Position Sizing
Research for Online Investors

by John Dalt

5/18/09

Position sizing is of utmost importance to every investor or trader. Position sizing is one of our “Four Legs of Wealth”. It is one of the cornerstones of the Galt Long-Term Portfolio service. We recommend each position represent 5% of investable funds, regardless of the price of the stock. We seek diverse holdings across sectors. These rules keep us from putting all our money in a favorite stock or sector. One year ago, every oil and gas exploration or servicing company was on a role with the high prices of commodities. Very few predicted the rapid drop just around the corner. We cannot know the future, so we diversify across sectors rather than loading up on one stock or sector.

Position sizing also goes hand in hand with another important discipline, use of trailing stop loss sell orders.  We always sell our position if it drops 20% from our cost, or subsequent higher closing price.  This discipline keeps us from ever losing more than 1% of our total investable funds on any one position. 

Let me explain.  Investor Smith has a $50,000 investment account.  ABC is purchased for $20 per share.  50,000 X 5% = $2500 position size.  $2500 / 20 = 125 shares.  The stop loss is set at $16 (20 X .8).  Even though we have done our research and feel like ABC is the next Apple, ABC drops like a greased anvil.  If it closes at $16, we sell the next day.  20 - 16 = $4 (purchase - sale = loss).  $4 X 125 = $500.   50,000 X 1% = $500.  Thus, we have protected our account from a devastating loss, by position sizing, and protective stop losses. 

The real power of the trailing stop loss discipline is where our holdings increase in stock price, our trailing stop rises on a percentage basis along with the higher stock price. ABC closes at $30 per share, the trailing stop loss is now $24 (30 X .8 = $24). If ABC stock price drops to $24 at close, we enter a sell order the next day. We just sold at a profit of $4 per share, rather than watching all of our profits disappear down the drain. 

In this case, we would move ABC Company to the side and look at our next great company to invest in.  Our discipline recommends waiting a few months before looking at ABC for another investment.  This allows us to approach it freshly, without preconceived ideas, because “we have owned it before”. 

Discipline is the most important asset you can own.  It will protect you, and your portfolio from small losses becoming big losses, or gains becoming losses. 

Join us at Galt’s Long-Term portfolio, it is the cheapest investment you can make in your families future and safeguard your retirement. 

The Financial Times reported last week that the U.S. AAA credit rating is in danger.  Moody’s may downgrade the U.S. credit rating to third world status if action is not taken to reduce the deficit and bring long-term liabilities under control.  The U.S. has enjoyed a Triple A credit rating since 1917 

While the stock market is up sharply since early March, the economy as well as corporate earnings continue to suffer. Today's chart helps provide some perspective as to the magnitude of the current economic decline. Today's chart illustrates that 12-month, as-reported S&P 500 earnings have declined over 90% over the past 20 months (with over 90% of S&P 500 companies having reported for Q1 2009), making this by far the largest decline on record (the data goes back to 1936). In fact, real earnings have dropped to a record low and if current estimates hold, Q3 2009 will see the first 12-month period during which S&P 500 earnings are negative. 

Here is a quote for the entrepreneurs, businessmen and Chambers of Commerce that work with the socialists in Washington.  Your John Galt Moment will come!

“The last capitalist we hang shall be the one who sold us the rope”-Karl Marx 

The information presented in this newsletter is based on generally available news releases, corporate filings, current events, interviews and the editor’s opinions.  It may contain errors and you should not make investment decisions based solely on what you believe you have read here.  Do your own research, it is your money.  If you lose it, it is your responsibility, not ours or your grandmothers!  The editor may or may not have a position in any securities discussed.  The editor may have held a position in a security earlier, or in the future.

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