As of 03/18/2024
  Indus: 38,790 +75.66 +0.2%  
  Trans: 15,418 -81.05 -0.5%  
  Utils: 853 +3.06 +0.4%  
  Nasdaq: 16,103 +130.28 +0.8%  
  S&P 500: 5,149 +32.33 +0.6%  
YTD
 +2.9%  
-3.0%  
-3.2%  
 +7.3%  
 +8.0%  
  Targets    Overview: 03/13/2024  
  Down arrow38,000 or 39,350 by 04/01/2024
  Up arrow16,300 or 15,350 by 04/01/2024
  Up arrow885 or 830 by 04/01/2024
  Down arrow15,200 or 16,600 by 04/01/2024
  Up arrow5,250 or 5,000 by 04/01/2024
As of 03/18/2024
  Indus: 38,790 +75.66 +0.2%  
  Trans: 15,418 -81.05 -0.5%  
  Utils: 853 +3.06 +0.4%  
  Nasdaq: 16,103 +130.28 +0.8%  
  S&P 500: 5,149 +32.33 +0.6%  
YTD
 +2.9%  
-3.0%  
-3.2%  
 +7.3%  
 +8.0%  
  Targets    Overview: 03/13/2024  
  Down arrow38,000 or 39,350 by 04/01/2024
  Up arrow16,300 or 15,350 by 04/01/2024
  Up arrow885 or 830 by 04/01/2024
  Down arrow15,200 or 16,600 by 04/01/2024
  Up arrow5,250 or 5,000 by 04/01/2024

Bulkowski on Zero Cost Averaging

Here is a money management technique called zero cost averaging, and it is based on an article from the April 1998 issue of Stocks & Commodities magazine by Terrence Quinn and Kristin Quinn. It has nothing to do with moving averages or non-moving averages, or dynamic moving averages, or weighted...well, you get the picture.

 

Zero Cost Averaging: Opening Position

The idea behind zero cost averaging is to sell enough shares for a profit to equal the cost of those shares without selling them all. An example makes this clear.

Suppose you buy 1,000 shares at $6 each, for a cost of $6,000. If the stock rises to $10, you want to sell enough shares to get back your original cost and hold the remaining shares essentially for free.

Suppose the stock does hit $10, then you sell 600 shares, receive $6,000 on the sale, and you're done. You got all of your money back (zero cost), but guess what? You still own 400 shares (you bought 1,000 and sold 600, leaving 400). That is zero cost averaging. The 400 shares you still own cost you nothing! Yippee!

We can flip this around to determine how much to sell, too, using this equation:

BuyShares = KeepShares + (KeepShares * (100/PercentIncrease))
Where...

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Zero Cost Averaging: An Example

For example, say you want to keep 100 shares of a stock after it rises 50%. BuyShares = 100 + (100 * 100/50)) or 300 shares.

Say the stock is selling at $10. You buy 300 shares at a cost of $3000, and when the stock rises 50% to $15, you sell everything except the 100 shares you wanted to keep: 200 shares x $15 = $3000. The 100 shares you keep cost you nothing.

You can hold them forever and not lose any money on the transaction, even if the stock were to go bankrupt (of course, the government doesn't see it that way. When you finally do sell those shares, they IRS will want to take their share. Think of it as your contribution to fund huge bonuses for CEOs when the government loans them your money).

Zero Cost Averaging: Flaw! What Flaw?

The flaw in this strategy is that it requires price to move up in order to sell shares at a profit to get your money back.

What if we create rules that say,

The following table shows a sample trade when the price bobs up and down between $9 and $12.

ItemPriceShares
Held
TradeCumulative
Cost
1.$120Buy 600-$7,200
2.$9600Buy 300-$9,900
3.$12900Sell (450) = 500-$3,900
4.$9400Buy 200-$5,700
5.$12600Sell 300-$2,100
6.$9300Buy (150) = 200-$3,900
7.$12500Sell 400 (zero cost)+$900
8. 100 +$900

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Zero Cost Averaging: Options. No, Not That Kind!

I chose 33% on the buy side instead of 25% to get the numbers to work out evenly. You can chose any numbers you want for the buy and sell sides.

If price were to drop from $9 by 25% to $6.75, you would buy 50% more shares following the rules outlined. If it climbed from $12 to $16 (33% more than $15), you would sell 50% of your holdings, rounded up to the nearest 100 shares (or rounded down if selling would leave you less than 100 shares). At each step, check to see if selling all but 100 shares would leave you with at least 100 shares and a profit. If so, then sell those shares and stop trading this stock.

If you zero cost average like this, you can build a diversified portfolio of many stocks held at zero cost. If any of the stocks were to go to $0, you would not lose any money. Again, all of the numbers are flexible here. You can buy and sell at 10%, 20%, or 50% increments (or whatever). You can look for 1,000 shares at zero cost instead of 100. You can use dollar values instead of percentages, like buy or sell if the stock price changes by $3 and only trade 200 shares at a time.

-- Thomas Bulkowski

Begin your journey to becoming a better trader or investor by buying a copy of my book, Trading BasicsTrading Basics: Evolution of a Trader book., picture on the left. It's full of tips and ideas. It's the first book in the "Evolution of a Trader" trilogy.

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

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