When to Average a stock? Averaging Good or Bad? (Devil is in the details).
The Questions you should ask yourself before averaging:
I have been asked this question several times. What is the right time to average a stock? I usually have a counter question to this question. The same question you can ask yourselves before averaging. Why did you hold on to a losing stock for so long? Now are you feeling so bad and hurt about the capital lost that you are feeling the need to average it?
In most cases averaging is not strategic but might just be psychological. It just makes investor feel better that you have not made huge losses on your capital.
Risk in Averaging:
The other risk in averaging is that you are deploying more capital to a losing horse. In most cases people sell the stock which has helped them make money and put the same money on the stock that is already loosing. So this becomes a double whammy. If your conviction on the stock which you want to average is so high, hold on to it without deploying more capital.
In most cases the second biscuit which goes in to rescue the first biscuit also gets drowned. Thus ruining the tea (here your portfolio further).
When you can Average?:
Sometimes though averaging can be strategic. Say a high conviction blue chip stock has gone down just because of market correction or some other micro factors is truly making a turn around and the capital allocated to the same stock is not so huge you may average it.
Sometimes people take entry with a risk reward ratio which is in favor of the investor but still the technical breakout fails due to again market correction or not so relevant or operational issue which gets resolved you can average the stock.
Sometimes you have taken X/2 or X/3 entry in a stock consciously knowing about some factors or strategically have allocated partial capital for tracking quantity you can definitely average such stock.
Just make sure that the stock you are averaging is fundamentally strong and there are no ethical issues that have come to fore about the management. There are no macro or micro headwinds that can still drown further your allocated as well as freshly allocated capital.
Do not catch a falling knife. Catch the tennis ball when it is bouncing after forming a bottom.
Technical Analysis Can Help You in Timing your Moves:
In the chart is the chart of HDFC Bank. HDFC Bank is a blue chip stock and high conviction stock for lot of people. Suppose someone is holding HDFC bank bought at higher levels Zone B and Zone D in the chart can be the points where he or she can average. The reason being in the Zone B the stock has taken support of 200 days EMA (Father line) and crossed 50 days EMA (Mother Line too). In the Zone D stock to mid channel support and crossed the Mother line 50 days EMA. RSI was also turning favorable in this zone.
A smarter investor would sell partial quantity of this stock at Zone A when the stock is falling below Mother and Father line (50 and 200 Days EMA). Buy again in the quantity he had sold + He will be able to buy some surplus quantity due to price difference in the zone B. He will again sell partially in the zone C, when the stock hits channel top resistance where RSI is also showing the stock is overbought and buy the same quantity + surplus quantity with remaining balance again in the Zone D where the stock has taken Mid Channel support and is crossing Mother Line 50 EMA again. To know more about Mother line. Father line and Mother, Father and Small child theory read my book the Happy Candles Way to Wealth creation available on Amazon in paperback or Kindle version.
What happened here when you took help of Techincal analysis?
with the same capital deployed you have some surplus quantity of the stock. This is playing smart. This is how you can beat the market. HDFC Bank grew at approximately 23.4 CAGR in the last 5 years but you will be able to grow your HDFC bank stock at a CAGR which is better than the bank itself. Knowing Technical analysis will help you not only knowing the points where you can average but using it smartly will help you compound your money faster and beat the market. This is not a recommendation to buy HDFC Bank stock but it is an educational example of how you can make your money work harder. How you can grow it faster and create generational wealth. Happy Investing with Happy Candles!
Disclaimer: There is a chance of biases including confirmation bias, information bias, halo effect and anchoring bias in this write-up. Investment in stocks, derivatives and mutual funds is subject to market risks, please consult your investment advisor before taking financial decisions. The data, chart or any other information provided above is for the purpose of analysis and is purely educational in nature. We will not be responsible for Profit or loss due to descision taken based on this article. The names of the stocks or index levels mentioned if any in the article are for the purpose of education and analysis only. Purpose of this article is educational. Please do not consider this as a recommendation of any sorts.
