A sound exposure management strategy not only curtails risk but also keeps you aggressively invested in the market when the chances of gains are high. However, it only works well in the long run if the strategy is rule-based. CANSLIM provides a perfect objective system which is summarised below:
1. Never invest all your capital at once in the market or on a particular stock. Divide the capital allocation into three to four steps. Start with 30-40% investment and keep increasing positions as the market moves upward to the maximum of 100%.
2. Use market signals to increase/decrease your exposure in the overall market. One of the “Buy” signals is an additional follow-thorough day. When the market is in an uptrend, increase your exposure on every additional follow-through day
3. Reduce your market exposure if the index breaches key moving averages (50-DMA and 200-DMA with heavy volume). Also, reduce your positions, one step at a time, if distribution days occur in a cluster. More than three distribution days in an eight-day window is one such signal.
4. Factor in the market status for successful exposure management. Increase your exposure toward market if it is in a Confirmed Uptrend. Start reducing if market status is downgraded to an Uptrend Under Pressure. Minimize your exposure or exit if the market is in a Downtrend. Start increasing positions if it in a Rally Attempt.
5. For individual stocks, if already in profit, use pyramiding strategy – that is, always average on the way up, never on the way down. Increase your positions whenever a stock that had a successful breakout retakes/rebounds from one of the key moving averages (50- or 200-DMA) after a shakeout.
For a stock-specific alternative buy point, take the case of Balkrishna Industries. After a successful breakout, it exhibited a shakeout, but rebounded from it 50-DMA. This was the legitimate point to add/increase positions.
Read our last week’s article:Essential Lessons from O’Neil On Relative Strength, Volume, Charts