An incredible thing happened in early 2000... We hit the trailing stop on every stock in our portfolio...  It felt terrible to have all of my recommended stocks fall by 25%. But in hindsight, selling at that point was absolutely the right thing to do... The Nasdaq index lost three-quarters of its value in a very short time. While the Nasdaq was tanking, our trailing stops were forcing us to pocket gains... some of which were over 100%. One stock was up over 1,000% before it fell 25% and stopped us out. I was writing the investment letter for the Oxford Club back then, with more than 40,000 subscribers. In 2001, I started my own letter, True Wealth, and handed the reins of theOxford Club letter over to Alex Green.  Alex has done a spectacular job. Out of hundreds of investment newsletters, the Oxford Club's letter ranks near the top of the Hulbert ratings for five-year risk-adjusted returns. And last year, once again, the Oxford Club saw all of its stocks hit their stops.  I recently asked Alex about the terrible market of 2008 and if trailing stops saved him. Here's what he told me...

Would you take this bet? 

 

Flip a coin. If you win, then you double your money. If you lose, then you lose a quarter of your money. 

 

Well, who wouldn't take that bet? That's what you're doing when you use a 25% trailing stop.

 

Everything revolves around this idea: You have unlimited upside potential when you buy a stock. And you have limited downside risk if you use a trailing stop. 

 

If you've got a winner, you ride it for what its worth. And if you have something that doesn't work out, you don't make excuses. You don't say, "It's going to bounce back eventually." You get rid of it.

 

I often compare it to trying to raise a prize-winning rose garden... You want to tend to the roses that are your winners and weed out everything that looks weedy. What are you left with? A bouquet of roses... all winners.

 

In the five-year market that preceded the top in October '07, we kept adding stocks every month in the Oxford Club. We were in a rising market and had good stocks. 

 

When the market started coming down, we got knocked out of everything. At one point, we were left with nothing in the portfolio at all. 

 

We had a number of losers, but we had a lot of big winners... a number of triple-digit gainers. Overall, taking every single trade, we stopped out of 45 positions. We earned a 28% average return in a year when the market was down 38%.

 

The beautiful thing is, just like everyone else, we didn't know when the market was going to peak, or how far it was going to drop, or how much carnage there was going to be. 

 

But you don't have to know... because the trailing stops are an unemotional discipline that keeps you in there doing what you should do. And that's riding your stocks up when they're trending up and getting the heck out of 'em when they start trending down.

Twice in the last decade, the Oxford Club ended up stopping out of every one of its stocks. In both cases, it was absolutely the right thing to do: Virtually every stock that stropped out ended up a lot lower. Now, these were extreme situations... but the power of trailing stops should be obvious. Do you trim your roses and let the weeds fester? Or do you use trailing stops... so you can trim your weeds and let your roses prosper?  You never know how far the market can fall. To keep the odds in your favor... to have unlimited upside potential and limited downside risk... you must use trailing stops. Good investing, Steve  P.S. If you're not sure what a trailing stop is, or how it works, read my essay on The Most Important Law of Lasting Wealth. If you already use trailing stops, and are looking for an easy way to keep track of them, check out TradeStops, which will send you an e-mail when a stop is hit. With TradeStops, it couldn't be easier to track your stops... for the details, click here.  Editor's note: Steve Sjuggerud is a regular contributor to DailyWealth, a free investment newsletter focused on the world's best contrarian opportunities. We write with a simple belief in mind: You don't have to take big risks to make big money with your investments.  Sign up today to read more investment ideas from Steve Sjuggerud.