FAP Turbo

Make Over 90% Winning Trades Now!

Thursday, April 2, 2009

Stock Trading Strategy: Pyramid Your profits!

By Jordan Weir

We've all heard the age old adage, cut your losses short, and let your profits ride. Yet the vast majority of traders don't use this concept to its fullest. The proper application of this single, pivotal piece of advice can be the difference between showing a profit at the end of the month, and showing a loss. This method is known as pyramiding your profits.

In order to properly pyramid your profits, you must understand a basic tenant of risk management. This tenant alone is enough to bring many an unprofitable trader to profitability, but only once combined with the idea of pyramiding profits, can its true utility be realized. This tenant states that no more then 5% of your portfolio should be at risk during any trade. Thus someone with a $50000 portfolio can risk $2500 on a trade. This doesnt mean they cant invest more then $2500, but it means that when setting a stop loss, your initial position size should be based on the $2500 number.

So if a company is trading at $20 per share, and our stop loss is at $17.50, we can lose $2.50 per share by buying. If were willing to lose no more then $2500, then $2500/$2.50 = 1000 shares. So we should purchase 1000 shares for this trade.

With your standard trade, that would be hit. An order to sell at a certain price, and order to buy at a certain price, and a stop loss. When your pyramiding your profits though, there's an integral extra step. When the stock has gone up in price, and you have some profits, you add MORE to the position. Lets say it goes up to $22.50, and you decide to move your stop loss up to $21.00. You now have 1000 in gains if you get stopped out. To pyramid your profits, you add that 1000 in gains to your risk amount for the trade, for a total of $3500. Since its now at 22.50, and we can risk up to $3500, then we should purchase another 2300 shares. (3500/1.5 = 2334).

Now lets analyze your position for a second. You bought 1000 shares at 20, and 2300 at 22.50. If it goes to 25, then you made $5000 on the original 1000 shares, and another $5750 on the second set of 2300 shares. If it goes down to your stop at 21, then you made $1000 on the original 1000 shares, and lost $3450 on the second set of $2300 shares, for an overall loss of $2450 (about the same as the risk you were willing to take on). The same idea can be applied to shorting stock as well. Just remember " add to your position as you become profitable, but keep your maximum loss relatively constant factoring in the unrealized gains.

Yet the applications of this strategy are important not just for the short term trader; it can be used by long term investors as well. Assuming its an up trending stock, long term investors would be well served to start with smaller positions, with a stoploss, and essentially add to the position on breakouts. This allows you to profit from the frequent megatrends in the market, while being taken out of the market if it begins going against you.

The interesting thing about this strategy is while its almost the opposite of some conventional wisdom " you never go broke taking a profit " it does strongly adhere to the idea of cutting losses short and letting profits run. The key is to do more of whats working, and less of what isn't, and that's exactly what this kind of trade accomplishes.

The key to success in trading is to have big gains, and small losses. By doing so, you can be wrong half the time, and still make money in the market. By pyramiding your profits, you insure big gains and small losses. Using this stock trading strategy, you can truly cut your losses short, and let your profits run. - 23208

About the Author:

0 Comments:

Post a Comment

Subscribe to Post Comments [Atom]

<< Home