Nicolas Darvas, on the value of studying one’s trading losses; RWB stocks, COST, RVBD

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I am reprinting below some of my writings from a few years ago in order to give my new students some understanding of my approach to the market.

“it is utterly useless for us on the outside, who buy and sell comparatively small blocks of stock, to conjecture about what “they” are doing.   We cannot know what the insiders intend to do, but we can see their orders on the tape when they execute them.   That is why my plea is for everyone of us to have no mere opinions of his own, but to allow the actions of the market to tell him what is passing.”

(Humphrey B. Neill, Tape Reading & Market Tactics, 1931, New York: B.C. Forbes Publishing Company; 14th printing, 2003, Vermont: Fraser Publishing Company)

When Nicolas Darvas was interviewed by Time Magazine in the early 60’s and it came out that he made almost 2 million dollars in the market in 18 months (while he was dancing around the world!), he noted that he read and reread Neill’s book (along with Gerald Loeb’s).   Neill’s book has been reprinted many times and I happened to find it on the shelf of my local Barnes and Noble store.   Neill dedicates his book, “to my losses, with a deep appreciation for the experience and knowledge which each loss has brought me.”

If anyone tells you that the market is different today, refer them to the successful traders from the 1929 post-crash era–Livermore, Baruch, Loeb.   Darvas, who made his fortune in the 60’s, clearly learned something from Neil’s original writings–and so have I.   (See list of books about these people to the lower right of this page.) Livermore used to say that when you have a losing trade, you were paying the tuition required by the market. As a college professor, I sometimes see students who pay tuition (more accurately, their parents pay) but are not focused on learning.   Losses can provide knowledge–but you have to study them.

Perhaps the most important thing I did a few years ago was, after a series of losing transactions, to print out their charts and write down my precise buy and sell points.   It looked like I had followed exceptionally accurate rules that flawlessly led me to buy at the top and sell at the bottom of moves!   So what did I do?   I reversed what I was doing and began to trade profitably.   Every great trader (including IBD publisher William O’Neil) urges us to study our losses.   However, most of us rarely do this important exercise in the market, or in other areas of our lives.

So, one of the major exercises that my class completes during the semester is to trade for nine weeks in a trading simulation   with a pretend $100,000 margin account.   They must keep careful records of all of their transactions and analyze them after the trading simulation ends to determine the technical mistakes behind their losses.   They then revise their rules for entering and exiting positions. We   should all review our transactions at least once per year……..

Meanwhile, the GMI and GMI-R remain at their maximum values. These two sets of indicators keep me on the right side of the market.   Most stocks follow the trend of the general market averages and it is absurd to fight the trend. There were 380 new 52 week highs on Friday in my universe of 4,000 stocks.   Buying stocks at new highs has been a good strategy lately;   79% of the stocks that hit a new high 10 days ago closed higher on Friday than they closed   10 days ago. The QQQQ (Nasdaq 100 Index) has been in a short term up-trend for 53 days.   And the longer term up-trend of the SPY (S&P 500 index ETF) and DIA (Dow 30 index ETF) has lasted for 21 weeks. The Worden T2108 indicator is at 67%, in neutral territory.   45% of the Nasdaq 100 stocks closed with their MACD above its signal line, a sign of short term strength.

It is therefore okay for me to have long (versus short) positions in this market.   My scan of the market has found a number of promising candidates.   Below is the weekly GMMA chart for COST. An RWB stock has all of its short term averages (red) above its rising longer term averages (blue).   This is a pattern of a stock in a strong up-trend. COST closed on Friday at $74.13, very close to its all-time high of $75.23. A close above $75.23 could be a sign of considerable strength for COST.   COST reports earnings on March 2nd.

Another RWB stock with a nice chart pattern is RVBD.   It looks like it bounced off of support recently and is not far from its all-time high.   If I bought RVBD, I would place a stop loss   below its 30 day average, around $34.95. The two “NA’s”on the chart indicate when IBD wrote about this company in its New America column, highlighting promising visionary companies. Next earnings for RVBD come out in April.

By the way, all of my students are required to get a student subscription to IBD and to read the newspaper daily.   IBD provides an abundance of technical and fundamental information about the types of growth stocks I buy.   Furthermore, most of my purchases come from stocks on their prior IBD 100 lists, now superseded by the IBD 50 list.   I never consistently made money trading until I started reading IBD in the 1980’s.

With iPad debut on the horizon, AAPL shines; Tech Up-Trend Continues, but QLD beats most IBD100 stocks again

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Well, we will finally see if the iPad success is already built into the stock’s price.   While a lot of pundits think that the stock is over priced, a look at the monthly chart suggests to me that the stock has just broken out of a 2 year base.   This stock may have a long way to go now that it is at an all-time high.   I concentrate my buys on stocks that are at their all-time highs because there is no overhead supply of stock from sellers who bought at higher levels who are trying to get out.   Think about it, AAPL has come back from   the major declines of 2000-2002 and 2008.   That is a display of amazing strength.   It was the great Nicolas Darvas who taught me to buy stocks at all-time highs.   The monthly chart below

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Jim Cramer on stop loss orders–terribly wrong again! KCI soars; How I trade the 3X ETF’s

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I am dumbfounded!     I recently taped some of Cramer’s shows and reviewed Friday’s show this weekend.   At about 10 minutes into his show, Cramer responded to a caller who asked him about the use of stop loss orders.   Cramer ranted on about how he did not want his “home gamers” to put their orders on “automatic.”   Stop losses, he said, were okay for professional traders but not for his listeners who are part-time traders not glued to the market, and who are not robots.   I had to listen to him several times to make sure I heard what he was saying, because his advice was exactly opposite to what I think people should do.   His reason for not using stop losses was that one might get whipsawed–buy a stock at 60, put in a stop loss order to sell if it falls to 59 and then have the stock fall to 58 and be sold out, only to reverse and close back above 60. But it is precisely the part-time traders who are not watching the market every minute who need to have automatic stop-loss orders. Traders who are glued to their monitors can watch their stock closely and manually sell when they want to. It is the part-time trader who get his head handed to him when his stock plummets while he is at work or in a meeting. In 2005, I lost a lot of $$$ profits when I went to a business meeting thinking I did not have to put a stop in on a very strong stock (TASR) I was holding. That mistake cost me big–the market always exacts its tuition, and we must learn from our mistakes.

I could not disagree more with Cramer’s advice.   Before I buy a stock, I calmly decide how much I will let it fall before I think I am wrong and how much of a loss I will tolerate.   In this way, this “home gamer” who   has a full time job, does not have to be glued to the monitor like a professional trader and can go about my business knowing that if my stock falls to my sell level I am immediately and automatically sold out.   Once I have my stop loss order in place, I have taken my emotion out of the trade. If the stock falls and I have taken a small loss, I can always go back in and buy it back if it shows renewed strength–now that’s smart trading!   Every small loss bring me to my next big gain.   It was the   use of stop losses that helped the great Nicolas Darvas (see his book below) to make a fortune in the market in just 18 months. It is how one keeps his losses small.

Put this advice along side a lot of other bad Cramer advice, including calling chartists morons and recommending stocks based on fundamentals alone that were later devastated by the 2008 market decline. (I think Cramer started showing charts for a while after he found that a lot of his fundamental/value choices tanked).

So, how do I put in a stop order?   Before I buy a stock I determine at what level I will have been wrong.   Since I am buying the stock at what I believe is the right time and assuming that it is in an up-trend, I should not tolerate much of a decline below my purchase price.   The best way to enter a trade is to assume it will go wrong, so that I can calmly prepare my risk control strategy in advance.   I select a price level based on prior support, at a moving average or a recent reaction low.   As soon as my buy order is executed, I   place an order to sell my newly purchased shares on stop at my predetermined loss price.   I typically place a GTC (good til canceled order) so that I do not have to put a new stop order in every day.   A day order expires at the close each day.   Now, once the stock trades at the stop price level I put in, the broker automatically sends the order in to sell my shares at the market.   I may or may not sell the stock at the stop order price.   The order goes in line behind other market orders and gets executed in turn at the best price offered.   The greatest risk from using a stop loss order is that if the stock suddenly trades far below the stop price (as in a gap down at the open the next day) one   gets only the best price that someone is willing to pay.   A good strategy is to cancel the stop order after the stock has advanced enough and to put a new sell stop order in at a higher exit price     to ensure I do not give back all of my profit. I do not use automatic trailing stop orders because I prefer to raise the stop price manually after carefully reviewing the stock’s technicals. If I am stopped out and the stock rises again I love to buy it back at a higher price than I sold it.   Such trades often are quite profitable because during the whipsaw, as the   shares decline, they are bought by others who then hold on for a larger advance. Many large advances begin after a sudden decline…….

Meanwhile, the GMI and GMI-R remain at their maximum levels.   As the table below shows,

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How to use IBD 100 and New America stocks and TC2007 to find potential rocket stocks; Market rally begins

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I am writing this post primarily to teach my students how I search for potential rocket stocks–stocks that have been launched and appear headed towards new peaks.   As I said in class this week, it makes the most sense to buy stocks that have the best fundamentals and technicals.   This strategy has been advocated both by Nicolas Darvas and William O’Neil in their extraordinary books (listed at lower right of this blog).   Darvas,   made a fortune trading in growth stocks in the late 19050’s and said that he liked to buy stocks that were trading at all-time highs and that had already doubled in the past year.   So, I am going to show you how I use the great TC2007 stock charting and analysis program to find   potential rocket stocks that I research further before buying.

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Some new rocket stocks to watch

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I used TC2007 to scan the market for stocks that meet my most stringent fundamental and technical criteria for rockets.   These stocks have great fundamentals and technicals, have already doubled their price a year ago and are near 5 year or all-time highs.   I have listed in this table the 11 stocks out of 4,000 in my stock universe that met these criteria.  Rocketstocks1218 All of these stocks had last quarterly earnings up at least 100%.   Coincidentally, all but 4 of the 11 are in my records as having appeared on the IBD100 and/or IBD New America lists during the past year. I have also noted in this table where I might place long term or short term stop losses on each long position.   The most conservative stop loss is the short term support level.   With a growth stock I rarely retain   a long position if the stock closes below its short term support level.   However, if I bought near long term support I might use the LT support level as my exit strategy.   I will return to these 11 stocks in a future post to show you how they behaved.   These stocks have already proven themselves as being in strong up-trends, but one never knows when an up-trend will end.   That is why I immediately enter a sell stop or buy a put option for insurance, after buying one of these high momentum stocks. I currently own 3 of these stocks.

Below is a Guppy Multiple Moving Averages (GMMA) weekly chart (click on chart to enlarge) of one of these rocket stocks, RDY. Note how all of the shorter term averages (black lines) are well above the rising long term averages (red lines). This is the type of technical strength I seek in a potential rocket stock.

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Meanwhile, the GMI and GMI-R remain at their maximum levels.  

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Stage 2 bullish up-trend in sight; Some Darvas type stocks to watch

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The market held by the end of last week and I am getting more bullish.   This is because we appear to be at the beginning of a significant turn up in the QQQQ.   According to Weinstein’s stage analysis, the QQQQ is beginning a Stage 2 up-trend, as shown by the fact that its 30 week average is now starting to curve up.   This is the sine qua non (I went to Boston Latin School) of a bull move. Weinstein’s stage analysis (note his classic book, to the lower right) is the most important way for me to determine the trend of individual stocks and the general market.   By staying out of the market during aStage 4 declines (like the one we just finished) one can put the odds in favor of one’s portfolio’s long term growth.   The GMI, which includes this measure from stage analysis, remains at 4 (of 6).

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Rally gaining strength; Guppy chart reveals major turn

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If calling the short term trend of the market were easy, we would all be rich and retired.   Last week, my short term QQQQ indicator gave me a head fake and turned my daily trend count down.   That new downtrend lasted for two days and then the up-trend resumed.   However, I had indicated at the time that my short and long term QQQQ indicators were giving inconsistent readings, with the long term indicator remaining in an up-trend.   The new short term up-trend just completed its 3rd day.

The more that I analyze the market, the more I become convinced that I should rely on the longer term weekly trends to determine the market trend (see discussion of the Guppy chart below).   The QQQQ has been above its critical 10 week average for 11 weeks and the SPY for 10 weeks. But I have told you that I am a chicken, and would rather go to cash at the first sign of weakness and re-enter the market later, after the dust has cleared.   I actually have other, personal reasons, for why I am unwilling to enter the market right now.   I cannot trade successfully when I am stressed by other concerns. The only stock I own is ASIA, with a close stop loss.  

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