The Smart Way To Reach A Winning Position.
When you are about to jump in the pool, do you jump with both feet? or Do you test the water no matter how hot it is outside? The same applies to investing, when buying a stock, no matter how attractive in it’s fundamentals and valuation, we still need to “test the waters”.
A smart way to invest, is to divide our position into three parts. Let’s say we want to buy 100 shares of SWFT (a transportation company) at $14 or use $1,400 of our portfolio to buy it.
We do our homework and find out the stock has strong fundamentals and is extremely undervalued, according to our research. But do we know in what direction the stock is going? Are we willing to risk a loss of all our capital? An easy way to reduce our risk is by pyramiding your investments. Start small and escalate your way into your total position.
Let’s say we don’t pyramid and we buy SWFT at $14, after a week it dropped down to $13 or %7.69, we just lost $107 as opposed to losing $53 if we would’ve started with half of our position.
Pyramiding is a way to reduce your risk and allows you to build your position SMARTER.
Effective strategy to start pyramiding in your investments:
First: You start with 1/2 of your position in this case we would buy 50 shares of SWFT at $14.
Second: If the stock drops down or goes up between 2-3% we buy 30% of our 100 shares, in this case we buy 30 shares of SWFT at $13.50. Notice it can also go up 2-3% and we can also perform our BUY.
Third: We buy the remaining 20% of our position only if the stock has risen 4-5% from our first position, this proves the stock has the ability to go up even higher.
Here is an example of SWFT and it’s entry levels.
The Bottom Line:
Pyramiding your investments is the smartest way to reach your desired position, leveraging the risk that buying a company’s stock brings. Pyramiding let’s you “test the waters” before jumping into the uncertain science that is the stock market and it’s fluctuations. Remember to keep a cold head when it comes to investing and stick to your strategy to start seeing some profit.
“It’s not whether you’re right or wrong that’s important, but how much money you make when you’re right and how much you lose when you’re wrong.”
— George Soros
You may like: Warren Buffet’s Investment Joke
Let us know how do you feel about pyramid investing in a comment!