At TradeStops we help investors better understand how much money they need to risk on their investments … so that they have a better chance of actually making more money in the end.
But many times we’ve heard the question, “It’s great that you’re helping me to understand how much I might lose but what I really want to know is how much could I gain?”
It’s a natural question … and today, we’re pleased to be able to share with you an answer.
We’ve talked a lot the past couple of weeks about the virtue of buying on strength and sticking with winners. This week we looked into the question of how much these kinds of trades can produce in terms of gains.
To answer this question, we dug into our database of historical trades and came up with 6,700 SSI based trades going back to 1995 which we could analyze. We looked at all of the trades that were winners (about exactly half of them) and found that, on average, the winning trades gained 5 times their original VQ at the time of their SSI Entry signal.
Now we know that’s a mouthful, so let me show you exactly what we mean with a couple of specific stocks.
Berkshire Hathaway, for example, gave us a good SSI Entry signal in the middle of 2012 with a Volatility Quotient of just under 12%. After triggering the SSI Entry signal it moved up an additional 60%, before finally getting stopped out again in late 2015.
That 60% gain is about 5 times the original VQ of 12%. Here’s the chart.
One way to think of the VQ is as a “unit of risk.” It’s a popular way of expressing risk amongst professional traders and money managers. The unit of risk in Berkshire Hathaway at the time of entry was 12%. This particular trade gained 5 units of risk. It had a reward-to-risk ratio of 5 to 1.
Another great example using a widely traded stock is Nike. Nike triggered a new SSI Entry signal in early 2013. At the time of the entry signal, the VQ on Nike was about 16%. By the time Nike got stopped out by the SSI system three years later, it had gained an additional 126%.
That 126% gain was about 8 times the original VQ unit of risk of 16%. Here’s the chart.
Overall we found that winning trades gain an average of 5 times their VQ’s from the time of their original SSI Entry signal.
Pretty cool, huh?
We don’t know about you but that fact put another nail in the coffin of my resistance to buying on strength. We’re happy to have a shot at making 5 times my initial risk any day of the week.
There was another number that came out of this study that blew me away as well … 929.
What exactly is this number? It’s the average holding period of the winning trades. That’s almost 3 years! The average holding period of the losing trades, in contrast, was just 235 days.
Holding winners 4 times as long as losers … and making 5 times my risk on my winning trades works for us. We hope it works for you too,
TradeSmith Research Team