Buy High and Sell Higher

...Many of Wall Street’s well known guru’s tell prospective investors to buy low and sell high but is this really a solid strategy. I don’t think so especially when buying low usually means bottom fishing or looking for badly beaten down stocks that are no where near new high territory. When I started investing, I didn’t like the concept of buying stocks as they move into new 52-week high ground but I have come to realize that this may be the best strategy on the street. I first read about this type of strategy from Jesse Livermore, then William O’Neil, then Bernard Baruch and finally Gerald Loeb. My entire philosophy has been developed around this idea of buying high and selling higher and my results speak for themselves. I don’t have to prove anything; the numbers do it for me.

Without getting into a lengthy discussion on the topic, I will highlight a present day example that I posted last night on GMXR on the daily screen:

12/28/05 Daily Screen Excerpt:
“Many of you may remember that we first started to screen GMXR on 6/28/05 at $14.58 (daily screens only). We then added the stock to the weekly screens and the MSW Index on 9/27/05 at 24.00 (64% higher than our debut coverage). Today the stock gained another 6.13% on volume 188% larger than the 50-d m.a. GMXR has been on a tear and I have started to give the signal to lock in partial gains or at least protect your gains from a quick pullback. I want you all to understand the lesson of buying stocks that are making new highs. Time and time again I explain that stocks making new highs typically continue to make new highs. If anyone was scared to buy into GMXR at our $24 pivot point after the $10 run-up from $14, you have missed the additional 72% gain. This is what I wrote about GMXR on the 9/27/05 weekly screen:

“I see a breakout area near $23 to $24.” This week the stock hit $24.00 intraday but closed off of that price and stayed in the currently forming flat base. The official buy point is now a move above $24 on above average volume”

The stock (GMXR) closed at $41.35 today (12/28/05), exactly three months later. The gain from our first daily screen on June 28, 2005 is an impressive 184%. The stock has made a total of 17 weekly screens (including several weeks on the watch list) in 2005.”

Now you can see that a strong stock (a market leader) making new highs can go on to make additional highs but most novice investors would not buy at $24 after looking at the chart and seeing a 700% increase in the previous two years to $24. GMXR ran up from $2.50 to $24 in eighteen months and has since moved above $40 in the past three months. What looks high to one investor may still be low to another. GMXR wasn’t extended when we established the $24 pivot point so this helped us make a sound decision after the gains of the previous year. GMXR is now up over 1,500% in the past few years but I am extremely happy with my 72% gain locked-in (a gain that has happened in a few short months).

I can write forever about stocks that I buy at new 52-week highs and then sell much higher at a later date. It happens every year but most individual investors continue to bottom feed and buy beaten down stocks that aren’t going anywhere fast. Too often investors average down and continue to throw good money after bad instead of throwing good money after good. They get scared that stocks making new 52-week highs will start to reverse and crash the minute they enter. If you employ sell rules, you can protect yourself from this scenario (because it does happen from time to time). Not every stock you buy will continue to move higher.
Piranha

Real Trading and Emotions

...I received an e-mail from an aspiring investor in the market and was very pleased to see the progress of this young student. He stated several experiences he has had with the market but then went on to tell me that they were all through a virtual account. While his experiences are great, I had to stop him short when he compared them to my own real life experiences when I lost a great deal of my money during the early stages of the bust in 2000. I know he may have become emotional when the virtual account lost money but this pales in comparison when you or I lose real money in the real market. Below is what I wrote back to this student of the market:

It is great to see you learning how to cope with the market and your emotions but I must let you know that paper trading and real trading are two different universes. Losing on paper is nothing like the real thing and your decisions on paper will never resemble what you actually do in real life with real money. I am not trying to discourage you but it is not the same, no matter what anyone says. Try it and you will know exactly what I mean.

Another comment: I would suggest that you paper trade a realistic amount instead of $100,000 because that doesn’t seem like the amount you would start with in real life. If you are only going to start with $5,000 or $10,000, only paper trade with that amount so you can get a more realistic feel for what you can accomplish. Make your virtual trading as close to the real thing as possible. Buying $50,000 in calls doesn’t seem realistic at all (you would never do that at this point in time in real life, if ever).

One last thing: even if you only have $2,000 or less, trade it for real. Get your feet wet and see what happens. Don’t try to make money, try to develop a real life system. Make mistakes and learn to control emotions because it will only make you stronger later in life when you do trade larger sums of money. I am not sure how old you are but starting with any real amount of money is better than fake money in my opinion. Some will argue that virtual trading is very helpful and I agree on a limited basis but nothing will ever teach you what you need to know except the real thing.

Keep reading and keep learning and good luck.
Piranha

January Effect “2006”

…I wrote an article about the so-called “January effect” last December right here on this blog. Many publications and stock market “gurus” will be talking about the January effect and how you may profit from the cyclical trends that supposedly exist. Portions of this entry will reiterate what I said last year but it is important to restate what I believe may help you ignore these talking heads.

Here at MSW, we follow rules and we try to eliminate emotion or at least keep it a bare minimum which allows us to invest intelligently. Without our philosophy, we would be aimlessly throwing money in all directions, hoping and praying for profits. We would most likely listen to hot stock tips and jump on the bandwagon of every new trading system or theory that came across our desks and computer screens.

The rumblings about the “January Effect” are starting to appear in stock market newsletters, brokerage house e-zines and the mainstream market media. I cringe every time I hear some talking head try to convince investors to buy beaten down shares in companies that will bounce in the first several weeks of the year. I see too many people jump at the opportunity to change their investing beliefs because some analyst on the other end of computer wrote an article claiming to make you lots of money in the first several weeks of the year.

Now, looking back at the MSW screens from late December and January, we did find several small cap stocks (below $10) that did make some big moves but they were still part of my system. I didn’t jump ship in search for a bounce back stock. These stocks included:

SPTN: first covered on 12/31/04 at $6.64 (made a total of 16 weekly screens with the last screen in July 16, 2005). Peak screen on 7/9/05 at $15.04, 127% gain

CULS: first covered on 1/9/05 at $7.69 (made a total of 9 weekly screens with the last screen on 4/16/05). Peak screen on 4/9/05 at 11.53, 50% gain

FORD: first covered on 1/23/05 at $6.38 (made a total of 32 weekly screens with the last screen on 11/19/05). Peak screen on 8/6/05 at 26.80, 320% gain - Top gaining MSW Stock in 2005!

Be strong and ignore the noise coming from every direction. Instead of looking into their theoretical bounces that may or may not occur, take the time to review last year’s trades and document the good and bad aspects of your portfolio. Look for your best trades and understand why you made money. Study your poor trades and understand where you made the mistakes. Correct those mistakes in the coming year.

Be honest with yourself and flag the areas of your trading system that need the most work and continue to polish your strengths. Don’t abandon what is working because a "talking head" on television tells you his system works in only 15 minutes per day, two days per week. In recent months, we have talked more about options and the leverage they provide and I know some of you have made decent profits in 2005 due to call contracts. Don’t get over excited and think you will be a multi-millionaire by the end of 2006 because you have invented the latest “fool-proof” options strategy. Work the system step by step and document what works and what doesn’t wok. Don’t bite on the “get rich quick” options programs that play across your television at 3am on weeknights.

Stick to one system that works and try to consolidate the strongest features of that system to your advantage and ignore the hundreds of other systems and indicators that can be found on every investing web site on the net.

We focus on price and volume here at MSW, which is all you need to become a successful trader. Establish strong or accelerating fundamentals and then confirm a quality trend on the charts and you will reap returns better than 99% of the general population.

Stay focused in the New Year, start fresh and think positive! Instead of reading 100 books this year on 80 different trading systems, reread a few essential books that focus on one system that best suits your style of investing. Good luck in 2006!

-Piranha

Why do Stocks Split?

Today's topic covers stock splits: What are they and why are they done.

E-mail Question from Member:
Chris -
Here's the question: I'm curious to know why some companies chose to split their stock (like HANS), while other companies chose to allow their stock to run (like GOOG). Is there any rhyme or reason as to why some managers chose to split and others don't?

My Answer:
I will start by giving a brief definition of a stock split for those of you that are unfamiliar with the term. Every company that trades stock publicly has a set number of shares that are outstanding. A stock split is a decision by the company's board of directors to increase the number of shares that are outstanding by issuing more shares to current shareholders. I will use Hansen Natural (HANS) as a recent example of a stock that split in 2005 while on our screens. I originally started coverage on the stock near $66 in May 2005 before a 2-for-1 stock split that took place in August of 2005. If you were to look at a current chart for HANS, the price in May 2005 would show you a number in the $30 range (half of the original price) due to the split. When a split takes place (in this example), every shareholder with one stock is given an additional share. So, Hansen Natural had approximately 11 million shares outstanding before the split and it now has 22 million shares outstanding after its 2-for-1 split. If you owned 100 shares near $90 when it split, your account would be adjusted to 200 shares near $45.

As investopedia.com states: One share represents the value of the company's underlying assets plus its growth potential divided by the number of outstanding shares. After a stock split, the only value that changes is the denominator in the equation. After a split, the stock price will be reduced since the number of shares that are outstanding is increased. In the example of a 2-for-1 split, the share price will be halved.

So why does a company want to split its stock?

Most individuals and small investors believe that a stock is more affordable at a lower price and they will only buy if the stock seems reasonable. Currently, Google is trading above $400 per share; so many investors will not buy this stock because they believe it is too expensive. In all actuality, 100 shares at $400 are the same as 400 shares at $100. Buying Hansen at $100 per share in August was actually cheaper than buying it now at $83 because the $83 is actually worth $166 before the split. Another reason for a split is a clue to the market that the growth in the company is expected to last (this is an assumption that the company’s directors make when asking for the split). When the board decides that a stock should be split, they send a voting ballot to every shareholder to make the final decision. I have voted in these ballots and ironically, the first stock I ever bought in my life split 2-for-1 (I thought I was important because I had a say in the stock).

Some stocks have split two or three times in one year (especially if you go back to the heart of the 1999 bull run) and some stocks don’t like to split such as NVR (a home building stock), Google and the most famous: Berkshire Hathaway, owned by the second richest man in the world (Warren Buffett). The current price for BRK-A is $88,600 with a 52-week range of $78,800 - $92,000. To buy 1 share on the open market today would cost you $88,600.

So, a stock split is used primarily by companies that have seen their share prices increase substantially. A stock split increases the number of outstanding shares and therefore decreases the price per share. This helps makes the shares more affordable to small investors and provides an indicator of the health of the company.
Piranha

What is CANSLIM?

...Sometimes I overlook the simple things and forget that everyone is not familiar with CANSLIM or Investor’s Business Daily. I should never assume that everyone knows what CANSLIM is and what it represents. My entire trading philosophy is rooted with CANSLIM and the teachings of William O’Neil. I have modified the system to my own style and trading characteristics but I remain loyal to the basic CANSLIM principles. The actual definition of CANSLIM listed below was taken from Investopedia.com and not investors.com because this description is simple and to the point.

Question from Member:
What is Canslim? I am new to investing and my vocabulary is not up to par. Thank you.

My Answer:
CANSLIM is a method for selecting stocks created by Investor's Business Daily co founder William O'Neil. Each letter in the acronym stands for a key factor to look for in a company.

C - Current quarterly earnings per share has increased sharply from the same quarters' earnings reported in the prior year. (Beware of items in financial statements that can cause earnings distortions.)

A - Annual earnings increases over the last 5 years.

N - New products, management, and other new events. In addition, the company's stock has reached new highs.

S - Small supply and large demand for a stock creates excess demand, and an environment in which stock prices can soar. Companies acquiring their own stock reduces market supply and can indicate their expectation of future profitability. Look for low debt-equity ratios.

L - Choose leaders over laggard stocks within the same industry. Use the relative strength index as a guide.

I - Pick stocks who have institutional sponsorship by a few institutions with recent above average performance. Be cautious of stocks that are over owned by institutions.

M - Determining market direction by reviewing market averages daily. (The most important in my opinion!)

If you are interested in learning about CANSLIM or about investing in growth stocks, I highly suggest “How to Make Money in Stocks” by William O’Neil. You can pick up a cheap copy on Amazon, eBay or check your local library.
Piranha

All Good Stocks Come to an End

...Last night, I officially removed Urban Outfitters (URBN) from the MSW Index and the weekly screens for the first time since January 9, 2004. Yes, just short of two years on this website (we only started to publish our screens on MSW in 2004). I was screening URBN on Richdad.com and Investors.com throughout 2004 before I had my own established community on the web. My screens can be found under the username “piranha526” on both forums.

Over the past few weeks, I have started to get the feeling that URBN was losing strength and was starting to turn. I can’t say that I knew it would slice through the 200-d moving average (a support line it has not sliced for two plus years) but I did see that is was starting to change the way it was trading. This past Saturday (12/10/05), I said this on the MSW Index:

“this stock may be seeing its last days on the MSW Index ($30.28)”

Well, several days later, it was removed at $26.51, still representing a very respectable 164% gain since it was first covered. On Saturday, the stock was still holding a 200%+ gain on MSW from early 2004 and reached a peak gain of 236% when the latest 52-week high was set at $33.77 a few weeks back.

I stuck with the stock in September and October when it challenged the 200-d m.a. but it never sliced the line the way it has this week. The violation of the long term support on above average volume was an instant sell signal with no questions asked. When something as uncharacteristic as this happens in a stock that has been trading above the moving average, you sell and you sell quickly to lock in all profits if you have not done so already. This action tells us plain and clear that the situation has changed and the stock is ready to move in another direction. There is a chance that it can come back but don’t sit and wait to see if it will. Get out, get your profits and wait and move on to another opportunity.

This was what I wrote last night on the daily screen:

URBN – 26.51, last Saturday, I said this: “this stock may be seeing its last days on the MSW Index ($30.28)” and today, this was confirmed. This is the first break below the 200-d m.a. in this type of fashion in years. Sell and lock in profits! Urban is the second stock this week to be removed from the MSW Index.

I will be preparing a case study on URBN, guiding you through all of our analysis over the past two years. The stock made several dozen weekly screens since 2004 (possibly 100+ daily screens) and gave members multiple opportunities to produce profits in this stock. The recent drop may be foreshadowing to a weak holiday retail season. I don’t know if this is why but come back and see what the news is all about in a month or so. The technicals always give you the story before it breaks! The key is to act now and find out later! Watch your other retail positions very closely.
Piranha

Where to set Trailing Stops

...Question from member about placing trailing stops on stocks with a profit:

Chris,
Thank you for your service, I have begun placing a great deal of faith in your analysis. You made the following statement, "It would be wise to start protecting profits in this stock". That has always been a difficult proposition for me. What is the best methodology for determining where to place this physical stop? I have been whipsawed before on stocks and then I have place much lower stops only to have the stock keep dropping. What is the best way to place a fairly reliable stop without being premature? Thank you for your help.
MSW Member

My Answer:
Placing a physical stop is subjective and can be considered an art form rather than science. There is not a specific answer to the question but I will let you know how I set a stop in different scenarios. I read a book by Martin Zweig many years ago and agreed with the way he set trailing stops versus what other traders were doing at the time. CANSLIM has a stop loss sell rule on the breakout but the 7%-10% doesn’t apply when I have a 30%+ profit in the stock. At times, I like to give my stock some breathing room to give a normal correction that may penetrate a tight 10% trailing stop. Stan Weinstein gives a decent description of trailing stops in his book but sometimes these stops will sell your position prematurely if you buy volatile issues (typically hi-tech stocks).

If a stock I own starts to rise by 25% or more, I will look to raise the mental trailing stop slightly below the most recent low or support area (an area I think will receive support). If you cannot locate a support area, using a moving average is the next best thing (set the stop slightly below this moving average only if it has given support in the recent past). If a moving average hasn’t provided recent support then it doesn’t make any sense to use this line as a stop reference. An important factor when setting a stop is looking at the overall “M” in CANSLIM. Investors can give more leeway if the major indices are moving higher and the trend is bullish. In poor markets or volatile sideways markets, it would be wise to set your trailing stop tighter to protect from any bad news that may hurt your profits.

If you cannot locate a support area (point and figure charts will help with this), draw a trend-line that connects several recent lows and think about placing a stop slightly lower than this line. If the trend-line is drawn at an angle greater than 60 degrees, ignore this method as a pullback is probable due to the nature of the sharp up-trend. Over the years, I prefer to use trend-lines that represent support and/or resistance in a horizontal nature. If you look at the MSW chart analysis (through our link – members only), you will see that I have drawn trend-lines for the major market indices (both horizontal and angled). If the NASDAQ was to break one or both of these trend-lines, I would start to become bearish and defensive with my portfolio and many if not all of my mental stops would be transferred into physical stops to protect profits or possible losses in new positions.

I often look at the history of the stock (2-years) to see how it has corrected in the past. Using SIE as an example, I have kept it on the MSW Index while it corrected below the 50-d moving average because it did so in the past and I felt confident that it would continue the trend above the 200-d moving average. My stop in this case was just below the 200-d moving average, a line it respected for years. Any sharp drop below this line would present immediate danger and I would want to be out of the position as soon as possible. This method proved to be correct as the stock eventually ran from the low $60’s into the low $80’s without violating the longer term moving average.

Determine what a reasonable reaction would be in the specific stock that you are trying to set a stop for. Look at the stocks you have placed stops for in the past and determine if they were volatile hi-tech companies or slowing moving larger cap stocks that are more predictable. For a quick example, I would give Whole Foods (WFMI) a much larger trailing stop than I would with OptionsXpress (OXPS) because of their different histories and sectors. Both stocks are on the MSW Index for the same reasons but I must treat them differently because they act differently.
Piranha

The Right Stock but the Wrong Time

…Last night I screened Salesforce.com (CRM) a former member of the MSW weekly screens dating back to August. The stock made three consecutive weekly screens and we liked the potential of the stock as it tried to form a base and breakout to new 52-week highs. We knew that the overall market was starting to head lower but we were still confident in the stock. Eventually, the stock fell more than 10% from our entry area so we were forced to cut the stock from the weekly screens. It went as high as $25 but then corrected back to the 40 week moving average near $18.63. The three weekly screens are listed below with their prices at the close of each week while it was covered on MSW:

8/06/05: CRM 23.68
8/13/05: CRM 23.53
8/20/05: CRM 20.48

The stock has not make another weekly screen since it was cut back in late August. It has made several daily screens since it started to make new 52-week highs once again in the mid $20 range in October. Other than a few daily screens, the stock has not made its way back onto the MSW index but that is okay. It made another daily screen last night and this is what was said:

“CRM – 35.63, the stock was a former weekly screen member and was first covered at $23 but then was cut when it gave us a 10% loss at $20. We had the right stock sat the wrong time. The stock is now up over 78% since we took a loss. This happens in life and the market and I am fine with it. Nine consecutive up-weeks from $22 to $35.”

Sometimes you may select the right stock but then find out that your timing was off. Sometimes you may get back in at a higher level like we did with LMS but sometimes you may miss the move altogether due to any number of reasons. In the case of CRM, we did not get back in and the stock has gone onto gain almost 80% since we took a small loss. I am proud of the small loss because at the time, I did not know if the stock would continue down and I wasn’t going to break key sell rules and find out the hard way.

A quote from Martin Zweig should sum up this theory of cutting losses the best:
“A loss never bothers me after I take it. I forget it overnight. But being wrong – not taking the loss – that is what does damage to the pocketbook and to the soul. Of all the speculative blunders there are few greater than trying to average a losing game. Always sell what shows you a loss and keep what shows you a profit.”

We sold and it was the right thing to do at the time. We could have gotten back in when it jumped above $25 and moved to new 52-week highs but other stocks had our attention once October rolled around (stocks such as LMS, AAPL, GMXR, SSAG & CTRN). Don’t get frustrated if you sometimes find the right stock but get in at the wrong time, this will happen over and over throughout your trading career because timing is quite possibly the toughest aspect to investing. Currently at $36, CRM is too extended to be on our radar for the MSW Index but it has made a great run, a run that we anticipated in August but jumped in two months too early.
Piranha

My two warnings on Cutera - CUTR

...With CUTR currently down 34% at 2:30 pm, I would like to take the time to repost what I wrote to everyone the past two Saturdays on the MSW Index:

12/9/05:
“CUTR – 42.35: Up another 0.55% to our top gainer since the start of the rally. I urge investors to take some profits or protect them at this time. Rating: Hold (protect profits with a physical stop)” – 89% gain to that point

This is what I wrote two Saturday’s ago:
12/2/05:
“CUTR – 42.12: Up 9.29% this week as the stock has gained 63.83% since the start of the rally (our top performer in this young rally) Rating: Hold (protect profits with a physical stop)”

I hope holders of this stock listened to what I was saying!
Piranha

Another Triple Digit Gainer on MSW

…Listed below are the appearances Lamson and Sessions (LMS) has made on the MSW weekly screens, now titled the MSW Index. As you can see, LMS has made a total of 13 weekly screens since August 2005. The stock was removed during the month of September to protect against further losses as it slid lower. As September started to fade, the stock picked up steam and gained strength so we added it back to the weekly screens and have kept it there ever since. From October 1, 2005 until November 5, 2005, the stock only moved $1.50 or 8%. It wasn’t until late November when the stock started to make the advance that we had been anticipating since early August. The patient investor has been rewarded very handsomely if they kept their cool and only sold on major red flags, similar to the ones in September. Since October, the stock has not flashed any sell signals and has been positive across the board.

Notice how we originally covered the stock at prices between $13 and $15 in August and then removed the stock from the screen, only to bring it back at higher levels in October. Let this serve as an important lesson that you can buy stocks at one level, only to be forced to sell and then buy them again later at a higher level to make the anticipated profit. We did not think twice about bringing the stock back onto the screens above $18 because our original analysis was still the same. In August, we were off a bit with our timing but had the right stock. We protected ourselves when it dropped and grabbed it again when it showed strength. It is so important to play the odds while investing because it is the only way you can continually succeed in the market.

Last night (12/12/05), the stock closed at $30.80, a 103% gain from the original weekly screen on August 13, 2005. Using the later weekly screen entry point of $18.32, the stock has still made a 68% gain since October 1, 2005 (this comes in less than three months). We confirmed the rally on October 22, 2005 when the stock closed at $18.19, giving us a gain of 69% during this stretch. I noted on the most recent weekly screen to start protecting profits in this stock as it becomes extended. The area of $28 will provide some support and can be used as a sell point or you can start to cash in partial profits at current levels.

If you originally bought 100 shares at $15.16 ($1,516.00) and sold for a 10% loss ($151.60) and then repurchased 100 shares at $18.32 9 ($1832.00) and sold last night at the close ($30.80 or $3,080.00), you would have realized a gain of $1,096 but would have a win/loss track record of 50%. One winning trade and one losing trade but a profit above 50% on the original stake invested (NOTE: taxes and commission have not been included in the calculations). This is how you play the odds and what I mean by saying “cutting losses short” and “letting winners run”. Many times this scenario will happen with different stocks but in this case it happened with the same stock. Below is the record of the stock on our weekly screens, showing you how any member of MSW had numerous chances to capitalize on the recent advance in LMS.

MSW Weekly Screen Appearances:
8/13/05: 15.16
8/20/05: 13.96
8/27/05: 14.40

10/01/05: 18.32
10/08/05: 19.83
10/15/05: 18.13
10/22/05: 18.19
10/29/05: 20.00
11/05/05: 19.88
11/12/05: 21.35
11/19/05: 22.24
12/02/05: 27.41
12/09/05: 30.14

12/12/05 - $30.80

Piranha

Stock Options Stop Loss

Member E-mail Question:

Hi Chris,

Thanks for your post on Options, I was kinda wanting more info on Options from MSW as that’s all I trade nowadays. I had a quick question.

I mostly do spreads when I trade options, though I do straight calls as well. But I was wondering, do you use the same stop loss techniques with Options that you do with stocks? And if so, what percentage do you set the stop at? It’s a little tricky to set stop losses on Spreads but I wanted to protect the gains in my calls and since options move in large percentages, I was wondering what a good percentage would be good to use for a physical trailing stop loss on a straight Call?

Thanks!

-MSW Member

My Answer:

Thank you for enjoying the options post. As you may have heard me say in the past, I am not an options expert and I have not sustained profitable options trades over several years as I am still learning and looking for a system that works for me. This system may be the $60-$100 run.

I do not use the same stop loss techniques that I use for regular stock purchases. I give my options more room to run. If an option I own starts to fall rapidly, I sell and I have an automatic "no questions asked" sell rule if the option premium drops by half. As the option starts to show a profit, I will look to the charts for a support area for the actual price and determine what level I will use as a stop loss for the option.
Because my money is leveraged and I am not risking as many dollars on an options trade, I widen my stop loss. If you are using short term options strategies, I think stop loss protection is not very helpful due to the nature of the risk and volatility of the trade.

I can't go into detail with my methods because they aren't proven to this point. I have made money and I have lost money using options. Until I can consistently make money every year using options, I don't feel comfortable teaching any methods but I do hope this helps a bit.

Chris

Question: Is the Rally Over?

Member E-mail Question:

Chris -
Is it just because of the recent news stories - auto manufacturers axing jobs at Christmas time - that the market seems to be moving sideways again?

I have been encouraged because of the NH-NL ratio. Also I had some early fortune with my first 2 or 3 attempts at Options trading. So, when I invested more, and things turned south, I'm wondering what's up.

It looks like QSII will need to find support at the 50-MA. Is that what you see? What's going on with WC I bought at the break out above $78 and hasn't done much but flounder. ESRX is also down. Is the rally over? Is it because of all the talking heads that people sat up and thought they'd take profits? Maybe we're getting set up for a fix in 2006?

The only Option I'm doing well in right now is DO.

I try not to get too anxious thinking that the 60-100 route may take 7 - 12 months to complete and I've got until June on my Options, but...

Thanks for your feedback.

MSW Member


My Answer:

The market has been going up for several consecutive weeks so I believe it is taking a well deserved breather. The NH-NL ratio has been increasing when looking at the weekly averages but it has never crossed over the critical 500 new highs per day (a key level for long term rally success). In any event, the rally is still intact and is allowed to pull back from time to time. The ideal time to enter the market was in late October and early November so your gains can cope with a correction similar to what we are seeing. IBD confirmed the rally before I did because I was cautious but I still confirmed the rally in October (weekly screen on 10/22/05). This is when I started to place new positions in MSW Index stocks and when I gave the green light to start buying.
I think you are looking at these stocks from a very short term perspective. Take a look at each stock’s two year chart and you will see that they have all corrected from peak prices from time to time. You need to tell yourself that stocks can’t go up everyday and they must correct when they make a strong move similar to what we have seen in ESRX.

QSII should find support near $74 and then down at the 50-d moving average. The stock corrected in October before the recent run and had a big correction in May and June of this year. Look at the longer term picture and characteristics of the stock.

WC has struggled since breaking above $78 but I have seen this pattern in the past for this stock. The key support level is the 50-d m.a., a support line it has used several times over the past few months. Until it breaks this line, I will not start to turn bearish on this stock. I will admit that yesterday’s action was a bit disturbing for the intraday reversal.

ESRX has moved from $62 to $88 in six weeks so a correction is greatly expected. This stock can’t continue to advance like it has for another six weeks. If you own ESRX, you may want to take the profit if you are worried about the rally ending because the support level is not anywhere near the current price (it’s down in the $60’s). As I said on the daily screen last night, I have placed a physical sell stop in this stock to protect my recent profits.

As far as the rally is concerned, continue to watch the stocks in your portfolio and the MSW Index. If they fall for one or two consecutive weeks, start to lock in profits because the “market” is telling you to do so. Don’t sell after one or two bad days because you could miss the “bigger, more important” profits. Also focus on the NH-NL ratio as you have been doing because this indicator is extremely powerful and can give you a quick glance of the overall trend of the market because it tracks the leaders.

As for your options, give them room to breathe because June still seven months away and a lot can happen (look back seven months for the stocks you own because I am sure they corrected along the way but still managed big advances).

Chris

Short term or Long term Moves?

Question from Member:
Chris,

You said, "I am looking for the big, long term moves, not the short quick gains. The big moves make you rich, not the quick little gains; they make you impatient and hesitant. Patience is the key to success if you want to make the big bucks on Wall Street."

You bring up a very interesting point and I just want to run something by you to hear what you have to say.

Say I have a portfolio of $10,000 and I'm trying to strategize how I will trade stocks with this money. And let’s assume, just for this example, that it is a bull market and I'm looking for a 100% return. Here are (2) examples:

--I could buy (1) quality stock, hold it for a year (long-term), and hope it goes from $60 to $120.

So...
--$10,000 @ 100% = $20,000

OR
--I could buy (3) quality stocks separately (short-term) and hope that when I hold them they go from $60 to $75 (a 26% increase).
So...
--$10,000 @ 26% = $12,600 (1st stock)
--$12,600 @ 26% = $15,876 (2nd stock)
--$15,876 @ 26% = $20,003 (3rd stock)

Gotta love the 8th wonder of the world: Compound Interest. Do you see where I'm going with this? In one example you get to 100% increase in one shot, in the other example you get to 100% with only a gain of 78%. In both instances you get to your goal of $20,000. Now I understand that I'm not taking into account commissions, but would I have to if I had $100,000?

And then I also have to take into consideration, what are my chances that
(1) stock will go up 100% VS. My chances of (3) consecutive trades that will go up 26% each. It just seems to me that the (3) trades would be easier to accomplish. Can you shed some light on this?

I hope I don't seem like I'm rambling (I've been know to do so too often).
This has just been something that I've been thinking about more often, and especially after you stated the point above.

As always you comments are greatly appreciated.
MSW Member


My Answer:

MSW Member,
You are right and wrong at the same time. If you are trading $10,000, your scenario may work but what are the chances that 3 or 4 of the stocks you buy (anticipating they go up 26%) actually go down 7% or 10% before you hit the 3 winners. Not every stock will be a winner. Now you may need 5 or 6 consecutive stocks to go up before you hit that 100% objective. Your theory is not wrong and may be exactly what you want to accomplish and it can work.

It is very hard to find stocks that go up 100% and actually have them in your portfolio the entire time through all dips and corrections. This is why I like the $60-$100 theory because I can continue to grab gains in the range of 40%-65% with some small losses that average 5%-7%. My goal is to compound my gains with this theory as you can see that I am not looking for anything more than $100.

In an account that has over $100,000, the investor can sit patiently as their investments grow larger for the longer term gains. Keep in mind that capital gains are hefty when you have larger sums of money in the market. The short term capital gains and commissions will add up. Taking a 25% or 35% short term capital gains tax hit on any profit is hefty, especially when the gains are only 26% in size. Now, I don't make my buy and sell decisions based on tax implications but I never overlook them either. I hope this helps answer the question. Let me know.

Chris

Using Stock Research and Stock Analysis Services

...I consider this site a stock market research and education service that is offered to anyone interested in learning how to invest in the market for themselves. I do not manage money and I do not make specific stock picks for anyone in the MSW community. I like to believe that this service is different from most of the stock market services offered on the internet because I aim to teach you how to invest in the market so you do not have to depend on my research for the rest of you trading life. I teach a method, a philosophy that I have developed so you can build a foundation for success; but you the investor must personalize your own system and perform your own due diligence and test what works for you and your trading characteristics and emotions.

It is easy to lead an individual to water but I can’t force this same individual to drink the water if they are thirsty. The same logic holds true for the stock market because I can show you how to invest successfully but you and ONLY YOU can make the proper decisions to show a profit at the end of the year.

I always wonder how many of my members take the opportunity to make money from our MSW Index stocks. This past weekend, I asked them to look in the mirror and be honest about their results over the past year (and their decisions since the rally was confirmed weekly on MSW on 10/22/05). Since we confirmed the rally on October 22, 2005 (on the weekly screen) our MSW Index stocks have been up over 17% as a group (this groups contains 18 stocks that were listed on the weekly screen on 10/22/05 – very impressive results for so many stocks).

The Index has provided us with many buying opportunities at moving average support, consolidations and pivot point breakouts. Since the last weekly screen (November 19, 2005), the MSW Index has advanced by 6.25% with only two stocks falling for a loss (CRDN and FORD). Forward Industries was the largest loser, falling 6.13%. Our best gainer over the past couple of weeks was LMS which was up 23.25% on big time volume. Of the 26 stocks on the MSW Index, eight of them were up more than 10% while another three stocks were up at least 5% or more. Things move so fast in the market, it is tough to sit back and realize how successful our MSW Index stocks have performed in 2005 versus the rest of the market. A new page will be added as the year closes that will update the performance of the MSW Index versus the major market indices (NASDAQ, DOW, S&P 500). We are currently calculating a weighted MSW Index going back to early 2005 to see how well we have performed compared to the major market indices throughout this entire year.

If members have not taken the opportunity to capitalize on our MSW Index stocks, it is completely okay because we plan to perform even better in 2006 if the market cooperates and the NH-NL ratio continues to gather strength. Even more, many of our members have started to capitalize on their own stocks due to the education and information we have provided them. We screen the top 30 stocks in our opinion but that doesn’t mean that other stocks (outside of MSW) can’t perform better and our members are armed to find these "other" stocks if they want. If you don’t have the time to research your own stocks, we provide the most complete and comprehensive list that will allow you to make solid market decisions based on a limited time schedule. Where else will you find such a diverse list of 26 stocks that perform as well as our stocks do? We don’t change our stocks very quickly because we only deal with the best and we know we can give them room to correct and to grow (examples include but are not limited to WFMI, COH, URBN, LMS, QSII, CBG, etc.).

Our double digit gainers over the past two weeks include: AAPL, NWRE, CUTR, ESRX, OXPS, KNOT, HANS, & LMS. Three of them were priced within the $60-$100 range as these impressive gains accumulated over the Thanksgiving holiday.

Here are our impressive Results since the start of the latest Rally (10/22/05)
Only 6 weeks of trading time:
Many of the stocks listed on our MSW Index have been on our screens since early 2005 and have held up better than most of the market because we stick with stocks that have high relative strength ratings. As of yesterday, 18 of the current 26 MSW Index Stocks were listed on the 10/22/05 weekly screen when we confirmed the rally in late October. The eighteen stocks are up a combined 17.11% as a group with only three of them giving us a loss since the rally began (ADSK, FORD, CTRP). Our biggest winner from the rally start is CUTR with a 63.83% gain; LMS comes in a close second with a 50.69% gain; ESRX follows up third with a 37.79% gain. Overall, ten of the eighteen stocks have gains in the double digit range with eight of them reaching gains of 20% or more. Two of the stocks that have given us losses have been removed from the MSW Index this week and this is not a coincidence. Forward Industries (down over 14% since the start of the rally) has been violating moving averages and support areas so we must remove the stock from our MSW Index (even though it is our #1 gainer in 2005 with more than a 300% gain sine it was first covered on 1/23/05 at $6.38). FORD has made 32 weekly screens MSW in 2005 as it climbed from $6.38 to over $29 at its peak. CTRP, a stock that has been up and down in recent weeks, failed to recover the moving average as the week closed so we are removing it from the MSW Index as we feel it may be headed in the wrong direction.

We don’t expect every member to trade exclusively off of our MSW Index but we know that almost every member learns using our index since we show them how, when, where and why we add and remove stocks to our screens. Using this knowledge to their advantage, they can fine tune their own trading method and become successful trading the markets for many years to come without the aid of our screens. We lead our members to the water and they typically drink the water when they are ready (and we never force them to drink it). The next time around, they find their own water source and remain hydrated for the rest of their trading lives. This is the goal of MSW, to teach “successful investing through education”. No one will ever be successful trading another investor's system so we teach each and every member to develop their own system using our philosophy only as a foundation. This is how I developed my system, with a foundation using CANSLIM. I have tailored the system to my style of investing and have added and subtracted what works for me and I expect every member in MSW to do the same!

Chris Perruna "Piranha"
Founder, President and Chief Analyst
www.MarketStockWatch.com

Extended Stock Question

...E-mail Question:
Hey Chris,

I wanted to ask you a few questions regarding the blog you posted today...

You said at the end of your blog, "You should never try and chase an extended stock." I think I might have done that a little w/ QSII. I bought @ 78.39 and as you can see today there was a gap down. I feel like it still has some strength (making weekly screens) to continue the 60-100 run, but was curious... (and I know it is somewhat of a general question, but) If you feel that a stock that you own is a bit extended do you immediately sell and take your profits? It is pretty obvious that you don't buy extended stocks very often, but it does seem to me that you are more likely to buy a stock at the time it pulls back to one of the moving averages. But I was just thinking, is a good rule to sometimes follow: buy @ pullbacks and bases, sell when it feels extended to take your profits?

Have a great day!
MSW Member

My Answer:

Currently at 10am, QSII is trading above $82 per share so you are now showing a 5% profit. I will try to answer your questions from several angles. If I own a stock that I purchased at the proper buy point (either a pivot point, a three or four week consolidation or a moving average pull-back), I will place a trailing stop to protect profits only if my profit is already above 25%. Anything less than 25% does not warrant a physical sell stop in my set of rules. Currently, I have made it known that I own HANS and entered the stock as it approached the $60-$100 range. I do not have a physical sell stop placed at this time and I do believe that the stock is extended so I may place one shortly (next few days). If I see a sharp correction or gap-down, I will place a stop to protect profits but I am letting the profit run at this point.

If I buy a stock that is extended (and I have done this) because I am human like anyone else, I will sell immediately if the stock starts to fall more than 5% below my entry area. Just because the stock drops below my entry area (which was extended to begin with) doesn’t mean that the stock is no good. It may still hold the original (correct) pivot point and allow me to get back in on a new high or a breakout on the point and figure chart.

I try to steer clear of extended stocks as I have said on many occasions and I can give you a current example using OXPS (a stock I like and a company I love). I could have grabbed it at $21 (extended in my opinion) but I missed it so I refuse to buy it at the current $24 level. In my experience, I have seen these stocks correct or pull back slightly near $20, especially when the NH-NL ratio is not super strong. In this case, the NH-NL ratio has not topped the critical 500 new highs yet during this rally so I decided not to chase the stock into extended territory. Maybe I missed OXPS at this level but that is fine because if it is as good as I think, I will grab it at the first pullback to a moving average or the first consolidation that sets up a new entry area, even if that area is several dollars higher than the current price level. I trade based on reduced risk and currently I think an entry is risky and vulnerable to a correction if bad news hits the market. In a solid bull market, I may have chased the stock thinking that it was not going to come back down even with bad news.

You ask if I should sell when a stock becomes extended. I will reply by saying this: never sell a stock for “no reason” such as boredom, because you think it is too high or because you want a small profit. Was HANS too high when I purchased it at $66 last May after a 700% gain? I didn’t think so and I was right. Recently at a split adjusted $58, I entered again even though the stock was worth $116 before the split. Is that too high? Again, I didn’t think so and now it is reaching a pre-split adjusted level of $156 ($78 today with the split). So, is $78 too high? I ride the winners and I don’t sell just because they are too extended. A good rule of thumb is to sell when the trend reverses. One way to tell if the trend reverses is if the stock drops by 20% from its highest peak during the move. Another rule I use for the $60-$100 theory is to place a physical stop at $89.89 once the stock crosses over $90 (this is to protect profits).

So, I do buy pullbacks, corrections and pivot point breakouts but I only sell when it shows a red flag such as a climax run or exhaustion gap or if it reverses trend and violates a moving average. Another great clue to a reversal is a recent leader making new highs on very low volume after making previous highs on powerful volume (this may signal churning and a possible topping area). I am looking for the big, long term moves, not the short quick gains. The big moves make you rich, not the quick little gains; they make you impatient and hesitant. Patience is the key to success if you want to make the big bucks on Wall Street.

I hope this helps and answers your questions.
Chris