There are many traits that make up a great investor, but there is rarely a debate as to what they are. Among the most common ones are patience, intelligence, discipline, conviction, and flexibility. However, discipline and conviction can actually work against each other and give conflicting signals to a trader or investor in terms of how to go about playing the market. I will give the pros and cons for both here.
Terms Defined
Discipline can be defined as following a set of predefined rules and sticking to them no matter what, even if you gut is telling you to do something different. A great example of discipline is cutting any loss at 8% like the great William O’Neill of IBD recommends. This is meant to prevent catastrophic losses of 50% or more when a stock inevitably moves against you. As he often states, it takes a return of 100% to recover from a 50% loss.
Conviction is the fortitude to stick with your gut or your system even if you are wrong at first or are suffering big losses. For example a value investor who strongly believes in an undervalued stock will continue to hold it even if it drops another 30% after buying. He has conviction in his assessment that the stock is undervalued even though he is being punished at the moment.
Which Is Better?
These are both great traits in my opinion, but each one works better for a different type of investor. I think discipline is the better trait for a shorter term trader like myself. Cutting losses is an essential activity for any trader because preservation of capital is the name of the game. One bad move and your capital could be completely wiped out. Traders must always live to fight another day and having strict discpline is the way to do this.
Long-term investors might find that conviction suits them better over time. Warren Buffett buys a concentrated amount of stocks that he has deemed to be great businesses at discounted prices and is willing to hold them literally forever regardless of market conditions. It’s hard to argue that his strategy of strong conviction hasn’t served him well. He would see no reason to cut a small loss because that isn’t his style and he knows that going into the purchase.
It all comes back to knowing yourself and what kind of investor you are. That is the big key in making money in the stock market. The great thing is that many styles can work, but knowing yourself is not negotiable.
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