major error which is probably costing the people concerned many Percentage points of Return each year.
For me, the biggest benefit of setting a Target is that it keeps me in a Trade. Time and again in the distant Past I have sold Shares far too early which continue to go up and up afterwards. This is an extremely expensive error because I am running up unnecessary Trading Costs (Dealing Spreads, Stamp Duty, Commission Fees etc.) and something that may not seem immediately obvious is that this increases my Risk.
OK, I will explain. Momentum, which is the tendency for Shares to keep rising for much longer than you expect them to when they are in clearly defined Uptrend Channels, is one of the very few ‘Free Lunches’ in investing. Many phenomena that can boost your Returns are very hard to capture because you need Experience, Skill and a particular Aptitude – such as extremely good Stock Picking ability – few of us really have this.
The key thing about Momentum (the ‘Big Mo’, or ‘MoMo’ if you prefer) is that it is actually one of the easiest things for ANYBODY to capture – you just need to draw in those Uptrend Lines and stick with it as long as it keeps going up. Don’t sell it unless it falls out of the Uptrend (ok, it is slightly more nuanced than this but that is the nub of it).
Momentum can also work extremely well on the Downside if you are Shorting a Stock or Index or something. In fact, I would argue that Downtrends often go a lot farther than they should really – possibly to more of an extent than to which Uptrends overrun. For evidence of this, you just need to look at how things can ‘bounce’ (just like the proverbial dead moggy) after they get really beaten up and clearly very oversold.
If you desperately get the urge to sell, then maybe just some Topslicing is the best approach as it means you are still in the Momentum game.
Remember – don’t forsake the Big Mo !!
Help you decide if a Trade is worth undertaking
If you find a potential Stock to buy but once you weigh everything up you decide that the Target should be 20% higher – you might come to the conclusion that the Trade is not worth bothering with (let’s assume you are a Long Term Investor here).
However, you might find another Stock where you think the upside to a Realistic Target is 50%. When you balance it all out, you probably will decide that the Stock with 50% Upside is the Stock you prefer – although obviously you need to balance this potential Return with the Risks you perceive – maybe the 20% Trade is superior because you are much more likely to actually capture it (i.e. the Risk is lower).
Note my stress a couple of times in this blog on the word ‘Realistic’ – this is very important – there is no point coming up with idiotic unjustifiable Targets as you are just fooling yourself and it will be of no use to your Trading whatsoever. In fact, it will probably drive you mad because none of your Targets will ever get hit.
For me, I am usually looking for at least 30% upside on a Trade – anything less just doesn’t seem worth the bother. Ideally I look for Stocks that can give me 50% and I love the ones where I can see 100% is very possible. With experience and sticking to Quality Growth Stocks this is surprisingly do-able.
All part of the Discipline
Competent and successful Daytraders and Position Traders (also called ‘Swing Traders’) would never contemplate placing a Trade (Short or Long) without the following parameters:
- Entry Price
- Position Size
- Stoploss and ‘Trailing’ Rules (raising the Stoploss behind the Trade as it goes into Profit)
- Trading Plan – when to Add to Position, when to Topslice, Closing/Exit Triggers etc.
So, the obvious logic of this is that such Discipline makes total sense for Long Term Investors also. I will admit I do not do this as strictly as I should, but I cover most of the aspects. I rarely set a Stoploss as you know, but I ALWAYS set a Target. The Trading Plan elements are pretty much the same for every Trade I do and are almost a habit now – but they would be better written down. Slapped Wrist Wheelie.
Note, Robbie Burns in his ‘Naked Trader’ books uses this kind of discipline (skip over to Wheelie’s Bookshop to get a copy – best book on Investing in Shares every written).
That’s it for Part 1, the next chunk will go into how you can set Targets in detail.
Hope that’s whetted your appetite, @wheeliedealer
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