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MY SOLUTION TO AVERAGING DOWN
When I started share trading about 2.5 years ago I had convinced myself that averaging down could get you out of trouble if a share you had purchased fell in price , on the belief that things would correct and you would soon be back in the money
HOW WRONG I WAS , all I did (by averaging down 3 to 5 times ) was dig myself into a deeper and deeper hole from which I could not extricate myself
Additionally , I was not at that stage using stop losses --- all in all definitely not a good look that led to several catastrophic losses
The above scenario is , I believe , not uncommon with those new to the game and it is they that I direct my comments to (those that have suffered the expensive knocks will know what I am talking about and will have their own particular techniques sorted )
My solution , learned the hard way , is to allow myself only one purchase at a lesser price than my first one and then only after having re satisfied myself that the particular share is underpriced and still a good buy
Stop loss orders should also be placed to protect against those price collapses that can and sometimes do occur
If I cannot satisfy myself that a second purchase is warranted then I take an early exit at a relatively small loss and move on to greener pastures
From my experience you do not need to make up your losses on the same shares as you incurred them on --- it is much better to move on and look for new opportunities of which there are always some , maybe a bit hard to find but they are always there
It is unquestionably much more rewarding and profitable to chase winners rather than losers
I will be interested in hearing from others who have successfully adopted a different strategy to me , I do not claim mine to be the only one --- it just happens to work pretty well for me
Time is the great revealer
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WHITEHERON, I never buy more if it drops. It hits my predetermined stop loss, then i get out right or wrong. Work out the mathematical chances of you being wrong, or the market against the chance of you being wrong starting from scratch. Lets suppose one in five goes nowhere or drops from a fresh start, against a fifty fifty chance of being right averaging down. The point really is not letting your pride get in the way of making the market work for you.
It is only the fundamental investors that will average down, with the I am right attitude, that ends up costing them big.
Its up to each their own i suppose, thats how i do it right, and sometimes wrong. MACDUNK
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Well all rules are made to be broken. I learned the rule never average down before I knew why? Over the years I've probably broken it 20 or more times. Although there were ocassions where I certainly have lost more money as a result, overall I benefited around 75% of the time.
This situation doesn't happen very often now because I pay more attention to trends on the charts but I'm sure it won't be the last time I average down.
Disclosure: I'm not advocating averaging down, it is still my exception rather than the rule. I just think dogmatism is for faith, religion and left/right wing think-tanks, not investing.
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Member
I agree, Halebop.
The thing is, for a fundamentalist, it is not "averaging down". It is buying in at an even better price. "Averaging down" comes from a conceptual world where prices have a life of their own, and value investors don't live in that world.
Having said, that, each later purchase of a share should have at least the same amount of spadework preceding as the earlier purchases. The "belief that things will correct" must be founded in a rigourous reevaluation - when things drop, maybe other people know something you don't. (ASX.ION being a rueful case in point for me).
macdunk, you have inspired me to write more monte carlo simulators. Watch this space.
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Thanks for the interesting replies folks
Macdunk , my one allowed average down is not about pride but about attempting to get the best outcome from a trade --- my pride was shattered many moons ago and I am happy to say no longer features in my investment decisions
Halebop and Stephen , valuable comments --- yes , rules are made to be broken but only on very rare occasions
On reflection , the terminology "averaging down " is now probably a bit of a misnomer in my case
" buying at a better price " is probably a more accurate description
One important point to remember is that nothing is static in this game , every day brings changes and new challenges and these must be evaluated and taken into account if we are to succeed and profit
Time is the great revealer
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Member
Never say 'never'. As a case in point, if I had never averaged down, I wouldn't have been building up my stake in TEL in '01 to '03 at under $5, having paid over $8 a year or so earlier. I much prefer the words 'buying at a better price', provided you've done some homework on the stock.
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Member
I agree with the sentiments already expressed... at any point a share should be either a buy or a sell... if it's a buy, but you happen to have already bought at a higher price, then it's still a buy (subject to weighting).
Can result in the ocassional bout of cursing, admittedly...
Undisputed 2006 World Cup Premierleague Champion
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Junior Member
The only time I buy more at a lower price ("average down"), is when I decided that before my initial purchase.
eg, say I decided to buy company XXX as its come onto my radar. The current price might be 45, and I might see support at 41 and a target of 60.
so I decide to buy and have a stop of 40.
Now I have several options:
1)I could buy all I want immediately at market 45-46
2)I could put in an order at 43 and hopefully it will fill in a few days.
3)I could buy some now at 45-46, and "average down" at 41 or whatever with the rest. That way I dont miss the boat completely if it keeps going up, and I still keep to the technical stop loss level, and have a better average price if it does retrace a bit.
which method I use depends on the share in question, overall market conditions, funds available etc.
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Sorry, but I must be missing something here, an entire topic with no mudslinging yet ??
PS: Think I agree with all of comments so far myself !
Regards "Bottom Pickers" and "Averaging Down" I would refer to my purchase on ASX of some HDR shares on Friday @ 1.57 , chartwise it looks really ugly, but the fundamentalist in me says it is a screaming buy, must admit it isn't easy being a schizophrenic share trader !
Cheers All
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quote: Originally posted by whiteheron
When I started share trading about 2.5 years ago I had convinced myself that averaging down could get you out of trouble if a share you had purchased fell in price , on the belief that things would correct and you would soon be back in the money
HOW WRONG I WAS , all I did (by averaging down 3 to 5 times ) was dig myself into a deeper and deeper hole from which I could not extricate myself
Additionally , I was not at that stage using stop losses --- all in all definitely not a good look that led to several catastrophic losses
My solution , learned the hard way , is to allow myself only one purchase at a lesser price than my first one and then only after having re satisfied myself that the particular share is underpriced and still a good buy
For me there is no such thing as 'averaging down', only 'averaging across'. So I guess I am in Stephen's camp. Rather than get all theoretical, I'll put what I have to say in the context of my 'poorest' investment of the last couple of years, the Warehouse.
Did I say 'poorest'? Well that is really a 'with hindsight' term. I bought my current holding in two tranches with an average entry price of some $4.30. I was bottom fishing, or so I thought. I did some calculations that showed that if they could recover the Australian situation in a year I would likely get a compounding annual rate of return of 15% over the next ten years. By my calculations that made WHS easily the cheapest share on the NZ market if I bought it in the low $4 band. So do I regret buying into WHS at $4.30? Not at all because we can only buy with the information that is available at the time of purchase. And my research was very thorough.
The scenario has now changed , and it is possible that WHS will have trouble in Australia 'forever'. That means whether I should buy or sell WHS at $3.55 depends on how the fundamentals stack up against my new scenario of continuing to do well in NZ but barely breaking even in Australia. If the investment makes sense on those new terms I will go ahead with it. It is very important that my old scenario has no weight at all in my new investment decision. Everything in the old scenario must be wiped from my memory. It must have nil/nada/ no effect at all on my new investment decision.
Put like that Whiteheron, your rule of thumb that allows you to average down once makes no sense. What you are saying is that because a previous manager had a failed grandiose plan and was sacked, which called the share price to fall, you should judge the new manager on the previous fellow's 'success', even though the new management plan is completely different.
You didn't mention specific examples Whiteheron, but my gut feeling about your early forays in the sharemarket is that your F/A simply wasn't good enough. The mere fact you employ stop losses suggests to me that you had little confidence in your initial decisions and put more faith in what some ignoramus at the golf club told you, rather than your own work.
SNOOPY
PS Basically I am saying there is no 'rule of thumb'. You have to analyze each situation as a new situation in its own right.
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