Tiered Investing

To understand the approach of tiered investing think of a tier as the level or price of an individual stock. For example, if ConocoPhillips (COP) is trading at $100 per share, assume that one tier lower is $99 and one higher is $101. An investor who follows a tiered strategy will progressively buy stock at specific tiers as it decreases in value, and sell this same stock as it rises above the level of original purchase.

Consider the nutritional food pyramid that students are shown in elementary school. In this diagram, the foods with the most nutritional value make up the base of the pyramid (the largest tier) and those that have the least value are at the peak (the smallest tier). Using this example in the context of the stock market and tiered investing, it is ideal to have a substantial position in a company when it is undervalued and a small position (or none) when it becomes overvalued.

Before you buy a stock you must know why your company of choice is a good buy at the present time. This is one of the most basic rules of stock picking. If you cannot answer this question with intelligent and substantial reasoning, then you should keep your money on the sidelines and wait for a better opportunity. However, when the evidence is abundant, make a note of the rationale behind your action as well as any news articles that helped solidify your case. It’s OK to impulse buy when you are at Wal-Mart, but not on the NYSE. Also, record the date you invested, the price you paid and where the major indexes were. In tiered investing, it is crucial to reference these statistics in order to adjust your strategy as the fundamentals change.

The market can tease you like a hot waitress who flirts for tips, sometimes even more. Keep your emotions at bay in the stock game and with tiered investing; let the numbers do the talking.
Buying the dips

You don’t need a background in calculus to understand that as the price of a stock dips you should buy more as long as the fundamentals are intact. What’s tough to figure out is when to buy and by how much. The main idea we want to stress here is patience and self-control. The strategy of tiered investing calls for buying in predictable increments and at designated levels.

Using the previous example, lets say you buy 100 shares of COP at $100 because there is sufficient evidence that they will beat their quarterly earnings estimate. You also plan to buy 100 more shares at every 5% price decrease, in this case every five points. A few days later there is an overall market sell-off and COP drops to $95. You increase your position and now own a total of 200 shares. At $90 you repeat the purchase. Remember, this is all assuming that the company is still in good standing.

Instead of watching the ticker minute-by-minute, it is OK to set up e-mail alerts that inform you when the stock hits a lower tier. However, we don’t recommend setting up automatic purchases in your brokerage account. Actively managing your account will force you to keep in touch with any daily news related to your stock. Continue to check your notes and if the reason you originally invested no longer holds water and the position gets beaten down, it may be time to take a loss. This is a judgment call based on why you originally liked the company.

When the nuts and bolts of the operation are undamaged and the price starts to find a bottom, the fun part of tiered investing is about to begin.

We have tips on when to sell and when to let it ride during tiered investing

Selling the spikes
So, you braved the storm and bought COP all the way down to $80 and are the proud owner of 500 shares. Now the stock is rallying and is back up to $87 and you are thinking about jumping ship. Take your finger slowly away from the trigger or more accurately your mouse. Equity shows no emotion and neither should you. The earnings report is still a month away and your original hypothesis stated that COP would rise much higher than $100.

Assume that COP beats the estimates and shares are priced at $105. It may be time to slowly tier out of the position. What you need to know at this point is how much you ideally and realistically plan to gain on the investment. This could range from a conservative 5% on up depending on how long you are willing to hold on to the stock. At this point, the 100 shares you purchased at $80 have climbed a significant 31.25% and selling these would give you a solid profit while allowing you to keep your other 400 shares at work in the market. Set conservative price targets for your gains and sell them as they climb to their respective tiers.

Letting the profits ride

You have a couple of options once you reach your goal. You could sell out entirely and pocket the earnings. If you decided to sell all 500 shares at the $105 tier you would still come out with a total profit of $7,500 and an overall 16.67% gain. Or you could sell 100 shares at each 5% increase. A third choice would be to sell enough of the position to cover what you originally invested and let the rest ride. This allows you to continue playing the stock while not risking an overall loss since the remaining money is pure profit. In the worst-case scenario, with the stock busting completely, you would still break even.

ROLLER-COASTER INVESTING

The key to successful tiered investing is patience and self-control. Although, this is an unemotional and mechanical approach to trading, you should still maintain awareness of the overall market and any specific developments in the stock you own. Don’t try to “catch a falling knife,” like many investors are currently attempting in the financial markets. As the price falters, only continue to invest if the fundamentals are sound.