10 Ways To Keep It Simple
Stockscores.com Perspectives for the week ending December 21, 2008
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Special Market Minute Videos
I am on vacation right now so the Market Minutes were prerecorded before I left. Each week for the next three I have looked at one of the key components of trading. This week I go over the important theory for when to buy. Next week, I will discuss risk management and then follow up with the selling stage of the trade. These videos are free, to watch them click on the orange Market Minutes link found on the Stockscores home page.
I will be speaking at a number of financial shows and presentations across Canada in the first quarter of 2009. The details and schedule will be announced soon.
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In this week's issue:
Experience has taught that the simple approach is usually the best; it seems to capture the essence of what is important. So, with that in mind, here is a list of the 10 simple things everyone should know about the stock market:
1. Price Trends Are Made of Moves and Counter Moves
A move occurs when the stock moves either up or down for a sustained period of time without a move in the opposite direction. A counter move is a price move in the opposite direction but with less intensity than the original move. Up trends join the bottoms of counter moves and downtrends form the tops of counter moves. Therefore, a trend is a series of upward moves, each followed by a short term downward counter move. The trend line is drawn across the lows of the counter moves, creating an upward sloping line.
2. Irrational Valuations Can Not Last Forever
Stock price is based on the present value of future earnings expectations. That means the company is worth what it can make in the future. The market's job is to figure out what a company can make in the future and discount that value back in to today's dollars and adjust for risk. When stock's price in earnings expectations that are far beyond the company's ability, the market is being irrational. Eventually, irrational behavior is corrected.
3. Irrational Behavior Can Last Longer Than Your Bank Account Can Afford
The market is efficient at pricing stocks but that does not mean it can not make mistakes in the short term. Investor emotion can cause the market to pay too high a price or accept too low a price for a stock and may inspire some investors to trade against this emotion, citing irrational behavior. However, the market has been known to stay irrational for a very long time and in doing so, take the hard earned investment capital of those betting against it. The lesson: don't fight against the market, it is always right.
4. Rising Bottoms Mean the Buyers Are In Control
If you look at a stock chart and see that the lows of the counter moves over time are rising from left to right then the buyers are in control of the market. Your success in buying stocks will be higher when you wait for the buyers to take control.
5. Falling Tops Mean the Sellers Are In Control
If you look at a stock chart and see that the highs of the counter moves over time are falling from left to right then the sellers are in control of the market. Your success in shorting stocks will be higher when you wait for the sellers to take control.
6. Uptrends Start Slowly and End Quickly
Bull markets are founded in skepticism and take time to develop. The upward trend will steepen as more and more investors take a buying interest in a stock. Eventually, too many investors will buy the stock and send it to irrational price levels which may then sharply correct downward.
7. Downtrends Start Quickly and End Slowly
Downtrends tend to start when irrational buying pressure gives way to a correction and the stock falls sharply, very quickly. The intensity of the downward move tends to dissipate over time until the downward trend becomes flat.
8. Trend Reversals Take Time, Exiting a Stock Takes Seconds
Investors are often unwilling to own markets that are acting irrationally, citing the likelihood of a correction is near. While this is true it should always be remembered that exiting a trade takes mere seconds and can be automatically executed with a stop loss order. Trend reversals usually take a few days to begin.
9. Public Information is Useless
There is no free money in the stock market. Companies that announce significant changes in the fundamentals of their business will see their stock price move almost immediately to reflect that new information. Using information that is already well disseminated will only produce random results.
10. Abnormal Activity Indicates Something Out of the Ordinary is Happening
To beat the market requires you trade on information that is not already well disseminated. This can be achieved with in depth research or inside knowledge. Within every company there are some people with this kind of information and they act in the market, leaving a trail to follow. New information is often highlighted by abnormal trading activity
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The Sentiment Crossover Market Scan seeks stocks that have had a Sentiment Stockscore below 60 but today has crossed above 60. If you believe that the market is likely to reverse from pessimism to optimism, this is a good strategy for finding stocks that will be part of the turnaround.
The news has been very negative for the market since the summer. In the past few weeks, all we have heard is bad news about job losses, slowing sales, bailout packages and corporate losses. Yet, despite all of the bad news, the market has stopped going down. It has not really started going up yet either, but it does take some time to reverse downward momentum.
As the market looks ahead to the end of tax loss selling and fund redemptions and a new administration that carries with it a great deal of optimism, we may see some buying strength in the first quarter. The markets remain far below the long term downward trend lines, giving them some short term upside although a long term reversal of the downward trend is a long way away.
I think there is a good chance for a trading rally in the midst of a long term bear market. In the past few seeks, I have featured a number of ETFs and a few stocks that should lead if the market is able to make this turnaround. This week, I ran the Sentiment Crossover Market scan to find some stocks that are showing some optimism with enough upside potential to the next level of resistance to justify the trade.
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1. PAET
PAET has found good support at $1 and has now formed a rising bottom consolidation. It broke its downward trend line a couple of weeks ago and has made its first cross above 60 on the Sentiment Stockscore since June. Ideally, I would wait for this stock to make a break through short term resistance at $1.50 to take the trade with support at $1.25.
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2. BR
BR made a double bottom and has been building some optimism over the past month as it now works its way through short term resistance. Support at $11.50.
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References
Get the Stockscore on any of over 20,000 North American stocks.
Background on the theories used by Stockscores.
Strategies that can help you find new opportunities.
Scan the market using extensive filter criteria.
Build a portfolio of stocks and view a slide show of their charts.
See which sectors are leading the market, and their components.
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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