Tales of investors getting rich by buying low and selling high on the stock market don’t always tell the full story. During the Dotcom boom in the early 1990s, stock traders made millions from tech companies by ‘getting in early.’
Others lost money by holding on to their stock too long. Understanding how buying low and selling high works can help you create more realistic expectations of market returns.
Let’s take a look at this overview of what buy low, sell high means.
What Buy Low, Sell High Means
The concept of buying something cheap and reselling it for a profit is part of American capitalism. For example, if you can buy products wholesale and sell them to customers at a higher price, you profit.
But there are many things behind closed doors that affect profit margins in a business or on the stock market.
The Truth About Buying Low And Selling High
One of the top reasons buying low and selling high is very complicated for stock investors is that prices are often set based on supply and demand. The feelings of fund managers and other traders might be based on recent scandals in the news or other events that don’t relate to the company’s actual performance.
For example, if the CEO of a major corporation makes controversial statements about current events, it doesn’t mean innovation stops. It doesn’t mean that company’s managers aren’t making smart business decisions. Yet, the stock price of the company could plummet anyway as a result of the event.
Once one investor begins dumping a stock, other investors may follow suit. This herd instinct could create a false sense of supply and demand in the market.
The truth about buying low and selling high is that you can’t predict how others will react to current events, so there’s no real way of knowing when you are buying low or selling high. Has the stock price reached its bottom? Could the stock price go higher in a few weeks?
It’s impossible to know this until after you’ve already made the transaction. You can do further research after the fact, but not before.
Limitations Of Buy Low, Sell High
Buy low, sell high isn’t a bad strategy. It’s just not helpful as your only investing strategy. Stock prices do two opposing things: affect and reflect what’s happening in the market. For example, a sudden dip in stock prices causes many investors to react and dump their stock before ‘losing too much money.’
This dip in pricing might attract investors who want to buy low. Once they begin buying up the discounted shares, prices rise, and the cycle starts again. It’s a constant push-and-pull in the stock market to predict what will happen in the future.
These changes in prices could happen over hours, days, or years. To level out your investing strategy, you’ll need more than a simple buy-low and sell high approach.
Buy low, sell high is counterintuitive because it suggests that investors have a way of knowing what’s a stock’s lowest and highest price. There’s no limit on what that price can be.
Investors wait until after a transaction is made to evaluate the decision.
Psychology Of Stock Trading
A solid investing strategy is about self-control. Watching stock prices rise and fall day in and day out can lead to feelings of fear, greed, hopelessness, or success.
None of these are helpful emotions when it comes to investing in the stock market. Your fear over falling stock prices could be the ticket to getting the discounted shares you need to meet your retirement goals.
Ignore the everyday details of the market and focus instead on your overall, long term investing strategy. By looking at the performance history of a stock, you get a more objective picture of whether the stock is a solid bet for your goals or whether to move on.
Avoid any stocks that don’t match your risk tolerance. Risk tolerance is how much you can stand to lose in your investment portfolio.
For example, aggressive stocks have the potential to bring high returns but may suffer drastic dips in pricing along the way. For conservative investors, aggressive shares aren’t worth the anxiety.
Conservative investors focus on stocks that fluctuate less, so they don’t fall into the temptation to buy or sell stock based on emotion.
Staying The Course
Once you’ve decided on your risk tolerance, set goals for your portfolio. Short term investors need specific price goals that help shape their actions in the market day-to-day.
For example, if your goal is to profit 20 percent on a tech stock, be sure to sell once the stock price reaches that goal. Falling into the temptation of waiting a little longer for the price to go higher can lead to major losses.
Your ability to be disciplined and stick to a well researched investing plan is what you can use to measure your success as an investor. Falling into patterns of greed may appear to work from time to time, but it puts you at a higher risk of losing because your decisions are based only on feelings, not strategy.
You Can’t Time The Market
Another saying among stock investors is that ‘you can’t time the market.’ A follow up to this fact is that you can’t beat the market because stock pricing isn’t based on logic.
The concept of buying low and selling high implies that you know what the low and high of that stock is. The truth is that you only know what the low and high have been in the past.
Set up a clear cut goal for your portfolio and take steps to reach that goal through consistent action. For more information and personal finance tips, visit our blog for updates.