How To Implement A Barbell Investment Strategy

Barbell Strategy

…your strategy is to be as hyperconservative and hyperaggressive as you can be…

…you need to put a portion [of your money], say 85 to 90 percent, in extremely safe instruments, like Treasury bills…

The remaining 10 to 15 percent you put in extremely speculative bets, as leveraged as possible (like options)…

That way you do not depend on errors of risk management; no Black Swan can hurt you at all, beyond your “floor”, the nest egg that you have in maximally safe investments.”

This quote is from The Black Swan: Second Edition: The Impact of the Highly Improbable Fragility by Nassim Nicholas Taleb.

Taleb’s contention here is that you will know you are taking on risk, but you will probably incorrectly estimate HOW MUCH risk you are taking on.

For example, when you buy a stock, you know that you COULD lose money. You can logically reason out that you ARE taking on risk.

But the catch is that you probably won’t correctly estimate the AMOUNT of risk you are taking on.

Say you bought a stock thinking it could only lose 10%. Or that your stop loss would save you from losses of more than 10%.

But it’s possible that the stock could drop to 0. Or the stock could gap down on open and jump right over your stop loss. Suddenly the 10% loss you were prepared for is now a 50% loss. Neither of these possibilities is likely…but we are bad at estimating HOW likely, so we will likely underestimate how likely.

Taleb’s point is that because we are bad at estimating HOW MUCH risk, the best way to take on risk is to take an ALL or NOTHING approach to risk.

No Risk

For the “nothing” side of taking on risk, he is recommending that you put 85 to 90 percent of your money in the safest investments you can find.

And by “safe” he means guaranteed return, with no chance of loss. Even if that return is miniscule.

This does not include blue chip stocks, or “well-established” company bonds, or any of the other “safe” investments that investment advisors would suggest.

I think it would include CDs (Certificates of Deposit) that were FDIC insured, and of course the Treasury bills mentioned in the quote above.

The idea here is that no matter how poorly the market does, the bulk of your money (85% or 90%) is always safe.

For my own investing, I consider this safe money to be my answer to “how much money do you have?”

Any money I have in other investments, I consider to be already gone.

By taking this frame of mind, I never suffer the emotional pain of losses in my investments. And I always feel secure because I know my “floor”…the lowest my net worth can go.

All Risk

For the “all” side of taking on risk, he is recommending that you put 15 to 10 percent of your money in “extremely speculative bets, as leveraged as possible (like options)”.

I particularly like that he calls them “bets”. These aren’t investments. They are gambles.

And he mentions “options”.

As of today, there are 1711 stocks on Dividendium’s list that have options available for trading…and that’s only dividend stocks.

And each of those stocks has multiple strike prices and multiple expiration dates. If a stock has 10 strike prices trading for 5 expiration dates, that’s 50 different options per stock. For just the dividend stocks, that’s more than 85,000 possible option bets.

So now we have to figure out which ones to buy.

Which Options?

I’ve been using this “barbell strategy” for a while now.

And over the past few years, I have been refining how I chose the options…whittling it down from the ocean of 85,000 options to just a few purchases each month.

I now have a system that plays against the biases of other traders…against their tendency to misestimate how much risk they are taking.

The system looks for where it appears that the options traders are underestimating how much risk they are taking.

Then the system tells me to place very small bets. Less than $1 per share, and often less than $0.50 per share.

If the bets pay off, then I could make hundreds to thousands of percent returns on the trade.

I recently detailed 5 of those options trades that paid off. The returns for the trades ranged from 289% to 2664%.

Happiness Risk

What I really love most about this method of investing is that when I “barbell” my investment risk, I am completely avoiding any happiness risk.

I hate to lose money unexpectedly. It just puts me in a bad mood.

With this strategy, any money that I put into options is already assumed lost. That’s what I expect. I don’t count the value of the options I own. I don’t even look at that value.

After I buy an option, it will either expire worthless, or in 3 to 12 months it will be worth a substantial amount.

If an option expires worthless, I never know. The system doesn’t tell me about those. And I assumed that money was gone anyway, so I won’t miss it.

But if an option has appreciated a substantial amount, I get an email telling me to sell it immediately.

So the only emails I get from the system are “buy” emails and “profit” emails. Both are fun to get…the “profit” emails are substantially more fun of course.

And in the mean time, I intentionally spend zero time watching the market. I don’t even know what stocks I’m buying or own. But I know that I can’t lose more than my “floor”, my safe money.

In fact, someone asked me yesterday how many different options I currently own…I didn’t and still don’t know. I think it’s some where between 25 and 75 different options.

I could of course look it up in my trading account…but then I’d be risking my happiness by seeing numbers that I don’t want to know.

When I place my trades, I intentionally avert my eyes from the trading balance and any of the profit/loss numbers on the individual positions.

I only want to know about gains because that eliminates the risk to my happiness.

The System

If this system sounds good to you. If you like the idea of getting only buy emails and profit emails, and not spending any time watching the market. You can signup to use the system too.

There are only 200 spots available.

After the spots are filled the system will stop allowing new signups.

This makes sure that the options the system recommends are available for all the subscribers to buy. (Some of these are very thinly traded.)

If you’re interested, want more information, or want to sign up, check out the DEMO of how the Options Trading Service works.

Summary

Our poor abilities at estimating risk make it likely that we will underestimate how much risk we are taking on, and end up losing a lot more money than we thought we could.

To avoid this mistake, we should instead carve out a portion of our money (10% to 15%) to risk on highly leveraged bets. And keep the rest (85% to 90%) as safe as possible.

One way to find those highly leveraged bets is to use Dividendium’s newly available Options Trading Service.

In fact, this Barbell Investment Strategy is the whole reason I created this service.

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