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Thomas Bulkowski’s successful investment activities allowed him to retire at age 36. He is an internationally known author and trader with 30+ years of stock market experience and widely regarded as a leading expert on chart patterns. He may be reached at

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Bulkowski's Scaling In

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Market
Industrials (^DJI):
Transports (^DJT):
Utilities (^DJU):
Nasdaq (^IXIC):
S&P500 (^GSPC):
As of 04/21/2017
20,548 -30.95 -0.2%
9,134 7.68 0.1%
706 4.81 0.7%
5,911 -6.26 -0.1%
2,349 -7.15 -0.3%
YTD
4.0%
1.0%
7.0%
9.8%
4.9%
Tom's Targets    Overview: 04/17/2017
20,100 or 21,150 by 05/01/2017
8,500 or 9,500 by 05/01/2017
725 or 685 by 05/01/2017
5,950 or 5,650 by 05/01/2017
2,275 or 2,425 by 05/01/2017
Mutt Winners: None YTD

Written by and copyright © 2005-2017 by Thomas N. Bulkowski. All rights reserved. Disclaimer: You alone are responsible for your investment decisions. See Privacy/Disclaimer for more information.

My book, Trading BasicsTrading Basics: Evolution of a Trader book., pictured on the left, discusses scaling into and out of positions starting on page 21. The text includes performance statistics to prove what I say.

If you click on this link and then buy the book (or anything) at Amazon.com, the referral will help support this site. Thanks. -- Tom Bulkowski

$ $ $

Scaling in costs you money! I was as shocked as anyone after reading that headline and hoped that wasn't the case. I scale into stocks to build my position all the time, but according to an article in the October 2009 issue of Active Trader magazine titled, "Scaling in as an entry technique," by Howard Bandy, the technique lowers profit.

 

Scaling In Costs Money!

Scaling in is important when buying thinly traded stocks. You buy a little each trade, hoping not to move price much. One rule of thumb to use about trading stocks is to create a position no larger than 1% of volume. If your trading size exceeds that, then look elsewhere for a more actively traded stock.

I threw out a trade in Bassett Furniture (BSET) because it's too thinly traded (3 month average volume from the Statistics page on Yahoo!finance shows 27,614 shares trade daily, on average). With the stock selling at about $4, it can take a month to accumulate several hundred thousand shares without moving price much.

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What is Scaling In?

Scaling in refers to taking a partial position in a stock at one price then adding more at a later time. Sometimes you are averaging down -- buying more of a stock as price falls. Your average purchase price drops. Averaging down is a favorite technique for those that buy-and-hold because they know (or hope) that price will recover if they hold the stock long enough. I do that, especially on my utility stocks. I want a large position to boost low tax rate income so why not buy at a lower price?

I almost never average down on my trading positions. All that does is make the loss grow when you throw in the towel and sell just days before price turns higher.

Others like to buy more stock as additional trading signals occur when price rises. I will do that too, when I see a buying opportunity. Perhaps a stock breaks out of a congestion region. I'll double my position. Maybe it breaks out upward from a symmetrical triangle. Again, I will add to my position and ride the stock higher. I do not buy half a position and then buy another half. I buy a full position and then decide to add more shares. If price is higher than the previous buy or the weighted average buy price, it's called averaging up.

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Scaling In: Five Reasons

Bandy identified 5 reasons for scaling into a position.

  1. Averaging up. This is buying more shares of a position you own at a higher price. Trend followers and momentum players use this technique.
  2. Averaging down. This is buying more as price drops.
  3. Pyramiding. Adding to a position when buy signals appear.
  4. Rebalancing. If you own too few shares of a stock, you may decide to buy more to offset larger positions in other stocks.
  5. Scale Trading. Buying more shares as price drops and selling as it rises. Bandy says this is used often in commodities.

Scaling In: Methodology

Bandy used 72 stocks and exchange traded funds of the highest average daily liquidity in 2008 and back tested them from December 31, 2003 to October 31, 2008. Based on the SPY (S&P tracking stock), the general market went nowhere during that period. He bought positions of $5,000 and $10,000 each month. His system buys a position at the close of the first trading day of each month and exits at the close on the last trading day. He did not adjust returns for commissions, fees, or interest applied to spare cash.

He performed seven tests and the results appear in the table.

TechniqueAvg Profit
Per Trade
Discussion
1. No scaling, no stops (buy-and-hold)$1,810Risk is $10,000. 93.4% of trades close with a loss of less than 10% with 82.5% having draw down of 10% or less per trade.
2. No scaling, 10% trailing stop$-22Risk is $1,000. Stop set at 10% below entry and trails it 10% below highest high.
3. No scaling, 10% trailing stop, half position$-11 with stops, $905 withoutSame as #2 but only $5k invested. Risk is $500.
4. Scale in $5k at 5% profit, 10% trailing stop$73Risk is $500 for first portion, $1000 after scale in. 65% didn't rise enough to scale in.
5. Scale in $5k at 10% profit$76Same as #4 but waits to scale in at 10% profit. 98% of trades had less than 10% draw down. 89% didn't rise enough to scale in.
6. Scale in $5k at 5% profit, set stop to break even then trail it$-105Risk is $500 until scale in then $0 afterwards. 98.4% of trades had less than 10% draw down.
7. Scale in $5k at 5% loss, 10% trailing stop (averaging down)$264Risk is $500 then $1,000 after scaling in. 98.5% of trades closed less than 10% lower.

I take issue with his risk assessment. Sooner or later a stock will gap lower, sending the stock plunging well below a stop.

I would like to see this run using bullish and bearish markets, not just the neutral one he chose. Notice that #7, which is averaging down, results in the best performance besides buy-and-hold (#1).

-- Thomas Bulkowski

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Written by and copyright © 2005-2017 by Thomas N. Bulkowski. All rights reserved. Disclaimer: You alone are responsible for your investment decisions. See Privacy/Disclaimer for more information. There are never enough hours in a day but too many days before the weekend.