Questions to Ponder
Stockscores.com Perspectives for the week ending November 12, 2004
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In this week's issue:
I don't believe there is any better way to predict where a stock is going to go in the future than by reading chart patterns. While there are hundreds of technical analysis indicators available to traders, a simple approach relying on basic chart patterns will generate better trading decisions. However, good chart patterns are difficult to define mathematically, making their discovery difficult to automate with computers. The Stockscores indicators were developed to find good chart patterns by giving a score to the common characteristics of good chart patterns. They are very useful for finding stocks with these good patterns.
The Stockscores will put potentially good charts in front of you, but it is still necessary to inspect the pattern yourself to see if the stock truly has good potential. I tend to like 1 out of 10 charts that the Stockscores identify. By being very selective with the charts, I can improve my probability of success and the profitability of my trading.
When you look at charts, there are a number of questions that you should consider. If any of these questions are not met with a satisfactory answer, then the stock should be avoided. It is easy to find good charts, but we must aspire to find great charts.
1. Is the stock breaking through resistance? The stock should be breaking through a price ceiling, indicating that some investors have a justification for paying higher prices. These breakouts are often caused by positive change in the fundamentals.
2. Is the stock breaking from low price volatility? If a stock is not trading with a lot of volatility, then the market is telling us that investors have come to consensus on what the company is worth. This makes breakouts more positive.
3. Is there volume accompanying the breakout? Breakouts are more important if there is a large crowd participating, making the volume support of breakouts important.
4. Is the stock breaking from optimism? Stocks have a greater chance of moving in to up trends if the market's outlook on the company is optimistic. Rising bottoms on the stock chart are a sign of optimism, and will also be shown by a Sentiment Stockscore of 60 or better.
5. Is there enough reward for the risk? Look at the chart, and compare the upside potential (expected ceiling price - current price) to the downside risk (current price - floor price or stop loss price). The stock is not worth trading if there is not twice as much upside potential as there is downside risk.
6. Is the overall market more likely to go higher or lower? Every stock has some correlation to the overall market. A stock will have a greater chance for success if the overall market is also likely to go up.
7. Is the stock past its second step in an up trend? Chasing stocks higher is dangerous. If a stock is on its third or higher step in an up trend over the past six months, it is probably too risky to enter. Try to buy stocks that are on their first or second step in an uptrend.
8. Are you comfortable with the risk of the trade? Emotion is the enemy of the stock trader, and most mistakes result from emotional decision making. If you are not comfortable with the risk of the trade, then you will be more likely to make an emotional decision.
When you are looking at stocks with good Stockscores, take the time to go through the checklist above to see if the stock meets all the criteria. If not, it is best to move on and try and find something that does. Trading stocks is a probability game, and you put the odds in your favor when you satisfy all of these questions.
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Stocks go up in price because investors are willing to pay more. Investors tend to buy companies that they are optimistic about, so it is important to measure whether investors are generally optimistic or pessimistic about a company. Stock charts can provide many clues about the mood of the market. For example, rising bottoms on a stock chart indicate greater enthusiasm among buyers than sellers.
The Sentiment Stockscore considers these kinds of chart pattern factors, and provides an indication of whether investors are showing optimism or pessimism. I have found that stocks that have a Sentiment Stockscore moving through 60 and rising tend to continue to rise as investor optimism carries them along.
The Sentiment Crossover Market Scan seeks stocks that have their Sentiment Stockscore crossing in to the 60 and greater zone after a lengthy period below 60. If this occurs, and the stock does not have significant overhead resistance, then there is a good potential for a future uptrend. By limiting downside potential with a stop loss point just below a short term support price, investors can better manage risk while leaving the potential for price gains.
This strategy is good for identifying longer term trades that do not require constant monitoring. The criteria are relatively simple, and a regular check of positions for an exit signal may only take a few minutes.
I ran the Sentiment Crossover Market Scan on Friday and then sorted the results by number of trades when viewing the charts with the Gallery Viewer. I found three stocks that look pretty good:
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1. SSTI
Optimism is building on SSTI after it recently broke its downtrend. I would like to see it make a strong break through resistance as an indication that investors are excited about the stock. As long as the rising bottoms stay intact, this stock has good potential.
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2. PXLW
PXLW is forming rising bottoms after a lengthy down trend period. The stock needs to break through $12 soon, but I think that has good potential given the building optimism in the overall market. Resistance is around $18, giving good upside potential relative to where support is at $10.75
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3. LSI
A break through $5 would be very positive for LSI, which is showing optimism after a lengthy quiet period. It can probably get to $7.50 fairly easily with a breakout, giving good upside potential.
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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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