Know What People Do, Not What they Say They Are Doing
Stockscores.com Perspectives for the week ending March 20, 2013
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In this week's issue:
SCATE 2013
Learn fast and simple methods to analyze stocks. Attend the Stockscores Canadian Active Trader Expo, coming to Victoria, Vancouver, Calgary, Edmonton, Toronto and Montreal. For more information, click here.
Stockscores Market Minutes Video
Traders tend to doubt strong upward trends and get out at speed bumps along the way. This week's video shows how to tell the difference between a pullback in a trend and a trend reversal. Plus, Tyler's regular weekly market analysis. Watch it by clicking here. To receive email alerts any time I upload a new video, subscribe to the Stockscores channel at www.youtube.com/stockscoresdotcom.
This week's Trading Lesson
Investors have many choices on how to analyze the stock market. Most use some form of fundamental analysis, looking at company information to determine whether the stock's price is more likely to go higher or lower in the future. This approach makes the most intuitive sense and appeals to our need to make an educated decision. However, it is seriously flawed for most investors.
When considering information about companies, it is not enough to know the news. It is also essential to understand whether that information has already been priced in to the stock. Ultimately, using information is only valuable if the rest of the market is not yet aware of it.
Small investors doing fundamental research are competing against large, institutional investors who have considerable resources, industry knowledge and relationships to uncover hidden value. This is sort of like bringing a knife to a gun fight, although it is probably more accurate to say that you are bringing a stir stick to a nuclear war.
Rather than study fundamentals, I prefer to analyze what the market thinks of the fundamentals. Using price and volume activity, it is possible to understand what investors think about the fundamentals. Since the markets are extremely efficient, they tend to price in information long before it is part of the public base of knowledge. Most importantly, studying a stock's trading history looks at what all investors are doing with their money, not just what some are saying.
When doing analysis, I begin by collecting information. For me, this means looking at all of the relevant charts and assessing what the message of the market is. In this process, it is important that you avoid biasing the research.
It is a common for people to only look for what they want to see. An investor who is long a number of oil stocks will seek out information that confirms the oil market is going higher. You can be a great reader of charts, but if you don't look at the right charts, you will get a tainted impression of where a market is headed.
Let's do this process for analyzing the overall market right now. Here is a list of the ETF charts I focus on:
UUP - US Dollar Index
TLT - 20 Year Treasury Bond
GLD - Gold Trust
OIL - Crude Oil
VXX - Volatility Index Futures
SPY - S&P 500
T.XIU - TSX 60
In each of these charts, I look for a few simple characteristics:
Rising bottoms - the buyers are in control
Falling tops - the sellers are in control
Price volatility - if there is a lot of price volatility, investors are uncertain. If the stock is trading in a narrow range, investors are confident
Price relative to a trend line - price far above an upward trend line indicates buyers are emotional. Closer to the trend line shows investors are rational
Price relative past price ceilings and floors - recent breaks through important areas of support and resistance show a change in the perception of fundamental value
We need to look for these things in the charts and the piece together the puzzle of how different factors work together. Let's go through the list of ETFs and highlight the characteristics:
UUP - the market has been Bullish on the US Dollar for about six weeks and the trend remains up. The recent volatility here indicates the market is getting more uncertain about whether the strength is justified.
TLT - US Treasuries remain in a downward trend, a positive for the stock market since sellers of Treasuries have a good chance of putting the money to work in the stock market.
GLD - Gold is in a downward trend but was oversold until last week. The precious metal is now bouncing back but this strength is not a change of trend yet, I remain Bearish on Gold.
OIL - Oil is in a sideways trading pattern that oscillates up and down without a sustained trend. That deserves a Neutral rating.
VXX - The VXX represents Fear which continues to be on the decline.
SPY - the S&P 500 is still in an upward trend, the recent weakness is thus far only a pullback in that trend and not a break of the trend.
T.XIU - the TSX has been trending sideways over the last couple of months but is slowly building optimism. A break higher will take the index through resistance and likely indicate a broadening of the rally that has occurred in the Banking and Telecomm stocks.
For a similar analysis, give my Market Minutes video a look by clicking here.
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For the Position Trader, the Stockscores Simple preset Market Scan is the best one to apply on a daily basis to find a few stocks a month with good potential. This scan looks for stocks with good Stockscores indicators and a few components of positive chart patterns.
This week, I ran this scan but modified it to only look for stocks that traded at least 5000 times a day. That points to the most widely held and liquid stocks, the sector of the market that is doing the best right now.
The scan found 38 stocks which can be put in to three piles. The first, and biggest pile, are those stocks that have been going up for a while and are already well in to their upward trends. These stocks have good Stockscores because they are good holds but not good buys.
The second pile are stocks that are showing strength but from unpredictable chart patterns. These stocks may be breaking through resistance but after a period of a lot of price volatility. I find these stocks are less likely to evolve in to profitable trades.
The third pile is the smallest, it contains the stocks breaking from predictive chart patterns like Ascending Triangle or Flags. If these stocks have good reward for risk characteristics, they are worth trading.
Here are the charts that I found stood out from Tuesday night's market scan:
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1. S
S is breaking through resistance from an ascending triangle pattern that has been building for a few months. The 5 year weekly chart also shows that the stock is breaking from a long term cup and handle pattern. Both are good predictors of a stock that is likely to outperform. This one has support at $5.85.
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2. GST
GST made a big jump higher on abnormal volume that seemed to surprise the market out of a good chart pattern and through resistance at $1.40. Support at$1.29.
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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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