Barrel shooting and trading strategies are the two basic ways of
stock market trading. Stock trading strategies are used by investors to
determine the stocks to buy and the time to sell. It also helps them
protect their investments. Trading strategies outperform barrel shooting
by a large margin. The different types of trading strategies, which
count to over a hundred, are tried and trued methods that have worked
well over many years. Before exploring new strategies, beginners in the
world of investments are advised to investigate some of the basic
trading strategies first.
Hedging
The way of protecting an investment through the reduction of the
risks that are involved in holding a particular stock is called hedging.
Buying a put option that allows the selling of the stock at a
particular price within a certain period of time can offset the risk of a
decrease in the stock prices. There will be an increase in the value of
the put option once the price of the stock falls. The most expensive
hedging strategy is to buy put options against individual stocks. People
with broad portfolios will do better if they buy a put option on the
stock market itself because it will protect them against general market
declines. Selling financial futures such as the S&P 500 futures is
another way of hedging against market declines.
Dogs of the Dow
Dogs of the Dow, which gained popularity during the 90s, is a
strategy that involves buying of best-value stocks in the Dow Industrial
Average. These are ten stocks with the lowest P/E ratios and the
highest dividend yields. This strategy presents the idea that the ten
lowest companies on the Dow have the most potential for growth over the
coming year. The companies listed on the Dow Index are those which offer
a reliable investment performance. Pigs of the Dow is a new twist on
the Dogs of the Dow. In this strategy, five of the worst stocks on the
Dow are selected by looking at the price decline percentage from the
previous year. Like in the Dogs of the Dow, the idea in Pigs of the Dow
is that the worst five stocks are going to rebound more than the others.
Buying on Margin
The strategy of buying stocks using borrowed money, which is usually
from the broker, is called buying on margin. Because they receive more
stocks despite the low initial investment, the investors are given much
more return by margin buying than by full payments. In the event that
the stock loses its value, the losses in margin buying will also be
correspondingly greater. In order to limit the losses in case of market
reversal, investors should have stop-loss orders when they buy on
margin. The margin amount has to be limited to about 10% of the total
account value.
Dollar Cost and Value Averaging
The strategy that involves the investment of fixed dollar amounts on a
regular basis is called dollar cost averaging. One example of this is
the monthly buying of shares from a mutual fund. A drop in the price of
the fund will cause the investors to receive more shares for their money
but a raise in the price will cause the fixed amount to buy fewer
shares. Value averaging, which is an alternative to dollar cost
averaging, involves the decision of the investors to set a regular value
that they wish to invest on. For example, the investors decide to
invest $100 per month in a particular mutual fund. If the price of the
fund increases, the investors also put in a higher dollar amount in that
fund but if the price of the fund decreases, they spend less money.
This will average out their investments to the original $100 per month.
Value averaging, as a percentage return on the money invested,
outperforms dollar cost averaging most of the time. When used as a part
of broader trading strategies, value averaging can actually help in
securing the growth of investment funds.
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