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Stock Picks Bob's Advice
Monday, 21 November 2005
A Reader Writes "Could you tell me....about your trading strategy?"
Hello Friends! Thanks so much for stopping by and visiting my blog, Stock Picks Bob's Advice. As always, please remember that I am an amateur investor, so please remember to consult with your professional investment advisors prior to making any investment decisions based on information on this website.

One of the things I really look forward to in writing this blog, is receiving mail from readers and sharing with them some of my ideas about investing. First of all, I believe there are many strategies for investing, buying and selling stocks, and managing a portfolio. I am sure that many are far superior to my approach. However, what I have been doing continues to work for me, so I am happy to share it with all of my readers of Stock Picks Bob's Advice.

This evening, I noticed that Tony T. had written again. He emailed me:
Bob,

So I'm extremely overwhelemed by the amount of knowledge I've gained through reading your site but could you tell me, that is if it is not trouble to you, what articles, by date, talk about your completely trading strategy? I've found some talk about your exit strategy but how do you go about making the decision that a stock fits your system? Also, I know this question is answered usually when you post information and thoughts on a particular stock so I don't really expect an answer from you on that one.

Thanks,
Tony
First of all Tony, thank you so much for all of your kind words. I would like to encourage you to expand your knowledge base by reading not only here, but Money Magazine, Fortune, Business Week, Forbes, Smart Money, Kiplinger's, Smart Money, The Wall Street Journal, and Investor's Business Daily, to name just a few sources of important information on investing. But I appreciate your enthusiasm for this blog and I shall continue to strive to meet your expectations with practical evaluations of stocks.

One of the weaknesses of this blog that betrays its amateur origins is the lack of a good index and search engine. I shall have to add this on as we go along.

However, as I wrote you, I would like to address this issue once again; I am sure I have some similar summaries on other entries. I would like to break this down into how I find a stock and decide to purchase shares, and how I sell a stock and when I sell the position. A second brief topic would be about the overall portfolio and how I manage the holdings.

My first decision in buying a stock is knowing when I should be making a purchase. I suggest to my readers that they should, when building a portfolio, decide in advance as to the number of positions they would like to own. For me, I have found 25 positions manageable and that is the maximum number of positions within my trading portfolio (I currently own 19 and am preparing to add a 20th position). For arguments sake, let's use 24 positions as being 'fully invested'.

With my approach to investing the portfolio will develop a "posture" towards the investment world. What I mean by that is that we can think of a portfolio as being maximally defensive; with the minimum number of positions held in equities; maximally aggressive, with the maximum number of equity positions and "neutral" with equal amounts of cash and equities. In this example maximum equity exposure would consist of 24 positions. Minimal equity exposure, in my approach, would be at 6 positions, and "neutral" would be 12 positions.

I believe very strongly that stock market success is based on observing market trends, stock trends, and responding to these observations with trading actions. I am not a big believer in "out-thinking" the market; but rather I am a big believer in listening to your portfolio, to the market, and to individual stocks in determining your own response and trading actions.

Thus, start out an investment portfolio in neutral. Let the market tell you whether to shift into gear or into reverse. In this particular model, with a 24 position maximum, then 12 positions would be "neutral". These 12 positions could be bought rather quickly, using 50% of the available cash to make this purchase.

Immediately employ a selling strategy. That is, as I practice, sell losing stocks quickly if they accrue an 8% loss. Otherwise sell winning stocks slowly and piecemeal, selling 1/4 of remaining position at designated gain targets. My current targets on the upside are at 30%, 60%, 90%, 120%; then by 60% increments--180%, 240%, 300%, and 360%...then by 90% increments, 450%, 540%, 630%, and 720%...then by 120% increments, etc.

Additional pointer on selling: after selling a portion of a stock once at a gain, do not wait for the stock to retrace to an 8% loss. Instead sell all of remaining shares on the downside if the stock drops to 'break-even'. If you have sold a stock more than once, allow it to retrace only 50% of the gain before selling all remaining shares. In other words, if a stock has been sold 3 times, last at a 90% gain, only allow the stock price to slip back to a 45% gain before selling all remaining shares.

Next, allow the actions of your 12 original stocks to determine the direction of the entire portfolio. That is, if a stock is sold at a loss, just 'sit on your hands' and don't replace the stock with another candidate. Instead wait for a sale on 'good news' that is after the stock has appreciated to a sale target price, to determine that you should add another postion to your holdings. This prevents you from compounding your losses in the face of a bad market. And encourages you to expand your equity exposure in the opposite extreme; in the fact of an expanding equities market.

O.K. if you have made the decision to buy a stock, how do I pick one? Just like my blog, I first scan the lists of top percentage gainers. I generally avoid stocks much under $10. They are mostly too volatile, but occasionally I have picked a low-priced stock.

At that point, I generally go over to the Morningstar.com "5-Yr Restated" financials for the stock, and look for persistent revenue growth, earnings growth, dividend growth (if present), free cash flow, and a solid balance sheet.

Going over to Yahoo finance, I check on the latest quarterly report, again insisting on positive growth in both revenue and earnings.

Then back to Yahoo "Key Statistics" where I examine the P/E, the PEG, the Price/Sales ratio (using Fidelity.com for research for comparing to other stocks in the same industrial group), the 'short interest' (over 3.0 is significant imho), and review the chart using the "point and figure" approach. I do not ask much from charts except that like persistent earnings, I prefer persistent price appreciation. In other words a chart that looks like the price started lower and has been moving higher!

If I have "permission" to buy a new stock, and one of those stocks that day fills the criteria, I purchase a position. Lately, I have been trying to buy an approximately $6,000 position with a new stock position. The size of your position depends on the overall size of the portfolio.

I reserve the right to sell a stock with really strong fundamentally bad news....like fraud or a miserable quarter. Otherwise, my action is dictated by the action of the stocks. I have tried to reduce thinking and expand on the powers of observation.

I hope that is helpful to you. I am not sure if I left out anything, but the entry was indeed long enough! If you have any comments or questions, please feel free to leave them right here on the blog or email me at bobsadviceforstocks.tripod.com.

P.S. When deciding on a specific stock when several meet my criteria, I still go by my seat of the pants feeling on the potential of a stock investment. I am biased towards medical technology stocks where innovation appears to be ongoing and the opportunities appear numerous.

Bob



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