Take Your Losses Early and Often

With market volatility picking up this past week, now is as good a time as any to review why it’s important to take your losses early.

Portfolio LossGain Required to Break Even
(10%)11%
(20%)25%
(30%)43%
(40%)67%
(50%)100%
(60%)150%
(70%)233%
(80%)400%
(90%)900%
(97%)3,233%

If you lose 10%-20% in a trade, it’s not that hard to recover. It only takes 11% – 25% to get back to where you started.

But if you lose 50%, you need 100% returns to get back to break even. Or if you lose 97% — as Bill Ackman recently did in Valeant Pharmaceuticals — you’d need a ridiculous 3,233% on your next trade just to get back to zero.

I have a select few stocks in my portfolio that I’m truly willing to buy and hold, tolerating whatever volatility the market throws at me. As an example, I own some shares of Realty Income (O) that I will never sell. I’m reinvesting the dividends and letting them compound, and I’m willing to sit through a significant drawdown.

But for the lion’s share of my portfolio, I take my losses early. I’ve taken enough losses over the years to learn that lesson the hard way…