Stockscores.com Perspectives
For the week ending July 30, 2004
In this week's issue:
The stock market is a forum for debate between buyers and sellers on the values of companies. That is the nice explanation. The reality is that the stock market is a war between buyers and sellers, who each want to take the others money. The stock market is rough, and if you don't approach it with the disposition of an irritated general, you will lose. In the stock market, nice guys finish last.
Sun Tzu's, The Art of War serves to highlight many aspects of trading, since trading the market is much like warfare. Here are some quotes from the book, and their application in trading:
"All warfare is based on deception."
This point was made perfectly with trading in TARO on Thursday. The stock was hammered lower on bad news, but seemed to want to go higher as the morning wore on. Watching trading activity, you could just tell that there were some big buyers in the market looking to bottom fish the stock. At one point, on the Stockscores Live Chat, I alerted our members to the opportunity shaping up on TARO. However, the big buyers can play tricks.
Suppose you are a large hedge fund, and you want to accumulate a stock. You know that taking a sizeable position will move the stock higher, and you will end up paying higher prices as day traders jump in to the frenzy. With shares on the books already, you can afford to sell a little bit and paint the chart with a negative technical set up that should entice some selling pressure from nervous retail investors and overzealous short sellers. That selling pressure will help you fill your larger buy order.
Shortly after 10:30 ET, TARO was trading in the pointy end of a pennant pattern, a chart set up that typically precedes a break in to a trend. The direction of the trend is determined by the breakout from the pennant, a fact that most chart readers are aware of. The big fund looking to shake some stock out of the market can mislead the market on the future direction of the stock by instigating some selling pressure to cause a break to the downside from the pennant. That is exactly what happened on TARO.
Selling pressure picked up, and the large investor switched to their real intention, which was to accumulate the stock. The deceptive trap had been laid, and traders were enticed out of a stock that was destined to rally higher for the rest of the day. The large investor was able to lower their average cost of their position.
Further words from Sun Tzu:
"Therefore, in your deliberations, when seeking to determine the military conditions, let them be made the basis of a comparison, in this wise:
(1) Which of the two sovereigns is imbued with the Moral law?
(2) Which of the two generals has most ability?
(3) With whom lie the advantages derived from Heaven and Earth?
(4) On which side is discipline most rigorously enforced?
(5) Which army is stronger?
(6) On which side are officers and men more highly trained?
(7) In which army is there the greater constancy both in reward and punishment?"
Let me translate this in to stock market terms:
Among buyers and sellers, the side who will gather the greatest profits will be determined by:
(1) Which side believes that the stock market is always right?
(2) Which side is led by the largest investors?
(3) Who is trading with the trend?
(4) On which side is discipline most rigorously enforced?
(5) Which side has more money?
(6) Which side has the best understanding of fear and greed, and how the crowd behaves when pressured by either?
(7) Which side lets profits run, and limits losses?
"According as circumstances are favorable, one should modify one's plans.
We should only add to winning positions and never average down on a loser. Profits are carried by momentum, and if you are on the right side of momentum, you can make a lot of money. When losing, stick to the plan and exercise stop losses. When winning, increase position size as new entry signals are confirmed.
"When you engage in actual fighting, if victory is long in coming, then men's weapons will grow dull and their ardor will be damped. If you lay siege to a town, you will exhaust your strength."
If the expectation of your trade is not working out in a timely fashion, then you have read the market wrong and it is best to exit the position.
"It is only one who is thoroughly acquainted with the evils of war that can thoroughly understand the profitable way of carrying it on."
If you think the stock market is fair, quit trading immediately.
"Hence the saying: If you know the enemy and know yourself, you need not fear the result of a hundred battles. If you know yourself but not the enemy, for every victory gained you will also suffer a defeat. If you know neither the enemy nor yourself, you will succumb to every battle."
If you know the market and know yourself, you will consistently profit. If you know the market but not yourself, your success will be random. If you do not know the market or yourself, you will consistently lose money. Success in the stock market is not just about the market, it is also about knowing how you react to fear and greed.
"The onset of troops is like the rush of a torrent which will even roll stones along in its course."
The trend is your friend.
"The good fighters of old first put themselves beyond the possibility of defeat, and then waited for an opportunity of defeating the enemy."
Good traders know that they can consistently make money, and that confidence fuels them to consistently make good decisions.
"To lift an autumn hair is no sign of great strength; to see the sun and moon is no sign of sharp sight; to hear the noise of thunder is no sign of a quick ear."
Great traders see more than the obvious.
"There are not more than five primary colors (blue, yellow, red, white, and black), yet in combination they produce more hues than can ever been seen."
Keep stock trading simple. You need only understand support, resistance, optimism, pessimism, price volatility and abnormal behavior.
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The Sentiment Stockscore can provide an indication of whether investors are optimistic or pessimistic about a company and its future. A movement of the Sentiment Stockscore line from below 60 to above can signal growing optimism by investors and may telegraph a future upward trend. This strategy seeks longer term trading opportunities in stocks that have their Sentiment Stockscore moving through 60 and have decent chart patterns.
I ran this scan Friday, and found 67 candidates. The following two charts stood out:
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1. PWR
PWR has been basing for about three months, and through that period has made a series of rising bottoms, which indicates that the sellers are losing strength to the buyers. There is resistance at $6.50 which may hold this stock down in the short term, but with growing optimism I think it can move toward the $8 to $9 range in the weeks to come. Support is at about $5.50.
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2. AMGN
AMGN has made a little head and shoulder bottom, which essentially means that the market has switched from a pessimistic outlook to an optimistic one, which takes the Sentiment Stockscore through 60. Because there are a lot of shareholders in at higher prices, I don't expect that this stock will make a strong rally to the upside right away, but it does appear that AMGN has made bottom and is more likely to go higher than lower. Support at $55.
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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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