Trade With Conviction But Also Caution

In most cases, conviction is a terrible trait for traders to have. Believing that you are right and the entire market is wrong is an almost surefire way to go bankrupt. It leads to averaging losers and other behavior that will quickly turn misfortune into disaster. That is why I bang on so much about having a stop loss in place, or at least a cut level in mind, whenever entering a trade. Even the best reasoned ideas can go wrong. There are times, however, when, especially from a longer term investor's perspective, courage of your convictions is a good thing.

Right now, for example, anybody who follows the energy market knows that oil, and therefore energy stocks in general, will find a bottom somewhere…it cannot go to zero. The fact, therefore, that we have had a couple of false starts shouldn't stop us trying again. I for one will freely admit that my initial view was that the $60-65 level in WTI crude would provide support. I was wrong and we sailed through that particular "support" without a pause. The next level I, and many others, identified was in the mid $40s. So far that seems to be holding.

Hopefully, if you did buy either oil or related energy stocks when WTI was at around $65 you have long ago hit your stops and forgotten those trades. If so, or even if not, the support that we are seeing at these levels should prompt you to dip your toe in the water once again. Cautious accumulation, though, rather than reckless abandon, is the order of the day.

We all like to think that we can pile in at the bottom of a major move and derive fantastic returns on all of our investable capital by doing so. The reality of successful investing and trading, though, is a little more prosaic. If you attempt to pick a bottom you must always be aware that you could be wrong. That means not just setting stops for protection, but also ensuring that you keep some dry powder to use if the drop should continue.

Similarly, bottom fishing expeditions are not the time to be depending on risky, volatile stocks. Small positions in some seriously beaten down names with decent reserves, such as Antero (AR) that I highlighted last week, are fine, but the bulk of any buying right now should be in big, solid, integrated oil companies like BP (BP), Exxon Mobil (XOM), Chevron (CVX) and Phillips 66 (PSX). That play offers a limited downside; we can be fairly confident that none of the above named are going bust in a hurry. If, though, $40-45 does form a solid bottom for crude, then a few holdings in those companies will provide a solid base from which to attempt more speculative plays.

Navigating falling markets is one of the hardest things for investors without a lot of trading experience to do. Inevitably it feels that everything you do is doomed to failure, and it is easy to either give up or become increasingly reckless as you chase losses. This is a time when neither of those things helps, however.

Instead, trade with conviction. Not conviction that every single trade and every single pick is a surefire winner, but with conviction that the price of a finite resource with still growing demand will turn around at some point. If understanding that that point is hard to find means that only 20% of your money is deployed at the bottom, with the rest averaged in once some recovery becomes evident, so be it. The most important thing is to make sure that there is money left in your account to do that.