PEOPLE LIKE TO ASK ME

questions about the markets, whether I'm appearing on

or gabbing at a cocktail party. Is Dow 7000 cheap, or are we heading for a capitulation low? Is it time to buy tech stocks like

Oracle

Cisco

Here's the thing: It doesn't really matter what I think. It matters what they think.

As we've pointed out before, good trading is built more on sober technique than hot stock tips. Investors must be confident enough to take a position, yet humble enough to abandon it just the same. After all, the market is constantly changing, and no matter how good our analysis might be, we can always be wrong. Whether you're Abby Joseph Cohen or Ms. Cleo, the future is always unknowable and largely out of our control.

But while we can't change the market, we can alter our position within it. And I can't stress enough that the most important aspect of any trading decision is never the condition of the market, but rather that of your own position. For active managers not content to buy and hope, the trick is to be constantly moving toward a position of strength, both within an individual trade and within the marketplace at large. Just like basketball, chess or any other activity that requires focus, you know you're in the "zone" of trading when you start playing for position, not for points.

As tough as it may be, tear open your account statements and evaluate your exposure. Take a good look at each position and how it relates to your current market outlook. If there's deadwood, cut it away. If there are promising buds on appropriately sized branches, let them be.

Of course, your biggest strength should be psychological. You must analyze your overall financial position, which has undoubtedly changed over the last couple of years, and ask yourself some tough questions. What are your assets and liabilities? What are your obligations and responsibilities? In short, just how much risk can you really afford to take? As I wrote last week, the best "big picture" position to be in is that of having ample savings and no debt. You should trade because you want to, not because you have to.

Within your portfolio, one way to ensure a position of strength at all times is to have ample cash on hand to pursue new opportunities as they arise. From a trader's perspective, sometimes the best move is no move at all. As I wrote a few months back, it takes only one or two good ideas a year to make money. Despite the intense psychological need to be fully invested, you shouldn't be afraid to sit and wait for the specific risks you truly want to assume. After all, you can't harvest a garden if you've already squandered all your seeds.

Another way of moving toward a position of strength is to stop sitting on huge losing positions, waiting week after week for them to "come back." As we started writing more than a year ago, when it comes to trading, the mathematics of the underdog simply don't work out. You must prune your portfolio and evaluate your current top picks, not those you liked back when Bill Clinton was president. Losses are a fact of life for every trader, but sitting on them for months on end isn't just a financial loss, but an opportunity cost as well.

A final technique for moving your portfolio toward a position of strength is to look at your liquidity. Although I'm in favor of finding risk in less liquid names, when it comes to strengthening your portfolio's internals, a good general step is to sell your least liquid holdings first.

As anyone who has ever traded small-cap stocks or listed options knows, liquidity can be your greatest friend or your worst nightmare. When an illiquid stock or security moves, it really moves. If you're on the wrong side of the trade, getting out can be annoying, expensive or just plain impossible. So when it's time to head for the hills, don't hide in short options or penny stocks. Seek deep cover.

It's the real trading lesson of Long-Term Capital Management, beautifully documented in Nicholas Dunbar's excellent book, "Inventing Money." As Nobel Laureate and LTCM principal Myron Scholes observed, "There's always a tendency to reduce or sell your more liquid securities first. [But] if things go against you, then you're left with the more illiquid securities...that's a very bad strategy indeed."

Trading is very much a game of financial Darwinism, in which only the strong survive. Even if you don't change your portfolio daily, you should constantly be steering it toward a position of strength.

Jonathan Hoenig is portfolio manager at Capitalistpig Asset Management, a Chicago-based hedge fund. At the time of writing, Hoeing's fund may have positions in the securities mentioned in this article.