Editor’s note: Last week, Larry showed readers the importance of discipline… and how one of the simplest ways to attain it is by finding a mentor.
While step one towards having trading discipline is finding someone successful to emulate, step two is finding the specific thing you’re good at, and becoming an expert at it.
Below, Larry tells us why having a large portfolio isn’t the way to make money, and gives traders a roadmap to become an expert at just a handful of stocks.
Daina: The last time we sat down, you hinted at the fact that successful traders don’t just need to follow the guidance of a mentor, but need to become experts themselves. What do you mean by that?
Larry: Yes, while it’s crucial to find a successful trader to learn the ropes from, it’s also important to do some groundwork yourself.
When I started, I wanted to be a master of the universe. What I mean is that I wanted to beat the indexes, bonds, soybeans, you name it… I just wanted to outperform every stock. And what I realized was — and I’ve seen this with many traders — you run into a lot of problems when you have too many positions.
Daina: I think a common approach is investing a small amount of money into a wide array of assets. You’re saying people shouldn’t do that? Why not?
Larry: Well, I’m obviously not a buy-and-hold kind of person. I don’t have that kind of patience. While it would be great to see a 100% return on an investment in 50 years on, let’s say, one out of 40 stocks in your portfolio… I want to see that same return, over and over again, in the same week.
While I may not be putting nearly as much money towards each trade as someone might put towards one long-term investment, my mentality has always been that of someone who slowly grinds out profits. It starts out slow this way, but nowadays I’m making $1 million here, $4 million there, and another $5 million there…
When people tell you they have a portfolio of 40-odd stocks, that’s dangerous to me. Because, what do you do the day all 40 are down? Which one are you going to look at salvaging first? It’s just too much going on with way too many positions.
How could someone look at 40 stocks every day or week and have a broad range of exceptional knowledge of each and every one? Impossible.
Daina: So how many stocks would you say is a reasonable amount for a new trader to become an expert on?
Larry: For starters, there’s a difference between how many stocks you should become an expert on and how many positions you should put on.
I’d say it’s wise to become an expert on just a handful of stocks… around 5-10. And when you’re just starting out, I would suggest having no more than 2-5 trades going at any given time… and five positions would be your absolute maximum amount.
Again, if you’re new to this and have a bad day… which is common… you’re going to reduce your risk by having fewer active trades. Learning how to lose efficiently is crucial to trading successfully, as is slowly putting profits on the page, and you cannot do those two things well if you have too many positions going at once.
Daina: And what kinds of things do you look at to become an expert? Is it simply learning the fundamentals behind a stock or company?
Larry: Yeah, fundamentals and even technicals come into play here… But I’d argue it’s really just becoming an expert on how your stock moves relative to the market.
While it seems very vanilla, I want to know everything about the stock I’m trading. What it does when the stock is weak and the market is strong, or when the market is strong and the stock is weak. I want to pay attention to when its earnings calls are, how it reacts to certain news stories, the risk profile, etc.
So if your stock is performing better than the market, you likely want to be long that stock. If your stock is performing worse than the market, you probably want to be short that stock.
Daina: Is this something you’ve implemented your entire career?
Larry: Absolutely. Back in the day, when I was working at different firms, each trader always had one sector. There was an oil trader, a tech trader, a healthcare trader… everyone was an expert on their respective sector. Even in the trading pits, no one traded more than one stock. You would stand in the pit of one stock and trade it.
So, I wasn’t trading tech because “Steve” was trading tech. He knew everything about every stock he was trading. I had more of a broad market focus… That was my forte. Then, I got more into the top 20-50 blue-chip stocks. I watched them every single day.
So, if I were trading Apple, I’d know every move Apple has made. I wouldn’t need a chart to tell me where it’s headed. I would know everything, top to bottom, about Apple.
Daina: Simple…Become an expert at one thing rather than 40. What’s the issue, then? Why don’t most traders follow this methodology?
Larry: Most people are going to gravitate towards whatever is moving the most so they can hit the grand slam… something like bitcoin, for example. And you know what, the “grand slam” opportunity happened with bitcoin a couple years ago. But it’s just not going to happen again. Not in the same way. Nothing ever happens the same way twice, in trading and in life.
Could it happen again? Sure. But the odds of that happening again, the exact same way, are so slim. It’s very difficult for the market to do the same exact trade two times. It’s a much better and safer trade to assume it won’t happen the same way again.
You’re better off sticking to a handful of stocks, and becoming an expert. If I stick to trading the S&P 500, I’ll get really, really good at it. But if I deviate from that, and start adding too many other trades on too many other sectors/stocks, I’ll lose my edge. That’s what happens to most traders.
Daina: That makes a lot of sense, Larry. Especially since swinging for the fences on every trade is what you say is the second pitfall new traders tend to fall into. Thanks for your time today.
Larry: My pleasure. Talk to you soon.
About Larry Benedict
Larry is a former hedge fund manager with over 30 years of investing experience. He’s also known as one of the world’s best traders… and for good reason.
From 1990 to 2010 – when he was actively running hedge funds – Larry never had a single losing year.
Larry’s market commentary is frequently featured in Bloomberg, Barron’s, and The Wall Street Journal, among other major news outlets.
Source: Opportunistictrader.com | Original Link