All traders and investors must learn position sizing so they don’t run the risk of ruin.
I have decided to post what I was writing on a forum recently after someone asked a few questions about diversification and the number of positions one should hold.

Traders should never risk more than 1% or 2% per trade. Some traders I know start by risking 5% of their account but will lower the risk after each successive loss. For example, they will drop the risk to 4% after a loss, then 3% if another loss occurs and so on until they are risking very little during a long term losing streak. I don’t trade this way but it may be a preference for some of you.

How do we Calculate Position Size?
We can determine how much to place on each trade by assuming a $100,000 account with 1% risk on each position. Using a basic trading approach (for example purposes only), we will place stops approximately 8% below the ideal entry area or pivot point. Please use more advanced methods for locating the ideal stop rather than a general 8% rule. Look for the ideal risk-to-reward setup based on recent support and resistance levels and set your stop and potential target accordingly.

Use and Download the Position Size Calculator I created in Excel.

$100,000 Account
1% Risk = $1,000
8% Stop Loss
Position Size will be $12,500
We calculate the position size by dividing the 1% risk by the 8% stop loss or $1000 / 8% = $12,500.

If the stock we are watching has an ideal entry of $50, we now know that we can buy 250 shares or $12,500 worth of stock. Our stop loss is $46 or 8% of $50 and our maximum loss is $1,000 of the original $100,000 portfolio.

So, why can’t we risk more per trade and obtain greater rewards?

Think about it: Even the best systems can and will have losing streaks of 10 or more (not often but it can happen). Historical testing shows us that profitable systems can and have lost 20 times in a row. If you are risking 5% or more without proper position sizing: YOU WILL BE TOAST! CLOSE TO DONE! Very hard to come back!

Fortunately, my longest losing streak ever was eight but I don’t day trade so my opportunity for longer losing streaks has been held in check. But, I have only been trading for 10 years so will assume that I will extend that streak one day (it’s the way the market works).

***EXAMPLES BELOW ARE SIMPLE AND THEORETICAL SO EVERYONE CAN FOLLOW FOR EDUCATIONAL PURPOSES ONLY***

• At 1% risk (good for accounts above six figures), it would take hundreds of losing trades to bring on ruin. You will risk 1% of total equity, not the $100,000. So, if you lose ten consecutive trades, you will still have approximately $90,000 minus slippage, trading fees and other commissions, etc… So at $90,000, your risk is now $900 maximum!
• Using 5% risk, your account will be below $60,000 capital from $100,000 after 10 consecutive losses. You now need to trade and make back 65% on your money to break even. Do you make 65% a year in the market now? Most people don’t.
• Ten losses at 1%; you are only down 12%. A very obtainable come back!
• Now, let’s look at 18 losing trades and 2 winning trades over a 20-trade period.
• Use 1% risk with trade #5 and trade #18 winning 4% and 7% respectively (all other trades losing 1%): ~$92,000 account (only down 8% with 18 losses and 2 small winners)
• At 5% risk with trade #5 and trade #18 winning 10% and 12% respectively (all other trades losing 5%): ~$48,000 account (I upped the winners but the account was slashed in half – you now need to make 100% to break even).
• You claim that 18 losses over 20 trades won’t happen! Well, I must say you are dreaming in lala-land because it happens to the best in the business.
• If you risked 5% and lost 20 consecutive times, you would be left with approximately $35,000. How long will it take you to break even?
• At 1% risk, 20 consecutive losses bring you down to $81,000 (a tough string of losses but you are still in the game)! A 25% account gain breaks you even.

Now, image what most people start with: $10,000 or less! And then add the fact that they don’t know or understand how to properly position size – they are usually broke within a few trades because they bet the house on every trade and then emotionally freeze when things go wrong, taking losses of 25%, 50% or greater!

Read more »

Investor’s Business Daily sister company, Daily Graphs, is running a free week to their premium tools over at investors.com. My favorite and most used tool is the Daily Graphs Custom Screen Wizard.

All Daily Screens on this blog come from one of the eight scans I developed and described in detail in the post: Fundamental Screens and Scans

So far, the two scans below have been giving us the most opportunities in the market.

1. Quality Stocks with a new IPO within the past two Years
This screen scans for high quality stocks that have debuted to the market with the past two years (IPO’s).

• Earnings Per Share (EPS) Rating: Greater than or equal to: 30
• Relative Price Strength (RS) Rating: Greater than or equal to: 30
• Market Capitalization (MM): Greater than or equal to: 100.0
• Current Price: Greater than or equal to: 10.000
• Current 50-Day Average Volume (1000): Greater than or equal to: 100
• IPO Date: After 2006

2. Institutional Sponsorship Increasing
This next screen looks for high quality stocks that have increasing institutional fund sponsorship from one quarter to the next. As you know, this is very important for any stocks I cover and then buy. Every case study on this blog includes detailed institutional sponsorship analysis.

• Earnings Per Share (EPS) Rating: From 60 to 99
• Relative Price Strength (RS) Rating: From 60 to 99
• % of the number of Mutual Funds Owning for Current Quarter vs. Prior Quarter: Greater than or equal to: 10%
• Stocks trading at new 52-Week High and Percentage price is below 52-Week High: From 0 to 15
• Current 50-Day Average Volume (1000): Greater than or equal to: 100

Enjoy the free week; the tools are excellent for all CANSLIM, swing, trend trading and buy-at-new-high investors.

Stock of the Day
Chart industries (GTLS)
Friday’s Opening Price: GTLS - $29.49

Sector: Industrial Goods
Industry: Metal Fabrication
52-week Price: $31.37 - $11.16

Chart Industries (GTLS) was first featured on June 13, 2007 at $23.05 as a Fresh IPO Idea. The stock had 121 institutional supporters at the time, a number that has increased 54% to 187 with a large influx of cash. Almost $500 million of shares have been purchased in the most recent quarter while only $65 million shares were sold, a sure sign of institutional accumulation. The number of shares held has doubled from 15.73 million in June to 31.82 million today.

This is the type of activity that I like to see in a young CANSLIM type growth stock that is currently building a cup shaped base after a prior uptrend. It has been making recent daily screens and is currently on the top of my potential buy list. I don’t own shares as I write this analysis but I will be looking for a handle formation to jump into a position. The ideal trade setup is located below with proper position sizing and risk-to-reward margins based on a moving average (swing) trade (not a cup with handle because a handle hasn’t formed).

GTLS was Featured in these posts in June 2007:
6/13/07: Fresh IPO Ideas, GTLS – Chart Industries Inc. - $23.05
6/20/07: Young Guns Taking Off, GTLS - $24.73

Institutional Analysis:
Total Institutions: 187
Money Market: 97
Mutual Fund: 85
Other: 5

New Positions: 86
Positions Sold: 13
Shares Held: 31.82 mil
Shares Held Previous Period: 15.59 mil

Shares Bought: 18.75 mil
Shares Sold: 2.51 mil
Value of Shares Bought: $486.9 mil
Value of Shares Sold: 65.2 mil

Top Institutional holders; Shares Held:
Capital Research and Management Company; 2,266,400
Gendell, Jeffrey L.; 1,686,400
Delta Partners LLC; 1,629,840
Smallcap World Fund; 1,613,500
Neuberger Berman, LLC; 1,318,500

Potential Trade Set-up (moving average setup – not cup w/ handle):
Ideal Entry: $28.00
Risk is set at 1.0% maximum of total portfolio or $1,000 of $100k
Stop Loss is % or $25.76
Number of Shares: 446
Position Size is $12,500
Risk is $2.24
Target is $38
Risk-to-Reward is 4.46-to-1

*The target is an educational guess based on the depth of the cup shaped pattern*
Read more »

Haven’t you noticed that everyone that tells you the markets are efficient are not traders, they don’t invest and are not wealthy.

This is not meant to poke fun at anyone in particular, especially based on economic class, but I would like to set the record straight as to why we all have proof that the markets are inefficient. Markets are not random.

While reading market wizards on a train last night, I once again enjoyed the Larry Hite, Ed Seykota and Michael Marcus interviews which inspired me to write this post. Market Wizards are the best books to bring on short trips, doctor office visits and anywhere else you don’t need to concentrate but gain great insight.

Larry Hite Notes (points below from his interview):
*Larry Hite started Mint Investment Management Company in the 1980’s and averaged an annual compounded return of over 30 percent starting in 1981 (data from time of published book in mid-1988). They began with $2 million in 1981 and managed over $800 million in mid 1988, a very large sum for a futures fund in the late 1980’s. The size of the fund didn’t hinder the consistent results either, making it all the more impressive.* - the original Market Wizards book

Academia (and the like) claim that markets are efficient and argue that if a person or firm can develop a winning system on a computer, so could others, and we would all cancel each other out.

So what’s wrong with this logical argument?

• Well, people develop these systems and people will ALWAYS make mistakes.
• Some will alter their system and jump from system to system as each one has a losing period.
• Others will be unable to resist second-guessing the trading signals

People will never change as human psychology always stays the same, therefore, patterns will exist and the markets will never be random.

Can you argue that people change? You can’t! Examples:

• Tulip craze in Holland in 1637: they sold for 5,500 florins and then crashed to 50, a 99 percent loss
• Crash of 1929, stocks such as Air Reduction traded as high as $233 but then fell to $31, a decline of 87%
• Texas Instruments traded as high as $207 in 1961 but dropped below $50, a 77 percent loss.
• Silver shot as high as $50 in 1980 but fell 90 percent to $5
• During the bubble bust of 2000, stocks such as Cisco (CSCO) reached a peak of $82 but fell to $8.12 for a loss of 90%.

You should be getting the point by now: Humans will NEVER change and markets will form patterns and form booms and bust forever! We (the mass majority) don’t learn from the past because we didn’t live in the past so we will always make the same emotional mistakes regardless of the technological advances in trading.

If markets were efficient, no one and I mean NO ONE could sustain consistent returns in the market year after year. Traders such as Hite, Seykota, Marcus and others would have never been able to make returns of 30% or greater for extensive periods of time (20+ years in some cases). If we were trading random markets, a new master trader would prevail each year, leaving the others to random chances for success. It would be a crap shoot and expectancy would be thrown out the window because nothing would be consistent.

Markets will change but people never will!

I now leave you will some additional quotes from Larry Hite:
“What makes this business so fabulous is that while you may not know what will happen tomorrow, you can have a very good idea what will happen over the long run”

“If you never bet your lifestyle, from a trading standpoint, nothing bad will ever happen to you”

“If you know what the worst possible outcome is, it gives you tremendous freedom. The truth is that, while you can’t quantify reward, you can quantify risk”

“You can lose money even on a good bet (trade). If the odds on a bet are 50/50 and the payoff is $2 versus a $1 risk, that is a good bet even if you lose”

“It is incredible how rich you can get by not being perfect”

“Anyone can sit down and devise a perfect system for the past”

It was a strong day for the young growth stocks of the market. Some of the same stocks will continuously make my daily screens but that is the point as they are clearly the leaders. These are the stocks you want to buy, riding higher instead of bottom feeding on the garbage.

My highlight stock is Baidu.com (BIDU) as it made another new all-time high and is up 119% on the blog since late April. Stocks making new highs typically go on to make higher highs. It’s such a simple rule and a very profitable system during strong markets but the majority of people prefer buying stocks making new lows. I’ll never understand some people (consistent losers) as the entire CANSLIM philosophy made sense since the first day I read about it on the Jersey shore almost 10 years ago.

Highlight Stock: Making New Highs:

• (BIDU) – 227.04, Baidu.com was first highlighted in a big way on April 25, 2007 in Baidu.com (BIDU) buy Opportunity and BIDU Stock Analysis. BIDU was trading at $103.50 with a short term target of $118 and a higher target of $130+. Recent buy opportunities have appeared above $170 or at the 50-d m.a.

Interesting Stocks: Recent IPOs Making a Move:

• (TSL) – 49.99, Trina Solar had a great run earlier in the year but is currently correcting from its all-time high. Support holds above $38 which is also the ideal entry area on pullbacks. The higher peak highs and higher valley lows are encouraging. A recovery of the 50-d m.a. is also a short term entry signal.
• (CMG) – 103.63, Chipotle is within striking distance of a new all-time high as it continues to ride along the 50-d m.a. Watch the gap-up near $90 as this will be the consolidation area if the stock breaks lower.
• (MA) – 132.17, Mastercard is correcting and touching the 200-d m.a. for the first time since the line formed. As one of my big winners this year in my own portfolio, I still consider it a watch if it can hold the long term moving average support. Please note that I took down my position in July at precisely the correct point as noted here: Taking Partial Profits
• (CPLA) – 50.62, I never performed a case study on the stock but I should have several times as it has clearly been a winner since the start of the New Year. Short term entries can be made at or slightly below the 50-d m.a. with tight stops
• (SNCR) – 36.09, Synchronoss was up 4.22% today and 12.71% for the week on above average volume.
• (EHTH) – 24.69, up 5.31% since I posted the breakout on yesterday’s daily screen. The stock is up 11.47% on above average volume and heading towards new all-time highs. The pivot point was $22.60.
• (GTLS) – 28.85, continuing to build the nine week cup shaped pattern as it recovered the 50-d m.a. this week. Large support sits below $25 on the P&F chart
• (EDU) – 55.72, New Oriental is moving higher with short term support above the 50-d m.a. while trading within $4 of all-time highs.
• (VE) – 77.11, Veolia is currently correcting consolidating and trading along the 200-d m.a. while offering a solid buying opportunity (risk-to-reward). *Not an IPO stock*

Detailed descriptions of each screen can be found through this link:
Fundamental Screens and Scans

This is NOT a buy list, please buy and sell at your own risk!