how to recognize great performing stocks >> · stocks of the past, bounces off this line...

How To Recognize Great Performing StocksYour guide to spot additional buy points.

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How to Recognize Great Performing Stocks

In our previous pamphlets, we’ve discussed how to use chart patterns of past winners to buy future winners at the right time. How you handle a stock after that initial buy can be the difference between good returns and great returns. Using additional buy points can help you inject more money into your winning stocks, making your better performers have a greater impact on your portfolio. These additional buy points can also be used as a way to get into a stock when you missed the intial breakout. However, this strategy should be used sparingly, as it adds additional risk.

Pullbacks to the 50-day / 10-week moving average price lineThe 50-day moving average price line (the 10-week moving average price line on a weekly chart) is one of the most widely used moving average lines used by investors and analysts. Some would say it is a bit of a self-fulfilling prophecy, because it is such a widely followed indicator, investors tend to react in the same way causing the expected effects. However, we have found in our studies of the best performing stocks of the past, bounces off this line occured long before technical analysis became popular.

Institutional investors have huge portfolios and they have to build their positions over longer periods of time. For the stocks that the institutions truly believe in, pullbacks to or slightly below the 50-day are viewed as great opportunities to add to their positions while keeping their average cost down. This extra buying causes a bounce off the line, and gives some investors confidence because institutions have “supported” the stock. Alternatively, when institutions do not buy during those pullbacks it may be seen as a lack of “support.” This decreases confidence in the stock and may subsequently increase selling pressure.

How do you take advantage of this as an individual investor? Consider adding to the better performing stocks of your portfolio if they bounce off of this line, especially if this occurs on higher volume. Many big winners pull back to their 50-day line two, three or four times over the course of their move. However, you don’t want to add to your position much beyond the first couple pullbacks.

3 weeks tightBuying by institutional investors can also be seen in a very subtle way by looking at tight areas. First, what do we mean by tight? There are two things we check: the range between the high and low for a given week and closing prices remaining relatively unchanged for a number of weeks.

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The range of a stock is shown by the vertical price bar. On a weekly chart, the top of the bar shows the highest price the stock traded for the week and the bottom of the bar shows the lowest price the stock traded for the week. A long vertical bar, or looseness, suggests investors are uncertain as to where a stock should be priced. Conversely, a short vertical bar, or tightness, suggests that buyers and sellers are closer to agreement on the stock’s price.

Another aspect of tightness comes from checking where the prices close for the week. Institutions may give their traders instructions to accumulate shares up to a certain price. Any selling pressure on the stock is soaked up by the institutions accumulating shares in this manner. Much of this action takes place late in the week, so each week closes relatively unchanged from the prior week. Additionally, if the tight closes occur after the stock has staged a move up, it shows an unwillingness of investors to give up their shares. The signal to watch for is three weeks in a row, or more, of tight closing prices. Buys can be made as the price moves up out of the short consolidation area.

Remember, when using the above strategies to add to your position, don’t get carried away. Always add fewer shares on the way up so you don’t drive your average cost up too much. Also, most purchases should be made before the stock is extended a great deal from a base since later purchases have increased risk.

As always, you can see more educational examples in The Investors Corner in IBD®. Plus, visit our web site, Investors.com, to view more samples in the education section and video examples in the Daily Stock Analysis.

The chart on the next page provides definitions of key features included in IBD chart examples. Use it as an additional reference as you go through this booklet.

We look forward to helping you become a more successful investor.

William J. O’Neil

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Copyright © 2008 Investor’s Business Daily, Inc. All rights reserved

Emulex Increased 628% in 42 WeeksEmulex Increased 628% in 42 WeeksPerformance data is calculated from the breakout from the base not the additional buy points.Performance data is calculated from the breakout from the base not the additional buy points.

Buy pointBuy point

Enlarged example of tight closes

High

LowCloseCloseCloseClose

Thick black line means stock closed at a higher price than prior week’s close

Thin gray line means stock closed at a lower price than prior week’s close

Note: prices on charts are adjusted for splits. This was not a $4 stock at the breakout. adjusted for splits. This was not a $4 stock at the breakout. adjusted for splits. This was

Adjusting for two 2/1 splits, it was actually $16.was actually $16.Adjusting for two 2/1 splits, it was actually $16.Adjusting for two 2/1 splits, it

Weekly ChartWeekly Chart

S&P 500 correctionS&P 500 correction

Average weekly volume line

Weekly volume bars

200-day moving average price lineaverage price line

10-week moving average price line

Relative Price Strength Line Relative Price Strength Line vs. S&P 500. Uptrending line means stock is outperforming S&P 500.

5 Copyright © 2008 Investor’s Business Daily, Inc. All rights reserved

Redman Industries Increased 849% in 49 WeeksRedman Industries Increased 849% in 49 Weeks

Buy point

13-week cup-with -handle

At the buy point: Last quarter EPS growth: +200% Mobile home industry sales were up 25%

The majority of market leaders can be The majority of market leaders can be bought first 2 or 3 times stock pulls back to or slightly below 10-week moving to or slightly below 10-week moving average line.average line.

2nd pullback to 10-week line

3rd pullback to 10-week line

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J D S Uniphase Increased 2016% in 66 weeksJ D S Uniphase Increased 2016% in 66 weeks

Buy pointBuy point

At the buy point: Last quarter EPS: +100% Return on Equity: 17.3%

Normal pullback to or slightly below breakout price and also pullback to 10-week moving average price line

Buy - pullbacks to 10-week line

22-weekcup-with-handlecup-with-handle

Market correction


Buy point

Another buy point:1st pullback to 10-week moving average linemoving average line

Market correction

Newbridge Networks Increased 724% in 49 WeeksNewbridge Networks Increased 724% in 49 Weeks

24-weekcup-with-handle

At the buy point: 3 quarters Sales growth acceleration: +7%, +32%, +41%

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Syntex Increased 482% in 25 WeeksSyntex Increased 482% in 25 Weeks

Buy point:High tight flag base

General market General market weakness

Add at pullback to Add at pullback to 10-week moving average line

At the buy point: Last 3 quarters EPS growth: +400%, +800%, +400%Annual EPS growth rate: +54%


Monogram Industries Increased 927% in 57 WeeksMonogram Industries Increased 927% in 57 Weeks

Market correction

Buy point

Base-on-base-on-base

At the buy point: Last 3 quarters EPS: +150%, +120%, +20% Annual EPS growth rate +46%

Pullback to 10-week moving average price line (can buy market leader first 2 or 3 times stock pulls back to 10-week line)line)

Can buy more - 4 weeks in a row stock closes in same price area

Volume increases from prior week’s volumeprior week’s volume

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Thiokol Chemical Increased 371% in 39 WeeksThiokol Chemical Increased 371% in 39 Weeks

Buy pointBuy point

26-week double bottom

Can buy here at 4 weeks in a row Can buy here at 4 weeks in a row of tight closing prices (horizontal slash marks show 4 weeks closes are nearly the same)

At the buy point: Last quarters EPS growth: +35% Annual EPS growth rate: +38%


Ascend Communications Increased 1668% in 75 WeeksAscend Communications Increased 1668% in 75 Weeks

Market weakness

Buy point

Base-on-base-on-base

At the buy point: Last 3 quarters EPS: +100%, +100%, +200% Last 3 quarters Sales: +117%, +119%, +155% After Tax Margins at peak 24% 3 quarters increasing sponsorship R & D 12% of sales P/E Ratio was 50 and expanded to 145 at peak price Note: prices adjusted for 3

stocks splits, so actual price at buy point was $32.75. New stocks splits, so actual price at buy point was $32.75. New stocks splits, so actual price

issue price was $16.at buy point was $32.75. New issue price was $16.at buy point was $32.75. New

Buy - Even at this advanced price level, stock closes tight 3 weeks in a row.tight 3 weeks in a row.

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Amgen Increased 688% in 96 WeeksAmgen Increased 688% in 96 Weeks

Market correction

Buy point

Buy - stock closes 4 weeks in a row tight (nearly same price).(nearly same price).(nearly same price).

16-week double bottom

At the buy point: Last 3 quarters EPS growth: +250%, +1000%, +4400% Last 3 quarters sales growth: +55%, +98%, +216% After-tax margins at their peak.

Stock went up another 723% before it topped in Stock went up another 723% before it topped in July, 2000 for a total return of 6,385% in 10 years.July, 2000 for a total return of 6,385% in 10 years.


Levitz Furniture Increased 673% in 88 WeeksLevitz Furniture Increased 673% in 88 Weeks

Market correction

Buy point

3 weeks in a row tight, can add more here.

38-week cup-with-handle

At the buy point: Last 3 quarters EPS: +50%, +33%, +67%

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Simmonds Precision Increased 766% in 38 WeeksSimmonds Precision Increased 766% in 38 Weeks

Market correction

Buy point

Huge volume on breakout, much larger than prior weekthan prior weekthan prior weekthan prior week

Can add here, 4 Can add here, 4 weeks tight closes

Classic cup-with-Classic cup-with-handle base

Buy - 3 weeks in a row closing tight

At cup-with-handle buy point: Last 3 quarters EPS growth: +25%, +25%, +67%

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How To Recognize Great Performing StocksYour guide to spot additional buy points.

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