subject: How to Buy Stocks Managing Risk [print this page] How to Buy Stocks Managing Risk How to Buy Stocks Managing Risk
This is a question that all investor must answer before buying any security. How to buy stocks with better chances to succeed, meaning managing risk not gambling is what we should consider as our first tool to raise our money. Every investor must learn how to walk before they can run (that's how humans work dont we?). This article exposes some general principles that should be considered in your investing methodology. In a volatile market we should be more cautious and return to the basics.
The price of a security depends on too many factors; the media, global concerns, the FED, market sentiment, etc. There are too many to enumerate. That's why these general guidelines on how to buy stocks managing risk can help you with your investing performance.
General guidelines on how to buy stocks:
1. Where to find ideas? There are a lot of sources of ideas in the web; follow those sources that you consider honest, objective and most important accountable (if they make a mistake they should say it clearly). Peter Lynch popularized the saying "buy what you know" you should understand what the business does to generate earnings and if in your opinion and in the opinion of others (analysts) sustainable?
2. Check the company's sector by watching the price performance for no less than 2 year in a weekly chart (it depends on your investing style). Could you define clearly what the long run trend is? , up?, down?, sideways?, etc. If you divide your graph in 4 parts is the price in the top right quadrant? or in the right bottom quadrant? If the sector is in a trend, there is a very high probability that your stock is in the same trend. If the sector is out of favor by big marketers your stock has limited chances to do well. You can check the sector of your company by studying indices that mimics a basket of different stocks in the same sector. You could use the S&P 500 Select Sector SPDRs. There are many of them, get familiar with them, their ticker symbols are Financials (XLF), Technology (XLK), Industrials (XLI), Materials (XLB), Energy (XLE), Consumer Staples (XLP), Health Care (XLV), Utilities (XLU) and Consumer Discretionary (XLY) been the most commonly used.
3. Watch the weekly chart of your stock, consider if the 200dma and 50dma has been relevant at some points in the trend. Try to determine if it has established a pattern and try to keep it simple. Complex chart patterns are hard to predict and hard to find. Remember that crossovers of the 50dma over the 200dma or the 20dma over the 50dma are bullish signs that confirm your analysis of the price action.
4. If you like the weekly chart, try to research the company's fundamentals, the ones you consider important. If you don't know what to look at, check what the media is saying on your stock and the target price the analysts are setting as the retail price (fair price).
5. If you are determined to buy the stock, continue the process by watching the daily chart. Try to establish what the trend is (short time trend) if you are looking for buy the security watch if it is making higher highs and higher lows don't fight the trend remember the old saying "the trend is your friend".
6. It is important to try to buy as close to support as you can, don't try to buy near resistances. Confirm the trend buy waiting that the price do what you want to do, nobody can predict exact tops and the exact bottoms.
7. Use stops when you trade. Many professional marketers say that the stops are a way for your broker to trick you to make more transactions and therefore more income for them. Another common mistake is to think that stops are for beginners, fools, or just for little guys (retail investors). Think of them as a tool to prevent further losses and to keep away the emotions which most of the times are responsible for bigger losses. Try to set your stops (when ever is possible) under relevant key resistances like moving averages, clearly defined trend lines or intraday lows in order to define your risk.
8. Watch your positions periodically but not too often. When you monitor the price action on your screen on every moment your sentiments, fear mostly, will make you take the wrong actions. Remember that in this case we are using the Daily chart to try to find a good entrance, which means that we are using the closing price to define what to do. That said, in this time frame the most reasonable time to watch your positions is at the closing time and if your trade turns the other way you have your stop in place to protect you from bigger losses.
