Read an Excerpt
STOCK MARKET RULES
50 of the Most Widely Held Investment Axioms Explained, Examined, and Exposed
By Michael D. Sheimo The McGraw-Hill Companies, Inc.
Copyright © 2005The McGraw-Hill Companies, Inc.
All rights reserved.
ISBN: 978-0-07-145482-7
Excerpt
CHAPTER 1
Get Information Before You Invest, Not After
Most of the complicated aspects of our lives could be improved by gathering information before taking action. Asking why and digging deeper for information is an inconvenience because it calls for analysis, thought, and the formation of a conclusion. These activities take time and energy, and they can often lead to confusion and frustration. To avoid these problems, we mainly depend on the wisdom of others or adopt a shoot-from-the-hip approach to investing.
Depending entirely on the wisdom of others or shooting from the hip can lead to many misunderstandings. Misunderstandings cause bad timing and poor strategies. Investment advice can be helpful, but it can be even more useful as a point of reference, a second opinion, rather than being accepted as the only approach.
In the stock market, the odds of doing well are improved for the investor who becomes familiar with the current action of the market and the particular stock of interest. Becoming familiar with the action can be accomplished by asking why: Why is the market making this move? Why is the stock an attractive purchase now?
MARKET MOVES
The stock market is a continuous auction, with the same product being bought and sold every business day. If there are more buyers than sellers, the market and prices of individual stocks rise. If there are more sellers than buyers, prices fall. It's that simple.
But if it's so simple, then why does it seem so complicated? Why are all these investors buying and selling stock? If they're investors, shouldn't they all be buying and holding stock for its investment value? Why are people surprised when the stock market drops a few hundred points? Does a severe market correction mean the economy will take a nosedive? The newscasters always say the stock market forecasts the economic situation six months to a year away. So what gives?
Anticipation
The most important fact to remember is that the stock market always trades in anticipation of future events. Often, investors are looking ahead six to 12 months, but (and here's the kicker) not always. If the Dow Industrial Average is down 50 points or more, the major, professional investors couldn't care less about what might happen in six to 12 months. They are concerned only with what might happen in the more immediate future, that being the next 10 minutes. The faster the market drops, the shorter their focus becomes. The believers of doom and gloom busily pat themselves on the back for being correct, and those who know better take a more moderate stance. Thankfully, it usually takes more than an over-correction in the market to cause an economic recession.
Real, Imagined, and Fabricated Factors
A real factor motivating stock market buyers or sellers is money—specifically, the availability of money. Money availability, as it changes with a movement of the interest rates or the earnings of corporations.
An imagined factor can be the respected opinion of an economist or market analyst as to the current strength or weakness of the stock market.
A fabricated factor is the merciless hammering of computerized sell programs. The sells are often implemented with the intent of testing market strength by pushing the market down as far as possible. "As far as possible" is a point that is reached when buyers enter the scene and stop the decline; that point is called support.
On June 2, 2001, these factors came into play and made a turn in the Primary Trend of the Dow Industrial Average and other major indexes. The Dow dropped 3,101 points before reaching support and starting the recovery. It did a retracement to the 10,635 level, turned and started down again, this time dropping to the 7,423 point level (Figure 1-1).
Dow Industrial Average, 2001 to 2004
Investors who noticed the turn in the stock market by observing the daily decline in the Dow Industrial and Transportation Averages, and who listened to the market opinions given by many analysts before June, would likely have taken some protective action. Market anticipation had been fueled by interest in tech stocks. Once the tech stock bubble came to a sudden halt, so did the market rally. The market correction was more severe than expected due to strong selling effects of programmed trading. Some would say the market became oversold, as shown by a quick recovery.
Nasdaq and Standard & Poor's 500 Indexes
These indexes (Figure 1-2) performed a similar maneuver, turning, going flat, and then starting a downtrend. All three indexes showed a similar trend, with frequent secondary rallies. All three groups of stocks turned and crossed the trend line in the fall of 2002. The following year had a strong uptrend for the majority of stocks.
STOCK MOVES: DOWN
Buying a car, a computer, or a new television, only to see it on sale the following week, can be a big source of irritation. Of course, the same holds true for stocks. To pay $52 a share one day, then to hear some negative news and see a price of $42 the next week, is not a pleasant experience. If the investor's research and selection are valid, the price will probably recover and move to new highs. But the price damage on the way down can be difficult to endure. An interesting phenomenon can occur with a stock price that appears to keep on dropping.
As the price declines, investors will appear to buy up shares at perceived bargain prices. If enough of these bargain hunters appear, they can stop the price drop, but sellers might overpower them. Bottom is where the price stops declining and goes flat or begins to retrace its upward trend. The bottom shown in the chart in Figure 1-1 was reached at 7,552.1 in the Dow Industrial Average on March 12, 2003.
On Sale, Limited Time Only
Many investors consider a market "dip," "pullback," "correction," or "bear market" a buying opportunity. The price is lower, the stock's on sale. The reasons for a price decline can be serious; lower earnings or estimates are predicted, credit ratings are lowered, or a possible lawsuit or tax problem has developed. The reason for a price decline might not be so serious: market correction, profit taking, employee stock distribution, or no news-related reason at all. Whatever the reason for a stock price move, it can be worthwhile to find out why it is moving before investing.
Information about a stock in question can be obtained from the news media, the Internet, or by calling the company directly. Calling the company might be difficult if hundreds of other investors are trying to do the same thing. Often calling the stockbroker or checking a news service on a computer will provide the answer. Learning why a stock is declining in price can enable the investor to form a strategy of buy, hold, or sell.
STOCK MOVES: SIDEWAYS
Again, ask questions and search for answers. Why isn't the stock price moving? If other similar stocks and the market are doing well, there is a reason for a lack of movement in a given stock. Has there been bad news recently that has created a lack of investor interest, or is the stock currently a gem waiting to be discovered?
Although rare, undiscovered gems can experience dramatic price surges with even a small amount of publicity. Some investors follow a strategy of seeking out these gems, but often they end up with well-run companies that the market doesn't like. Usually they are basically good companies with limited growth potential. Major investors search for companies with
(Continues...)
Excerpted from STOCK MARKET RULES by Michael D. Sheimo. Copyright © 2005 by The McGraw-Hill Companies, Inc.. Excerpted by permission of The McGraw-Hill Companies, Inc..
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.
