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When Jim Cramer first started out in trading, he didn't like rules. He believed that either they couldn't really help, or they would cut his upside and prevent him from making more money.
After getting burned too many times, he learned the value of discipline.
"The rules protect you against your own bad judgment about what's going on at the companies you own or what's happening in the market overall," the "Mad Money" host said.
He recommended that investors find their own form of discipline to watch their stocks, and have a game plan for when things go wrong. For instance, Cramer has a system of ranking his stocks when things are good, so this way he can hedge himself when they go awry.
He also thinks it is important to "circle the wagons" on a few high-quality stocks, and be willing to buy them when they fall so you can get a better average price for your earnings.
A typical question that an investor will ask Cramer is what to do with a stock after it has had a hideous decline. Cramer will first ask why they bought the stock in the first place.
Why does he ask that? Because one of his cardinal rules is to never turn a trade into an investment. If there is one thing he wants investors to take away from "Mad Money," it is to never confuse these two concepts.
If you bought it for investment purposes, that could mean you should buy more. If you bought it for trading purposes, then that means you waited for a specific event to occur and should only buy it once.
Sometimes an investor will buy a stock for one reason, and then another reason happens. Then they decide to turn the trade into an investment and buy more as the stock goes down. Or perhaps the reason for the trade never happens, so they end up holding the stock.
"I buy down when I am investing. I cut my losses immediately when I am trading if the reason I am trading the stock doesn't pan out," Cramer said.
One silly mistake that some investors make is to say "if it weren't for that darned buy of one stock, I could have been up big."
It only takes one or two losers to wreck a portfolio. Cramer devotes significantly more time to analyzing the losers than the winners, because the winners tend to take care of themselves.
That is why he recommended that investors take the loss on a stock before it gets hideous.
"Don't buy into the notion that you can't sell until it comes back, and then you promise not to do it again. That is how losers think," Cramer said.
The flipside is true, too. Gains won't be realized until a stock is actually sold, and many investors are reluctant to sell because they don't' want to pay taxes. Gains not taken are losses that will be taken, Cramer said.
The biggest mistake Cramer sees investors make is that many think they are supposed to be fully invested at all times. Heck, even some money managers have told him that they are supposed to have all their money in stocks.
This is complete nonsense!
Having cash on hand when a market correction occurs is the key to protecting a portfolio. Sometimes the market will stink, and there is nothing to do but just sit in cash.
"In fact, one of the chief reasons that I outperformed pretty much every manager in the business during my 14-year run as a professional money manager is that there were substantial blocks of time when I was largely in cash," he said.
Some of the best stocks in the industry require investors to do nothing. Sometimes it can do nothing for ages, and rack up small gains over time.
"I say some of the best stocks require some incubation," Cramer said.
Ultimately, though, Cramer says the business is not about hope. It is about fundamentals. Investors shouldn't root for stocks to go higher. They simply need to pick stocks of good companies, and be patient unless something changes dramatically.