It finally happened. The Dow Jones Industrial Average closed at record highs, with the S&P close behind. So now of course there’s a lot of euphoria around that, especially coming from the media and everyone is all excited. Of course, the best time to have bought this market was well before it closed above the new high. That would have been a couple of months ago.
A couple of months ago, in late December, everyone was worried about what the government would do with the fiscal cliff and nobody was suggesting that you buy the market. Now that it’s gone up dramatically in two months, of course all the talking heads are out there telling you to buy. So beware! Now that doesn’t mean the market can’t go higher from here, and right now I think the probability is that it will. It could go another ten percent higher from here. However, it won’t be a straight line. It could easily drop five percent from here before going up that ten or fifteen percent.
Now don’t get caught up in all the euphoria and just blindly enter the market. That’s the worst possible thing you can do. You’ve got to stick to your method because it’s your method that gives you an edge, not the fact that the Dow closed at record highs. That doesn’t give you an edge at all.
Remember if you don’t know what your edge is, you don’t have one. You have no business being in the market. So make sure you’ve got a good method, you know what your edge is, and that your method includes strong risk management principles.
Risk management is always very important. Without it you’re going to lose. But it’s even more important these days with all the financial turmoil in the world, even though the market may go up another ten percent here in the next several months, you could wake up one morning and find that it starts to drop very, very quickly. I’m talking about a big time drop, like happened in 2008, and happened back at the dot com bubble. Do you think that might happen again? You bet it will. We don’t know when. The point is if you’re long in the market, you’ve got to protect your positions with trailing stops or by buying puts.
Whatever your method tells you to do around risk management make sure you do it. In the meantime, go where the market tells you it wants to go.