Last week I got back the first batch of results from some very important research. We put together a group of 40 different real-life portfolios – real buy and sell data from real investors.
I asked my team to back-test all of our different strategies against these portfolios to see which of our tools made the biggest difference.
I’m happy to report that the full suite of tools that we offer at TradeStops Pro made the overall biggest impact but I was amazed to see that there was one piece of the puzzle that drove performance more than anything else – volatility based position sizing.
Over the years, I’ve come to be known as “the trailing stops guy.” I’m proud of that. Trailing stops are a huge driver of improved investment performance for most investors. As I’ve said many times before, the core benefit of trailing stops is that they help us overcome our “loss-aversion” bias. If you don’t know what loss-aversion is by now, google it now. (Wow – I can’t believe I just used “google” as a verb!)
What caught me by surprise, however, was how consistently my VQ% position sizing algorithm improved performance. If you only ever pay attention to one thing that I have to say, this is it – use VQ% position sizing.
I’ll share the research results with you in a minute but first I want to immediately show you how to do this in TradeStops today. You can do this in all levels of our service.
- Go to the Research section of TradeStops.com and click on Position Size:
- Fill out the form. Here’s an example on ADBE:
- Click Calculate.
The output tells you that based on a $1,000 risk, you can buy 67 shares of ADBE at the entry price you entered above ($83.99) for a total investment size of $5,627.33.
There are 2 really important points to note here:
- How much money are you willing to risk? By default, this should be about 1% of your investable assets. So on a $100,000 portfolio that would be $1,000. (For higher conviction positions you might even decide to risk 2% or more.)
- What is your exit strategy? This is important – here you need to leave the default selection of VQ% … even if you’re using a different stop loss strategy!
(For you quant types out there … the current VQ% on ADBE is 17.65%. It’s a medium (15% – 25%) volatility stock. If you take your $1,000 risk and divide it by 17.65%, you get $5,665.72. At the latest ADBE close of $83.99, you can buy 67 shares for a total position size of $5,627.33.)
This simple strategy improved performance in 25 of the 40 portfolios that we studied and it improved the average returns from 6.65% to 11.96%. That’s nearly double the original performance!
Why does this strategy work? Because it helps you to invest more money into your less-volatile and safer stocks and to invest less money in your more volatile and more speculative stocks. In short, you can still enjoy swinging for the fences but just make sure if you strike out, it doesn’t cost you too much.
Truly, there is no simpler way to put the odds of success in your favor than using our Position Size calculator exactly how I have described it above. The numbers prove it.
Just do it.
As far as I’m concerned, the markets continue to flop around at the Orange threat level we’ve been discussing the past few weeks. Here’s the latest on the S&P 500:
One of the critical drivers of the market’s destiny, in my opinion, is the fate of the US dollar. It went on a massive run from mid-2014 to mid-2015 (which our algorithms nailed, by the way) before stopping out around May of 2015. Here’s the chart:
Since that time, the US dollar index has been sideways between 93 and 98. Whichever way this eventually breaks will likely have a huge impact on the direction of the stock market. If it continues to rise, it will put pressure on stocks. If it breaks to the downside, it could be a big tailwind for a stock market rally.
I’ve added what I believe to be the most important time cycle in the US dollar right now. It suggests that the next likely move in the dollar is down, at least through the end of this year. I look to cycles to tell me which way the wind is blowing when other indicators don’t give a clear picture.
The fact that the dollar could head down and send the markets up is another reason that I’m suspicious of the doomsdayers calling for a total stock market collapse.
In that spirit, I’ve been sharing with you one or two strong performing stocks that my proprietary screens are turning up each week. This week that stock is Adobe (NASDAQ: ADBE). Take a look:
Adobe has been on a tear since early 2012. I find it pretty humorous that the press coverage around Adobe has been so negative during this same time period. Heck, it sounded like Adobe might be on the verge of going out of business given that everyone is abandoning their Flash video technology.
Instead, Adobe has been on a stealth bull run from $25 per share to $85 per share – all quietly captured by the Re-Entry Rule and Smart Trailing Stop algorithms.
Summing up for today …
- Use VQ% position sizing!
- Watch the US dollar.
- Be on the defensive but don’t retreat into your bunkers just yet.
- Consider strong performing stocks like Adobe.
Have a great week,
Richard M. Smith, PhD