A time-honored adage in the investing world says that when markets bottom out, money changes hands. The thinking goes along the lines that the weak hands panic and sell when the strong hands move in to buy and hold up the market. In this way money moves from weak hands to strong hands at market bottoms.
When Volatility Declines, the Trend Turns Bullish
As the market reaches its low in a downward trend, it does so with high volatility. Once the volatility begins to subside, market watchers are quick to point out that a change of trend may be underway. The change of trend may a great time to adopt a posture of being the strong hands. But to do so you have to find a way to acquire some market muscle. You need the psychological staying power to keep from getting shaken out by any remaining aftershocks of volatility.
One powerful technique traders can use is to plan out a multiple entry strategy. This technique has proven to outperform the market over longer periods of time among investor types. But traders can use a short-term version of this strategy. You could think of this short-term technique as dollar-cost averaging…on steroids. But don’t worry, nobody will make a headline out of you for using this approach.
The Multiple-Entry Technique
Implementing the multiple-entry technique requires that you plan your entry criteria in advance. Simply adding to your position as the trade goes against you is a bad strategy—you’re merely talking smack and its easy for the market to call your bluff. A sturdier approach would be to first gauge the anticipated range the stock could move; second, mark three strategic price levels for entry. Divide the number of shares you would normally buy into three groups and make your entries and the price levels you identified. This chart of NVIDIA Corporation (NVDA) shows an educational example of how one might implement the multiple-entry strategy.
Points 1,2, and 3, mark potential entry points. The red line below shows a possible stop-loss level. Suppose a trader wanted to risk $1,100 on their trade. If they bought 600 shares of NVDA at 13.40 and the stock fell to the stop loss at $11.60, they would lose only $1,080 on the trade. So if the trader were to buy one-third of the total shares (200) at point 1, and the same amount of shares at point 2 (200 more), then the trader is now able to buy MORE shares at point three.
Increased Opportunity, Not Increased Risk
A trader could actually buy 800 more shares at $12.20 without risking more than $1100 in the trade. If the market falls to the stop, it means the downward trend has resumed, and the trader can try the technique again when the next significant low appears. But if the trade goes favorably, the trader is making profit with TWICE the number of shares they would otherwise buy.
Being able to buy more shares as the price drops is what strong money has the luxury of doing. With this technique any trader can act like the strong-money investors into whose hands the weak money falls.