You can develop a stock investment strategy tailored to your personality and risk tolerance.
Using a personalized strategy may yield better results than a one-size-fits all strategy as each individual investor has different attributes.
The diagram below is a model strategy that forms the structure of my current strategy.
You can use the model as a guide to develop your own stock investment strategy to suit your needs.
***Methods and figures used are for illustration purposes only
You should follow each step in order.
Step 1: Keep a watch list of stocks (PINK)
This step is what I like to call pre-investment homework. Your selection of stocks can be based on a fundamental nature, a technical nature or a combination of both.
In the model strategy, stocks are chosen base on their fundamentals only. For example, you can scan for companies with earnings growth of more than 20% year-on-year and put them on the watch list.
Step 2: Confirm market uptrend (ORANGE)
One way to find out the stock market’s direction is to use trends. Generally, you should not buy shares during a market down trend.
Step 3: Buy stocks at the right time (GREEN)
The right time to buy your shares should be when the odds are in your favour. You may have to use at least one technical analysis tool for this step.
In the model strategy, price patterns are used as an example to decide on the point of entry.
Step 4: Managing your stocks
You would want to maintain a 3 to 1 risk reward ratio in your strategy. For example, the model uses 7% as the maximum cut loss point and 25% as the profit target.
In this way, for every 25% gain made, you can afford to lose about 3 times and still not get hurt financially.
Alternatively, you may choose to risk 5% for a potential return of 10%. Your risk reward will then be 2 to 1.
Step 4A: Price Drop (YELLOW)
You don’t have to wait for every stock to drop 7% before you can cut loss. If you sense something is amiss, you could sell right away.
But when the stock drops to your maximum stop loss limit you should sell immediately without question.
Sometimes your stock price will come back up. Don’t be upset. Protecting your investment capital is more important.
You can always buy back the stock by paying a higher price. But you would not be able to sell your stocks at the price you want if its keeps falling.
Step 4B: Price Increase (BLUE)
You don’t have to sell immediately once the 25% profit target is reached. Your goal here is to hang on to your profits for as long as you can.
The profit target is a psychological tool I use to refrain myself from taking profits too early.
If you already have a substantial profit, you may want to use a trailing stop to protect your profits.