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Catching Falling Knives -- By: Bill Kraft
Copyright 2009, Makin' Hay, Inc., All Rights Reserved
Bill Kraft
Editor |
During the past week, the Dow, S&P 500, and Nasdaq Composite each
broke down below the neckline of head and shoulders chart formations.
Such a break is generally thought to be a fairly strong bearish signal,
particularly when combined with weak fundamentals such in the overall
economy including things like high unemployment and low consumer
sentiment. While no chart formation or, for that matter anything else,
is ever a guarantee of market direction, it can be something that may
be helpful if we are aware. I write that because when I make
directional trades in a stock, I try to make entries that are consistent
with the market and sector direction. The idea, for me, is to try to
give myself an edge since obviously when a market is rising most stocks
can also be expected to be rising and, naturally, the same is true with
respect to sectors. The opposite would also be true in that we could
expect most stocks to be down when the market is down. In that
circumstance, of course, my bias for directional plays would be bearish.
One of the things I have seen with many traders is that they are so
anxious to buy a stock that they make their entry when the price is on
the way down. That phenomenon is affectionately known as trying to
catch a falling knife. The problem they face is that no one knows how
far "down" actually is. For stocks like Bear Stearns or Enron or Lehman
Brothers or a host of others "down" wound up being zero. Back in
February or March a friend asked me what I thought about buying General
Motors and I shook my head from side to side. But it's GM, he said, it
won't go under; it has to come back. We have to remember that simply
because it was a good company or simply because a company is good now
doesn't mean that the stock price will go up. All too often we confuse
a good company with a good stock and the two do not necessarily go
together. General Electric (GE), for example, has long been a good,
even great, company that traded in the $30 and $40 area. This past March
it hit under $6 a share. Those who bought at $25, $20, or $15 on the
way down were trying to catch that falling knife. I can hear them
saying: "It'll come back." Maybe. Probably. But when?
Instead of catching that falling knife, if we like the fundamentals
and like the company, why not exercise a little patience and wait until
not only it signals a return to an upward move, but also wait until the
market and sector head the right way as well? That movement may miss
catching the absolute bottom, but it is just fine in my book to take a
bite out of the middle once the market, sector and stock suggest that
you have a little edge.
I certainly won't argue with those who try to catch those falling
knives because at times their timing is near perfect and among the scars
on their hands will fall the knife handle just before things turn.
However, a very successful and very experienced trader once told me that
we only get one perfect high exit and one perfect low entry in our lives
and I know I've had mine so, for me, taking a bite out of the middle is
just fine.
Good Trading!
Bill Kraft
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General Electric Co. (GE)
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Option Trader -- by Bill Kraft
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Here's a look at a trade Bill is currently working on:
1/100 DOW JONES INDUSTRIAL AVER (^DJX)
The Dow Industrials 1/100 Index, along with the Dow broke
down through support and broke through the neck of a head and shoulders.
I am looking at the possibility of entering a put debit spread, perhaps
buying the Sept 85 puts and selling the Sept 80 puts for a debit around
$2.60. The breakeven, excluding commissions, would be around $82.40 and
the index stands below that now. The maximum potential return at
expiration and assuming no adjustments, again excluding commissions,
would be $2.40 or a potential return on risk of just over 92% if the
index closed below 80. I should note that I do currently have a debit
spread in my own accounts on DJX.
Good Trading!
Bill Kraft
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Trend Trader -- by Bill Kraft
Trend trading as we try to practice it is a form of momentum trading. We prefer to try to capture profit out of the middle of the trend rather than try to catch reversal at bottoms and tops.
Here's a look at a trade Bill is currently working on:
Stanley Works (SWK)
SWK gapped up at the open on Friday morning and moved above
a resistance level on reasonably high volume. It looks like it may have
a couple of bucks to the next upside target, but I am keeping in mind
that a bullish move here may be contrary to general market direction so
I will keep a fairly tight stop if I enter early in the week.
Good Trading!
Bill Kraft
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$10 Trader -- by Bill Kraft
We really enjoy trading stocks that are $10 and under. Often they provide the chance to enjoy high percentage gains and, of course, at worst, the risk is limited to what we paid for the stock.
Here's a look at a trade Bill is currently working on:
Monarch Casino & Resort Inc. (MCRI)
MCRI broke above a resistance Friday and has been moving up
for the past three days. I considered an entry on Friday, but was a
little concerned in that the upward movement was accompanied by falling
volume and that often is a danger sign. Since we are in the midsummer
doldrums, that may not be as significant as I would ordinarily suspect.
While I like the price movement, I decided it would be worth waiting
until next week to make my decision.
Good Trading!
Bill Kraft
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