The mantra of TradeSmith and the TradeStops team is “Make More. Risk Less”. All of the tools in TradeStops were developed with this one goal in mind.
The Risk Rebalancer is a powerful ally to help you make more and risk less.
This tool allows you to bring in a portfolio of stocks and then automatically equalize the dollar risk in each position.
Our research conclusively demonstrates that equalizing dollar risk, as opposed to investing the same dollar amount in each stock, is the best way to invest money for the long run.
Here’s an example. The usual way of investing calls for you to invest the same amount of money in each stock. So, for this example, let’s look at what happens if we invest $5000 into an oil stock and a gold miner stock. We’ll use XOM and ABX for this.
To find the amount of risk we’re taking in each position, go to the “Research” tab at the top of the TradeStops site and then click on the “Magic Calculator”.
Here’s a $5000 investment in XOM.
As you can see, a $5000 investment in XOM has a normal risk of $745.44. That is based on the relatively low volatility of XOM as measured by the TradeStops’ Volatility Quotient.
Now, here’s the same $5000 investment in ABX.
The normal risk in ABX is $1974.25 – more than double that of XOM! This is because the VQ% is over 39%.
If you were to invest $10,000 into these two stocks the way that most on Wall Street suggest, it would look like this. And we are taking more than $2700 in risk if we invest this way.
Using the Risk Rebalancer to equalize the actual dollar risk in these two stocks, the outcome is noticeably different.
The portfolio now has about $7200 invested in XOM, the stock with the lower volatility. And only about $2700 is invested in ABX, the stock with the higher volatility. The risk per position is now only $1085.
By using equalized dollar risk, we have dropped the amount of risk we’re taking from $2725 to only $2170. This is a difference of $555….in your favor!
Now, let’s go one step further. We know that we’re taking $1085 risk in each of these two positions. Let’s add another stock to the mix.
Easy, just go to the “Position Size Calculator” that’s next to the “Magic Calculator” and plug in the numbers.
And after pressing the “Calculate” button, here are the results.
In order to have equalized dollar risk in AAPL, we can buy 53 shares.
It’s that easy. Being a successful investor is not about making a killing on one or two trades. As TradeSmith says, a successful investor is about staying in the game for the long run.
Equalizing the dollar risk per position is the best way to stay in the game for the long run.
Tom Meyer, Services, Membership