Do you buy at new lows…or new highs?
Wednesday, 16 August 2017
By Bernd Struben
- Dispelling a common myth
- Buying into strength
- Mining for bitcoin in the heart of Africa
When you look to invest in a stock, do you prefer to buy after the share price has taken a tumble, hoping to score a bargain?
Or do you buy into a rising share price, perhaps even at record highs?
This is one of many debates that crops up here at Port Phillip Publishing’s head office in Albert Park.
A few years ago, I was solidly in the ‘buy the dip’ camp. Not, of course, advocating buying any old stock in a downward spiral. (There are plenty of good reasons some companies’ share prices tank.) But I was certainly on the lookout for companies whose fundamentals looked solid and appeared unreasonably sold off.
Now that kind of bargain hunting can pay off. If you get your research and timing right, you can see the share price take a nice bounce. But what about buying into new highs?
A lot of investors are uncomfortable with that. They think they’ve missed the boat. That after a run into record highs, the stock is sure to correct. If they like the stock, they may keep an eye on it. Waiting for the correction so they can get in on the cheap. Yet that correction may be a long time coming.
More on this, after the markets…
Overnight, the Dow Jones Industrial Average gained 5.28 points, or 0.02%.
The S&P 500 lost 1.23 points, or 0.05%.
In Europe, the Euro Stoxx 50 index closed up 11.25 points, or 0.33%. Meanwhile, the FTSE 100 gained 0.41%, and Germany’s DAX index gained 0.10%.
In Asian markets, Japan’s Nikkei 225 index is down 14.88 points, or 0.08%. China’s CSI 300 is down 0.13%.
In Australia, the S&P/ASX 200 is up 19.52 points, or 0.34%.
On the commodities markets, West Texas Intermediate crude oil is US$47.78 per barrel. Brent crude is US$51.11 per barrel.
Gold is trading for US$1,273.25 (AU$1,623.83) per troy ounce. Silver is US$16.68 (AU$21.27) per troy ounce.
One bitcoin is worth US$4,038.24.
The Aussie dollar is worth 78.41 US cents.
Dispelling a common myth
One of the primary reasons investors hesitate to buy stocks trading at new highs is that we’re hardwired to think winning streaks can’t last. Or any kind of streak, for that matter.
It reminds me of a conversation I had with a mate over the weekend. He’s a bit of an amateur gambler. He rarely wins or loses more than $100 on any given night. But he’s always looking for an edge over the house.
After a few beers, he shared a new ‘strategy’ he’s been working on. It can apply to various games of chance, but he prefers roulette.
Without getting into the finer details of roulette, there are 36 pockets on the wheel numbered 0–36. Half the pockets are black and half are red…except for 0, which is green.
One of your options is betting on either black or red. If you guess right, you double your money. If you guess wrong, you lose it all. The house maintains its edge because of the green 0 pocket. So, if you play this strategy long enough, odds are the house will take all your money.
That’s where my mate’s ‘strategy’ comes into play.
Before placing his bet, he watches from the sidelines. And he waits for either red or black to come up three times in a row. Once that happens, he places his bet on the opposite colour. Meaning, after black comes up three times straight, he bets on red…and vice versa.
‘The odds of the same colour coming up four times in a row are tiny,’ he told me.
And he’s right. Taking the green 0 out of the picture to keep things simple, the odds are indeed small…6.25% to be precise. Yet, frustratingly, his strategy has yet to pay off.
Here’s what he’s missing.
Each time the dealer spins the wheel it’s a unique new play. The ball has no idea it’s already dropped into a black pocket three times straight. So the odds (again without the 0) of it falling into black a fourth time are not 6.25%, but 50%.
You only come up with the 6.25% odds by judging the scenario from the very first roll. Yet that’s not how the game of roulette — or investing — works.
To make an informed and hopefully profitable decision, you need to continually re-evaluate the situation.
When it comes to buying stocks trading at new highs, it means understanding they could have much further to run. And that there’s likely good reason investors have been piling into the stock and driving up the share price.
Of course, there are exceptions. (Voice of Kris Sayce, Tesla!) But, as quant trading legend Jason McIntosh explains below, when a stock is trading at new highs, resist the urge to run out and short it.
Buying into strength
You’re probably familiar with Jason McIntosh. He’s been a professional trader for 26 years. And the editor of our premium trading service, Quant Trader, since October 2014.
In yesterday’s Port Phillip Insider, we covered the trading algorithm Jason developed himself. He calls it System Q. It’s enabled Jason and his subscribers to beat the market 43 times over the last two years. (Details here.)
When it comes to the question of whether you should buy a stock at new highs or new lows, Jason doesn’t waffle. Here’s the email he sent me last night (images are all sourced by Quant Trader):
‘OK, I have a question for you…
‘Suppose a stock has been on the rise. It’s just hit a record high after months of gains. Would you consider buying?
‘Think about this for a moment. What’s your natural tendency?
‘Many people will say it’s too late to buy. Some may even consider shorting the stock.
‘Let me show you what I mean…
‘This is a price chart for Aristocrat Leisure Ltd [ASX:ALL].
‘Few traders would call this a screaming buy. I’m sure many would say they’d missed it…and a bunch more would be keen to take profits.
‘Here’s what happened next…
‘Yes, this is the same stock you just saw. Few people would expect such a big move. But that’s the nature of trends — they can extend much further than you think possible.
‘By the way, the entry point on the chart is real. It was the first of three buy signals that Quant Trader gave subscribers. You may remember it Bernd. This one was just after the service began in October 2014.
‘By the way, the red line below the share price is the trailing stop. ALL will remain an ‘open trade’ as long as the shares are above this line. The trade is currently ahead by 200%.
‘Here’s another example — Vita Group Ltd [ASX:VTG].
‘Now, just think. Would you want to buy this stock? The shares were up 482% over the past three years. I’m betting most people would think it was far too late to get in.
‘But it wasn’t…
‘The trend had a lot further to run. Quant Trader’s exit was at $3.83 on 29 August 2016. That’s a 199% gain from December 2014’s record high.
‘Counter to popular thinking, buying after a strong move is often profitable. This is because you’re trading with the trend, and the odds favour it going further.
‘Quant Trader doesn’t predict a stock’s top or bottom. Instead, it identifies momentum. The aim is to catch the big, middle part of the trend.
‘So, don’t be afraid to buy a stock because it’s doing well. There’s every chance it will continue moving in the same direction. That’s what trend following is all about.’
Jason’s exhaustive research helped nudge me from the ‘buy the dip’ camp. Not that I’m averse to promising stocks that have been beaten down through no fault of their own. But decades of data and back-testing speaks for itself. And buying into strength is one way Quant Trader helps put the odds in your favour.
Tomorrow we’ll look at another way. One that will prove invaluable if the market takes a turn for the worse.
In the meantime, you can get the full scoop on Quant Trader here.
Mining for bitcoin in the heart of Africa
Yesterday I led you to believe I was done writing about cryptocurrencies…at least for a while. And I meant it. Until a stumbled onto this headline from Bloomberg this morning, ‘Bitcoin Is Literally Soaring Into Space After Rocket-Like Surge’.
‘Blockstream Inc. plans to make the digital ledger underpinning the cryptocurrency [bitcoin] accessible via satellite signal so people without Internet access, or in places where bandwidth is expensive, can trade and mine bitcoin. The company also touts the service as additional layer of reliability for bitcoin’s blockchain data in the event of a network disruption…
‘“With more users accessing the bitcoin blockchain with the free broadcast from Blockstream Satellite, we expect the global reach to drive more adoption and use cases for bitcoin, while strengthening the overall robustness of the network,” Blockstream co-founder Adam Back wrote in an e-mailed statement…
‘The network currently consists of three satellites that cover Africa, Europe, South America, and North America. By the end of 2017, Blockstream said it plans to “reach almost every person on the planet.”’
Bloomberg also included this helpful graph. It shows the gains of the S&P 500 index (blue line) compared to bitcoin (white line) over the past year.
Click to enlarge
With companies like Blockstream pushing bitcoin’s accessibility to ‘almost every person on the planet’, bitcoin’s stellar performance looks far from over. The crypto could easily double, triple or more over the next year.
Yet at US$4,038.24 as at writing, it’s hard to see bitcoin gaining 100-fold. The kind of gain that can see $200 turn in $20,000. Or $1,000 into $100,000.
For those kinds of gains, you need to look at the lesser-known cryptos. The ones trading for $1 today that could fetch $100 next year. But with over 900 cryptos on the market, and with more coming out almost every day, finding the next big winner is no task for amateurs.
Many of these new virtual currencies won’t be around in 12 months. Many others will see their prices tumble.
So how do you find the next bitcoin before the masses cotton on and drive the price up to $4,000? You start here.