Podcast – Episode 009 – Why Do Traders Hate to Hedge

 

 

 

Podcast Transcript

Greetings, Genius Nation. I hope you are having a wonderful day, as I am. Always being the optimist. Welcome to this edition of the podcast. I’m happy to have you here. Today we’re gonna be talking about something that most traders don’t like talking about. We’re gonna be talking about hedging, what is hedging, how to do it, why should you do it. Now, I’m not getting into all that.

Actually, that’s funny, because a few years ago, I wrote a book about hedging. An entire book. Yes. Hundreds of pages on just hedging and different ways to hedge and how to hedge your portfolio. And actually, the book’s name is called Protect Your Portfolio, and it’s all about hedging and protecting yourself from different ways of losing money and whatnot, while we’re investing. By the way, you can get the book at Hedgingstrategies.org. That’s hedgingstrategies.org. Yeah. Thank you for letting me do a shameless plug. Yes. You can buy the book there. It is available. So, if you want to get the whole book, go there, of course.

So basically, what I found was, I was interested in the topic. I looked online and there’s really very, very, very little on it. I could not find another book on hedging. There was some books that talked about hedging in a little bit. And there was some videos and stuff that you can, “Oh, you know what? If you wanna protect your portfolio, you should buy a put, and that’ll protect your stock. Okay, that’s great. But, under what instance do I do it? You know? How many days to expiration? What should I pay for it? What percentage should I protect myself? All these different question I had, there was nothing out there.

So, I had freaking write the whole book. It took a long time. I mean, it took well over a year. I had to hire a researcher to help me with it. I had to hire a writer to do it, to help me write it. It was a very time consuming process. A very tedious process. ‘Cause not only did I have to write it, but I had to learn everything. You know? And I have to test it and see what’s working, which ways work, which ways don’t work, all of that stuff. And so, I thought, “You know what? I’m going to … ” You know, I was learning it for myself, but then I decided I’m gonna write a book about it, or maybe a course. And that way, I can teach other people. Because I’m sure if I’m interested in this, then they’re gonna be millions of other people that also want it. And if there’s no resources out there that’s one place that you can go to and learn all this stuff. You know, all the different ways to hedge.

You know, in the book there are like 36 different ways that you could hedge your investments. You know? I mean, we’re talking mostly about financial investments, like stocks and options and stuff. Not just options, but stocks as well. And so, there are 36 different ways in the book, I believe, used in different circumstances. And I found that there’s these four major things that you need to protect against. Okay?

So, one of them is another flash crash. I wonder if you remember the flash crash that we had, the major one that we had, but I forgot the date of it. But, they never found out … It was called the Fat Finger Crash by some people. But, they never found out the reason for the crash. They never did. Nobody got in trouble for it. You know, they don’t even know whose fat finger it was, if it was a fat finger. That doesn’t make any sense anyway, you know. One person pressed the wrong button and it made the stock market go down 20% in one hour. That’s freaking insane. There were stocks that were trading at five cents. Like, a $50 stock goes to trade at five cents within an hour. That’s insane. And then, everything went back up again. It was nuts.

The problem with that is that you don’t hear about it as much, but they’ve had many, many more flash crashes since then. It hasn’t been system-wide. But in many stocks, yes, they’ve had several Flash Crashes. And they did put some stuff in there, like a circuit breaker and a this and that to protect it. But, it’s still not where it should be, where something like that can’t happen anymore. You don’t even know why it happened. I mean, it’s crazy. So, that’s one thing you need to protect against.

A bear market, obviously, is something that you need to protect your investments against. You know? Why not? If the market’s gonna go down 20%, why would you not protect yourself if you knew how to do it? Right? Not only could you not lose that 20%, but maybe you could even make some money at the deal at the same time.

The other thing you need to protect yourself against is another 9-11 type event. You know? It could be a terrorist event on U.S. soil, but it doesn’t have to be. It could be like a hurricane. It could be an earthquake. Anything could happen. And why call it the 9-11 event is because when that happened, the stock exchanges were closed for several days. That’s it. You could not trade. I mean, if you had money in the market and you needed to get it out, sorry, can’t happen. But, there was a massive attack on the United States. Right? And so, the stock market was closed, because they were afraid ’cause it happened in New York. People couldn’t get to work and all that.

Well, what if there’s a hurricane that hits New York? Right? They had the tropical storm Sandy in New York, and it didn’t affect Manhattan, but we recently just had hurricane Harvey and hurricane Irma. What if a storm of that size hits New York? Manhattan is right on the water. You know? Wall Street could be down. The New York Stock Exchange could get flooded out. And if the market is closed for several days, what are you gonna do? You know? Because at 9-11, everybody knew the markets were going down. Everybody knew that they couldn’t do anything about it, except the smart people. The people that were in the know, knew how to protect themselves. They knew how to take advantage of the situation and protect their portfolios, and that’s something that I cover in the book.

I’m not gonna give it to you here. You’re gonna have to buy the book. But if the market is closed, and the market is dropping, right? Everybody knew the markets were dropping. And when they did open up again, they were down several percentage points lower. Luckily though, the market rebounded, or it could’ve been really bad. You know? Markets down 20, 30, 40, 50%, and you couldn’t do anything about it. And your stop-losses are not gonna help you. You know? That’s not a good way to hedge. It helps in certain situations, but not this one.

And so, if you don’t know what you’re gonna do, you’re gonna lose a lot of money, money that you spent your whole life saving and earning and trying to invest. It could go away like a blink of an eye, just like that, if you’re not hedged. And then the other thing we need to hedge about is, like, unexpected news. So, let’s say you’re heavily involved in Facebook. You own a lot of Facebook shares, and then Zuckerberg, something happens to him. Or, let’s say you have a lot of Berkshire Hathaway shares, and then Warren Buffett dies. You know? I mean he just turned … I don’t know how old. I think he turned 87 a couple days ago. I mean, my God. He’s already lived longer than most people. If he dies, that share, that stock price, is going down. That’s like a given. You know?

I don’t know how long it’s gonna stay down. It depends on who the successor is and what happens and all that stuff, but most likely, their gonna have a decrease in share price. So, you need to be prepared for that, if you’re a shareholder. But, that’s just one instance. You know? What if the company you’re heavily invested in has an SCC investigation? What if they’re cooking their books, like Enron, and you don’t know? Well, if you had Enron stock and you were hedged, you didn’t have a problem. But, the people who lost all their money were not hedged, ’cause they didn’t know it. So, that’s why it’s super, super, super important to know how to hedge yourself. Right?

But, that’s not the point of this podcast, this particular version of the podcast. I thought that that particular book that I’m writing on how to protect yourself, was gonna kick ass. I thought it was gonna sell millions of copies. Remember, I’m an optimist, okay? So, I thought it was gonna sell a heck of a lot of copies. But, it didn’t. It still, right now, to this day, I have not recouped the money that I had spent on it with doing all the research and all the writing and all the time that it took. You know, as many copies as we’ve sold, we’ve sold a bunch of copies, but we still haven’t got our money back on this thing. And I can’t understand why. And then, I was like, “Wait a minute. Maybe that’s why I couldn’t find any other books on the topic. Maybe that’s why I couldn’t find any courses on the topic. Because people just don’t care.”

And that’s when it hit me. You know? Traders don’t like to talk about hedging. They don’t. I’m betting that this particular podcast is not gonna get a lot of views, or listens, or downloads. I don’t know how they judge if a podcast is popular or not, but this particular issue, or this particular edition, is probably not gonna get a lot because I’m talking about hedging. ‘Cause people don’t like to talk about it, which is crazy, because that goes against all the scientific studies out there that show that people are more inclined to protect their money, than to make more. It’s crazy. You know?

I mean, the psychologists, they call it loss aversion. Okay? And they define it as loss aversion refers to our tendency to strongly prefer avoiding losses over acquiring gains. This behavior is at work when we make choices that include both the possibility of a loss, or a gain. For example, when making investment decisions, we most often focus on the risk associated with the investment, rather than the potential gains. Right? That’s called loss aversion.

I mean, some examples that you might be already familiar with, like for example, when you don’t sell a stock that is below the price that you paid strictly because you don’t wanna take a loss. That’s call loss aversion. You know, you don’t wanna make that gain tangible. Or, sell a stock because it’s greater than the price you paid, just to lock in a profit. Right? You ever done that one? Where you, “Oh. I made 10%. I’m getting out. I’m getting out. I made a little bit of money. I’m getting out before it goes back down.” That’s loss aversion. Or, believing that you haven’t lost any money until you sell. That is another case of loss aversion. “Oh, yeah. It’s just paper losses. They’re not real. Just paper losses.” Keep telling yourself that. Or, selling to avoid further losses when the reasoning for the investment says to buy more. Okay? That’s like when your thesis of why you bought a stock is intact, but the share drops for some reason, you don’t buy more, you don’t double down, you get out. And, we do that. Right? Everybody does that. People sell at the bottom, and they buy at the top, because of loss aversion.

We’ve all done these things. So then, why do traders spend so little time on hedging? I mean, if the psychologists are telling us that our brains are set up in such a way that we want to not have big losses, why don’t traders learn more about hedging? Why don’t they spend more time thinking about it? And what I think is, that consciously, it’s not fun. Right? Most of us come from a mentality of lack. Meaning we don’t have enough.

I, for one, grew up without a silver spoon in my mouth. You know, things were tough when I was little, so it was always like, “Hey. Can I have this?” “No. We can’t afford it.” “Can I go here?” “No. We can’t afford it.” “Are we going on vacation?” “No. We can’t afford it. Gotta work.” That was my reality for a long time, and that held me back, because that mentality of lack. You know? Oh, my God. If I have something, then somebody else is not gonna have it. I have to take from somebody else to get it. Or, I have to hoard what I have because I don’t want to lose it. You know? Oh, there’s this thing that I really wanna buy. Oh, I can’t have it. I can’t afford it. That’s the mentality of lack. You know?

There’s a book, Rich Dad, Poor Dad, and if you haven’t read it, you need to. Go get yourself a copy and read it. In that book, he talks about people have this mentality of lack, but it shouldn’t be about, “Hey. I wanna buy this thing. Oh, man. I don’t have the money for it.” What his rich dad told him to do was, instead of looking at it that way, he had two dads. Well, no. He had one dad, and then one friend’s dad that was the rich dad. And his dad was the poor dad. So, if he were to ask his poor dad, his real dad, “Hey, Dad. Can I have this?” His dad would say, “No, son. We can’t afford it.” If he would ask the same thing to his rich dad, the rich dad would pose it in a different way. He would say, “You know, son? Right now, you don’t have the funds for it. But, I want you to think about how you can afford it.” Right? It’s a proactive thing. It’s a different way of thinking. It’s, “Oh, no. I don’t have the money. Okay. Done. End of Story.” No. It’s I don’t have the money right now, but how can I get the money? How can I afford it? What do I have to do in order to get it. Whole different way of thinking. Whole different mentality.

So most of us, most of the world has grown up in this mentality of lack. Now, I’m not trying to teach you how to get out of it. You know, you can get all the self-help books you want on that stuff. But, if we’re thinking that way, if we’re thinking that we don’t have enough, you know, then you’re not gonna worry about saving what you have. Right? So, “Hey. I don’t have enough. I don’t need to safeguard what I have. I need to make more. I need to make more right now.”

And that’s the mentality that most traders have. So, they’re not worried about saving what little they have, or even a lot that they have. You know? If you have $50,000, that’s a lot of money. You still need to protect it. You know? If you have $20,000, that’s a lot of money. You still need to protect it. Even if you have $5,000, for you, that’s a lot of money probably. Right? You need to protect it, instead of worrying about, “Oh, how do I get from five to 10?” But, that is exactly what kills you as a trader, that mentality of lack. Because if you do not hedge, you lose. Pause, so that you ponder this point. If you do not hedge, you lose.

So, as homework … Yes. I’m giving you homework. A podcast that gives you homework. As homework, I would urge you to take a look at what you are doing to hedge your investments. Okay? If you’re not doing anything, well then, your homework is done. But if you are doing stuff, take a look at it, and then think about these few questions. Okay? Answer these questions, okay? What would happen if a bear market hits tomorrow? What’s gonna happen to your portfolio? What would you do about it? What would happen if inflation spikes? Right now, as I’m sitting, inflation is really low, maybe 2%. What if it goes up to 10% or 12% or 15%? What’s gonna happen to your portfolio? What happens to your investments? Will you be okay? ‘Cause it’s possible. A bear market is possible. Inflation is possible. Anything is possible.

What would happen if the markets are closed again for weeks at a time? Or, if there’s a war? Or, an earthquake? Or, a hurricane? Or, some other natural disaster? What’s gonna happen to your investments? Are you protected? Be prepared before something bad happens. You don’t have to go buy my book. If you do, that’s great. You’ll learn a lot. You don’t have to. There are other ways to do it. You can learn. There are other ways to learn. You can ask a friend. But, you have to be prepared. Okay? That’s my point. That’s my message. That’s what I want you to realize. Remember to trade with the odds in your favor. I’m always in your corner. If you have any questions, help@optiongenius.com. Thank you.