As the subtitle of the book indicates part of the book is based on the 4 year Political cycle. The author's contention is that because there is a Presidential election every four years, the economy is managed in such a way that two years prior to election there is a boom and most of the problem in economy surface after election.
The other point of the book is, the best opportunity to make money in the market is after a bear market. We are in one currently and at some stage a new bull market will start. This book offers valuable guidelines on how to look for stocks likely to make big moves in new bull markets. This book is out of print.
Some of the key highlight from the book are:
- First consideration in buying stock is safety.
- Safety is derived more from the good timing of purchase and less from the financial strength of the company.
- The biggest stocks and growth stocks also decline during bear market. Even income stocks (stocks with high dividends) decline during bear market or periods of high inflation
- Most stocks are price cyclical
- Buying stocks as the market rebounds from bear market lows. It is the safest time and it offers the best opportunity for large capital gains.
- The best time to buy most stocks is when market looks like a disaster. It is then that the risk is lowest and potential rewards are highest
- Buy for large capital gains
- I believe that the investor should look for stocks that are capable of tripling in value within two years. Since it is unlikely that the investor will buy the stock at lowest price and sell it at highest, it is more likely that he will double his investment rather than triple it.
- Stocks should not be purchased unless there is a good chance of a big move.
- Superperformance= SPF (as short form)
- The selection of common stock for large capital gains depends primarily on a search- a search for super-performance (SPF)
- I define SPF stock as one that tripled in last two years.
- Rate of price increase >300 in two years
- Move was considered ended if price failed to make a new high in last six months
- Or a if there was a price correction of more than 25%
- Super-performance has occurred in well known growth stocks and it has happened in well known mature companies at some stage in their growth.
- It is triggered by many actions such as earnings, mergers , but most often it is found in stocks that are rebounding from oversold conditions, such as those characteristics of bear market bottoms. more
Smarter Investing In Any Economy- The Definitive Guide to Relative Strength Investing by Michael Carr
The book as name suggest goes in to details about using Relative Strength to design a trading strategy. Relative strength based strategies are one of the ways to exploit the momentum anomaly. Relative strength strategies aim to find strongest or weakest stocks, ETFs, or sectors in any market environment and to trade them on long or short side till they maintain there relative strength. Well formulated relative strength based strategies keep you on the right side of market.
The book goes in to details of various ways to rank stocks. Formulas for calculating relative strength using absolute difference, normalised ROC, moving averages, front or back weighted ROC, and standard deviation are detailed.
In the next section the author demonstrates ways to build trading strategy using Relative strength. He goes in to issues like:
- What vehicles to buy using Relative Strength
- What time frames for relative strength are ideal
- When should you buy and sell
- How should you manage your risk
Some of the most successful trading methods in the market are based on relative strength . It is one of the proven methods in the market that works. This book provides a good guide to investors interested in learning and applying about relative strength based strategies.
The book certainly is not "The Definitive Guide to Relative Strength Investing " because it is very narrowly focused on one trading system application of relative strength. It could have done a much better job of illustrating many more relative strength based approaches. The first chapter in the book is the worst, it never defines relative strength properly and spends more time trying to repudiate momentum investing, when in fact the entire rational of relative strength investing is based on stock momentum.
In spite of some reservations, this is one of the best books out of 70-80 books on trading I have read so far this year. I highly recommend this book because it contains ideas and concept which can make you money.
- A overall mental model about how market operates and why.This is your base assumption about how the market operates and why. What forces affect the market. How do they interact. Why market and market participants behave in certain manner. Consciously or sub consciously you will have some model about this. If your current model is faulty, you need to replace it with right model based on research and market history.
- A mental model about how moves on individual stocks operate and why.This can be a very simplistic model like that of technical analyst or more sophisticated based on proven market anomalies.
- Given a understanding of market and stocks, you need the ability to formulate a strategy. Strategy selection in market will involve choosing a style like growth investing, value investing, contrarian investing, momentum investing, high frequency investing, statistical behavior based investing, etc.. This will form the essence of your vehicle selection strategy.
- Once strategy is clear then you need to think of trading mix elements like entry, exit, stops, risk per position and overall risk.
- Once all these elements are though through is when you look for trading tools like software and information and data sources.
- The next step is scans, processes, tactics, and other details.
If you study the momentum anomaly and various research related to it, you will find:
- Jegadeesh and Titman (1993) showed that there is substantial evidence that indicates that stocks that perform the best (worst) over a three to 12 month period tend to continue to perform well (poorly) over the subsequent three to 12 months. Momentum trading strategies that exploit this phenomenon have been consistently profitable in the United States and in most developed markets.
- Moskowitz and Grinblatt (1999) found evidence of momentum in industry returns. They found that high momentum industries outperform low momentum industries in the next six-months.
- Momentum profit reverse post 2 year holding periods.
- Firms that are followed by fewer stock analysts exhibit greater momentum.
- Like price momentum, stocks with high earnings momentum outperform stocks with low earnings momentum.
- A momentum strategy that buys stock near their 52 week high is profitable.
- Momentum effect is more pronounced in small stocks.
- After 3 days of selling market experienced a reflex bounce.
- However it had a full round turn going, up, down, up, before finally ending in positive territory.
- The Energy sector was best performer. This sector in last two month had a correction and is now trying to bounce back.
- But if the energy and commodities stock start bouncing back, it will be interesting to watch, what happens to rest of the market.
- Next 10 days or so will most probably be very low volume days as traders decide to utilise last two weeks of summer holidays.
- Overall the market continues to trade in narrow range and probably will continue to do so till few weeks before next earning season.
10 Best Performing Industries
|Industry||% Change One Month|
|Surety & Title Insurance||281.3%|
|Health Care Plans||136.2%|
|Home Improvement Stores||97.2%|
|Regional - Pacific Banks||96.3%|
|Long-Term Care Facilities||80.4%|
|Housewares & Accessories||80.1%|
10 Worst Performing Industries
|Industry||% Change One Month|
|Steel & Iron||-74.7%|
|Oil & Gas Drilling & Exploration||-71.8%|
|Oil & Gas Equipment & Services||-67.4%|
Jesse Livermore , the legendary speculator wrote a slim book near the end of his career; How To Trade In Stocks. In it he distilled his learning from his career. One of the lesson he learned was importance of sectors.
In third chapter of the book he talks about the importance of following the leading stocks in leading sector. Some of the key point he makes are:
- Do not turn completely bullish or bearish on whole market. Look at which sectors are bullish or bearish.
- When you see a move happening in a sector act upon it immediately, irrespective of overall market direction. But do not act the same way on other sectors.
- Confine your trading to prominent stocks in prominent sectors. If you cannot make money out of the leading sectors and stocks, you are not going to make money out of stock market as a whole.
- At any time there are only 3-4 groups leading the market.
- If you can focus and analyse just the top 2 stocks each in top 4 sectors, you need not worry about what the rest are doing.
- Always follow the leaders
- The leaders of today may not be the leaders two years from now
In a difficult market environment, focusing on handful of top sector is better strategy. While the market is not having broad based advance, some individual sectors are having good rallies. The idea behind monitoring sectors is to profit from it.
Using sector relative strength and stocks relative strength , it is possible to identify the best stocks in the top sectors. In Telechart this is easy but slightly cumbersome to do. One of the ways to do this in Telechart is:
- Sort Morningstar Industry Groups by Price vs 4 day moving average and select top 25 sectors.
- Create a list of stocks from this.
- Take top 20% stock out of this by using a half year relative strength (C - AVGC135 ) / AVGC135
- On the small group of stocks you get use a breakout scan like ( 100 * (C - C1) / C1) >= 4 AND V >= 1000 AND V > V1
If you have IBD Screner this process is simpler. You can try a scan like:
|Company's Industry Group Rank||From 1 to 20|
|Stocks trading at new 52-Week High AND Percentage price is below 52-Week High||Greater than or equal to: 15|
|Current 50-Day Average Volume(1000)||Greater than or equal to: 100|
One of the most important observation of mine about the market is that even a worst stock in top sector will rally more than the best stock in lagging sector.Sector effect is as powerful as blowout earnings or relative strength.
It is very tempting to get caught up in the mechanics of trading like chart patterns, indicator, entry and exit techniques and stops and risk management. There is lot of environmental noise related to these tactical issues in trading.
But for successful trading , strategic understanding of market dynamics is more important. That strategic pre thinking is one time effort and that is the basic foundation to trade any method.
The most critical pre thinking involved is:
- What drives the overall market
- What drives individual stock price behavior.
- How earnings affect stock price
- How sector affects stock price
- Why does momentum work
- Why does earnings breakout work
- How does the value to growth cycle work. (Cinderella Strategy)
- Why large stocks and small stocks behave differently
- What factors are most critical to short term stock price moves.
- What makes a stock go up 100/50/25% in short time frame
Overall pre thinking all these things is critical. It helps build a coherent framework about market and individual stock price behavior. That allows us to determine a strategy. Once strategy is clear, scans, software, entry, exit, stops, indicators, chart patterns etc. are all tactics.
Trends start from a low point. Every year in the market a handful of stock for variety of reason make very big moves. They make moves of 100% plus starting from their low. Such moves cannot be explained by earnings or valuation.
FINL is up 526% from its 260 days low. The low was 1.70. You can not explain this move by earnings or valuation alone. There are many stocks like this making big moves.
Stocks with good earnings are not the only stocks that make big moves in a year. If you look at the Market Monitor, there are number of stocks which go up 100% plus in a year. The Double Trouble and Modified Double trouble replicates the IBD 100/200 strategy on these universe of stocks with minor modification.
Here is another stock up 410% from 52 week in just few weeks.
These charts also explains the concept I talked about that trends start from low points. Double Trouble method does very good job of catching such stocks. Modified Double Trouble (MDT) will not catch such stocks in early stages. Also because Double Trouble uses absolute strength cut off of 100% plus strength, in circumstances where no stock has such growth, it will not have any stock. As against that MDT uses Relative Strength. A stock which has negative price growth can still have high relative strength if all other stocks are going down. The 240 stocks in Double trouble universe have such powerful trends and they provide fertile opportunity for specified breakout method.
Bringing Down Bear Began as $1.7 Million of Unsuspected Options
On March 11, the day the Federal Reserve attempted to shore up confidence in the credit markets with a $200 billion lending program that for the first time monetized Wall Street's devalued collateral, somebody else decided Bear Stearns Cos. was going to collapse.
In a gambit with such low odds of success that traders question its legitimacy, someone wagered $1.7 million that Bear Stearns shares would suffer an unprecedented decline within days. Options specialists are convinced that the buyer, or buyers, made a concerted effort to drive the fifth-biggest U.S. securities firm out of business and, in the process, reap a profit of more than $270 million.
Whoever placed the bet used so-called put options that gave purchasers the right to sell 5.7 million Bear Stearns shares for $30 each and 165,000 shares for $25 apiece just nine days later, data compiled by Bloomberg show. That was less than half the $62.97 closing price in New York Stock Exchange composite trading on March 11. The buyers were confident the stock would crash.
``Even if I were the most bearish man on earth, I can't imagine buying puts 50 percent below the price with just over a week to expiration,'' said Thomas Haugh, general partner of Chicago-based options trading firm PTI Securities & Futures LP. ``It's not even on the page of rational behavior, unless you know something.''
The 5.7 million puts that traded March 11 at the $30 strike price and the 1,649 that traded at $25 were collectively worth about $1.7 million, Bloomberg data show. Each put is equal to 100 shares of stock.
``That trade amounted to buying a lottery ticket,'' said Michael McCarty, chief options and equity strategist at New York- based brokerage Meridian Equity Partners Inc. ``Would you buy $1.7 million worth of lottery tickets just because you could? No. Neither would a hedge fund manager.''
- Market continues to churn at this level. For last 10-12 days market had big move days, but they have had no follow through and as a result most indices are at more or less same level.
- Sector leadership has changed and new sectors are now emerging. Some of them like medical sector are sectors which do well during defensive periods.
- The lack of follow through and lack of aggressive buying pressure so far characterizes this market . Breakouts have had immediate corrections post breakouts and follow through on many has been a problem.
- Only thing working is earnings breakouts on intra-day basis. ATHN and RMG are good example of that yesterday.
- Market has been down three days in a row and yesterday was 500 plus day to downside. on Market Monitor.
- The pattern for few weeks has been Monday selloff followed by Tuesday reversal. So let us see what happens today.
- Lack of buyers means follow through on breakouts is a problem. But earnings season is still on and earnings breakout is still where the action is.
- Today is Fed interest rate decision day and it can lead to wild swings and it can often lead to change in prevailing trend.