Jim: Hello, Adam. Thanks for joining us. As we speak on October 10, the markets are rebounding in a big way. A reaction to news in the DC debacle, or is this just a correction from an oversold condition?
Adam: Both- yesterday we saw the major averages positively reverse (which means they opened lower and closed higher) from deeply oversold levels
and that was a classic tell that the market was ready to turn. Then today we heard the news that the geniuses in DC want to talk- the ice is possibly breaking between the dems and the GOP.
Jim: Okay, so hopefully the bull can run again soon.
Adam: Yes… the real kicker here is that this is a man made problem, and something that can be 100% prevented. I hope DC gets the message and cooler heads prevail.
Jim: Today I wanted to talk about how to zoom in on a good trade, starting with the biggest picture view, right down to an individual stock. Because it’s so important for traders to go with the flow, not against it.
Adam: Absolutely and Great topic. Over the years, I developed a pretty sound checklist to ensure I’m always going with the flow…or making the trend my friend.
Jim: So we might begin by looking at the overall market as a whole. Is it in an uptrend or downtrend?
Adam: Yes the first step is to ask yourself what are the major averages doing, and if you refer to one of our prior conversations about Moving averages you can learn how to quickly ascertain the health of the market. As a quick refresher there are only three possible scenarios any market or stock can do: move up, down or sideways. So if you confirm that the market is in an uptrend then you can look for stocks to buy. If the market is moving sideways then you might want to hold off. And if the market is in a downtrend you would want to go short (profit when stocks fall)
Jim: Which average? the 50 day?
Adam: the two most popular are the 50dma and the 200dma
Jim: So if the S+P is above the 50dma and the average is pointed upwards, it’s a bull, and vice versa.
Adam: Yes, assuming the 50 dma is above the 200 dma line, and both are ascending, not descending. In simplest terms an uptrend is when the market is moving from the lower left to the upper right, and a downtrend is when it moves from the upper left to the lower right.
Jim: OK great. And next we look at, within this bull (or bear), which sectors are performing best (or worst)? A ‘sector’ being a type of business: pharmaceuticals, telecoms, etc.
Adam: And this information is available everywhere, Yahoo/finance etc. Constantly ensuring you are in the strongest stocks in the strongest sectors is one of the easiest ways to win on Wall street. Think about it: by definition you are force feeding your portfolio to only own the strongest stocks, in the strongest sectors, and when that sector falls out of favor you sell and move into a stronger sector.
Jim: So, we’ve seen whether the overall market is in a bull or bear market by looking at the moving averages. And we’ve then discovered which sectors in that market are performing best (bull market) or worst (bear market)…
Now we’re ready to pick an individual stock to buy (bull market) or sell (bear market). Where do we begin?
Adam: Lets say you are in a bull market, and you find the top performing 3-5 sectors, then you isolate the strongest performing stock(s) in each sector, then load up and force feed your portfolio each week to make sure you only own the strongest stocks in the strongest groups. The opposite is true for a bear market. That ensures your portfolio is aligned at all times with what is actually happening in the market. Focusing on leading sectors and avoiding lagging sectors is a GREAT way to stay ahead of the market because in addition to ensuring that you only own the strongest stocks in the strongest groups, this approach ensures you stay away from owning laggards
Jim: Just playing devil’s advocate for a second, isn’t this chasing the market?
Adam: Not if you adjust your portfolio each week. If you wait until the end of the year or end of quarter, then you are missing out on a big move. Why? Because strength begets strength, and trends usually last for months, if not longer, not days.
Jim: Okay, thanks very much, Adam.
Adam: My pleasure.