AT WHAT POINT DO YOU KNOW YOU ARE WRONG?
There isn't a position I take without being able to answer this question. It is a question that should be at the core of any investment or trade in any portfolio, regardless of experience or pedigree. Regardless of whether the position is a hedge, outright long, short or investment that you plan on holding for a decade. There is always a point when the original thesis that caused the investment to be taken will get blown out of the water. It is the job of every individual who gives a damn about wealth preservation to know that exact point.
The mistake made by so many investors who choose to follow the fundamental creed without regard to price is that they can't give you an answer to this core question. The reason is that price leads fundamentals. By the time the reason for the decline in price morphs into tangible fundamental evidence of a problem, the stock has declined way past any reasonable point.
It is the reason why few value investors make it through tried and true bear markets. The philosophy of buying into price declines that chew through every point of technical support, but are justified by valuation ratios that placate any concerns will eventually lead to fatal ruin. An anomalous period will come along that carries prices through concrete floors of value once thought impenetrable, burying investors under a suffocating ash of fundamental data that fails to quantify downside.
It is the reason why you see that I have actual losses posted in well researched positions that have failed to move as expected. The opportunity cost and monetary cost of sticking with positions that move contrary to expectations is simply too great.
The exact same philosophy applies to hedges that are initiated in the portfolios, similar to the hedge that was taken in TZA this past week. I know exactly what the market should do here in order for my hedge to be validated. If the market behaves contrary to my expectations, I will assume that my understanding of the situation is not as clear as I thought. If my understanding of any situation lacks clarity, I then lack reason to risk capital in that position.
Here is what the market should do over the next 1-2 weeks according to my work:
click chart to enlarge
