TWO PERCENT GOAL TO FINANCIAL INDEPENDENCE

Rule #1

Invest only in the 500 largest cap stocks on the New York Stock Exchange aka the S&P 500.

You should only be looking at companies within the S&P 500.  These are companies you know.  They are well established companies making real products and real profits.  These are companies like Home Depot, Pfizer, Exxon, Johnson & Johnson etc.  What is also very important about trading these companies is that they are all widely traded and it is very easy to enter and exit a position.

Rule #2

Look for an oversold Relative Strength Index (RSI) and rising out of the oversold range

Look at the company’s Relative Strength Index (RSI).  You want to watch stocks that are oversold.  Remember, BUY LOW.  Once the RSI was in the oversold range and is coming out of it (rising above the 30 level), it is getting ready to climb.  This is your first signal, but other conditions must be met.

 Rule #3

When buying a stock, the 50-day average MUST be above the 200-day average 

The RSI tells you if the stock is oversold (or overbought), but you always want to trade with the trend.  Go with the flow.  When buying a stock, you want the 50-day average to be above the 200-day average.  NO EXCEPTIONS.  When this happens, the overall trend is positive.  When identifying a stock that is oversold with the RSI and the 50-day average is above the 200-day average, you have a great 1-2 punch.  Put this stock on your daily watch list, BUT DO NOT BUY IT YET.  The following conditions MUST also be met.

Rule #4

BUY SIGNAL:  The Stochastic Oscillator

At this point you have a stock in your watch list . You should watch it daily. The RSI shows it was oversold and you want to buy low for value.  The 50-day average is above the 200-day average so overall the stock is bullish.  When do you pull the trigger? The most important signal at this point is the stochastic oscillator.  Similar to the RSI it shows stocks that are overbought or oversold but the RSI can give a false signal  or be a few days too early.  Look for the stochastic oscillator to be in oversold territory (below 20) and penetrating past the 20 mark.  This is the time to buy, but you need further confirmation from two other sources.

Rule #5

Confirmation Signal #1: The On-Balance Volume

• • You have identified a stock that is oversold with the RSI; it is in a bullish trend with the 50-day/200-day averages and you are ready to pull the trigger with the stochastic oscillator but get further confirmation.  Start with the on-balance volume (OBV).  The OBV keeps a running total of volume depending on price action of the stock.  When the stock has an up day, the total daily volume is added.  When the stock has a down day, the total daily volume is subtracted.  The actual number is immaterial.  What is important is the trend. When you have strong volume on days where the price has risen, this is a positive sign.  Use the OBV as confirmation.  When the stochastic oscillator penetrates the 20 line, ONLY BUY if the OBV has an uptick day or is in an overall uptrend.  If not, DO NOT buy until the OBV does confirm.

Rule #6

Confirmation Signal #2:  The MACD

 The final confirmation you need before entering the trade is the MACD or moving average convergence divergence.  The MACD is an exponential moving average of the stock price.  It has two lines, one red, one black.  The black line is a faster moving average than the red line and is therefore more volatile.  Your final confirmation point is to ensure the black MACD line is moving up.  If it is going sideways or down, DO NOT buy the stock.  Quite often  the entry point is at the trough of the MACD  and the black line may be just starting to change direction  That’s ok so long as it starting to move up, otherwise do not buy the stock until the MACD confirms.

Rule #7

Use Limit Orders Not Market Orders

In order to maximize profit and minimize loss, your entry point is crucial.  When you choose to buy a stock make sure it is a limit order and not a market order.  A market order fills your order at the going market price while a limit order is a market order up to your limit.  For example if want to buy a stock at $100 a share and you place your order before the market opens and the market opens with the stock listed at $110 a share, your order would be filled at $110 per share.  I suggest using a limit order that is 1% above the closing price.  So if the market closes at $100 and you place your limit order at $101, if the market opens at $110 a share your order would not be filled.  If you cannot get your order filled at the price you want, move on.  There is always another buying opportunity.

Rule #8

Use Stop Losses to Minimize Losses and to Maximize Gains

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• Our ultimate goal is to double our money each year.  We break that down into smaller bites by aiming for a  2% return per week by swing trading.  No method is 100% guaranteed.  There will be times when we are wrong.  In order to protect yourself, after buying the stock, immediately put in a stop loss that is 3% below the settlement price. If you buy a stock at $100, your stop loss should be set at $97. This will minimize losses for those times the stock did not do what we thought it would.
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• Use stop losses to maximize gains as well. By using stop losses you can also ride the wave and make more than your 2% goal. Again, let’s say you entered a trade at $100. Your goal is $102. Let’s say in three days the stock surpassed your 2% goal and closed at $102.75. You set your stop loss at $102 to guarantee a 2% return. Now let’s say the intra-day low price the next day only went down to $102.50. Your stop loss order was not filled. GREAT.
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• Revise your stop loss to $102.49. Let’s say the stock is climbing and the next day the intra-day low was $102.75. EVEN BETTER. You revise your stop loss to $102.74. Each day you keep revising your stop loss order so that the trigger price is one penny lower than the previous intra-day low.
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• You repeat this process daily. Sooner or later there will be a down day and your stop loss order will be filled. You will have taken advantage of a major upswing while still guaranteeing your minimum goal.

Rule #9

Diversify

As the saying goes, do not put all of your eggs in one basket.  I strongly recommend you do not put more than 10% of your portfolio on one stock.  You can diversify even more by not putting no more than 5% of your portfolio on one position but you could be watching 20 stocks at one time and that could be overwhelming for some.  By diversifying, any losing positions will have a minimal impact on your entire portfolio.

Rule #10

Consider Leverage

Buying your stocks on margin will drastically increase your returns while diversity minimizes risk. If you have a $100,000 portfolio, a 10% diversity factor means you would never put more than $10,000 in one stock purchase. By using a 3% stop loss, you are risking a $300 loss. If you bought this on 3x margin, you would be risking a $900 loss. A $900 loss on a $100,000 portfolio is less than a 1% loss of the entire portfolio and certainly within guidelines for swing trading.

If buying on margin is still outside of your risk tolerances, don’t do it. Try these strategies without buying on margin until you gain confidence in the program and then ease into margin slowly.