Notes on Trade Like a Stock Market Wizard

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Trade Like a Stock Market Wizard

What You Need to Know First

  • Don’t paper trade – people think about risk differently when actual money is on the line
  • “Conventional wisdom produces conventional results” you attain super performance by being different and sometimes this is misjudged as risky
  • There’s going to be bad days as a trader. Get over it

Specific Entry Point Analysis

  • Specific Entry Point Analysis:
    • Only buy when there is an uptrend in place
    • Even before the uptrend, look for material improvements in earnings and revenue
    • Wait for a catalyst
    • Use stop losses to exit if you mistimed entry

Value Comes at a Price

  • For growth stocks, P/E ratio is one of the most useless statistics on Wall St
  • Be wary of bottom fishing – this often precedes a bad earnings report
  • Stocks like Yahoo and Taser had P/Es in the hundreds before rising and stocks like AIG had a single digit P/E before falling 99%
  • “There’s a reason a Ferrari costs more than a Hyundai”
  • Use P/E as a sentiment gauge – stocks with high P/Es have high earnings expectations and if they meet them will rise

Trading With the Trend

  • Don’t ever go long if a stock is below a declining 200 day moving average (DMA)
  • All stocks go through four phases (possible some phases are skipped)
    • 1 – Consolidation
    • 2 – Accumulation
    • 3 – Distribution
    • 4 – Capitulation
  • Possible for a stock to consolidate and fail at accumulating – going straight to capitulation
  • Basically the four steps are setting a base and then rising, plateauing and finally falling
  • Always target phase 2
  • Follow this criteria to ascertain if a stock is in phase 2:
    • Stock price above 150 and 200 DMA
    • 150 DMA above 200 DMA
    • 200 DMA is increasing
    • A series of higher highs and higher lows has occurred
    • Up weeks have volume spikes and pullback weeks have low volume
    • More up weeks than down weeks
  • This criteria will show if a stock has moved on to phase 3:
    • Volatility increases and price moves happen in large swings
    • There is typically a major fall on high volume
    • There will be volatility along the 200 DMA line
    • The 200 DMA will flatten and the go into a downtrend
  • Stage 4:
    • Majority of price action is below the 200 DMA
    • 200 DMA in a definite downtrend
    • Price is hitting or near 52-week lows
    • Price is trending down
    • Short-term moving averages below long-term
    • Volume spikes on down days and weeks and price increases on low volume days or weeks
  • You want to get in when institutional money is pouring into the stock. Don’t get too frisky – wait for proof that institutions have started buying

Categories, Industry Groups and Catalysts

  • Potential stocks comes from six categories
    • Market Leaders
    • Top Competitors
    • Institutional Favorites
    • Turnarounds
    • Cyclicals
    • Past leaders and laggards
  • The Market Leader
    • Market leaders are the best category. They grow revenue and earnings the fastest and most consistently.
    • Most investors shy away from market leaders because they seem overvalued
    •  Good balance sheet, expanding margins, return on equity and reasonable debt are signs of good management
    • You must ask what is the company’s competitive advantage and is the business model scalable?
    • Market leaders typically grow so fast that Wall St. cannot accurately value them – as long as the company delivers strong earnings growth the PE doesn’t matter it will continue to increase in price
    • One type of market leader is a category killer – meaning the company is so good you wouldn’t be able to steal market share with unlimited capital
    • Another type is cookie cutter – typically a franchise retail business that can expand across the country/world using the same concept everywhere
  • Top Competitor
    • Most industry groups are led by just two or three companies at the very top