The sun is out and I’m just back from my holiday,s so feeling a little playful (my definition of ‘playful’ is reason number 28) so I thought to bring some joy (#79) to your lives by addressing a bugbear of mine.

Downside protection is so vitally important, because if a stock falls by one third 33.333 … % it needs to rise by 50% to recover your loses and if it falls by 50% it needs to double.

Don’t get me wrong, downside protection **IS** very important , I spend a lot of time on the subject (#44), but the above statements are a trick, a mathematical gimmick.

It is a matter of convention that we measure the percentage change in something by taking the difference between the new value and the old value and dividing by the old value – it is so ingrained in our minds that we don’t even think about it.

But, just suppose that convention had taken another path and we routinely described percentage change with  reference to the new value not the old one.

Instead of a movement of 100 to 50 being described as -50% [ (50-100) /100 ] it would be -100% [ (50-100)/50 ] and the change needed to reverse such a move would be +50% [ (100-50) /100 ] and not +100% [ (100-50)/50 ].

Anyway if you are still with me and have not yet gouged your eyes out; the point I am addressing is that the quotes above are usually used to infer that a large fall is very difficult to recover.  I would argue that nothing is further from the truth – “the market” zig-zags upwards over time (although past performance is no guarantee of the future) and it doubles far more frequently than it halves.

Now  I do not want to mislead; if a single stock falls by a substantial amount then you do need to consider very seriously whether it is fatally wounded and how strong the case for recovery is. “Catching falling knives” is not a great hobby and what goes down, often goes down more.

Also we all KNOW that the modern economy is so disrupted that reversion to mean no longer works.

DO WE? Is the internet really more disruptive than the Spinning Jenny? (This is reason number 2 and you really, really,…

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