When to take Profit

Below are some indicators we use to trigger gains and cut losses: 

THE BREAKOUT

The only time to buy a stock or mutual fund is within 5-10% of its breakout pivot point. The key is being alert to purchase the issue when it emerges from that base. If you buy correctly, near the breakout, the rest is easy.

SUPPORT AND RESISTANCE

Every stock, and every average, has areas of support and resistance. These are the bread and butter techniques of highly successful investors. Stocks tend to hold at a certain price level on their pull back, which represents support. At that point, perhaps value investors, whose fundamental analysis has led them to conclude the stock is cheap, begin to buy. Maybe the company itself might try to support the stock with an announcement. The other side of the coin is resistance. Advancing stocks will meet resistance as they approach the bottom of a base that was formed at a higher price. Whatever the reason, the phenomenon exists. A prior resistance level will become support it is penetrated effectively. On the other hand, a stock that breaks below support in a bearish sector is a candidate for shorting as that level now becomes resistance.

MOVING AVERAGES

If I was alone on a desert island, the one indicator I’d want is a moving average, or the more esoteric versions like the MACD (moving average convergence and divergence). Anyone who has anything to do with the stock market must pay attention to moving averages. Even if your investment was established on fundamental analysis, sophisticated investors turn to moving averages to protect their position and ride the trend as there is no excuse for owning a stock that is falling sharply below its moving averages. The averages are telling you that you have no business being there.

VOLUME, VOLUME, VOLUME

For stocks to continue to rise, they need volume. End of story. Greater volume means greater demand, and that’s the power that pushes stocks higher. When volume dries up, it sets the stage for a correction. Rising volume, coupled with moving average crossovers on breakouts is an incredible tip-off that the issue is moving higher. An advancing stock reaching resistance on declining volume is a very reliable sell signal, just as new highs on low volumes are suspect.

THE TREND

It’s your friend, don’t ever forget it, and don’t ever fight it. It’s suicide. Stocks move in channels, either up, down, or sideways. If in an uptrend, it will move back and forth from the extremes of its rising tend channel. If a stock rises to the top of the channel, profits could be taken, but if a breakout occurs through that top, the stock should enter an acceleration phase and head sharply higher. It takes more work to break a strong trend than it does to continue along the trend.

SELLING

The weakest part of any investment is the investor. It is not difficult to make money, good money, in the markets; the difficulty is not losing large amounts on your mistakes. If you are only correct a third of the time, and wrong the other two thirds with small losses, you’ll make a fortune. The biggest mistakes most investors make are selling too soon, sitting through major corrections, or riding their stocks to the grave. Unsophisticated investors tend to take profits and let their losses ride. Eventually the portfolio is full of “hope and prayer” positions.

The only consistent way to make big money in the markets is to cut your losses and run with your profits. That’s it.  Many investors become emotional wimps when it’s time to sell and don’t, while savvy investors use stop loss orders, predetermined prices where your security is sold, automatic. It’s a compulsory discipline. If the stock is purchased correctly, stop prices are easily established based on support and resistance, the trend, the volatility, and characteristics of the individual stock. As share prices move higher, a trailing stop in then implemented, which follows your share price higher. If you are unable to pull the trigger on a loser, stops are a necessity. Many top investors never enter a position without a stop. It it’s hit, you’re out. Done.

Stocks may be ripe to sell after a meteoric rise. This obvious sign of a climatic blow off is a needle like price formation with heavy volume, or a close near the low of the day after making new highs on a heavy volume early in the session.

 Whatever the reasons for selling, be cognizant of capital preservation. Investors get hurt not being able to preserve profits. 

SECTOR ROTATION

Research has shown that 75% of the time great winners are part of an industry move. To do exceptionally well in the market, one has to rotate. When an industry begins to break out, it’s wise to go with the stock that’s moving out early with the highest relative strength.  

RELATIVE STRENGTH

The RS line is an excellent technical tool to show the trend of a stock. It measures a stock’s price compared with all other issues. Stocks with the highest RS line have a strong probability of continuing to outperform. It plots the strength of up and down movements in prices and generates a signal used to gauge if the market is overbought or oversold.  

DOW THEORY

Charles Dow, the man who gave birth to the three Dow averages, was first and foremost a technical analyst. He is widely credited with developing point and figure charting and is the father of western technical analysis techniques.  

SHORT TERM TRADING INDEX

Advances divided by Declines X Advancing Volume divide by Declining Volume is designed to see if advancing stocks are receiving their fair share of volume.  

PUT/CALL RATIO

A sentiment contrary indicator. To make new highs or lows, a stock has to traverse a great distance.  

BETA

This is a measure of a stock’s sensitivity to the movement of the market. High beta stocks show tremendous speculation.  

RESEARCH REPORTS

It’s an exceedingly difficult job to divine how much a company will make or lose during a quarter or a year.  

P.E. RATIOS

The investment community preaches buying securities with low PE rations, but investors who are loathe buying high PE stocks probably missed out on many, if not most of the market’s biggest winners. High PE’s show the stock’s a leader and in demand by institutions.  

TICK VOLUME

The net tick volume for selected stocks gives a great look at the real supply and demand balance. Heavy up tick volume is bullish in almost every case.  

TICK INDEX

One of the least known indicators is the tick index, which may be why it works so well. It gives turning points, sometimes within seconds of market highs or lows.  

GAPS

Search for exhaustion, breakaway and continuation gaps.  

ADVANCE AND DECLINES

This is the total number of stocks that rise and fall on any given day.