Understanding the stock market rules by Ooi Kok Hwa

In this article, we will highlight a few common and important ‘rules’ that are crucial to most investors.

Your purchase price is irrelevant when you consider selling a stock.
Most people always find it difficult to sell a stock at a price lower than the purchase price because this means making a loss.For example, if you purchase a stock at 90 sen, you will not sell the stock lower than 90 sen as this means a loss to you.You will most likely hold on to it until you are able to sell it at higher than 90 sen.Unfortunately, your stock never remembers how much you have paid for it. You have memory of the purchase price but not the stock.As a result, some investors end up holding on to lousy stocks with poor fundamentals.The longer you hold on to these stocks, the higher the losses that you will incur.Hence, the timing to sell stocks with poor fundamental will depend very much on when you are able to admit that you have made a mistake purchasing them.

Deciding whether to sell when the price is falling or continue to hold on to it with the hope it will recover and break even depends on the fundamentals of the stock.The target selling price for a stock should be based on the future prospects of the company instead of the price that you paid for the stock.Thus, you need to “sell the losers and let the winners run”.For stocks with good value, you should consider holding them for a longer time.Lately, some second liners with good fundamentals have been hammered down to very low levels. Some of them are even selling at lower than the owner’s cost (lower than book value).However, not many investors are excited about those stocks although they are currently selling at a very cheap valuation.Most investors worry that the price will go down further after they have bought it.It is very hard to predict the market bottom. Based on our observation, certain fundamentally strong stocks may have temporarily found bottom despite the recent market sell down.We think it is a good time to nibble on some good value stocks and keep them for the long term.

Even though the price will get cheaper than your purchase price tomorrow, we believe the current price should not be too far from the bottom.Investors need to remember that the returns are based on the selling price. You may purchase the stock at a relatively higher price during a downtrend.However, if the stock has great potential and you are patient enough to hold on and wait until the market recovers, you can still get higher returns than someone who may be lucky to purchase this stock at the lowest price but sell it too early.As mentioned earlier, buying before the market reaches bottom is “buy low, sell high”.However, to a certain group of investors it is safer to buy only when the market has found the bottom and started to recover rather than trying to predict where the market bottom is.They prefer to buy the stock at a higher price because they believe they can sell it at a higher price. This is “buy high, sell higher”.For those who prefer the “buy low, sell high” strategy, as you are buying before the market is touches bottom, you need to stagger your purchases so that you have enough bullets to average down your purchase price if the stock price drops further.For those who prefer to “buy high, sell higher”, they need to prepare themselves mentally to buy at higher stock prices.This might be a problem to investors as they are not willing to pay for higher stock prices as they always remember the recent lowest prices.They may end up buying nothing but still hoping the stock price will come down one day.

Ooi Kok Hwa is a licensed investment adviser and managing partner of MRR Consulting.Thanks for your Sun Tzu's Art of War on Share Market seminar recently.