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Weekend Edition

One simple tool that could double your investment results for the rest of your life
Saturday, October 5, 2013

 Today, we start with a story... a parable of sorts...
 I had watched the wave carefully. It was the one I'd been waiting for... the one not quite big enough to break on the outside sandbar. It only "feathered" as outgoing tide and the offshore wind held up the crest. Then, traveling again over deep water, it gained size and speed. Not many people realize that a wave's height is geometrically related to its speed. As it gets larger, it becomes much, much faster.
 The outgoing tide was pulling millions of gallons of water along the near shore current. As this huge wave approached, the water was sucked out through a small opening in the inside sandbar. Swimmers call it a "rip current." I thought of it as a kind of oceanic ski lift. It pulled me out and dropped me off right where I wanted to surf.
And so, there I was... sitting on a small, fast surfboard. All of the water from the rip current converged into the ocean wave I'd been watching, doubling – sometimes even tripling – its size... all just before it rammed into the sandbar underneath my board. The water over the sandbar was around six feet deep. But the wave's energy would actually suck nearly half of that water up into the wave's rotation, leaving only about three feet of water underneath my board as I paddled into the wave.
 I don't know how to explain or even measure the force of a large, ocean-going wave. I only know that if you don't catch it the right way, it can throw you with unbelievable force down onto the sandbar... or... after you're riding it... far into the air.
As the inshore current and tide added to this particular wave's power, it jacked up to about 10 feet or so... well over my head as I turned, paddled, caught the wave and stood up. This wave wasn't nearly the biggest one I'd ever caught. I didn't know it would prove to be the most dangerous wave of my entire life.
 If you'd asked me why my parents told me not to go surfing that morning, almost exactly 25 years ago today, I would have said it was because of the sharks. New Smyrna Beach (NSB) in Florida is the shark-bite capital of the world. At this point, I'd already been bitten by a shark once. A few years later, I would be attacked again, in almost the exact same spot. The sharks common to the area – spinner and sand sharks – are small, usually less than six feet long. Their bites aren't serious, more like a dog bite than anything else. They won't kill you.
 If you'd asked my parents why they didn't want me to go surfing, they would have said they didn't want me out there alone at dawn. They didn't want me to drown. But that thought never entered my mind. I was surfing on the beach where I'd grown up. My family's cottage sat in the dunes less than 500 yards from where I'd entered the water. I'd been swimming and surfing here nearly every day of every summer since I'd been born. I was also a state champion water polo player. I didn't fear anything in the water – not even sharks. At 15 years old, I had the strength and the endurance of a grown man... but the wisdom of a child. Death never entered my mind. Ever.
 The board I was surfing on was made from a piece of wood (a "stringer") running vertically through the board, from top to bottom. Glued to either side of the stringer was specialized foam – known as Clark foam. The stringer and the foam together made the core of the board and gave it its shape, which was about four inches thick, about two feet across, and six feet, four inches long. To give it strength, the core was "glassed" in several layers of clear, strong fiberglass.
On the bottom of the board, at the rear, were three "skegs" – the fins that allowed the board to "grip" into the face of the wave and steer the board. They were made from tough plastic, with a razor-sharp leading edge. They were also encased in fiberglass, which made them very, very strong. The combination of the plastic's sharp edge and the strength of the fiberglass created a dangerous weapon. Traveling at speeds around 30 miles per hour, these fins were just like swords cutting through the water, sticking out from under my board.
 I'd picked the biggest wave possible to catch that morning because I wanted to get a "barrel." That's when you catch a wave, stand up, and put your board right into the most turbulent, unpredictable, and powerful section of the wave – the tiny pocket that exists behind the curtain of the wave's crashing lip.
I needed a wave big enough to create room for me to maneuver my board behind the curtain. I needed a big wave so that it would have enough power to push me back out of its crashing vortex. And of course, I wanted to know that I'd caught the biggest and best wave that morning. It started out well...
 I stood up quickly, dropping right into the critical section. The wave bellowed, and the sky disappeared.
When you barrel... it sounds like you're in the middle of a tornado as all of the surrounding air rushes into the vortex and is pulverized into the wave. And you can only see green under the lip.
I remember looking down at that moment and seeing how shallow the sandbar looked at the bottom of the wave. And there was the wonderful sensation of speed – massive amounts of speed. The water soaring past my face, my hands skipping on top of the wave's face just behind me. And then...
 In about one-tenth of a second something happened. My board was suddenly sucked up the face of the wave and into the crashing lip. It happened almost instantly, so I don't know if something caught my board, I lost my balance, or part of the outgoing tide hit the wave and broke the line I was on. Whatever caused it... in about two-tenths of a second, I stopped flying through the air and landed on the surface of the water just in front of the crashing wave.
I bounced once. Then at about four-tenths of a second, my board came crashing down on top of me, hard. I don't know exactly what happened next. When I regained my senses, I was about 100 yards closer to shore, in shallower water. My head was killing me. It felt like I'd been hit with a crow bar. And blood was everywhere.
 I felt along my scalp, trying to find where the wound was... There was more and more blood... more blood than I'd ever seen. More blood than I thought I had in me. It pooled around me in the water. But my hands were clean. I'd run them all through my hair... I wasn't bleeding from my head. And yet, blood was gushing down my chest.
 I never felt the skeg hit my neck. I never felt it slice, like a razor, straight down from around the bottom of my ear, nearly halfway across to my Adam's apple. And of course, you can't see your own neck without a mirror. And so I just sat there bleeding... trying to figure out what had happened. A guy walking along the beach saw me. He was pointing at something right next to me... No, he was pointing at me... He started screaming.
 I don't have any real facts to give you about how severe my wound really was. I couldn't see it. I know that my carotid artery wasn't severed – or else I wouldn't be writing this e-mail. I would have died 25 years ago standing in three feet of water trying to figure out where all of the blood was coming from.
I do know that the paramedics were freaked out that my carotid artery was hanging outside of my wound. They were terrified that it may have been injured and that putting too much pressure on the wound might cause it to tear.
 The sirens of the paramedics woke up my parents, who were still asleep in our cottage. My mom says she knew immediately that I'd disobeyed them, gotten up early, and gone surfing by myself. Luckily, they didn't see the wound. Nor did they realize how close I'd come to simply being knocked cold, which could have easily killed me, too.
 Fortunately... it was only an accident. I had a concussion. I got a bunch of stiches at Fish Memorial hospital. A few days later, I was well enough to pass my driving test and get my first driver's license. Steve Sjuggerud still gives me grief about having a gigantic pressure bandage all around my neck in my first driver's license photo. I looked like something from the movie Highlander – like someone had tried to cut my head off with a sword. (Yes, I've known Sjuggerud since I was 12. He's been my best friend almost my entire life. He was late to meet me that morning. So I blame the whole thing on him...)
 When we're 15 years old, we do incredibly stupid things. It was obvious to me, even then, that I should not have gone surfing alone. Steve and I had surfed in dangerous conditions together many, many times. We always kept an eye out for each other. We'd signal "OK" after bad wipeouts. We'd never had a problem.
And that wasn't the only mistake I made. Once I'd decided to surf alone, I should have known that going for the biggest wave... in the shallowest water... trying to get myself into the most critical section... was not only stupid, it was crazy. Yet... that's exactly what happened.
 Yes, when I was 15 years old, I took remarkably stupid risks with my body. I did incredibly foolish things with the only assets I had – my health and strength. But I was only 15. I didn't really understand the consequences of these thrills.
What's your excuse today?
 How many of you invest alone? How many of you take tens of thousands of dollars and willingly put that money at risk without discussing your decisions or the risks you're taking with anyone else? How many of you take risks with your assets that you know aren't wise? How many of you break your position-size guidelines? How many of you ignore your trailing stop losses... or still don't even know what those are yet?
And whom do you blame when you find yourself sitting on a $10,000... $50,000... or even $100,000 loss in your brokerage account? You're an adult. You should be perfectly aware of the consequences of chasing thrills instead of solid returns.
 The single most valuable thing I could teach you about investing is also the simplest. It's the same thing, essentially, that my parents told me on that beautiful morning 25 years ago: Don't go surfing by yourself...
Don't buy stocks without taking a few simple precautions that can almost completely eliminate the risk that you'll suffer a catastrophic loss. If you will do this one thing – use 25% trailing stop losses and small position sizes – you will radically improve your overall results over time.
That's not because these strategies will optimize any particular position. It's because they will protect you when you inevitably take off on the wrong wave at the wrong time. And if you invest for any length of time, that wave will eventually come along.
On the other hand, if you merely use a 25% trailing stop loss and reasonable position sizes, I can almost guarantee that your investment results will become dramatically better.
 How do I know? I know because of Richard Smith.
Richard was one of the first subscribers I ever had. I made a killing on the technology stocks I found for him at the beginning of my career – rocket ships like Cree, JDS Uniphase, and Qualcomm. In 1999, the average return of my newsletter was something like 85%. It was an amazing bull market, and we took advantage of it. As the bear market of 2001 and 2002 developed, we stopped out of these highfliers with big gains. We sold as their prices reversed, long before those reversals led to losses.
But Richard didn't. He held those stocks after I recommended selling. And he lost a bundle. The experience was so painful and humiliating, he swore he'd never let it happen again. To make sure it didn't, he spent millions of dollars and 10 years developing a software system called TradeStops.
 The idea is simple. TradeStops makes sure you're never "surfing alone." The software makes sure you keep your losses small and take your profits while they're still big. All you have to do is enter the stocks into the TradeStops system when you buy them and specify what trailing stop you want to place on the position. Then, TradeStops lets you know when it's time to sell. It will also tell you how many shares to buy if you want to follow a specific position-size limit.
 I like Richard and his software so much that I decided to invest in his company. As a favor to me, Richard has put together a report that will show you, in surprising detail, how much better our newsletters' track records would be if our editors strictly abided by trailing stops.
That may sound odd since few financial publishers have done more than S&A to tell investors about the importance of trailing stops... But our editors (me included) are free to set their own exit strategies for individual positions. Occasionally, an editor will decide to not use a trailing stop loss. Or he will recommend selling a stock before it has turned down. Dan Ferris, in Extreme Value, doesn't use trailing stop losses at all. But what if he did?
What if all our editors always used 25% trailing stop losses and never sold a stock except when the trailing stop was triggered? What would our long-term track records look like in that case?
 Those questions are answered in the report Richard has written for me. He can also tell you a lot of other interesting details about our products – like which editor has the best overall track record.
 Now... I don't want to steal Richard's thunder. He's worked for years to collect data from our letters and he's invested millions of dollars into his system and this analysis. He did it completely at his own discretion. I didn't ask him to figure these things out...
He simply believed he could improve upon our results by studying our track records carefully and applying some simple strategies – or, as he calls it, "basic math." (It's basic to Richard because he studied math at University of California-Berkeley and has a PhD in systems analysis.) So... there's a lot more in Richard's report that I strongly believe you should read. But I'll prove to you that this report is worth getting and reading.
 Here's my claim: Assuming you're already reading our newsletters, there's nothing more you can do to improve your actual performance than reading Richard's report and using his system. According to Richard's data...
The recommendations I've made in my Investment Advisory newsletter over the last 10 years produced a 300% total return. But using my recommendations together with Richard's trailing stops would have made 364%.
Dan's Extreme Value produced 166% gains. That's outstanding. But using trailing stops and Dan's investment ideas together would have made a lot more – 253%.
And Steve's conservative advice in True Wealth served readers very well, with total returns of 144%. Using trailing stops all of the time (instead of just most of the time, like Steve did) would have increased that gain to 204%.
 All of these gains would have beaten the S&P 500 by a wide margin. There's no doubt that our newsletters are great for investors. That's great news, and I'm proud of our record.
But if you're following these letters already... why wouldn't you want to optimize your results? Why wouldn't you ALWAYS use trailing stops? Why wouldn't you use the best software system to make sure you never missed a stop or took a loss that's bigger than your risk parameters? In short, why would you ever surf alone?
You're an adult. You're not investing for the thrills or to prove that you're tough enough to take a huge loss. You're investing to make money and build wealth. Out of everything I can teach you about building wealth, this system is clearly the most important "add-on." It's cheap. It's easy to use. And it will make you more money than just following our letters...
Porter Stansberry

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