Reprogramming Your Mind
Stockscores.com Perspectives for the week ending November 11, 2007
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In this week's issue:
Each time I do a presentation to investors I always ask my audience if they consider themselves normal. Of course, most people do and that is what takes me to my next point.
If you are a normal human being, you are predisposed to fail in the stock market.
From birth, your parents, society and perhaps your natural instincts are all working to make you a poor stock trader. Normal people like to pursue pleasure and avoid pain. Making money is pleasure and losing money is pain, and until you reverse the natural tendencies to avoid taking losses and pursuing profits, you will never maximize gains in your portfolio.
Most investors will avoid selling their losers, showing great patience with their weak stocks. It hurts to sell a loser and the desire to avoid pain means we stick with them, hoping that they will turn around. We do not want much of our losers; most of us just hope to get out at break even.
Locking in a winner feels good and we have a tendency to sell the strong stocks too early. While we have patience with our losers we tend to be trigger happy with our winners, selling them before they have lived up to their full potential.
Success in the stock market is a constant battle to overcome your natural tendencies, reversing the years of mental programming that we are all burdened with. Here is a list of things that all investors can do to become better traders:
Understand Your Risk Tolerance
The best investors are those that don't care about the money. It is our emotional attachment to our hard earned cash that makes us succumb to our fear and greed. If you take too much risk on a trade, you will break any trading discipline that you have. Understand what you consider to be a painful loss, what is the dollar amount that starts to bother you? Always invest with a risk tolerance that is less than this amount. If your risk tolerance is below your pain threshold you will be more likely to take the loss when the market proves your stock pick wrong.
Plan to be a Loser
Most of us are trading the stock market with an eye on the prize; the plan is to make money on the stock. A better approach is to think about the potential for loss. Plan the price point where you will take a loss and let that be at the point that the market has proven your trading decision wrong. By planning to be a loser, you plan to limit your losses. Keep your losses small when you are wrong.
Understand the Expected Value of the Trade
Try not to think of your stock trades in terms of percentage profits. Instead, look at the trade with an eye toward the probability of gain versus loss and the reward of the trade versus the potential loss of the trade. If you make 20% on a stock in 5 days but the downside risk on the trade was 30% for doing so, you really have not made a good trade. For most of my trades, I consider doubling my risk as the minimum profit to make the trade successful.
Don't Be Part of the Madness of Crowds
Stocks that are moving up quickly tend to bring buyers who act irrationally. Many investors get emotional with the big winners in the market, not realizing that risk is at its highest when a stock is strongest. Linear up trends are typically rational but investors have become emotional when the trend goes parabolic and prices are running away from the trend line. Buy these stocks on pull back to the trend line, not when they have run away from them.
Understand the Value of Information
It makes us feel good to know something about the stocks that we own. However, basing trading decisions on publicly available information will only yield random results. The stock market is efficient at pricing in information. This means that all available public information is priced in to the stock. It is only when information is not widely known by investors that there is value in it. Always remember that prices move on what the information will be in the future, not on what has already come out.
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The markets have been in the control of the sellers over the last week but the long term momentum remains up. This means that a short term bounce is likely so this week I did a Market Scan with the following settings
Sentiment Stockscore > 60
Stochastics - Oversold
RSI - Oversold
Number of Trades > 1000
This scan seeks strong stocks that have been sold off recently. I then inspected the charts that the Market Scan found, looking for stocks that were near strong support (either at a trend line or a previous period of sideways trading) and likely to bounce back when the market found its own support.
Most of these are swing trade set ups that will have a relatively short hold period of less than two weeks, trading the bounce.
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1. BKHM
Downward momentum is slowing and BKHM is now at its long term upward trend line. I think it will bounce back soon, I would watch the intraday, 15 minute chart for a confirming signal before entering and for establishing the stop loss point.
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2. PMCS
Pretty strong sell off on PMCS over the last two weeks, the stock has now come back to the lows of the trading range that the stock was in through most of the last year. That should mean that the bargain hunters step up to take the stock, I would watch the intraday chart for a break from a rising bottom and then put the stop loss point just below the bottom of that rising bottom.
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3. FDP
Big volume near the lows on FDP and the downward movement has really slowed, we may be gearing up for a quick bounce back of a few dollars. I would watch the intraday chart for a move through $29 with support at the low of the pull back around $27.40.
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References
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Disclaimer
This is not an investment advisory, and should not be used to make
investment decisions. Information in Stockscores Perspectives is often
opinionated and should be considered for information purposes only. No
stock exchange anywhere has approved or disapproved of the information
contained herein. There is no express or implied solicitation to buy or
sell securities. The writers and editors of Perspectives may have positions
in the stocks discussed above and may trade in the stocks mentioned. Don't
consider buying or selling any stock without conducting your own due diligence.
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