Trade a Stock’s Cycles or Buy and Hold?
Thirty years ago it made sense to buy and hold. Then, the cycles in which stocks moved had relatively small amplitude compared to the gain that could be anticipated for the year. Now, stocks swing in cycles with trough-to-peak moves comparable to what once was hoped would be the gain for an entire year. Obviously things have changed. Now, it is not uncommon for stocks to swing up and down within a few weeks to a few months as much as they once gained in a year, sometimes more. It is also now possible to buy and sell the same stock two or three times in a year and each time lock in as much of a gain as one could expect by holding it for the entire year. That means we now have more choices than we had then. Should we buy and sell the same stock three or more times for a total gain of 30% or buy and hold for the entire year for a gain of 10%?
Of course this is an oversimplification. Assume we sell XYZ for a 10% gain after holding it for a month. We may not always be able to buy the same stock back whenever we want to get another 10%. We have to wait for a setup that promises a good return in a short time. That setup may not occur for XYZ during the remainder of the year. In other words, we have to be willing to go elsewhere to find our setup. The bottom line is that we do not look for story stocks, big brand names, or exciting new products or drugs. We do not even put our hopes in the stock we just sold. Instead, we look for good setups wherever we can find them. It is the setup, not the name of the stock that counts..
For example, our traders know that institutional investors tend to increase their buying activity when a stock declines to its 50-day moving average. This is especially so if the 50-day moving average is rising and even more so if it is rising rapidly. Traders know this and profit from it. They will wait for a stock to decline to its rapidly rising 50-day moving average and then watch for a “trigger event.” In this case, the trigger event could be when the stock responds to the 50-day average by rebounding off of it. If volume increases on the rebound, that is an even more convincing trigger event. Some traders will wait a little longer to see if the high after the rebound exceeds the high of the last trading day before the reversal.
If it does, then you have a high probability that the stock will rise for at least a few days, and sometimes it will rise for a few weeks. That is, we are about to see a short-term run-up in price. The price “surge” does not have to be spectacular. A gain of 3% to 10% within two weeks would be considered a real prize. Under certain conditions, even a gain of only 2% may be worth the attempt. The key is to time your purchase so that you buy when a rapid upward move in price is most likely to occur within the next two weeks. In fact, finding good setups is so important that this writer developed stock scanners designed for the sole purpose of finding them, and they are used extensively by our own StockDisciplines.com traders. We have found that by careful selection, the strategy works most of the time. When it doesn’t, we simply sell and go elsewhere.
We are not suggesting here that short-term trading is to be preferred over long-term investing. What we are suggesting is that if a person wants to capture short-term gains repeatedly through the year, there is a right way to go about doing it. Buying the stock of a great company because its financial prospects look good for the year may put you in a stock that drifts sideways for many months. However, buying a stock because its setup is signaling that a price surge can be expected within two weeks enables a person to realize a gain quickly. If the expected surge does not occur, then perhaps it is time to look for another setup.