You've most likely heard the term "diamond hands" over the past two months as REDDIT investors made headlines trading Gamestop. The term means to hold a stock or cryptocurrency despite its' fluctuations. The idea is to not be phased by corrections or sharp downturns, and instead have strong, "diamond hands" that resist the urge to sell while others foolishly exit. But do "diamond hands" lead to rich hands?
The "diamond hands" strategy is based on the premise that even though at stock may be falling, it will return to its' prior price levels. This is a huge assumption that is by no means guaranteed.
Let's pretend "Diamond Danny" buys GRAY in late 2020 around $34. It starts to turn against him, but believing it will return to $38, he decides to hold.
As the position starts to fall, he tells himself, "It will come back" or "I'll get out at breakeven." He's not worried because he knows stocks fluctuate. Besides, in November, GRAY fell to around $18, and then came right back to $34. Wouldn't it have been foolish to have sold it only to see it move higher so quickly?
In the coming months, GRAY goes through a sharp decline and Danny is in a world of hurt. At $10, GRAY has to more than triple just for Danny to get back to even. Think of the emotions he must be feeling: regret, anger, depression, hopelessness. Clearly, something is wrong in GRAY, and it is not a stock that is likely to come back. Even if it did, think of all the wasted time Danny spent in this stock just waiting to get back even. Instead, if he would have just taken a small loss, he could have moved on and bought another stock.
Now you may be thinking, "GRAY is no blue chip. You can buy and hold buy chip stocks. That is what a wise investor does." Take a look at Cisco, the darling of the Dot Com bubble. It has yet to return to its' 1999 high.
Ford Motors, a bellwether of the market for decades, has yet to approach its' high from over twenty years ago.
Likewise, Citigroup, once a $500 stock, has yet to recover from the 2008 crash.
Taking small losses is part of trading. It frees up your mind, emotions, and capital. It allows you the freedom to do nothing, buy another stock, or even buy back the stock if it begins to show signs of strength again. When you hold onto a loser, however, you are stuck with only one course of action: to pray for the stock to rally just so you can exit. It's not a situation you ever want to be in.
See, being macho and "strong" doesn't work in the market. You know what does? Being flexible and disciplined enough to take small losses. Remember, this is not an issue of opinion; it's an issue of math. Losses work against you. The Citigroup investor needs to see his investment rally over 7x just to get back to breakeven.
I'm proud of my "weak hands." They allow me to keep my ego in check and take a small loss. I quickly exit the position before my hard-earned money is wiped out. I may take a loss, but I live to trade another day. I'm proud of my weak hands because weak hands are rich hands.
Disclaimer: This information is issued solely for informational and educational purposes and does not constitute an offer to sell or a solicitation of an offer to buy securities. None of the information contained in this post constitutes a recommendation that any particular security, portfolio of securities, transaction, or investment strategy is suitable for any specific person. From time to time, the content creator or its affiliates may hold positions or other interests in securities mentioned in this blog or the associated Twitter and Instagram feeds. The stock or stocks presented are not to be considered a recommendation to buy any stock or stocks. This material does not take into account your particular investment objectives. Investors should consult their own financial or investment adviser before trading or acting upon any information provided. Past performance is not indicative of future results.