Another very important aspect of trading is position building. The norm typically, especially among those considered retail or amateur traders, is to put on a full position right out of the gates. Another theory is to buy in with a half or quarter position, see if the stock pulls back any further, and then add a little more to the position, and if drops even further to add more, with the reasoning that by doing so you are lowering your cost basis. 

Neither of the two aforementioned strategies are ones that I would consider advisable, nor ones that we participate in ourselves. Instead we will put on an initial position of about 25% of our position capital (position capital meaning the amount of money we are ultimately willing to commit to a particular position in our portfolio, for example 10% of a $1M account would translate into $100k, so an initial position would be 25% or $25k). If that position goes down, we will not commit any further capital to it. If it sinks further, we will still stay on the sidelines with our remaining position capital. If our stop-loss is triggered, then we are out, and as a result, we only risked 25% of our position capital on the trade.

However, if we put on a 25% of our position capital down on a security, and as a result, the position rises 5%, we will apply another 25% of our position capital to the trade brining the total stake to 50%. Should it rise another 2% - 5%, we will add another 25% and so on, until we have a full position. As a result, we will typically only have large position in our winning positions and small positions in our losing positions.

The drawback to this approach is that we don’t realize the full profit amount had we allocated the entire position capital up front. However, by doing so, you also can lose on the full position too. Let’s look at an example assuming a portfolio value of $400k. One hundred shares in this example represents about 25% of the ultimate position capital. 

• Bought 100 shares of Company ABC @ $100/share
• Bought 100 shares of Company RST @ $100/share
• Bought 100 shares of Company XYZ @ $100/share
• Stock ABC drops 10% and as a result we are stopped out at $90/share
• Stock RST drops 10% and as a result we are stopped out at $90/share
• Stock XYZ goes up 5% and as a result we add another 100 shares to our position at $105/share.
• Our losses in ABC was only $1k since we only allocated 25% of our position capital to the position
• Our losses in RST was only $1k since we only allocated 25% of our position capital to the position
• Our current profit in XYZ @ $105/share is $500 and we now have 200 shares of it.
• Stock XYZ goes up another 5% and is now at $110/share. We add another 100 shares at $110/share  
• Our current profit in XYZ @ $110/share is $1.5k and we now have 300 shares of it.
• Stock XYZ goes up another 5% and is now at $115/share. We add the remaining position capital to our position @ 115/share.
  
• Our current profit in XYZ @ $115/share is $3K and now we have a full position on at 400 shares.
• The stock goes all the way up to $125/share before finally pulling back and hitting our stop-loss at $120, which is where we lock in our profits. Our final profit in XYZ @ $120/share is $5k and we have now closed the position.                         
  

What is interesting about the position above is that we were only 33% right when considering the three stocks that we put positions on. However, we realized only $2k in losses, while brining in $5k in gains. That is a net gain of $3k on the portfolio. In fact we could, using the above scenario, right on 17% of our picks and we would still manage to break even.  

Now using the same example above and assuming the same returns, however, instead of building a position over time, we instead use all of our position capital right away, we would be looking at losses of $4k in Stock ABC, and a $4k loss in Stock RST, while gaining $8k in XYZ. Our total gains would only make us break even. Thus, the reason for building a position over time rather than overnight.

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