How do I determine my sell points?

...This is an excellent question, if fact, it’s the toughest question that I face with every stock that I own.

If I own a stock and it immediately goes down, this is the easiest decision I must make – SELL and sell fast. I know how to cut my losses and have been doing it for years. Yes, it’s a blow to my self esteem but I always feel better when I see that particular stock several dollars lower a few weeks later. This is when I feel good about the insurance policy I have (sell rules) to protect my capital.

Take Accuride (ACW) for example: I recently purchased the stock on a “three weeks tight pattern”, a pattern that is familiar with O’Neil and CANSLIM. I placed a market order as the stock started to move towards the breakout level of $15.00 and was filled at $14.99.

For a lower priced stock such as ACW, I give it about 8% breathing room which brings my sell point to $13.79. I will not place a physical sell stop because I don’t want to be taken out of the position on false market maker moves. I reevaluate my position every night and decide if I need to sell “at the market” the next morning if it is below $13.79 or nearing the sell point that I established. Last week, the stock fell to $14.11 intraday giving most investors a scare but managed to close up at $15.18. This is the exact reason why I keep mental stops instead of physical stops. I only place physical stops when I will be away from a computer for an extended period of time or if my gains are sufficient and I want to protect them at a specific number, then I don’t care if the stop is triggered intraday.

I will not change my mental sell stop of $13.79 until ACW gains at least 20% from my buy point. If that time arrives, I will move my sell stop about 12% below the current levels. In this case, the numbers would read like this: ACW would be up 20% near $18 and my trailing mental stop would be $15.84. If the stock approaches this area or violates the number, I will sell “at the market” the following morning. Remember, circumstances play a big role in each decision. If outside events are influencing the stock, I must take that into consideration and base my decision on the additional information.

If ACW starts to use a moving average as support, my mental sell stop will always be slightly below the moving average, again giving it room to breathe. If any of my stocks gain 50%, I start to place a physical stop about 10%-12% below the current levels to protect the gains.

Finally, if I have not been sold out of a stock but I start to see the stock act in different ways than it was while up-trending, I will sell immediately (examples can be a climax run, slicing a major moving average, breaking a strong trend-line or possibly a string of weaker earnings reports). Use discretion and develop a feel for what works best for you.

If Accuride (ACW) tanks today and I am forced to sell even though I only purchased the stock in the past week, I will not allow it to hurt my emotional balance and I will move on to the next opportunity because I know investing is about percentages and NOT about being right on every trade.

Below are some basic sell rules that I follow:
Sell all stocks that fall 7-10% below your purchase price. Don’t ever allow a 10% loss double into a 20% loss because of stubbornness or the emotion of hope (hoping the stock will rebound). It is perfectly fine if the stock is sold out for a 7% loss and then it rebounds and you feel you would like to take another position in this stock.

If you feel something is wrong with your stock and the action looks odd but you are only down a few percent, sell anyway, why take a chance, especially in a bad market environment. This is the only form of insurance in the stock market.

When a stock has been is a solid up-trend and then it starts to move sideways, this is referred to as churning. This can be the first signal to the end of the run. This may serve as the perfect time to lock in your profits and watch from the sideline, remember, you can always get back in.

Learn to sell into strength; you can never go wrong by selling into strength before the stock peaks. No one and I mean NO ONE gets out at the top and if they do, they were lucky. No one and I mean NO ONE goes broke by taking a profit after an extended run or up-trend! Don’t allow the emotion of GREED to steer your ship, take profits when necessary, don’t get greedy.

Stop Loss, Trailing Stops and Market Makers:
Many investors try to lock in gains or prevent losses with a predetermined stop loss or trailing stop loss. This is an excellent tool but has become an easy target for market makers and program traders to manipulate.

For example: You buy XYZ stock at $50 and enter an automatic stop loss at $45 to protect your portfolio from extensive losses.

Market makers can see this entered stop loss and play the market in order to wipe out your shares and pick them up at cheaper prices. They can bid down the price to $44.50 or so and grab your shares and then bid up the price back to the $50 range – all in one day. I have personally seen intraday manipulation of stocks being bid down, only to close for minor losses or slight gains. Accuride is a great example from last Thursday as it was down over 6% intraday and then closed up over 1%.

A trailing stop is a feature that allows the investor to determine a % point at which their stock is sold.

Example: If you buy 100 shares of a stock at $50, you can select a percentage at which your stock is sold, this percentage follows the stock up in price. So if you bought 100 shares of XYZ at $50 and put your percentage at 8%, your stock will be sold at $46...BUT, if your stock advances to $60, then you will have a new sell point at $55.20 (8% below the high of $60). In other words, your sell stop trails or follows your stock without you having to cancel out and resetting a new sell stop each time your stock goes up in price.

How do you protect your portfolio without letting market makers trip your stop loss for a premature exit?

I use a predetermined mental stop loss that is only implemented after the market is closed for the day. I take a look at each holding and determine if it should be sold at the market or intraday the next trading day. I predetermined my sell level when I bought the stock, so most emotions are already taken out of the equation.
If you invest in quality stocks with solid fundamentals and technicals, there is no need to constantly worry about huge losses in the matter of one or two days, barring a tragic event within that particular company.


Finally, Post Trade Analysis:
Post trade analysis could possibly be the most important key to unlocking your investment potential. Every investor must analyze their past trades. By analyzing your past trades, you can focus in on your mistakes and pinpoint the downfalls in your methods.
Ask yourself:
How many stocks have you bought in the past 12 months?
How many went up?
How many went down?
How long did you hold these stocks?
Why did the stock work?
Where did it go wrong?
Did the fundamentals breakdown?
Did the stock send key technical red flags before a major collapse?

Most investors skip post analysis and consider it a waste of time to look at the past. Many investors are scared to look at past trades; they don’t want to see the extent of the damage. An investor will never be able to take a step forward without looking over the past success and failures in their portfolio. In order to focus on weak areas in your investing methods, post analysis is the place to start. Post analysis with the aid of charts will show you if you bought too soon, sold too late, sold too early or bought the wrong stock all together. Print out a chart of all stocks that you sold and plot your key entry and exit points. Look for base building, accumulation, distribution or any other components that help shape your final decisions. Compare your stocks to sister stocks and see if similar patterns occurred. Did any sister stocks start to rise or fall before your stock? Post analysis is like looking in the mirror; you have no where to hide and only the truth to seek.

After several post analysis sessions, you will notice similarities in your buying and selling patterns. Similar mistakes or successes will become apparent. Focus on both the good and the bad. This post analysis allows the educated investor to suck in their pride and take responsibility for their own actions.

This is the starting point to correcting mistakes and growing your strengths!
Piranha

Weekly Commentary Insert

Here is a partial insert from our most recent weekly screen:

Market Overview:
With the end of this weekend, we are greeted with the end of the summer and the end of vacation for most major institutional traders, managers and players. I have been speaking about the slow summer months and the thin trading that usually accompanies these months, followed by stronger fall months and typically solid January and February months. I will now present you with hard data to support the statements that I have been making all summer long. An old saying on Wall Street goes like this:

“Sell in May and go away”

The data that I will present has been researched in Hirsch Organization’s Stock Trader’s Almanac and an article written by Elizabeth Thompson. They explain that the market has a very distinct seasonal indicator, one that was popularized as the “Halloween Indicator”, directly relating to the quote above.

According to the Almanac, if an investor invested $10,000 in the DJIA on November 1 and sold on April 30 every year from 1950 to 2004, they would have earned $492,060. If this same investor did the opposite and had bought on May 1 and sold on October 31 from 1950 to 2004, a $318 loss would have resulted. That is an amazing stat, one that is difficult to fathom. This trend extends outside of the American stock market as an article from December 2002 of the American Economic Review says that such a statistical pattern existed in the U.K. stock market as far back as 1694 and still exists today.

As I have mentioned many times in my daily and weekly commentary, big time Wall Street fund managers and traders go on vacation to the Hamptons, upstate lake side homes and international destinations. While these investor leave, they sell their weak holdings and have their staff sell anything that becomes weak while they are gone. They basically clean house and sell any investments that can’t survive while that are not at the helm. This results in the thin volume that we see year in and year out from June to August.

According to Elizabeth Thompson’s article Gone away for the Summer? It’s Time to Come Back, she states, “that the financial world encourages investments in the November through April period more so than in the May through October period.” She further states that January is the month that employees sign up for 401(k) plans while IRA’s have an April deadline which requires investors to place more money in their stock related retirement funds. This type of setup brings an influx of money to the table during the beginning of each year and naturally pushed prices higher before the flat summer months when they typically correct.

September is historically one of the worst performing months in American stock market history but it can also present an ideal opportunity to place positions on stocks that are showing excellent relative strength. Typically, these stocks go on to be market leaders and breakout after Halloween and into the New Year. November through February are some of the best performing months in Wall Street history but if you wait to place positions at the end of this range, you may be buying extended stocks that are poised to drop as the spring ends, creating losses in your portfolio. There are always exceptions to historical data and the rules so we want our MSW community to follow the daily and weekly action of the market before buying and selling. One more study suggests that the market will continue do trade the way it has traded for the first five months of the year. If this scenario holds true to 2005, we will be stuck in a sideways market for another four months. Regardless, I will be here researching the leaders and trends and will give you my best analysis outside of predictions and historical data. I felt that this historical data would help some investors realize that the market does work in predictable ways from a long term macro view.

As for this week’s market action: The unemployment rate fell to a four year low of 4.9% while the price of crude oil futures fell $1.90 to $67.57 per barrel. Gasoline futures fell 22.53 cents to $2.1837 a gallon as the national average price at the pumps rose to $3.00 per gallon. I filled up my tank yesterday for a total of $46.53, the highest price I have ever paid at the gas station (luckily, I don’t drive an SUV). Just a few years ago when I lived in NY, I enjoyed paying $0.99 in New Jersey because the price in NY was higher at around $1.29 per gallon. I didn’t go out of my way to fill up in NJ but the $1.29 now seems like a huge bargain compared to today’s prices.

The NASDAQ managed a weekly gain on below average volume but it did stay above the key 50-d m.a. We saw an increase in the daily new high ratio mid week and a slight decline on Friday but that is mostly due to the holiday weekend. The DOW was up for the week but remains below both key moving averages. Looking at our weekly list of stocks, I can say that they are some of the best performing stocks in the market over the past several months. This list may contain some stocks that will become the leaders in the next rally that may happen near Halloween if the analysis and data from above holds true.

Enjoy the long Labor Day holiday! Keep the people from the south in your thoughts and prayers. Also remember that the stock market is closed on Monday so there will not be a daily screen. We will be back on Tuesday with a brand new quality daily screen!

Piranha

Lessons Learned after 25 Years of Trading

Read this article carefully because it echoes much of philosophy and trading rules that we employ at MSW. One of the biggest rules that we follow is: Buy Near the Yearly High. Any member of this community can tell you that we love to follow and buy stocks making new highs or stocks within 10% of a new high. My experience has proven that stocks that make new highs usually continue to trade higher. Another subject that Bulkowski speaks about is: "Half of all Trades Will Fail". This is so important because it is so true.

I struggled with my losses early in my trading career and I hated losing because it tore me apart. I felt so good when I was right even more so than making the actually money (that may be hard to believe). I now understand that trading has nothing to do with winning and losing, and it has everything to do with profits and losses (money management). Some of the world’s best traders have a 30% or 40% win-loss ratio but they make large sums of money year in and year out. They cut losses short and let the few big winners run. If you only hit one or two big winners each year, you can have 5 or 10 small losers; it will always work in your favor. Making a mistake while investing is 100% nayural as long as you recognize that it is a mistake and you sell the stock immediately, no questions asked!

Understand that investing is NOT about winning and losing, it’s always about the bottom line. Once an investor accepts this statement as truth, they will see their bottom line grow. It took me several years to finally believe this statement and train my emotions to also believe it. As humans, society trains us to win at everything and this hurts most novice investors.

Bulkowski refers to two charts in this article but I do not have the images to upload here. The original article was published in this month's edition of SFO Magazine, a publication about Stocks, Futures & Options.

Enjoy the article:

Lessons Learned after 25 Years of Trading
by: Thomas N. Bulkowski

Profits lost can be lessons learned. Eight simple lessons taught by the greatest teacher of all – experience.

Trading stocks doesn’t require a college degree. A trader’s education may begin at a bookstore or be handed down from relatives. Even before I earned my driver’s license, I became interested in stocks. After college, I contacted two dozen investment firms and reviewed their prospectuses for my first investment: a money market fund. I paper traded stocks for four years before I bought my first one, mostly because I didn’t have the bucks to invest, but also because the riskiest investment my parents ever made was in a U.S. savings bond. The result was worth the wait as I made 88 percent on that first stock. Over the years, I learned a number of lessons worth sharing, and although simply reading them cannot prepare a trader for the profits and losses and the stress of placing trades, it’s certainly a start.

Half of All Trades Will Fail
This surprises most beginning traders. My lifetime win/loss record is 49 percent, and it falls in the 40-percent to 60-percent range that many professional traders are rumored to maintain. How often a trader wins or loses is less important than how much they win. If a trader makes a million dollars in one trade and loses $10,000 in each of ten trades, he still has $900,000 to play with despite a win/loss percentage of just nine percent.

Use Stops to Limit Losses
If half of all trades fail, then a trader needs to know how to limit losses and maximize gains. One easy way to do that is to use a stop-loss order. . I bought 400 shares of Linens ‘N Things at 31.75 after the earnings announcement caused the price to gap up, forming what I call an earnings flag – a generic term for a price pause after an earnings announcement. I sold at 35.20 when price pierced an up-sloping trendline drawn beneath the valleys, confirmed by other technical indicators I follow and a downward turn in the general market. I made $1,350 in a month – more than ten percent on the trade.


As price climbed, I raised my stop from 28 to 30.84, to 32.13 and finally to 33.23. Notice how the numbers are oddball ones, not 31, 32 or 33.25. I don’t use round numbers, as they are common support or resistance zones. I place my stops below the support zones, trying to give price every opportunity to move higher.

When price climbed above the prior peak and made a new high, I raised the stop to a few cents below the nearby valley. Peaks and valleys are places where price is likely to find support, so they make handy stop-loss locations.

Notice how price formed a second peak at 36 and change – a double top – before sliding down to 24. Holding onto this stock and riding price lower would have been a costly mistake. That’s why stops are so important.

Scenario Trading: Ignore News
I read the business press daily but don’t pay much attention to trends they see forming. I remember a columnist in a weekly news publication touting that gold was a buy. Once a month, he’d quote a different expert who said the price of gold had bottomed and now was the time to buy. Gold continued down. A full two years later, his prognostication finally came true. Gold bottomed. Anyone buying gold stocks during his bullish buy signals would be choking on the metal.

Scenario trading is believing the sound bites and trading on them. The times I have invested in a scenario, I find myself so confident of the analysis that I invariably lose big, taking losses that are 15 percent or higher instead of the usual five to ten percent. As price drops, I average down (buy more at a lower price), compounding the loss. Averaging down is a wonderful technique for buy-and-hold investors willing to wait years for a stock to recover, but it leads to large losses for traders. Don’t average down, and don’t believe the scenarios spun by the news outlets. The purchase may be near the peak, or from a portfolio manager who is dumping his shares.

Let Profits Run
Want to make a bundle in the stock market? Don’t trade. If a trader uses the weekly scale for signals, he will make more money per trade than if he uses the daily scale. If a trader uses the daily scale, he’ll make more money per trade than if he trades intraday. As the trading frequency increases, the per-trade profit decreases. This makes intuitive sense. A stock can double in a year, but a trader would be hard pressed to double his money in one intraday trade.

Day trading allows a trader to make small amounts of money numerous times in one day. Position trading allows a trader to make a larger amount of money, but it may take days, weeks or even months to achieve the results.

I’m not knocking day trading. What I am suggesting is that a trader should let profits run. Don’t be so quick to sell. Whether day trading, position trading or buying and holding, there will come a time when it will be wise to sell. Wait for it. Follow a few stocks, and get a feel for how they move. Learn to predict significant price turns.

Buy Near the Yearly High
When I started investing, I didn’t have much money to spend, so I bottom fished. I picked stocks between $5 and $20 per share because that’s all I could afford. I bought them as they bottomed – or so I hoped. Invariably, the price dropped lower. If I held on for years, the rewards would be handsome, usually well over 100 percent. Sometimes, though, I would panic and sell at the bottom, which resulted in losses of 50 to 70 percent – the kind of hit that makes any trader’s mouth pop open and leaves him gasping for air.

It took years to discover what I was doing wrong because I was making money and wasn’t that concerned. First, I wasn’t using stops. Second, I was buying near the low and holding on until the stock rebounded. What would happen if I bought near the yearly high?

Now I select stocks with breakouts from chart patterns within a third of the yearly high because my statistical analysis of chart patterns says that’s where they perform best. I especially like it when the breakout makes a new high. There is little overhead resistance to stop a price run-up. Upward momentum allows a trader to place a stop and raise it as prices rise. If price doesn’t rise within a few days, that’s a good clue that the trade will result in a loss. Consider selling immediately.

When a trader buys near the yearly low, the tendency is for price to continue down. The trader doesn’t have a chance to raise the stop to breakeven. Like trying to catch a falling knife, trying to call the bottom in a stock is very difficult, even for the experts. Buying near the bottom is tempting, but do it sparingly.

Use Trendlines as Sell Signals
Trendlines are one of my favorite tools. By definition, if prices are trending up and then drop below a trendline, the trend isn’t up any longer. But just because price drops below an up-sloping trendline doesn’t mean that price will continue moving down.

Victor Sperandeo in his book, Trader Vic – Methods of a Wall Street Master (Wiley, 1991), says there are three ingredients to determining a trend change from up to down: (1) price pierces an up-sloping trendline; (2) price approaches the level of a prior peak but fails to attain it (or overshoots a bit before dropping); and (3) price closes below a prior valley. He also describes the method for down-sloping trends following similar guidelines.

Do I use his method? Sometimes. When a stock’s price goes almost vertical, I move my stop closer and draw an up-sloping trendline. I know it’s time to sell when price closes below the trendline. Even if I am wrong, it doesn’t matter because I don’t own the stock anymore.

Trade with the Trend
Anyone who has ventured into a river for a dip will say that swimming with the current is a lot easier than swimming against it. The same is true for stocks. For the best performance, select stocks that are moving with the general market and industry trends. I use the S&P 500 or Nasdaq Composite as the proxy for the markets. For the industry, my portfolio of 350 stocks contains more than 30 different industries. I look at each stock in the same industry as the one I’m interested in trading to see how they are doing.

Recently I sold a stock because others in the industry were rounding over and starting to decline. I lost 4.6 percent on the trade, but that’s a small loss, considering. Time will tell if the call was a good one, but it won’t matter because I’ll be trading something else.

Develop a Feel for the Market
Every day I eat an apple. Since I’ve been eating apples for a long time, I can tell a good one from a bad one. I check for firmness, dents and color before I buy, trying to sense what’s beneath the surface. Trading stocks is like eating apples. A trader develops a feel for how the markets and the stocks are behaving.

On October 11, 2004, I bought 1,000 shares of JLG that filled at 16.43. I bought primarily because of the Fibonacci retrace of the prior rise. In other words, prices dropped from the peak at point A, almost 62 percent of the distance of the prior rise, DA. With the stock declining for three days in a row, I felt the end was near. I was correct and bought just two days before price turned at B. The stock rounded up, forming an ascending scallop chart pattern. As price climbed, I raised my stop twice.

On November 18, I sold my position and received a fill at 19.85. Why sell? The stock was approaching 20, which is usually a resistance zone. On the monthly scale, the price at 21 also was nearing the top of a right-angled and descending, broadening pattern. The pattern resembles a megaphone tilted so that the top of it is horizontal and the bottom slopes downward. With price trending upward, I felt that the stock needed a rest and the scallop would form a handle. I wanted to get out before price retraced its gain by forming the handle, so I sold at the market open. I made almost $3,400 or more than 20 percent in about a month.

The Longer You Trade, The “Luckier” You Can Become
Other traders followed my lead as the stock closed down over a buck or five percent on the day I sold. The next day, an earnings announcement sent the stock gapping lower to 15.56 before closing at 17.30. This was an almost perfect swing trade. I was lucky, sure, but it still surprises me how “lucky” I’ve been as my trading knowledge has grown over 25 years. Or perhaps the result could be described more accurately as 25 years of preparation meeting a market opportunity.