Should You Average Down

I’m not going to pretend I’m an expert here.  Just giving my two cents worth based on what has worked for me and what hasn’t.

The perennial question that pops up every time I trade is this: Should I average down or cut loss?

I once knew a good trader.  He used to be the Treasury Head of an investment bank in London and he also claims that he’s a savant.  He passed away last year at the age of 96. So, I suppose, he’s seen a lot and should know a lot.  He told me that if I was to be a better investor, I should NEVER EVER average down.  According to him, all the people he knew who averaged down became bankrupt.  Now that’s a stark a warning.

I also know a financial advisor who advised me to never average down.  He said I should set a stop loss of, say, 10% and ruthlessly cut my loss when the 10% stop loss is hit.  He said, I should average up instead.  According to him, he made his millions by sticking to that one strategy.  My financial advisor friend says that if I average down, I am tying my money to a losing stock.  By averaging up, I’m positioning my portfolio with the winners.

It sounded good to me.  The only question in my mind these past few weeks though is that I’m hearing my financial advisor friend singing a different tune.

You see, this year, he invested a significant portion of his equity portfolio in one nickel mining stock that he said would be a sure winner.  That was the time when Indonesia placed a ban on its ore exports and the prices of the metal skyrocketed.  I guess he did his research, met with the owners, and was convinced it was an excellent buy, a sure deal.  Rumors were going around that the mining company was about to announce a private placement deal that would be priced 10 times higher than the current price it was doing in the stock market.

Unfortunately, the price of certain commodities, including nickel, started falling just a few months after my friend bought the stock.  His nickel mining stock totally cratered, losing 75 percent of its value in just a few weeks.

I was wondering what he would do.  Would he admit he made a mistake and cut his loss, just as he advised me to do in the past?  Surprisingly however, I learned that he has actually been averaging down.  Little by little, but still averaging down.

So what’s happening?  Is this a special situation where the NEVER average down rule doesn’t apply?  Is this a new principle I should be learning?  Or is my financial advisor friend just emotionally overwhelmed with his tragic loss that he no longer hears the voice of his own reasoning?  I haven’t actually asked him these questions though.  I don’t want to rub salt on his wound right now.

Many an day trader I’ve met had turned into a “long term” investor because he didn’t cut his loss.  His favorite stock became a STUCK.  Many a broker I’ve known became plain BROKE from buying stocks at increasingly lower prices until he finally ran out of ammo.

I think fund managers can and should actually average down, especially those with huge funds that they need to deploy.  They can’t buy all at one time because they’ll be driving the price up all by themselves.  And so, they need to keep their buying as low key as they can.  Buying in small batches over a certain stretch of time, buying on dips, averaging down if the market permits, until they have fully invested their target amount.  But for us individual investors who couldn’t make a ripple in the market even if we sold our house and went all in on one stock, averaging down seems like a bad idea – most of the time.

Of course, cutting loss also has its pain.  There were times when I got whipsawed so bad, my husband said I looked like I just got back from a terrible automobile accident.  Eyes in a blank stare, arms paralyzed, in absolute unbelieving shock at what actually happened.  Imagine holding on to a stock for years, going through its ups and downs, dreaming about it at night, studying its every move, and one day you get scared by a drastic dip, you panic and hit sell, and that’s the time it then goes soaring to high heavens.  (And you’re out!!!)

So the question continues to haunt me.  Do I average down or average up? Do I cut my loss?  Somebody help me.


How to Teach Kids About Finance

As a mom with two boys, I know how hard it is to raise kids. Just training a child to say “please,” and “thank you,” “yes sir” and “yes ma’am” can already be a daunting task. But parents have to keep at these things. It takes time, consistency, patience and dedication to train your children in the right direction. It’s a critical responsibility because you are setting them up for either success or failure. The life of a human is in your hands in that way.

The most important part of any person’s education takes place in the formative years from ages zero to nine. During this time, an individual soaks up the most information he ever will in life. The most fundamental aspects of our personality and character, our strongest habits and attitudes are built during this time. A parent cannot afford to waste that window of opportunity to work hard at building the right habits in his child, especially since those nine years can fly by so fast.

As for me, I’m proud to say that I’ve been able to teach my children to respect other people and say “please” and “thank you.” However, one challenge I face now is teaching my children the value of money and hard work.

I want to give good things to my children, provide for their needs, protect and shelter them. However, too much of a good thing can be bad at times. I’m afraid that I’m already spoiling them at times. Sometimes, you can already sense an attitude of entitlement.

These kids need to understand how difficult it is to earn the money that pays for their Lego and Hotwheels. That their parents actually had to go through five years of college and a board exam, and then work long and hard for decades, before they could actually afford that family vacation in Hawaii.

I want to leave an inheritance to my children and grandchildren. I’ve worked hard, saved up, invested, and continue to work up to now. I don’t think I’ll ever retire because I love working hard. It makes me happy and fulfilled.

Right now, I’ve taken measures to ensure the fruits of my labor are prudently invested and diversified. I want to plan my estate for the next generation. But more than just leaving an inheritance, another thing I need to do is teach my children about asset management and investing.

Here are a few things I’ve already tried or am planning to do towards that goal

  1. Pay them for doing certain chores and then make them pay for their toys.For example, I pay my son a dime for washing the dishes. He then saves it in his piggy bank. It makes him understand that money doesn’t grow on trees. That it’s hard to earn a dime. A two-dollar toy car used to be “cheap” for him. But now that he has to pay for it, he knows that it costs him 20 dishwashing sessions. It has become expensive for him now and he finds it harder to part with his hard-earned two dollars. I’m just moved to tears when I see him scouring through the toy racks, looking at the price tags so he can snag the best deal with his finance
  2. Deprive them sometimes.I used to think that buying my sons the best and the latest toys was an act of love. But I noticed that the more they had, the less they enjoy. One time, when we started having problems keeping the toy room mess at bay, my husband decided to keep everything in boxes and just give them one toy each. Of course we had to go through a lot of crying and emotional distress. But after a few days, I saw my sons happier than ever before, playing with the only toys they had. They appreciated what they had and treasured it. After a few more days of being deprived of their toys, they learned the lesson of asset management – that they need to take care of what they have or else they’re going to lose it.
  3. Teach them the difference between a want and a need. One pair of shoes is a need (and it can be a hand-me-down from your older brother). A second pair of shoes is a want. Water is a need. Ice cream and candies are a want. The sooner your child learns the difference, the better chances for him at becoming prudent, frugal and self-disciplined – things he needs to be able to build up sufficient savings from his earnings in the future.
  4. Let them think of owning a business as early as possible.My younger son likes going to hotels. Every time he goes inside one, he tells me he’s going to have his own hotel (made of gold) in the future. I ask him about the design and how he plans to fund its construction. How much will he charge per night? Does he expect to make a profit from that price? Do I get a penthouse room for free? What unique features will there be in the hotel? Surprisingly, all those questions engage him. It becomes a brainstorming session for him. Like an MBA class for toddlers.

Who knows? Maybe one day, I’ll be checking in to my own penthouse room in my son’s hotel made of gold.

One of the best things I ever did was open a mutual funds account for my son with LOM