During a market correction, buying new stocks entails high risk. But investors who had bought the true leaders at early breakouts and enjoy a thick cushion of gains have the option to sit through a normal pullback. If a stock is quickly rebounding back above the 50-day moving average, that’s an example of constructive action. But if a stock continues to free fall after undercutting that support level, it makes sense to secure at least some profits. A great stock will recover and form a new base, giving a new chance to buy back shares.
Likewise, active traders need to understand that research
shows the PEG ratio has more predictive power than any other
In case you’re unfamiliar with it, the PEG is a stock’s P/E
(price/earnings) ratio divided by the earnings per share
So, if for example, a stock has a P/E of 12 and EPS is
growing at 12% a year, it’s PEG would be 12/12, or 1.
The easy way to spot undervalued stocks is to see the
As a general rule, a PEG of less than 1 means a stock is
undervalued. A PEG greater than 1 means a stock may be
In essence, the PEG tells you how much you’re paying for a
given amount of expected earnings growth.
Of course, it begs the question:
“What did Dan Zanger do to make so much money so quickly trading stocks?”
Especially since he was just an ordinary everyday guy with no formal training or experience.
Well, to answer that question, you need to understand this…
As far as we know, only three investing strategies account for all stock market returns.
The first of these is… Value Investing.
The most famous value investor is, of course, Warren Buffet. Value investing is a simple and proven way to make money in stocks.
You find companies undervalued when compared to their actual ability to turn a profit. You buy shares in those companies. You wait to see the share prices rise as the companies grow and turn higher profits.
Let’s pretend you were born in 1919. Your grandparents – Ma and Pa Jenkins – bought one share of Coca Cola stock for you at $40. The split adjusted value of that single share… with dividends reinvested… would be worth somewhere in the neighborhood of $8.7-million by 2011. Nice neighborhood!
Oh… and your one share would have grown to 129,000 shares. And you’d also be getting about $242,000 in annual dividend payments.
The downside of value investing is you have to wait it out. Sometimes decades. While riding the inevitable ups and downs of the market.
If the companies you invest in last, you could end up with a hefty portfolio.
Of course, you might be too old to do anything with the money… but… that’s another issue altogether.
The second is… Small Cap Investing.
Another simple and tested concept. You buy smaller companies with high growth potential. As they become bigger companies their share prices go up too.
You don’t have to wait as long with small caps to see a profit. But if you don’t pick the right ones you’ll lose money faster as well.
Pretend a fictional company named Pimples-B-Gone, Inc. comes out with a real cure for… um… pimples. The company is tiny with a market cap of $400-million. Any company under a $2-billion cap is generally considered small.
Because of its size, Pimples-B-Gone, Inc. is not on the radar of any of the big institutional traders. So it goes unnoticed by just about everyone.
Share prices sell for $7 or so.
You get in on the bottom and buy a boatload of cheap shares.
Word spreads about the product. Since it works, pimple-faced teens buy it in droves. Investors take notice. They begin pouring hundreds of millions into Pimples-B-Gone, Inc. The result is share prices skyrocket to $21 in a year.
You sell and make 300% on your investment. Or you could sell sooner and make less. Or you could wait and hold on while share prices continue spiking.
The point is you get faster and often bigger returns. That’s the basic idea anyway. In fact, you could use this strategy as an income-generator in the short term.
Value Investing and Small Cap Investing have been around for decades. They account for 90% of stock market returns. The other 10% was a mystery until the mid-1990’s. It’s based on a variation of what Dan Zanger did to become a multi-millionaire trader.
Professors Eugene Fama and Kenneth French began a detailed analysis of stock market data in the 1980’s.
They developed a model which explained how value and small cap investing beat the overall stock market. Yet they were unable to figure out the last piece of the puzzle.
That is until one of Fama’s understudies – Mark Carhart – used the university’s stocks database to do a little testing of his own.
Almost by accident, Carhart stumbled upon the concept of…
… Momentum Investing.
Which explains the final 10% of stock market returns. After decades of being in the dark, we now know the only three ways to make money in the stock market.
What’s more, with momentum investing you can profit from short, medium and long term time frames. You can trade momentum daily, weekly, monthly or whatever.
Momentum trading describes the buying and selling force behind a price move.
A “body” in motion tends to stay in motion. So do stock prices. A stock surging up tends to keep surging. A stock dropping down tends to keep dropping.
The two components of momentum trading are: (1) a rapid price move… and… (2) high volume support. Once a price starts moving… and… a bunch of investors plow money into the stock… the price keeps on moving in the same general direction.
For the most part, that is the strategy Dan Zanger used. In an interview with FORTUNE, Zanger said, “I trade whatever the market is going to push up the most.”
He relies on the same process today.
Now there are a variety of ways (a.k.a. “systems”) for trading momentum. Zanger’s is one 99% of regular traders couldn’t follow in a million years.
I’ll tell you why in just a bit.
Before I spill the beans, I think it’s important you understand why my style of momentum trading is a high-profit, low-risk strategy:
- #1: You’re finding the small cap stocks overlooked by most traders. These stocks “run-up” higher and faster than any others. After all, it’s much easier for a $3 stock to go to $6… than… for a $100 stock to jump to $200. You’ll have little competition. Institutional investors won’t pay attention to them. Main Street investors won’t know about them.
- #2: You choose the small cap stocks which are going up MORE THAN other stocks. In other words, not just any stocks will do. Only stocks with the biggest, most recent gains make for the best momentum trades. Keep this in mind…
“Stocks outperforming the market tend to keep outperforming the market in the future.”
- #3: You “bet” on the most likely winners by going with an established trend and not against it.
They’re called momentum or momo stocks on Wall Street. Jim Cramer says they can make you a lot of money, but only if you know when to get out.
By momentum stock Cramer means “hot speculative stocks of companies with relatively low market capitalizations.”
Now, make no mistake – these stocks are the proverbial deep end of the pool. That is, if you sell too late you’ll be the one who gets stuck with a loss,” Cramer said. “However, if you sell to soon, you’ll miss out on making a great deal of money – and few things are more frustrating than watching a stock you’ve once held advance by double or even triple digits.”
Like all areas of investing, Cramer says the trick is to approach these stocks with discipline. “I’d be afraid to buy them too if I didn’t have a discipline that let me know when to get out,” Cramer said.
Here’s how Cramer does it.
“Usually these stocks begin with very little research coverage from the major Wall Street brokerage houses,” Cramer said. That’s important because Cramer thinks the sell signal comes from an increase in analyst coverage.
“You have to use your own judgment here, but a good rule of thumb is that once a hot stock, that had little coverage, has at least a half dozen analysts covering it, the run is going to begin to peter out.”
Although that may sound counter-intuitive, Cramer said don’t take increased coverage as a sign the Street is getting behind a stock.
Instead, he says take it to mean the Street has come late to the game. “Historically, that’s what it’s been.”
Therefore, “When I see a hot stock that had little or no research coverage attract 6 or more analysts, I sell,” Cramer revealed. “It says to me that just about everyone who wants a piece of the stock has a piece of it.”
It’s not scientific, Cramer admits, “But this formula has worked for me for as long as I can remember. And if you’re going to play momentum, you have to know when it’s time to leave the table.”
what should we do now that oil and gold are surging higher? do you see those today? it was gold’s day to shine. whenever we have one of these big bad events, and believe me the obama administration and congress taking their time to decide whether to shoot missilesat syria counts as a big, bad event. i like to take a step back, tryto distance myself from the hysteria a bit. you don’t want to makeemotionally driven decisions in this business. you need to stay analytical. people who make emotional decisions lose. that’s why tonight we’re going off the charts. take a look at the rise in goldand oil with the help of the co-founder of decarly trading. as well as being my colleague at realmoney.com and a terrific technician with a great record of late with the show. if you want to play either goldor oil, you’re going to have to table the whole syria issue. you have to take a broader perspective. why don’t we start with gold,please? seasonally this could be a good time to buy the precious metal. it just happens to be annually the best time because it tendsto rally through late september or early october. on the other hand, though, the price of gold has run up more than $200 from the lows of under $1,200. nobody likes to chase in that situation. that’s why garner recommends waiting for significant pullback and doing buying. why is garner so confident that it will be worth buying?well, let’s take a look at the weekly chart of the price of gold. down at the bottom, you can see what’s known as — this is the cot report. the trading commission commitment of traders. that’s a c of t traders report. many time here on off the charts. this lets you know about the holdings of commercial hedgers, while large speculators, the big institutional players trying to figure out what to do. they’re buying and selling gold as investment. earlier this year liquidated their holdings in a wave of panic selling. wave of panic selling, right? and gold came down hard. bright, look at that.they’ve been building their positions back up. and last week, large speculators were holding 78,000, that’s the green one is large, the gold future contracts. but that is still a low number. it suggested garner even though gold is rebounding hard off the bottom, it has more room to run. the gold trade is far from crowded and far from over. how do we play this? check out gold’s daily chart. garner thinks we could catch a nice pullback in gold after our government decides what to do in syria, that’s the certainty element that should bring down gold, she expects traders to buy on the rumor of a syrian strike and sell on a fact, whatever the fact may be. she believes gold prices might actually relax when it happens simply because most of the buying will have taken place in anticipation of the attack. and if our government refrains from hitting syria, many people will decide to ring the register. and if we get that syrianselloff in gold, that will be the time to buy. if you look at the bottom of the chart, the relative strength indicator, the rsi, an indior we use all the time here as well as the percentage oscillator developed by larry williams helps measure whether securities are overbought or oversold. both of these have drifted down out of overbought territory. it’s coming down. based on where the two indicators are standing, garner thinks we could be in a back and fill mode for decent interval, that would be like this. bouncing around without a clear trend. if we get a pullback in the futures contract, then thatwould pique garner’s interest in buying the precious metal. that’s her level. she’d like to see a knee jerk decline down to 170, that’s this level in the wake of a strike on syria which means garner would be able to get bullish again. she wants to see it go down,this level be a deal and then she thinks that. how about oil. let’s take a look at this very different picture. when it comes to crude, garner’s the opposite position. she wants to buy gold intoweakness and thinks you should sell oil into strength. how do you like this? take a gander at the weekly chart of west texas crude.garner knows oil has a tendency to top out in mid september. have you ever thought about that? i hadn’t. beyond that, i need to interject something. some of that might be because summer driving season is over. while auto has been rallies in anticipation of attack on syria, you’ve got to remember what happened after the united states got involved in conflicts in the middle east and north africa. remember after moammar gadhafi in libya two years ago, the price of oil in the united states dropped 10% immediately.garner expects to see that same pattern with syria especiallyunlike iraq and libya, the country’s not a major oil producer. since 2011, syria’s a net importer. net importer of crude at the moment.take a look at the commitment of traders report. that’s the c.o.t., you’re going to see the opposite of gold here. right now the large speculators are holding record net long positions of oil. they’re over — they’re stacked to the gills with oil. when they eventually start ringing the register and looking at positions she believes could be brutal. let’s check out the detail of weekly charts to see how low it can go. garner points out the price of crude is consolidating in a violent, violent but relatively narrow trading range. if oil spikes to an attack on syria, then garner doesn’t thinkit would go past 115 or 116 a barrel. if that would happen, she would start betting against it aggressively. once the dust settles or there’s no further rally, garner sees oil falling and falling hard, the price of crude drops below $100. garner thinks we could see awatershed cell all the way down to 90. wow. possible floor of support 96, maybe not. that’s one you want to catch if you’re a short seller. now, check out the slow oscillator near the bottom here. that’s a classic technical tool that measures whethersomething’s overbought or oversold. crude’s been overbought since july. that’s above that line is overbought. and every time the oscillators reach these levels in the last couple of years and pull back, we have seen stunning declines in oil. stunning, look at that.look at that pattern, every time we get that we’ve seen stunningdeclines. right now these are close to falling out of overboardterritory, garner expects the trend to turn bearish, at the same time the moving average, that macd we focus on helps technicians measure directional momentum beginning to wane. we could be approaching a dreaded bearish crossover where the blue line crosses over the, well, the red line, you have to just — i mean, it was a bearish cross that will drive things down. we have seen this used to good effect. and it’s right on the verge of warning that oil could be in a lot of trouble. yeah, crossover’s always been bad.take a look again. all we’re doing is measuring what’s happened in the previous selloffs and it’s developing. this one is developing just like these three. so let me give you the bottom line. the charts interpreted by garner suggest gold and oil could be about to pullback when our government decides to attack syria. but garner thinks gold will be a buy into that weakness because it can bounce back while oil needs to be sold before it gets hammered. boy, that would be some decline. i want you out of oil.
When a stock you like as an investment goes down in the short-term, it makes more sense to buy, then sell.
Trying to find a stock worth buying right now? Cramer’s doing the same thing. And he’s got a secret.
The Mad Money host believes one of the best ways to find a strategic entry point as well as exit point involves monitoring the market and determining a low water mark, when a preponderance of investors will buy as well as a high water mark, when a preponderance of investors will sell.
That is, “you need to determine where the value guys will start buying on the way down,” said Cramer, thinking the stock is just too attractive to pass up.” (That’s the low water mark.)
Conversely, “you have to think about where even the most bullish of growth guys will start selling,” Cramer added, thinking the stock has just gotten too expensive to hold. (That’s the high water mark)
By leveraging the buy levels of value investors versus the selllevels of growth investors, Cramer thinks the results will equal something akin to a floor of support and a ceiling of resistance.
To calculate these levels, “I use a quick and dirty rule of thumb that’s hardly ever let me down,” Cramer said. “If a stock has amultiple that’s lower than its growth rate, then that stock is probably too cheap for a value investor to let pass by.
And any stock that’s selling at a multiple which is twice the size of its growth rate or greater is probably too expensive, even for an investor seeking growth.”
Confused? Here’s an example.
Using Cramer’s rule, if a stock is trading at 10 times earnings and has a growth rate of 20%, Cramer concludes the stock is cheap – that it will attract buyers – especially those seeking value. (That’s because the multiple is lower that its growth rate)
Conversely, if a stock is trading at 20 times earnings, and it has a growth rate of 10%, then Cramer concludes the stock is expensive – that it will attract sellers, even those who bought for growth. (That’s because the multiple is twice the size of its growth rate)
Read more from Mad Money with Jim Cramer
Market riptides could drown a bull
Cramer: Little doubt Salesforce.com gains more
Cramer’s lament: Too few investors understand this stock
Still with us?
Cramer also uses another ratio, one which he says helps simplify the process.
“I also look at the PEG ratio, that’s the price to earnings to growth rate, or the multiple divided by a stock’s long-term growth rate. A PEG of 1 or less is extremely cheap, and 2 or higher is prohibitively expensive,” he said.
For example, “A high octane super-fast grower like, say, Googlein its heyday from 2004 through 2007, could sell for 30 times earnings and still be inexpensive because of it had a 30% plus long-term growth rate, giving it a PEG of just 1, right at the cheap end of the spectrum, and the growth kept accelerating sending the stock to new high after new high,” Cramer said.
Also using this system, “When Google still had its mega-growth mojo, with a 30% long-term growth rate, it would have become a sell if it traded up to 60 times earnings,” Cramer added.
Of course, no investment strategy is without exception. Exogenous factors ranging from sharply revised GDP expectations to signs of another financial crisis or tech bubble can sideline the strategy all together.
As a result, Cramer advocates employing his ‘secret’ prudently. However, he also believes at most times, it works and therefore can provide valuable and somewhat quantifiable insights. Just make sure to consider the signals within the context of other market metrics.
Shows how strong a trend is and when it will reverse.
+DI: How strong the uptrend is
-DI: How weak the downtrend is
ADX doesn’t indicate if the trend is up or down, but how strong the overall strength of the underlying trend is.
ADX strongly above 40 and rising: Strong trend
ADX strongly below 20 and falling: Weak trend
Do not trade if ADX is below both + and – line.
Identify start of a new trend: ADX moves from below 20 to above 20
Signal of trend reversal: ADX trading above + / – line and starts to turn lower
DI line cross over: Long when + crossover the – (uptrend is stronger than downtrend)
Helps to identify when to enter and exit.
Long when indicator is below price.
Short when indicator is above price.
However the indicator does not work well in ranges because there will be lots of whipsaws.
Force index weighs price action with volume.
Bullish: Foce index above zero and making new highs
Bearish: Force index below zero and making new lows