Transcript of a YouTube video (Adrian Reid) answering whether large losses from extreme market events (e.g., 60% crashes) can be mitigated. Advice centers on two primary strategies: (1) reduce financial vulnerability by lowering leverage and position sizes; (2) employ hedges or systems that profit in market declines (e.g., short exposure or guaranteed stop-loss equivalents), while noting hedges can be expensive.
Is it possible to mitigate huge losses? For example, automate a sell out of all positions for Black Swan events that could cause prices to tank 60% in one or two days, like in GFC?
It's a really good question and I'd love to say yes. It's easy and you could definitely do that in all cases. What I'm going to say is really at the root of this question. You're looking to mitigate large losses and how do we do that? And the best way to mitigate large losses in the case of an extreme event is to do two things. The first one is to make sure that your positions will not hurt you financially or not devastate you financially, let's put it that way. If the market does tank suddenly, if there's a sudden change in trend, if you're worried about your financial well being, if something happens in the market, something specific like a crash, then you're probably trading too aggressively. You may have too much money in the market, maybe using too much leverage, maybe your position sizes are too big. So the first thing is calm your trading down, reduce your leverage, reduce your position size so that it's not going to be a problem if it does happen. The second thing that you can do to mitigate that is to have systems or rules that will profit from it. So if you're only alongside trader, then think about having some short side exposure. Because if you've got, if you're just holding stocks on the long side and then the market crashes, obviously you're going to get hurt. But if you've got a system that has some short side exposure, even though the market is going up, when the market collapses, that short side system will make a ton of money so that it can offset some of the.
Losses on your long portfolio. But if you want to think just specifically about your long positions and how to mitigate those huge losses, in the case of a Black Swan event, you could have some sort of hedge or exit in place that will prevent it from being a problem. Now these typically tend to be expensive. This is the issue. So like some brokers, you can pay for a guaranteed stop loss, right? Particularly CFD brokers. And what they do is they charge you a percentage of the exposure, they said, and you put in a guaranteed stop loss and you will get that price. If the price, if the price gaps way down here, they're going to guarantee that to get you out at that price. What they're basically doing is selling you a put option so that if the price does drop too quickly, you know, you've got guarantee that you'll get out. And they're not doing that out of charity, they're doing that for profit. So you have to ask yourself, if I pay for a guaranteed stop on every single trade, how much money will I be giving my broker for the occasional chance that might happen? In my experience, a far better way to manage the Black Swan risk, or the catastrophic risk, is to make sure that you've got different positions in the market, positions that will profit if it goes up, if it goes sideways, if it goes down. Don't be aggressive on your leverage and actually manage it that way.
