FYI
Lessons from the Trenches from our weekly E-Newsletter (subscribe by sending email to tdesk@yamner.com with Subscribe in subject)
Investment Strategies - Technical, Fundamental and Momentum Investing.
The objective is clear. Make money selling securities. Buy low, sell higher. It seems simple enough.clearly its not. How do you know what to buy, when to buy and, in line with last weeks letter, when to sell? Investors over the years have engaged many disciplines ranging from rigid systems to a more intuitive hodgepodge of mthods.
Generally speaking, investors fall into two broad camps, technical analysts and fundamentalists. Technical traders look at past performance as the greatest influence on future performance. Such traders employ graphs and other charts, mathematical and other studies to determine the direction of a security. Terms such as support, resistance, breakouts, gaps, stochastics, etc. are the tossed about with great conviction.
Fundamentalists are more interested in the financial statements and performance of the company, not the stock, although performance of the company and strength of the financial statements relative to the stock price is important. Fundamentalists break down and scrutinize the balance sheet, the earnings the revenues, the debt and all other financial components of critical statements. Fundamentals typically are not persuaded by whether or not Wall Street 'favors' a company, whether or not investors are euphoric about a stock and willing to bid its stock price to unreasonable levels. Fundamentals approach the market with the cold reality that they are buying a company, albeit a small share in it, and should evaluate it in the same light as if they were to walk down the street and make a bid for the local pizza shop.
We will discuss these two camps over the next few weeks. We don't criticize the use of one over another. We personally feel that investors should employ whatever strategy helps them best achieve their goals. We simply want to see investors succeed. And we are fully aware of the old saying, 'different folks, different strokes'.
Overall, though, our firm tends to sway towards being fundamentalists, however, we in fact employ technical analysis in picking securities and then rely on fundamentals and technicals in helping with timing. We will discuss these two camps over the next two weeks. This week, we will present a third party.
Another camp that should be discussed, particularly because it has been an exceptionally successful strategy given the markets move from 3000 to 9000 in such a short period of time, is that of momentum investors. To some degree, I consider momentum investors a hybrid of the technical camp, one that keeps an eye on fundamentals or more particularly, how a change in fundamentals might influence technicals.
Momentum investors, as the name implies, invest in stocks where momentum and interest is building. On the technical side, they don't exactly care where a stock has been and what it has done in the past, but are more interested in what it's currently doing. Is it outperforming, what is the volume, the accumulation and distribution, etc., is it breaking out on volume?
Momentum investors look to go long stocks that are moving higher, companies that are technically breaking out on volume, acting great in good markets, and supported in bad markets. Momentum investors look for stocks that are accumulating interest perhaps driven by prospects for outperforming earnings. Momentum investors typically are not swayed by steep valuations but feel that they will continue to buy the stocks moving higher, regardless of price, as long as they move higher and do not technically falter or show fundamental weakness.
Over the past few years, with many stocks at record highs and, many traditional measures, highly overvalued, such a strategy has worked well. One only needs to look at the internet sector or some of the leading technology companies to find such evidence. Many of these stocks are trading at steep multiples of the typical valuation multiples and yet investors still flock to such leaders as Dell and Amazon with unfettered enthusiasm.
Gauging momentum is the key to being successful at this particular strategy. For while stocks move higher and bidders continue to buy such stocks, momentum investors will succeed. The problem with such investing is that when companies which have been the focus of momentum investors falter they are not dealt with rationally, but in a painful and serious manner. At steep valuations, momentum-driven stocks fall hard when they disappoint. One only needs to look at the day's list of leading decliners to see the result of disappointments.
And while all stocks face such corrections from disappointment, overvalued momentum stocks face the greatest corrections. Investors are not given a reasonable opportunity to reduce or eliminate their positions. The market eliminates excesses in an instant and market capitalization is shaved before a single trade takes place. These stocks gap down large percentages from the prior prints, leaving shareholders with fast, significant losses. After the bad news hits, no one is ever kind enough to give you last night's price. Your 65 dollar stock opens at 43. Twelve buck stocks open at 5. Such is the life of a momentum investor.
Again, momentum investors find their greatest asset is the ability to gauge momentum, selling into strength before the stock breaks down. As well, momentum investors must have the discipline to realize when momentum has turned and must immediately close their positions regardless of loss. A trader knows they have failed when they engaged the trade as a momentum play, yet after the stock turns down and after the traders has breached the discipline, the trader begins to talk about fundamental value or technical support. If you find yourself doing this to justify a position, you've made a mistake.
Some momentum investors utilize rigid to try to protect their models. Some momentum investors will sell their longs and immediately go short the stock as they feel the stock was simply buoyed by momentum and without, it will fall hard.
Whether it is simply a result of the markets incredible march to Dow 9000 or in fact learned skills, momentum investors have had a few great years.
****Next week we will discuss Technical analysis and then fundamental analysis. I welcome any feedback or thoughts on these topics. One idea would be present a Q/A preceding the Trench Lesson from the prior week's mailing. PLEASE SUBMIT ANY THOUGHTS, COMMENTS, or QUESTIONS to steve@yamner.com. Do not reply to this email. |
