If you ask most investors what matters most in the markets, they might say things like “finding the next trend” or “timing the perfect entry.” 

However, the very foundation of any successful investment strategy can be summed up in three words: 

Risk Management. Risk Management. Risk Management.

I know, it’s not glamorous, but it’s the difference between long-term success and financial disaster. 

Let’s break down the philosophy into three key parts. 

1. Diversification

The most common terminology in investing is diversification, where you don’t put all your eggs in one basket. 

Imagine you allocate more than 10% of your portfolio in a single company. On paper, it might look like a great bet. However, you’re exposing yourself to the tail risk of the bell curve. 

Although the stock market going down is completely normal and is part of the risk you’re willing to pay for as an investor. 

The small but very real possibility that the company underperforms can jeopardize your entire portfolio. That kind of concentrated exposure can easily blow up a portfolio and stir that butterfly in your stomach. 

Instead, allocate your investments across multiple companies and sectors, or even just passively invest by putting your money into SPY. This greatly reduces the possibility that one event wipes you out. 

Get this: diversification doesn’t eliminate risk; however, it greatly reduces any catastrophic outcomes because a single company underperforms.  

2. Stop Losses

Stop losses are a great tool to protect yourself from yourself. No matter how confident you are in a trade, things can always go against your favour. That’s why a stop loss is extremely valuable. 

It does two things:

• Stop losses before they spiral. You don’t need to be in a winning trade 100% of the time. It’s simply impossible unless you can predict the future. It’s part of the risk you’re willing to pay for as an investor. But you just need to protect yourself when you’re wrong to mitigate any catastrophic losses. 
• Stop losses remove emotion. Instead of selling in a panic at the bottom or holding the position blindly, the stop loss would enforce your strategy and discipline.

Think of the stop loss as a seatbelt. You may not need it on most drives, but the one time you do, it saves you. 

Also, stop losses aren’t just for when things go wrong.

They can also lock in profits when things go right.

Once your P/L is positive, you can adjust the stop loss upward. This strategy is called the trailing stop. This means if the stock starts to fall after rising, you still walk away with a profit. This greatly protects you from watching a winning trade and turning it into a losing one, and blaming yourself for not selling it at its peak.

3. Discipline and Knowing Yourself

Markets test not only your portfolio but also your psychology. The hardest part isn’t finding the next “new shiny object.” But it’s sticking to your strategy when you’re emotional. 

The S&P 500, which is an index that tracks the 500 largest publicly traded companies in the U.S., experiences corrections regularly, which decline 10% or more. 

While these drops may feel very frightening, panic selling during them is one of the worst mistakes you can make as an investor. 

Instead of reacting emotionally and panicking, view these market downturns as opportunities to buy stocks at a bargain. 

Quality companies often trade at a discount during these times because others are selling out of fear of short-term concerns, even if the company’s fundamentals are firm. When fear takes over the market, correlations across sectors rise. Individual companies and sectors will usually not trade based on their fundamentals.

Follow a strategy even when you feel uncomfortable at times and avoid the temptation to chase hype or be caught up in fomo. Another key thing is understanding your risk tolerance and being comfortable losing the money that you invested. 

Ultimately, knowing yourself is just as important as knowing the markets. A strategy that works for someone else might not work for you if it keeps you awake at night.

At the end of the day, successful investing isn’t about predicting the next opportunity, but it’s about staying vigilant during market downturns.

Predicting the future outcome of the market is inconsistent and difficult, even for professionals. Don’t waste your precious time trying to predict the market; you’d be better off spending it doing something else.

That’s why the three most important aspects of investing and trading will always be: Risk Management. Risk Management. Risk Management.

Because if you manage your risks, the rewards will take care of themselves.