Limiting your losses is very important when it comes to building wealth.
Any great investor will tell you this.
Whether you believe it or not, we are all investors – so this applies to all of us.
Contributing to a 401(k), buying a house, buying gold or silver, starting a business – all forms of investing.
Last week we talked about how you have to allocate your money to the areas where you can gain the highest return.
That advice comes with a VERY big caveat: you have to also limit your risk and losses.
Losses Require Larger Gains to Recover
Late in February, the stock market was still reaching all-time highs.
One month later, many stocks and indexes had lost between 20 and 30% of their value as they came off of those highs.
During the month of April many of these had recouped 20% from their march lows.
Excellent, so we are almost back to where we started, correct?
If only that were true…
This leads us to our principle for today.
When a stock loses 20% of it’s value, it now has to rebound much more than the 20% to get back to where it was before the loss.
This is why good investors always look to limit their losses.
On February 19th Apple Inc. closed at $323.62.
On March 23rd it had dropped to $224.37.
This represents a 30% drop from it’s high.
As of this writing, Apple has recovered 35% from the low of March 23rd.
That is 5% more than what it had dropped – which was 30%.
The stock price today is: $303.74.
That is still approximately 6-7% from its high in February.
As you can see, the gain to get back to even is much higher than the loss itself.
When investing our money, we need to understand the real impact of losses.
This principle applies to all of investing, not just stock.
Whether it’s real estate, starting a business, precious metals, etc.
While it is not prudent to try to time the market, it is important to mitigate risk.
If we are placing our investments into risky investments – those that have higher potential of loss – we have to understand its long-term impact.
Those losses require much higher gains to get back to whole.
This can take years to recover from sharp losses.
We cannot time the market, but we can limit our loss by being educated and placing our money in the safest place with the highest return.
This is what smart investors do.
And now you understand an important principle that few people fully grasp.
Thanks for reading,
Founder of 1911 Apparel