Size Your Positions Like The Pros Do

The stock market always involves risk.  As the TV commercials say in small print, You could lose your money.

Yet, every year, there are some really smart investors and traders who pocket much more money than the average person.  And they do it consistently.

How do they do it?

They have the background to correctly analyze the risk they’re taking.

Unfortunately, too many investors simply choose an arbitrary amount—whatever they feel they can afford—when they buy a stock or an ETF.  It becomes very random.

Is that you?  Or perhaps you follow an old rule of thumb: don’t invest more than two percent of your portfolio.  Yet did you know some of the best investors actually follow a more concentrated portfolio?  Like Berkshire Hathaway, Warren Buffet’s fund where only 4 positions make up 57% of it.  Or Seth Klarman where 55% is made up with seven positions.

Or, perhaps you are listening to your advisor who helps you make sure you are diversified and paying attention to an equity’s “beta” value.  Or rebalancing only quarterly or following a tactical asset allocation approach.

But all those approaches are either outdated or insufficient. Even diversification is not enough in our global markets. Don’t believe us – learn more from some investment gurus out there.

“Diversification is protection against ignorance. It makes little sense if you know what you’re doing.”
– Investing guru Warren Buffett

Or as William O’Neill, founder of the CANSLIM method and Investor’s Business Daily says, “Diversification is Bad: Broad diversification is plainly and simply a hedge for ignorance … the best results are usually achieved through concentration, by putting your eggs in a few baskets that you know well and watching them very carefully.”

Remember, the market can be pretty random. You want to be in control of what you can control.

So what is the best approach? Well, proper money management has to do with correct position sizing.  And that means determining your own individual amount of willingness to risk and possibly lose.  And then most important – and we can’t emphasize this enough – knowing the individual equity’s risk factor.  Which is much more than “beta”.

ManualThat’s what determines how much you should buy.  And that is called position sizing.

Now if you just use a regular position sizing calculator available on the web, you have to determine the risk factor or as defined in most calculators a stop loss percentage or value. That isn’t something most of us have the time or experience to do.

Let’s look at how the SmartStops Position Size Calculator works

positionPosition Size Calculator

First, you need to indicate how much your total portfolio is and how much of that you are willing to risk losing. This is a MUST to do as your very first step. Be honest with yourself.

So say your portfolio today is worth $200,000.  And that you want to keep any possible loss to less than 6 percent or $12,000.

Now, you need to enter how much you were thinking about investing.  Let’s use as our example, Western Digital (WDC). Keep in mind that this can be more than you want to risk, because now you will have the right risk factor to properly size and manage your position.  But it can also be less then the maximum amount to risk.

And that’s it.  Just answer those few questions, how much you want to risk, choose the symbol and how much you were thinking of purchasing and let SmartStops calculator get to work.

Now, let’s look at the results

positionPosition Size Results

If you aren’t going to factor in risk, then you are limited to only buying 122 shares given that you wanted to risk only $12,000 and invest only $9048.  That’s because there is no risk management in place and if the share price at $83.86 falls, theoretically you could lose the entire amount.

But if you want to deploy proper the correct position size, which includes our smart risk factor built off 40 decades of market experience, and you’ve chosen the “Conservative” SmartStop approach, you can buy 159 shares at a total cost of $13,315 which is actually more than you were planning on.

Why can you invest even more than you were intending?  Because it’s the risk value that controls the result.  That’s not to say you should invest more, but the fact is that you could and thus earn higher returns.

So Learn What the Pro’s already Know.

It’s easy to just focus on the buy decision you are making. But it’s the unknown outcomes that the market will throw your way and you need to account for and protect against.  Be smart – move beyond antiquated methods and equip yourself with an intelligent position size.  Then you can feel confident that your account will be able to survive the inevitable curve ball markets are going to send your way.

Use the SmartStops ETF or stock position sizing calculator to work out exactly how many shares to buy in your investment account.

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