Saturday, June 14, 2014

Win-Win-Lose - It's the end that ultimately matters

Many people advocate the journey as a process of learning while others remain skeptical and put their focus on the big price at the end. Which one matters? Here are two real life examples I encountered this month.


First scenario

A friend of mine visited Singapore for a 3 day visit to the casino. He went to the casino with a capital of $3,000. He win some and lose some.



On the first day, he wins an overall sum of $3,000+. That gives him a return of 100% for the very first day he visited the casino. Maybe the casino was giving him some beginner luck. 

On the second day, he started off with $6,000 including his win from the day before. He continues his magical run and wins an overall $2,000 this time round. Now, he has over $8,000 in his pocket.

On the third and final day, his momentum started to fade off and began losing games after games. He loses a total sum of $4,800. He was now left with $3,200 and he decided to call it a day.

He makes his assessment at the end of the whole trip and concluded that it's not a bad deal afterall coming back with an overall $200 win.

How many times have we been in this situation? Thinking that it's ok to lose the few extra money earned as long as we do not damage or affect our capital? How many realise that the $5,000 "profits" he won was actually his own money and the reward from the risk that he is taking? 

These are all Realized Profits that he could walk away with.


Second scenario

A friend of mine bought into a counter called UMS sometime a year ago at a price of $0.40. 


He collected a few rounds of dividends over the year and saw its price rise to a 52-week high of $0.77. Including the dividends, my friend would have probably made an unrealized profits of 100%. 

Recent news on UMS began to dominate and the selling were massive for the past few weeks, sending a plunge of over 40% to its recent low of $0.56.

I asked my friend about it and his response was that as long as the price does not plunge below $0.40 (which was the price he bought), he was essentially still making a decent profits from the counter and will continue to hold.

Now if he holds the counter on the basis that the fundamentals of the stock doesn't change, then its a fine deal. My question is many investors weigh their selling decision based on the purchase price they bought. But is this the right way to look at it?

Unlike the first scenario, the increase and decrease here are all Unrealized Profits unless he decides to take profits on them.


Do you think there are any differences between the two scenarios? What could these people have done better? Is it all in their mindset?


16 comments:

  1. Exactly what I am thinking. How to protect both realized and Unrealized gains?

    Any suggestions in your Part 2 post on it? LOL!

    ReplyDelete
    Replies
    1. Hi uncle cw

      Some people say that attack is the best defence. Maybe we can continue to hold the stock as long as fundamentals is sound. As for the external macro environment we take steps such as accumulating enough warchest to take advantage of it more. Is that feasible?

      Delete
  2. Price is what you paid and value is what you get. You cannot compare gambling with investing. Gambling is all about luck and statistics. In investments, always set an exit strategy. What is your exit price for your investments? 20 or 30%? Don't just buy and hold without having exit strategy. That would be foolish.

    Regards,
    SG Wealth Builder
    www.sgwealthbuilder.com

    ReplyDelete
    Replies
    1. Hi Gerald

      Contrary, for gambling I do hv an exit strategy but for investment I will continue to hold unless fundamentals would change.

      But different people hv different strategies I guess so thats mine that hv worked so far ;)

      Delete
  3. When they win, the profit is expendable and chances are they will. Is all in the mind.

    What I do is to set an annual target. Say 50K profit as break even. if i do not meet that, is a loss due to opportunity cost. And will learn to secure profit vs risks. :)

    ReplyDelete
    Replies
    1. Hi cory

      Thats a good strategy there.

      Securing profits is one of the hardest psychological mindset we all are facing. Once we are able to overcome that we will be.a better investor.

      Delete
  4. B,

    Ah! You have asked a very pertinent question!

    Mindset is the key here ;)

    If we view unrealised losses as "not real" and realised profits as "not ours", then we won't seek to improve our competence in protecting them.

    It's part of my reflections on my 3M series.


    How we treat losses and profits is what differentiate the professionals from the amateurs ;)

    ReplyDelete
    Replies
    1. Hi SMOL

      Ah you got it right there.

      This is why we are amateurs while the professionals are using a financial risk reward model to substantiate their reasoning for taking profits or cut loss.

      We are after all retail investors and retail investors are usually caught off guard by many external events.

      Delete
  5. 1.why are we always thinking that there should be only one ultimate correct answer between realized profit versus paper gain?

    2.why there is little emphasis on say, understanding one's investment risk profiles and hence the outcome?

    3.why are everyone so afraid of losing, both realized and on-paper?

    4.if one has failed in the initial hurdles then this investor is really one stupid and hopeless investor? have everyone forgotten their humble beginning?

    5.is there only one ultimate goal or outcome in investing - realized profit and paper gain?

    6.l have bigger brain than yours so in my eyes you are just a novice, always - really?

    7.investing is not gambling; vice versa - shouldn't we re-visit the risk-reward profiling firstly?

    8.one prefers long but another person prefers short; should there be only one answer?

    9.if all investors win all the the times then there are no losers?

    10.having the realized profit but still suffers seller's remorse; why there is so lacking of self confidence?

    ReplyDelete
    Replies
    1. Hi Money Honey

      You brought up so many good analysis there.

      One of them is the seller's remorse even though one is already making profits. I guess there is always a better strategy in every people mindset so they dont settle.for the second best.

      Is investing a zero sum game? One lose and another win? Well if not the case then how do we hv a liquid market between wanted buyer and seller. On a broader scale how do money get repositioned from one to another.

      What is really the ultimate goals of investing vs gambling? Gambling for the thrill while investing for future protection of our money?

      Delete
  6. Hi B,

    The same analogy can be applied in our daily life. Do not be discouraged when you see your peers being more successful than you. Life doesn't stop there, preserve and you will eventually reap your rewards.

    Cheers!

    ReplyDelete
    Replies
    1. Hi Derek

      Thanks for your encouraging words.

      The good and the hardworker will be rewarded. We will be ;)

      Delete
  7. Thanks for sharing such brilliant examples associated to our daily lives

    ReplyDelete
    Replies
    1. You're welcome Dividendes101.

      I hope it helps see some of the perspectives.

      Delete
  8. Hi B,

    These two situations are known by their psychological names - mental accounting and anchoring biases. You can read up more on them by googling. Essentially, investors are always subject to psychological biases, fallacies and illusions. These all form part of behavioural finance.

    My advice would be - focus on the business and you will not keep thinking about the share price. Re-assess the valuation of the business versus its prospects - your historical buy price has got nothing to do with this.

    ReplyDelete
    Replies
    1. Hi Musicwhiz

      Thanks for confirming on my thoughts.

      I was hesitant at first whether that would be the right way to look at it, but it appears that we've got to see the big picture rather than anchoring into multi small profits along the way.

      Delete

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