These five levels of recommended market exposure take into account much more than just the gains or losses in the major market indexes. This graduated approach takes into account other key factors, such as how many stocks are nearing buy points while forming sound chart patterns, launching successful breakouts, or breaking down. And what is the price action and volume around key moving averages? To stay in sync with rising or decreasing risk and opportunity levels, the continually tracked and updated exposure level also helps investors get gradually in or out of stocks if they start to show signs being overbought or oversold.
So rather than look at individual companies in a vacuum, focusing solely on the best stocks to buy, remember that successful stock investing starts with understanding and staying in sync with the market trend. Keep the odds in your favor by managing your risk/reward ratio based on current market conditions.
- 0%-20%
This indicates the highest level of caution. During a market correction, the dangers inherent to a downtrend are high enough that sitting mostly on the sidelines is preferable to aggressive buying. Keep in mind that leading stocks usually correct 1.5 to 2.5 times the general market. That can make a big dent in your portfolio. You can gain a lot of outperformance by keeping exposure low in bad markets and avoiding huge drawdowns. A follow-through day to inform us of a potential change to a bull market. A follow-through signals a time to explore buying stocks again, but gradually. It’s still too early to go fully invested immediately. After all, while uptrends have follow-through days early in their moves, not all follow-through days lead to uptrends. - 20%-40%
At this target exposure level, it is still possible to have a follow-through day to mark a potential improvement in market trend. But the market indexes may still have weaknesses to work through before becoming further invested. For example, maybe few stocks have formed proper chart patterns. Or perhaps leading stocks are not breaking out in good volume, or recent breakouts are failing. How leading stocks are behaving around key moving averages is another of several factors to consider. - 40%-60%
If you start to see increased signs of accumulation in the indexes and several quality stocks begin to offer potential buying opportunities, that could lead to increased market exposure. If such promising trends begin to fade, investors can reduce risk by reducing their exposure accordingly. - 60%-80%
Again, several factors come into play when determining the targeted market exposure level. As an uptrend gains steam and the move is backed by the behavior in leading stocks, sectors and industry groups, more aggressive buying may be warranted. But always remember that these levels are fluid and subject to change. And keep in mind that they are based on what the indexes and individual stocks are actually doing, not on opinions or predictions. - 80%-100%
This is the highest tier of targeted market exposure. Understand that at some point bull markets end. Avoid overly bullish periods of “irrational exuberance.” Just as we gradually increase exposure as the market starts to recover from a downtrend, we also incrementally reduce exposure as the market becomes overheated. Warning signs calling for risk reduction can include factors such as an abundance of late-stage bases or stocks (and indexes) getting too far above a moving average like the 50-day line.
Stock investing is not an all-on or all-out proposition. This tiered scale helps ensure that investors stay disciplined and diligent — and in sync with what the market is doing. By adjusting market exposure based on these various unbiased factors, investors can be more aggressive when warranted, while taking their foot off the pedal as risks increase.