Last week I promised to introduce a couple of new portfolios, and today I'll be honoring that by introducing a new portfolio based on Recipe #3: Chocolate Channeling Bars. Before we start, I want you to know that I do test out each recipe either by back-testing (if appropriate), paper-trading, and/or real-time trading. I've played channeling stocks before and have done well with them, but I've never quantified my results. So, I thought I'd put my (paper) money where my mouth is and see how well I could do in real-time.
The strategy
To that end, I've designed the Channeling Stocks Portfolio according to Recipe #3. Basically, the strategy is a simple one: Identify stocks that “channel” between a lower support level and an upper resistance level and then enter a long position when the stock begins to bounce off of its low and sell when it reaches its high (or close to it). A short position can also be taken when the stock begins to roll off its high and covered when it nears support.
The set-up
The portfolio will be constructed according to the following guidelines:
1. Equal dollar amounts of stock will be used. This prevents overweighting in higher priced issues.
2.End-of-day prices will be used for simplicity, although better results may be obtained by using intra-day prices.
3.Stop losses will be set at 1 N (where N = average true range) below support levels and 1 N above resistance levels. This is an arbitrary figure but in general this approach limits losses to between 7% and 10%.
4.Short positions in stocks above $5 will be taken when indicated. This assumes a margin account and I'll be using 4.5% as the margin interest rate which is appropriate for accounts between $250,000 and $500,000 in size. An initial portfolio of $500,000 will be assumed. Note that account interest rates are effectively zero (about 0.05%) and are not worth bothering with.
5.A flat commission fee of $10 per trade will assumed no matter how many shares are traded. For computational purposes, each trade will be sized at $10,000 each. There will be no portfolio compounding.
6. Options strategies will not be used for now.
The portfolio
One good thing about this current market is that a lot of stocks have been stuck in trading channels, giving me no shortage of viable candidates. In fact, I've found 24 that fit the bill and later this evening I'll be collecting them into a table along with their entry, target, and stop loss prices. Each day at the end of my blog, I'll update you as to new portfolio additions or subtractions. An updated table including the transactions for the week will be posted each weekend. This way you can follow along in the fun and hopefully this will be an instructive lesson for both of us.
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