Todays IBD story on Breakouts...
Investor's Corner
Monday, June 4, 2001
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Great Stocks Often Pull Back After Breakout
By Jonah Keri
Investor's Business Daily
Krispy Kreme Doughnuts (KKD) has dazzled investors in the last month. Other than a few sideways slides, the stock has soared higher and higher, leaving its base in the dust en route to a 55% gain from its May 7 breakout.
If you nabbed Krispy Kreme, pat yourself on the back. But if you chose a stock that broke out only to fall back to its pivot point, don’t fret. Many of the market’s greatest winners do that before blasting off to huge gains.
Historically, about 40% of big gainers have fallen back to their pivots. In a market like today’s, where we’re fresh off a savage bear crushing a roaring bull, stocks can be even choppier. More than half of all breakouts are likely to stumble before making their runs.
Say you buy a stock as it breaks out. It acts well for a few weeks, then suddenly turns tail. How do you know when a stock’s worth holding or headed for trouble?
As always, follow your rules. Your only no-exception sell rule is when a stock falls 7% to 8% from your buy point. Having that safeguard in place lets you limit losses and hold out longer for big winners.
What should you do if your stock sinks to its pivot, but no further? Give the stock time, particularly if the market is in good shape. It may take several weeks, even months, for a stock to prove it can become a big winner.
Follow the stock’s daily price and volume cues. Whether it eases back down on light trade or plunges on huge volume, look to see if it is finding support at key levels, such as the 50-day moving average. If so, institutional investors are likely adding to their positions. Their support is crucial to any stock’s long-term run.
Metro One Telecommunications (MTON) cleared a nine-week base on Nov. 8, surpassing its pivot of 14.94 on brisk trade. The next day it logged an even bigger gain of 18% on heavier trade (see point 1).
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The provider of enhanced directory assistance services surged 48% in seven sessions, hitting a high of 22.13. But on Nov. 16, it reversed on fast trade. The stock then clocked several down days on above-average volume, raising doubts among some investors (point 2).
But a closer look showed the stock hadn’t triggered any sell rules. Metro One stayed well above its 50-day after its breakout. It also held firm above its pivot, even at its lowest point post-breakout (point 3).
In a challenging market like this one, stocks may flash multiple down days on heavy selling as they claw their way up. But if they don’t trigger your sell rules, hold tight.
“Don’t let the monsters in the closet get you on those scary days,” said a successful veteran trader. “The only emotion you should show is courage.”
Courage would have served you well with Metro One. After slipping briefly, the stock tightened. Then, on Dec. 13, it gapped up 25% on extremely heavy trade (point 4). If you bought at the pivot and held the stock all the way through, you’re now up 218%.
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