5 Investing Tips for 2021 and The Castaway Capitalist’s 2020 Log
Published on December 31st, 2020
2020 was an important year. Politics and views on COVID-19 aside, more than any other year in recent memory, the entire world was forcibly ejected from a comfortable place. Losing work, working from home in close quarters, not seeing friends and family, riding one heck of a roller coaster in the market and the list goes on. The year shook a lot of assumptions to the core and made reflection a necessity.
When I tried to co-launch a new investment manager a few years back, I started the habit of reviewing the prior investing year’s actions and setting goals for the new one. This post is a summary of my review of 2020.
Here we’ll cover:
- 5 Investing Tips for 2021, Learned the Hard Way in 2020
- My 3 Investing Goals for the New Year
- The Castaway Capitalist’’s 2020 (Trading) Log
Hopefully, the content resonates with you. And away we go!
5 Investing Tips for 2021, Learned the Hard Way in 2020
Tip #1: Have at Least Two Uncorrelated Assets/Trading Strategies in Your Portfolio
Except for maybe the last six weeks of 2020, value as an investing style or mantra was pretty terrible this year. As exemplified by the FAANG stocks, even momentum had an enormous drawdown in March before rocketing back up this year.
Many investors, particularly those managing their own portfolios, get enamored with a sector, asset class or investing style. We invest time and resources to understand and become good at something. If timed right, either by chance or planning, this is a phenomenal way to make money. It can also be the fastest way to lose money in the wrong market.
2020 was likely a tough year to hold onto convictions, regardless of your investing strategies. I come from a value, international-focused background, and this was a challenging year for this sub-sector of the investing universe. Fortunately, I diversified my portfolio by investing in unrelated asset classes.
Trend-following is an area I’ve focused on, but there are certainly others. I learned my lesson in 2015/2016 that having all my assets in my area of expertise and suffering as EM assets, regardless of undervaluation, went down in that period. By diversifying over the last few years, my portfolio was more stable through 2020.
Investing can be like a war of attrition; one needs to keep standing to win. No strategy is perfect all the time. Therefore, you need to balance your portfolio with different approaches. This goes beyond diversification in a stock portfolio. Remember that nearly everything went down in March of this year. If value investing is your muse, look at interest rate products, momentum strategies or long volatility strategies. If any of those are too heretical at this stage, at least remember to increase your cash balance as the market moves up.
Tip #2: Learn to Experiment Safely Within Your Portfolio
If your response to Tip #1 was “I don’t have another strategy,” this tip is for you. It will not promise instant results for diversification, but it is a start.
You have to learn how to experiment in your investing.
This is how you hone your existing style and also discover new areas of expertise. I have always been a bottom-up, value-focused analyst. For most of this year, that didn’t count for peanuts in terms of ideas that worked. I spent a month working on a few names with unjustifiably depressed valuations to only have them continually go down.
In the old days, I would have ridden such positions down and even added regardless of the price movements. But over the last few years, I have incorporated technicals and stops into my trading. I don’t consider myself an expert on either. In reviewing my trades for 2020, however, I can see that these new tools prevented a few disasters and gave me some mental relief.
The notion of experimenting goes against the Warren Buffet “circle of competence” mantra on the surface, but rarely does our circle of competence match the investing environment for extended periods of time. Buffet is much smarter than the average bear, but he also had several tailwinds in his favor throughout his career and changed his own focus over time (few talk frequently about this). I do not doubt that people will be successful with a single dog-minded focus over the next few decades, but I also know we won’t hear about the many more people who did the same yet were not successful.
Only by experimenting on the margins can you properly define your current circle of competence and discover other areas that may be beneficial. The only way I have discovered doing this successfully so far is to allocate a small portion of my capital either in aggregate or on a per-trade basis for such trials.
My main experiments in 2020 were learning to trade Eurodollar futures, more active shorting and options trades like ratio call-spreads. Such trades did not impact my portfolio in total, but they helped to refine my process. For example, I believe that Eurodollar futures can be used in a value-focused portfolio like mine to balance performance in certain situations. Shorting anything this year for longer periods of time did not work this year either, but getting comfortable trying was a psychological hurdle I wanted to overcome. Lastly, I learned I still cannot trade options well.
Experimenting can be in your process, too, not just new asset classes. In 2018, my goal was to incorporate technicals and stops into my investing process in 2019, which I talked about earlier. Another example revolves around my trying to reduce FOMO in 2020. I often have oversized new positions after they have gone up a lot while I review the company. My old process would not let me buy until I had completed the work. If I completed the work and still liked the name, I usually bought too much, usually just when the stock was due for a pullback.
I now fend this off by buying a starter positioner under a standardized tight risk control until I complete my analysis. This allows me to alleviate the FOMO and be involved prudently. It also makes me less likely to buy too much when done. This problem or approach may not be relevant for you, but I bet there are a few mistakes you make that you can mitigate with a bit of trial and error.
Controlled experimentation has one final positive externality often overlooked. Fear of mistakes and perfectionism are impediments to progress. I had personally resisted new processes or ideas because there were issues or pitfalls. As a consequence, I kept doing things I knew were flawed without improving them systematically. Does this sound like a good approach? I go with iterating and improving.
Tip #3: Journal Regularly
Experimenting without record-keeping is useless, so to take Tip #2 to heart, you need some process of journaling your investment decisions, thoughts and reactions. This way, you can record your reasons and (equally important) feelings around certain investment decisions. My current routine is the following:
- 2-3 times per week: I have a daily journal where I review a series of charts, write down feelings about portfolio positions and the market in general, and any trades or orders placed on that day.
- Weekly: I updated certain portfolio statistics and used it as an opportunity to make more general observations.
- Monthly: I review monthly performance and review the daily journal entries from the prior month to look for lessons or patterns.
The daily and weekly journals never take more than 10-15 minutes each, while the monthly can take an hour or so depending on how active the month was. This also gives me a database around thoughts during any given market activity or around a specific stock. I can catch myself making the same mistake and keep my rationale for entering a position very clear.
It is a pain to get into the habit but a prerequisite for improving any investment process.
Would it help you if I shared some of the tools I use for journaling? Send me an email at contact@castawaycapitalist.com, and if enough people ask, I’ll post on it.
Tip #4: Give Yourself Some Rules (Which You May Occasionally Break)
With good journaling, feedback from experimenting, and a couple of strategies over time, an investor can get an idea of what works and what does not. Allow these general observations to form a set of rules to serve as the basis of your investing. These rules can cover whatever you think your guide rails need to be. My rules focus on when I can enter a trade and how I size a new position. I expect these rules to mutate slightly over time as I better drill down on what works and does not work for my investing. Your rules may be different.
I created my first set of investing rules at the end of 2019, so this is my first year reviewing them. My rules can be summarized as follows:
- I score potential investments based on the asset class, existing portfolio concentrations, fundamentals, technicals and catalysts. This score attempts to quantify conviction.
- The score from 1 above determines the capital I can risk.
- I set stops based on the technicals and risk tolerance from 2 and adjust those stops when certain profit levels are triggered.
Most of my major losses for this year were due to not following these rules. A couple of times, they led to stopping out an eventual winner, but these were the exception.
Tip #5: Remember That Exiting a Trade Always Feels Bad in The Moment
This last tip is purely psychological, which I got from Denise Shull, a trading and decision coach. I cannot remember if I heard it during a Real Vision interview or a CFA webinar. Anyone who decides to take responsibility for their own investing will eventually have the urge or necessity to sell a position. Buying a new stock is easy, but selling is the hard part.
Selling or closing out a position will NEVER feel good. It seems counterintuitive, but these are the most likely feelings coming out of a trade.
- If you have a big winner, you will feel as if you’ve left money on the table or you didn’t sell enough if it goes down.
- You will feel weak and that you’ve capitulated to a losing position regardless of how much money was lost.
- You will feel stupid for entering a position that you wasted time researching where you neither lost nor made a lot of money.
Whether any of these feelings are actually true or not, the important thing to remember is that they will feel true immediately after selling. Only a bit of time and a good journal will tell you if there is an issue in your process to improve.
Point three, in particular, is important to be aware of as you experiment. It may feel like you are running in place for a bit, but this is the irregular nature of progress. It also helps to remember that even the best investors lose on at least a third of their trades, but importantly only a little on such trades.
Otherwise, aside from acknowledging that you will have these feelings, I can only offer two smaller pieces of advice from personal experience. First, the more you experience these feelings and are aware of them, the easier they are to manage. They never go away, but thoughtful experience is the best antidote.
The second, which ties into the other tips, is to have the resources, rules, and plan to review your ideas regularly. You can go over your plan and remind yourself why you should take a certain action. Without a written rationale (presumably produced with a clear head), we are all more likely to succumb to the whims of emotions.
The second, which ties into the other tips, is to have the resources, rules, and plan to review your ideas regularly. You can go over your plan and remind yourself why you should take a certain action. Without a written rationale (presumably produced with a clear head), we are all more likely to succumb to the whims of emotions.
Hopefully less frequently, by reviewing your plan, you may discover that you never wanted to hold a certain position in the current circumstances and that you disregarded your rules for a reason that seemed important at the time. I had two of these positions this year, and they were responsible for nearly all of the realized losses in the portfolio for 2020.
My 3 Investing Goals for 2021
Having shared some lessons and tips from trading in 2020, here are my investing goals for 2021.
Goal #1: Creating a Framework for Investment Diversification
Tip #1 from the earlier section is a work in progress for me. I have a few alternatives to my core EM value approach but have not detailed how much to weigh alternative approaches and how often to review such positioning. Researching this topic and implementing a process will be key for me in 2021.
Goal #2: Learning to Trade Around Core Positions
I have never been good at this, but with a focus now on technicals, I feel it is a natural extension to focus on trading around positions I have a long-term positive fundamental view. I have generally always been overwhelmed by this because there are really no set rules, and it requires experimentation to find out what works. How big should the core position be, and what sort of blocks or increments should be traded around? These are only just a few of the conundrums to solve.
Goal #3: Eliminating Outsized Losses through Trading Small and Scaling
As I alluded to in Tip $5, two positions accounted for over 80% of my realized losses in 2020. These were positions that I had bought before formally setting out my rules and therefore were somehow “exempted” in my mind. Neither position was ever more than 5% of the portfolio, and I didn’t capitulate in March either. It was just plain bad undisciplined risk management. The losses were not catastrophic, but there is certainly room for improvement. I plan to trade smaller sizes until I am comfortable that my rules and system work and then scale up gradually.
The Castaway Capitalist’s (Trading) Log for 2020
I wanted to lay the rules out first, but here is my own summary investing data for 2020, as of December 30, 2020, which may give context. The figures do not include the effect of cash on performance, and the high current winning percentage is a function of adding a few trades in early December.
- Overall P&L: +7%
- Realized P&L: -6%
- Win% Portfolio: 83%
- Win% Exited: 29%
- # Exited Trades in 2020: 31
- Average Time Held Portfolio: 2.8 years
- Average Time Held Exited: 0.4 years
- Value Strategy % of Portfolio: 23%
- Median/Average Position Size: 1% / 5%
- SPY/EEM/EMB Performance for Same Period: +17% / +15% / +5%
- Positive Performance from: Greece, Trend-Following, Uranium, Interest Rates
- Negative Performance from: Shipping, Energy
These are my own estimates, so take them with a grain of salt. See the disclaimer at the end of the post, but this is not financial advice or a solicitation. I am sharing some of my own investment metrics to illustrate how I look at and review my own performance.
Conclusion
All things considered, 2020 was not as terrible as it could have or maybe should have been. I did not capitulate in the March panic, but I lost discipline on a few value trades that never recovered and cost me a decent chunk of performance. All I can do is adjust and hopefully eliminate such errors of process in the future.
I hope sharing these tips and goals improves your investing in 2021.
To your investing adventure,
The Castaway Capitalist
For questions, comments, and feedback, please email contact@castawaycapitalist.com.
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