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Daily Stock Picks Report Archive

Daily Stock Picks Newsletter from July 20th, 2008

Let's start with a little stock market education.  There are basically two emotions that we have when we invest or trade stocks:  GREED and FEAR.  And it isn't just limited to individuals like you and me.  We see this displayed with mutual fund managers, hedgies (hedge fund managers), money managers, individual investors and traders.

When we buy a stock long and it starts going up, we tend to get excited.  Let's say we allocate $15,000 for a position size that follows the rule of having diversity and risk control in our portfolio.  We buy 1,000 shares of a stock at $15 and it gradually moves up to $20 over the following week.  Then it starts really moving faster, going up to $22 the next day, $23 the next day, $24, $25, etc.  Then people tend to buy more, because it is going up, right?

In our hypothetical example, the stock continues to move up.....$28, $30 and we keep buying.  The stock price on the daily chart starts to look parabolic, meaning, what I call a banana curve upward where the price appreciation is going up faster and faster to eventually straight up.  The volume is going up more and more each day as well. 

I know this because I make a point of it to scan for the stock technical indicators everyday for what I call runners.  I have a chapter on this in "The Wizard Training Course" -  a stock investing course (10 DVD's and workbook) to learn how to trade and use powerful trading strategies.  Runners are actually caused by mostly individual investors or day traders buying a stock and riding the momentum.  This is usually seen only in a positive and "happy" stock market environment.

What our emotions can drive us to do is to go over our allotted position size and buy more shares of this stock.  If GREED controls our decisions, we buy 500 shares of this same stock at $30 (we just spent another $15,000, twice the position size we should have for our account size).  The stock goes up to $35 and $36.  If we are still in the GREED mode, we won't sell yet, but instead, fill our mind with thoughts like, "this stock is going to the moon...." or "we can afford to remodel the kitchen or buy a new car."  You are in full GREED mode and the mental fantasies are dominating your thoughts now.

Then the stock goes down, as most do after a big run in a short time frame, caused by a news event.  Maybe it was an article by an analyst who has a negative opinion and issues a sell rating.  Maybe it was a skeptical journalist from Barron's who writes an article about the company after noticing the rapid rise in a short time.  (Serious stock traders know when a stock or a sector is getting momentum).   Or maybe there was no specific catalyst except that the buyers are exhausted and it has nowhere else to go but down. 

The stock price starts turning over from its peak of $39 (turning over is Mitch King's term for price dropping following a substantial rise) and people start to notice the price dropping.  The stock drops further to $33, $32, $30 in the same day.  Your GREED turns into FEAR and you sell at the market price and your order gets filled at $29.

Then the stock rebounds upward as the people who "missed out" on making money on the first run pour in and start buying long again and the stock moves back up to $35 again.  You start second guessing yourself and momentarily the FEAR that caused you to sell at $29 is turning into a combination of regret and GREED.  So you buy again at $35.

Then the stock starts a steeper drop to a lower price and it moves to $28.  You sell again at a loss.  And by now, you are an emotional wreck sitting on a net loss on this position when you were up over 100% on the original position when you made a bad decision by buying the "extra" 500 shares at $30.

Have you ever done this?  I have.  I haven't done this in a long time and it is doubtful it will happen again.  I understand that these two powerful emotions can control us to do things that make no logical sense after this is done and you are analyzing what happened.

The smart investor-trader knows and can anticipate if a stock is acting this way and how to handle it.  If you follow sound procedures, you should have never bought the extra 500 shares because you over-spent your original allotted size of $15,000, but instead, you invested $30,000.

You have to ask yourself some really important questions.  The first obvious question is "Why?"  It makes no sense, that isn't a system that consistently makes money.

Here are some compelling reasons why not to trade like that:

1.    It is not consistently profitable.

2.    It results in higher transaction costs with more frequent trading.

3.    It is mentally and emotionally exhausting giving you extreme highs and lows.

4.    You miss other opportunities that come along.

5.    You can become "addicted" to the excitement.

Let me explain a true story to you.  About 9-10 years ago, another man came up to me in my church and said he heard that I work with stocks.  We struck up a conversation and I asked what kind of technique or trading model he was using.  He went on to describe that he was going to these  stock trading rooms that had computers and bragged that they had some technological advantage by having a faster execution speed.

The story went on that these rooms (physical locations with computers) gave investors-traders an advantage of getting part of the "spread," which was considered as scalping at the time.  In the late 90's the spreads were large between the bid and ask price and this gentleman was being taught or persuaded that you can make 25-35 cents in a stock multiple times throughout the day.  His wife was listening as we waited in line to pick up our kids from Sunday school.

I started to explain to him that the technique he was using won't consistently work and that my studies of that technique will result in a gradual drop in account value.  At that time, we had very poor charting software, very expensive commissions, large spreads between bid and ask, slow execution, very slow confirmations, market makers and specialists could manipulate the prices easier and much less information on stock quotes and company information.

I repeated my comment that he was playing a game that the odds were against him and that trading model doesn't work.  He came close to my ear and said "Yeah, but it is a rush" as he smiled with a fist pumping motion.  I asked him calmly and firmly, "Do you want a rush or do you want to make money?"  His wife looked over with a very concerned look on her face.

 He asked me what my positions were and I told him I was short YHOO at $110-118 a share and other dot.com stocks.  These were positions I was holding for a week or two, not day trades.  I remember this discussion because he said he was buying YHOO long on Friday (the very day I was opening short positions) and that he was making much higher than normal scalps, sometimes making $2 a share on it.

I found out some months later that the story ended very bad for him.

I was not trying to forecast that he was going to fail.  I was trying to explain that my research showed that his trading technique doesn't work. 

Here is what I am about.  I can't stand gambling.  It bothers me to think that I know I will throw away quarters in a slot machine or the house has the odds if I ever played cards (which I don't know how to do anyhow).  If I want to give money away, I'll do it with a purpose to help others - maybe it is to feed hungry people, help orphaned children, or teach people to read.

My mission is to help as many people learn techniques that I think have a high probability of making money and doing that over a consistent period of time.  I'd like to help people improve their lifestyle or help them retire earlier with more certainty of financial security.  I'd like to empower people to recognize opportunities in the stock market on their own and teach them how to invest in or trade that opportunity.

If you want a "rush," I am the wrong guy for you.  If you expect to turn $30,000 into $1 million dollars in the next 30 days (that is 33.3 times your money), I am the wrong guy for you.

In the financial markets, money always flows from the less educated and less prepared to the most educated and most prepared.  If that is not a quote from somebody already, then it is mine.  This is a truth in life that can be seen in all businesses, not just in financial markets.  Because the stock market is a "closed system" and money only transfers from one investor to another, it makes sense that whoever has the best trading models and executes them the best will take money from other people.  You want to learn this process and the money takes care of itself.

I think it was a Jack Nicklaus interview I read this last couple of days that he said if you learn how to play golf (the process) and the money will follow.  The same with this industry, learn the process of working with high probability techniques and the money will follow.  Your thoughts should not be "I made $30,000," it should be that you followed the technique and procedures properly and executed well.

That was my stock market for beginner's psychology tutorial. Let's move on to stocks and sectors this week.

We definitely are seeing some good signs within the financial sector.  The sentiment is starting to change and it wouldn't be such a bad thing if it gets exaggerated on the positive side.

The financials were stronger than I expected but C, Citigroup's earnings and statements boosted that sector for another day.  JPM, J.P. Morgan, showed that it was getting exhausted as well as WFC, Wells Fargo's stock.  BAC, Bank of America, could have a little more upside but my hunch is that the financials will likely pull back for 2 or 3 days this week.  MER, Merrill Lynch acted weak on Friday.

GTLS was sold at $48.34, stop was $1.75 from the high of $50.25

EBS is steady as she goes, still holding.

ICE,  Inter-Continental Exchange,  is still trying to rebound.  Holding for now with a stop at $88.50.

The oil stocks we talked about are starting to turn around.  I am looking for a snapback upward like a bungee cord that is stretched and due for a rebound, maybe 8-9% in the next couple of weeks.

CVX-Chevron, BP-British Petroleum, and COP-Conoco Phillips, turned up so this group is looking good.  I am not looking for oil to make new highs over $150 a barrel-only looking for them to rebound after the semi-panic selling we saw last week.  This group has been on a hot run so I like to look for a sharp pullback and the long speculators usually jump back in on a big downdraft-and last week looks like one.

DHI, DR Horton, gave a short signal at $11.58 for a swing trade with a target of $10.50.

KBH., KB Homes gave a short signal at $18.30.  Target is below $16 but I am playing the housing stocks as a wait and see before I cover any.  They could drop to a lower low than the $13.45 on KBH or $9 with DHI.

What has been working on the housing stocks is to short small rebounds like we saw the last 3 days and short into them.  The housing stocks have not been good stocks to bottom fish and go long.  Both of these positions are smaller than normal.

The same pattern is valid for a building materials stock, VMC, Vulcan Materials, as with the housing stocks above.  Short signal was $64 on Friday for a trade that possibly could very possibly last for a couple of weeks into the mid 50's.  I'm looking for 15-18% profit potential.  You can see the pattern that has been working in these is lower lows and lower highs in this whole sector.

See you tomorrow.

Mitch King

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Mitch King is the founder of TradeStocksAmerica.com.  All material presented herein is believed to be reliable but we cannot attest to its accuracy. All material represents the opinions of Mitch King. Investment recommendations may change without notice and readers are urged to check with their investment counselors before making any investment decisions. Opinions expressed in these reports may change without prior notice. Mitch King and/or the staff at TradeStocksAmerica.com may or may not have investments in any stocks cited above before or after this newsletter is prepared. Opinions expressed in these reports may change without prior notice.

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