One of the mistakes that new traders make is they hold the belief that the market will give them a salary much the same as any other employer would. When in fact the reality is very different – returns from markets are very lumpy and in part, I think it is this staccato nature of returns that draws many to short-term time frames. They believe generally erroneously that the market will provide them with a regular income if they truncate the time frame enough and this idea is generally accompanied by the notion that all they need to do is make 1% per week – after all how hard could it be to simply make 1%.
In reality, trading performance is dependant upon outliers. Recently I was having a look at the performance of the ASX top 20 to get a sense of how the buy and hold brigade would have fared over the past year. The details of this can be found below.
As you can see there are only two true outliers in the group – APT and FMG and whilst the return of WES, RIO and BHP are solid they are not headline grabbing.
In addition to generating the raw return I also looked at the value of $10,000 invested over that year. If you had an equally weighted portfolio with each stock having an allocation of $10,000 at the end of the year you would be up $35,676.00 or 17.8% which is better than the index for the same period. However, if you had some form of money management protocol that dropped a stock and went to cash when its value fell 5% then you would be up $46,899.00 or 23.4%. Granted generating real returns is not as easy as simply looking at year-end figures and selecting which one’s to drop retrospectively but it does as a thought experiment demonstrate the need ot drop losers and keep winners. A lesson that should be obvious to everyone.