Sunday, September 2, 2007

How to Add Shares to a Profitable Position

Say you have a stock in your portfolio that is up 30% and it forms a base or consolidates to a moving average, and you want to add to this position. How would you go about doing this?

There are a few ways that I have approached this situation. Some of you may agree and some of you may disagree with the way I pyramid or scale my positions when they are in confirmed up-trends after my original entry. When the market is weak and the NH-NL ratio is not confirming a bull market such as 2005 and 2006, I am cautious when I enter a position making a new high. Hypothetically speaking, I will use a $100,000 portfolio and round numbers to keep the examples simple although the CBG position explained in detail is based on a true position.

If I start to research a stock and feel it will travel from $60 to $100, I will determine the maximum position I can assume from a simple position sizing calculation. If I determine I can handle an 8% drop, I am allowed to purchase 208 shares at $60 per share (Ill typically round it off to 200 shares in this situation). My position size will be $12,500 with a maximum drawdown risk of $1,000 or 1% of my entire portfolio. My stop will be located at $55.20 or slightly beneath a specific support area that is within 8% of my purchase price. If the stock is breaking out of a specific pattern such as a cup with handle, I will buy half my position at the time of breakout and the other half after the trend is confirmed several days later.

If the stock is in a solid up-trend and not in a recognizable pattern, I will typically purchase 2/3rd of the position when I see the opportunity and then follow up with the remaining 1/3rd of the position at the time of the next pullback (only after the stock reaches a minimum gain of 25%).

Other times, when the market is acting healthy and the NH-NL ratio is strong, I will initiate the entire position based on my original 1% position sizing model and reassess the situation at a later date. Using a recent example, I added shares to CBG when it consolidated in the $40s and then readjusted my position sizing model to 1.5% (the math can become tricky at this point since the price has changed and my portfolio value is different). I have never gotten into this much detail in a simple blog post but I guess now is better than ever. This method is my own so you will not find it anywhere else and it may or may not appeal to everyone.

The following is a true example using actual stock prices but the portfolio size has been altered to keep the calculations simple and to keep my own activity discreet.

When I first purchased CBG, I took on the entire 1% portfolio risk and wasnt sure if I would ever add shares in the future (this wasnt my concern at the time). I liked the stock and thought the 15 week pattern that preceded my buy was picture perfect (especially since the correction was due after the prior up-trend from the IPO date). I placed a market order on June 1, 2005 at $38.97 for the entire risk amount of 1%. The stock was already under coverage on the MSW Index since May 21, 2005 at $37.20 but I was looking for a break above $39. I used the calculation of $39 which gave me the purchasing power of $12,500 or 321 shares (my order was filled for 320 shares at $38.97 = $12,470). After I placed the position, the stock immediately reversed but I stayed put as it didnt violate any sell signals and then watched as it quickly advanced into the $40 range and approached $50. The stock consolidated over the next three months as I held the position and started to cover it more heavily on the MSW Index with a new purchase price of $50. The resistance line was touched several times so I decided that I was going to add shares if the stock broke-out above $50 with confirming volume.

As it turns out, I did add shares when the stock started to form the obvious consolidation during the fall of 2005. I added shares on November 2, 2005 at $52.68 (a little higher than I wanted but it was an extremely powerful move that day). The stock hesitated slightly over the next several days but never violated the new support line of $50. Within six weeks the stock moved towards $60 per share and I felt very comfortable. So, how many shares did I buy and how did I determine the size of my additional position? When pyramiding up, I have always been taught by my father to take on a smaller position than the original purchase. In this case, my portfolio had grown by about 10% since the summer so I decided that I could take on another 0.5% risk in CBG (a total risk of 1.5% - my maximum risk in any one stock caps at 2% of my entire portfolio). When running the new calculation, I had a portfolio size of $110,000 (hypothetical value) with a 1.5% risk factor or $1,650 risk on the entire position.

I used a price of $50 with a risk factor of 0.5% (half of 1%) with a stop of 8% (typical for my calculations) which gave me the purchasing power of $6,875 or 138 shares. I bought an additional 130 shares and added them to my original position of 320 shares for a total of 450 shares and a total cost of $19,318.80 (minus all fees, etc). Now, take a look at how this works (it doesnt work perfectly every time but this time I kept the numbers round): Using the position sizing calculator; plug in a portfolio value of $110,000, a risk of 1.5%, stop loss of 8% and an average cost basis of $45.83 (($38.97+$52.68)/2). What do you get? Amazing: a position size of $20,625 or 450 shares. I currently hold 450 shares with a dollar value slightly lower ($19,318.80) than the maximum calculation in this equation.

The support line is $50 but the stock went on to maintain the 50-day moving average as the true support line heading into 2006. I have not sold one share in this company as I approach one year of holding the stock from the original date of purchase. I will not base my sell on anything but my stop which currently resides slightly below the 50-day moving average. I have a tremendous gain in this stock and I owe it to two things: CANSLIM for finding the actual stock (strong earnings and a recognizable pattern setup) and position sizing for giving me the right amount of shares to purchase. By using the moving average and a retracement stop calculation, I know the exact location to take my profit. Also note that I will most likely scale out of the position if it starts to consolidate in a new range. This is a topic for another day! I always start with a 1% risk factor but will raise my risk factor to 1.5% or even 2% in rare situations when things are working out and I am placing good money after a profitable trade. Again, this is my own personal method so I advise that each individual use what works best for their own portfolio and test several scenarios.

Chris Perruna - Market Talk with Piranha

Chris is the founder and president of, an internet community that teaches you how to invest your money with solid rules. We offer an extended no obligation monthly trial period starting immediately with two free weeks. We don't stop at just showing you our daily and weekly screens, we teach you how to make you own screens through education. Through our philosophy, you will be able to create your own methods and styles to become successful.

The Art of Contrary Thinking - You Need to know it to Trade Successfully!

The art of contrary thinking is one of the most powerful tools a trader can use, and is a trait with which all true great traders are familiar.

What is the Art of Contrary Thinking?

The art of contrary thinking consists in training your mind to ruminate in directions opposite to general public opinions; but basing your opinion in the light of current events and human behaviour.

Humphrey Neills book, "the art of contrary thinking, the best known work on the subject, is based on the simple yet powerful idea that:

"When everybody thinks alike, everybody is likely to be wrong"

Why Contrary Trading Works

By spotting situations when the consensus is either extremely bullish or bearish, then a trend change is imminent, as it is likely the emotions of greed and fear have pushed prices too far away from true value.

This is evident in such events as the 1987 stock market crash.

Here we have a short-term, self-fulfilling prophecy. When the change occurred, everyone changed his or her mind at once, causing a huge move.

Of course, if you can step aside from the crowd and take a contrary view at these turning points you can make big profits.

Why Contrary Thinking will always be Valid

While Humphrey Neil's work, "the art of contrary thinking, (published in 1954), is the most famous book on the subject, there existed a century earlier a book on contrary thinking.

Charles MacKays book, "Extraordinary Popular Delusions and the Madness of Crowds, (published in 1854), covered three important financial crashes:

he tulip mania, the Mississippi madness, and the south sea bubble. He reflected upon how investors always pushed prices too far when caught in a consensus:

"Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one."

It is clear that to succeed in trading you need to think independently of the majority at important market turning points.

Becoming a Contrary Trader

Gann was one of the greatest traders and traded in the early 20th century. He realized that human nature would always mean that you had to think independently of the crowd to succeed.

We cannot escape it (emotion). In the future, it will cause another panic in stocks. When it comes, both traders and investors will sell stocks, as usual, after it is too late, or in the latter stages of a bear market.

He was aware that human nature was constant and influenced the majority of traders:

Therefore, in order to make a success, the trader must act in a way to overcome the weak points that have caused the ruin of others

How to Predict a Major Change

Gann was not just a writer; he was a successful trader and had an extraordinary record of accomplishment in the stock market, for example:

Gann used to publish a forecast for the following year. In 1928 he published a forecast which predicted the date of the September 1929 US Stock Market High, and that a Black Friday would occur, a year in advance of the actual events.

In 1932, he also recommended buying stocks at the all time low in the Dow in June and July.

Gann was one of the most successful stock market investors ever, and developed a strategy to set him apart form the crowd, and simply let market action indicate where prices were going.

To learn more about using Gann methods to improve your trading performance please visit our web site: