Capiche: Why Are You Getting In a Trade?

Many traders leap before they look, eager to get in on the hype. At times when stocks may post double- or triple-digit gains, it’s tempting to jump into a stock even if it goes against your trading plan. Sure, those trades can sometimes hit gold. But often, they strike rocks.

So, if you’re tempted to toss your playbook and throw a long bomb on the latest initial public offering (IPO), or something you read about on social media, you risk a pick-six. Successful traders have rules and stick to them, whether those rules are based on volatility, probability, technical analysis, or other factors.

Of course, there may be times you break the rules. And once you break your guidelines the first time, it gets easier to do it again. Eventually, your portfolio no longer matches your goals, and you become an undisciplined trader chasing butterflies.

There’s nothing wrong with putting a little money into some of these hype stocks. But for bread-and-butter trades, you should know why you’re buying the stock and how it fits into your overall portfolio.

Consider the following three scenarios, which should set off alarm bells that you’re leaving your playbook on the bench.

Buying a stock you read about on social media. Stock market chatter on social media isn’t necessarily great for assessing a company’s value or its shares. Although it’s hard to ignore a stock everyone’s talking about, when you get caught up in that chatter, take a breather and do a quick review of your trading plan. Does this stock-picking strategy fit your goals? If so, go back to figuring out your entry point. If not, steer clear.

Getting allured by an IPO. There’s nothing like the sizzle of an IPO, with a bell ringing and TV interviews on the big day. But don’t jump in too quickly. IPOs tend to be volatile, and the market often has trouble pricing them properly. For example, how would you price a travel company that’s hinting at an IPO, despite bleeding hundreds of millions of dollars a quarter because of a pandemic?

Then there are all those insiders who’ve been waiting years to get their hands on the stock so they can sell it. In this scenario, you’re fighting upstream. You may be better off waiting for the dust to settle. Then make sure the stock satisfies everything in your trading plan before adding it to your portfolio.

Making an after-hours “sympathy” trade. Don’t get too cute with so-called “sympathy” trades. Let’s say you follow a popular tech company that reports big earnings after a close. Then you see shares of its suppliers getting bids and decide to hop on board. Maybe it’s a company you’ve never heard of, but hey, they’re tied to your favorite tech company’s ecosystem, so what’s there to lose?

Your money, for one thing. Remember the trading plan you worked so hard to create? Dig it out and ask yourself if the stock is a fit. Does it bring you closer to your goals, or are you chasing higher shares because everyone else is? Know these answers long before you trade or you risk entering P.T. Barnum territory. As he’s rumored to have said, “There’s a sucker born every minute.” Don’t be one.