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Vanguard has commission fee ETFs which allow vanguard customers to purchase or sell any of their ETFs at any time. I'm looking to create a strategy that would minimize my downside in the eventuality of an severe stock market correction.

At the moment, I'm buying on the dip, which is a fairly well known strategy for purchasing stocks/ETFs in a bull market. I purchase a small amount every week, depending on where in the cycle we are. In the last 6 months, the market as a whole as increased (as evidenced by the record S&P 500/DJIA).

However, every bull market must come to an end. Almost no one can foresee when a market correction will occur. I've created 60 day Good-Till-Cancelled stop limit orders on each ETF I own, which will trigger when each ETF drops to 5% above my average cost price. That way, I should be able to get some upside whilst the market slides down and I can buy back in later.

Does this seem sensible as a strategy? Would there be a better way to protect my investment whilst allowing me to keep investing in this rather expensive market? Thoughts appreciated.

  • Which question do you want answered: the one in the thread title or the one in the last paragraph? If the former, the answer is "yes", Vanguard does allow the use of limit orders, as it seems you already know. – dg99 Jun 20 '14 at 16:08
  • Correct, it's really a question about the strategy rather than the technicalities. – Jimmy D Jun 20 '14 at 18:33
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You've laid out a strategy for deciding that the top of the market has passed and then realizing some gains before the market drops too far. Regardless of whether this strategy is good at accomplishing its goal, it cannot by itself maximize your long-term profits unless you have a similar strategy for deciding that the bottom of the market has passed. Even if you sell at the perfect time at the top of the market, you can still lose lots of money by buying at the wrong time at the bottom.

People have been trying to time the market like this for centuries, and on average it doesn't work out all that much better than just plopping some money into the market each week and letting it sit there for 40 years.

So the real question is: what is your investment time horizon? If you need your money a year from now, well then you shouldn't be in the stock market in the first place. But if you have to have it in the market, then your plan sounds like a good one to protect yourself from losses.

If you don't need your money until 20 years from now, though, then every time you get in and out of the market you're risking sacrificing all your previous "smart" gains with one mistimed trade. Sure, just leaving your money in the market can be psychologically taxing (cf. 2008-2009), but I guarantee that (a) you'll eventually make it all back (cf. 2010-2014) and (b) you won't "miss the top" or "miss the bottom", since you're not doing any trading.

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