Averaging Down

The concept of averaging down is pretty simple to understand. You buy a stock at one price, add to your position at a lower price, take the sum total of all of your shares and divide it by the total cash paid for the stock. Many experts detest averaging down, calling it a habit of amateur investors. The reason for their condescension is the thought that averaging down doubles your position in a losing undertaking and sets you up for disappointment. Some people say that pride has a part in averaging down, that instead of admitting a mistake, investor hubris causes one to dig deeper a hole that may be unpreventable.

Contrary to expert opinion, we believe that averaging down is a great tool to have in your bag of tricks. Averaging down affords an opportunity for increased profits under the right circumstances. We do average down on quite a few of our positions while we don't do it on all of our trades. We like to buy stocks when they are in a downward trend, as we have mentioned previously. Our positions often take a negative turn in their infancy due to the literal impossibility of timing an initial entry point to coincide with an absolute low. For some people, this could cause panic, but we actually expect this to happen. Now, we know what you are thinking... "if you expect your initial position to decrease in value, why not just wait a little longer before buying the stock?" we will tell you why we do not do this.

There are occasions when you are fortunate or lucky enough to buy a stock at its absolute low even though it does not happen frequently. We have had this happen two times during the past year with the stocks EVOL and EVCI. As the year of 2004 drew to a close, we were looking for a few stocks to add to our portfolio. One of the stocks highlighted by our stock screener was Evolving Systems (NASDAQ: EVOL). We purchased the stock at around $3.60 and did not expect much to occur with the stock for some time. By mere chance, the day after making my purchase, the company had some news and the stock took off like a rocket. Trading volume exploded from an average of about one hundred seventy thousand shares to just over five million shares on that particular day. The price of EVOL stock quickly appreciated to a high of $4.90 with such agitated trading activity. This action was much more than we had anticipated and we sold our entire position to lock in a fast profit. Sometimes you get lucky and that was the case with EVOL.

We certainly did not expect anything like to this to happen two times within the same year, but lightning did strike again. In November of 2005, we were once again running our trusty stock screener. We found a stock called EVCI Career Colleges Holding Corp. (NASDAQ: EVCI) which seemed to have some solid numbers, but it was the company's press releases that actually caught our attention. At the time, the company was being investigated by the New York State Department of Education. EVCI had a fifty two week high of over eleven dollars, but it was setting new fifty two week lows almost one dollar and eighty cents at the time. We felt that the time was right to grab a few shares of this stock with such a steep drop in share price. Within a week of taking our initial position in EVCI, the company released promising results from an internal investigation concerning the New York State Department of Education probe and the stock made a big jump. The positive news sent the stock to highs of $3.42. Having taken an initial position at $1.80, we pounced on the opportunity to lock in! it made a 70% profit. Fortunately for us, luck had struck twice. The action with EVCI was more than we had expected for the whole year. The fact that it had gotten such lofty gains in less than one week was amazing and we were happy to get out with a nice profit.