Creating an Algorithm to Purchase Stocks
I have this crazy goal to purchase stock in decent companies when the the price falls quickly and then realize the gain before I end up being a “long term” investor in a stock that doesn’t meet my overall goals. Why? It’s a way for me to take advantage of opportunities in the market (I’ve bet on some of these quick-falling stocks in the past), but now I’d like to do it with a more structured approach.
Structure is the name of the game for competent investors in the same way craziness is the name of the game for Lady Gaga. I’ve never seen successful investors take a scattershot aim toward results (and I’ve never seen Lady Gaga without some meat product on her body or huge glowing outfit). To be successful at any task, including trading stocks, you have to keep your eye firmly on the end game.
So, that’s the first step, isn’t it? Determine the end game:
I need to create, in a few sentences, just what it is I’m hoping to create. Without being able to vocalize my goal, I won’t be able to structure an algorithm to make it happen.
Have you ever heard the difference between comedians and non-funny people? Comedians work at jokes, rewriting and working over and over until it’s funny. Non-funny people wait for “funny” to happen (which it never does) and bemoan the fact that they can’t think of anything.
So, keeping that in mind, we’ll write until we get it right.
Here’s my first shot:
My goal is to realize as much profit during the first thirty days of a big event that sends the stock down at least 5%. After 30 days, I’ll sell.
I’m not sure if I like that (which is exactly what I expected. Low expectations keeps the pressure off, doesn’t it?). I need to add something about the companies I’m buying to the front end of this project.
Take #2: My goal is to buy stock in a quality company whose stock has dropped at least 5% in two days or less and then sell it within 30 days.
Much better. Still not perfect, but that’s a start.
A question you might be asking: Why 30 days? I don’t have a reason, except that from experience, that seems like the time that all of the emotion has drained from the argument (what we’re betting on) and fundamentals have again returned to control the movement of the stock. I’m not trying to buy good companies with this approach. Remember: I’m going to invest in good, long term investments with most of my portfolio but not with this money.
Writing Down Your Goal
People always have trouble writing down their goals, but there’s magic in the process. Now that we have it in writing, we can start tinkering with the formula. I’m already excited by a few questions that my statement has uncovered:
– How are we going to define a “quality company?”
– Is there a minimum or maximum price we’d be willing to pay for a stock?
– What method will we use to sell?
– Will we place any defense mechanisms in place after we purchase in case we’re really, really wrong?
– How long will we test the algorithm before we change it?
I know the answer to none of these questions. However, here’s where the magic is: how many of these questions would I have even approached if I hadn’t created a written goal in the first place? Next week we’ll begin answering some of these questions to crystallize the goal.
But the lesson for today, stackers: Write out your goals! THEN you’ll be able to tweak them into something usable.
Hey Benjamin, this is really a great way to write out our goals and I will definitely wait for your next post for those answers. I very much liked your idea of “we’ll write until we get it right”
Hey, Rita! It’s Joe. I’m just a little younger than Mr. Franklin. That isn’t a selfie at the top of the page 😉 Ha!
Matt @ momanddadmoney
What benchmark will you be using to determine it’s effectiveness?
That’s what’s awesome about this project…I have no clue yet. Deciding to do this has opened up 101 different questions like yours that I’ll need to answer.
John S @ Frugal Rules
“However, here’s where the magic is: how many of these questions would I have even approached if I hadn’t created a written goal in the first place?” This is SO genius and so true! The sad thing is that so many investors do this with their portfolios and have no clue what their goal is at all.
I’ve never understood it. That was why I think you and I had such different experiences working in financial services companies. Because mine was planning, it was much more of a process I believed in. Yours sounds like it was awful.
Common Cents Wealth
Great advice. I always thought that actually writing down my goals was a waste of time until I started doing it over the past year. It has kept me a lot more accountable and brought up some questions that I wouldn’t have thought of before.
Todd @ Fearless Men
Hopefully I can join you for the ride!
When you mention defense mechanisms, I wonder what would stop the stock from plummeting even further than 5%? Are you looking for a resistance level before you’re willing to buy?
That’s what’s fun about this project, Todd! I don’t know yet. We’ll keep diving in to see what (or if) there are some indicators that it’s time to jump in.
Overall, though, I’m not worried about catching 100% of the upside. Sure, it might descend further (and in some cases they have). I bought some MSFT on their bad news a couple weeks ago and initially lost a little. Now I’m up 4% in two weeks. Sweet!
Done by Forty
I think this is a good start and you’re identifying your known unknowns. I think like another poster mentioned, the tricky bit is going to be knowing when after the 5% to buy. If we’re trying to find the inverted head and shoulder pattern…when are we looking at a head?
Great idea. I think what we should do is look at my previous “wins” to see if there were any similarities that we can glean from them. That’ll help us identify an entry point, I’d think.