How To Reduce Your Risk Before Even Taking The Trade

In an interview Warren Buffet was asked about his investment approach, where he responded by explaining a mental model that he and his business partner Charlie Munger would use when selecting companies to invest in, called the Circle of Competence.

When asked about the circle of competence Warren Buffet would often use a baseball analogy to explain it. Where an average baseball player can appear exceptional by simply waiting for the right pitch.

In other words in most cases Warren and Charlie would find companies where they have an understanding and experience surrounding the industry which allows them to make an investment decision with a fair amount of competence.

By making sure they stay well within their circle of competence they're able to reduce the risk significantly by simply understanding what they're investing in.

Although this principle is used quite extensively by Warren and Charlie, it can also be used by you.

By simply reducing the amount of instruments you're watching and begin studying the ones you already understand, you automatically give yourself a unique edge while at the same time reduce your risk before you even take the trade.

So, as you move into the next and final quarter of the year, be sure to have a look at your watchlist and start refining it to a point where all you're looking at are instruments you understand and are well experienced in.

By doing this you'll be able to remain focused and stay in the zone for a lot longer, while all the more reduce your risk long before you even take the trade.