3 Ways To Buy The Dip

Buying the dip in any stock or index can be a difficult task for an active investor. Not only do you have to worry about trade location, but also key factors such as initial position size and risk management parameters. There is a lot to take in and easily second guess yourself when looking to start a new position in the teeth of a correction. 

What if you are too early?

What if you buy too much or not enough?

What if you wait too long and it rockets higher while you are still on the sidelines?

These questions are valid risks and opportunities that flow through our minds in real-time with real money on the line. Fortunately, there are some techniques that can serve as guidelines for putting money to work as a dip unfolds.

Percentage off the high

One way to enter a new trade is to set a buy order or alert when a stock or ETF falls a certain percentage from its high. This method will allow you to establish a new position at a pre-determined point with a simple trigger.

The benefit to this method is that you have implemented a disciplined approach to your portfolio management decisions that overrides any emotional response to the price decline. The downside is that its simplicity allows for unknown execution dates and won’t trigger unless a correction unfolds to meet your preset level. If you set a trigger 15% or 20% off the high, and the uptrend continues indefinitely, then you may miss out on significant upside.

Trend line

Another opportunity for establishing a new position during a correction is to use a trend line or simple moving average. Common examples include the 50-day moving average (short-term) or 200-day moving average (long-term).

If a stock or ETF has demonstrated a pattern of bouncing off one of these trend lines along the course of its longer-term price channel, it may represent a solid area to execute a trade. This would represent the trend line acting as a form of price support.

A different way to interpret or utilize trend lines is to allow the price to undercut the moving average and use it as a buy signal when it breaks back above.  This is a common price trigger for investor who utilize moving averages as an upside breakout target.