Myron, came accross the following article regarding volume as an indicator. Now where did I hear that before <g> ? (Still eager to hear how you calculate overhead.)
September 15, 1998- SMART MONEY
smartmoney.com
VOLUME DISCOUNTS
TRADING VOLUME is one of the most confounding of the market's mysteries. Earlier this summer, for example, about 5% of the stock in Harley-Davidson and TRW changed hands -- on the low side of average for New York Stock Exchange companies. During the same time period, the figure for Avis and Nabisco was above 30 percent. Why the difference? Can investors learn anything from studying levels of trading activity?
In what follows, I'll try to answer the first question. And I'll definitely answer the second. Market technicians, of course, have been watching volume for decades. But typically they track the flow of money into or out of a stock. Economists are after something different -- and their early research has valuable implications. Some tidbits: Portfolios of low-volume stocks tend to perform better than portfolios of high-volume stocks. And a little knowledge about volume may help you avoid some of the market's biggest losers.
TURN UP THE VOLUME
CompanyPrice as of
8/14/98Curr. Price*% ChangeForward P/E**Volume/ Shares Outstanding*** Price/ Sales Ratio Est. EPS Growth Rate Market Value**** Allergan
(AGN)49.8156.7514%307.00% 2.8811% $3274 Ball
(BLL)43.3833.00-24%179.10.55111317Bindley Western Ind.
(BDY)34.3831.38-9%237.30.114735Darden Restaurants
(DRI)16.4415.81-4%207.70.71122306Gerber Scientific
(GRB)24.8126.316%236.61.320561La-Z-Boy
(LZB)58.9418.56-69%1870.95111049Martin Marietta Mat'ls
(MLM)47.4444.00-7%217.72.45122205Mohawk Industries
(MHK)32.2526.75-17%155.30.89141688Rental Service
(RSV)27.3116.63-39%158.42.1624563Average % Change -17%* as of 10/2/1998 6:30 PM** Based on consensus EPS estimate for next fiscal year.***Average monthly volume for the previous three months divided by the average number of shares outstanding, less insider holdings.
****Millions
Data: Market Guide for Windows; Research Wizard 3.1; Zacks Investment Research
But let's start at the beginning. Early academic work on volume grew out of the 1987 Wall Street crash and the record trading activity that accompanied it. Subsequent studies showed that high volume tends to occur at times of sharp price movement, either up or down. No surprise, really. Companies that hit the charts of percentage gainers or losers are also often volume leaders.
This doesn't happen spontaneously. Trading increases when a stock is in the headlines, and overall market activity expands whenever there's major economic news. There are also troubling findings about overall market volume. According to some studies, it rises after prices have started to go up and is higher at tops than at bottoms. Again, no big surprise.
Before I get to the really good stuff, however, you may need to adjust the way you look at trading volume data. Conventional stock tables report the number of shares traded on a daily basis -- information that's interesting but generally not very useful. Economists look instead at relative volume, which relates trading to the number of shares outstanding. They also average this number over time to minimize the influence of daily ups and downs.
Here's an example: General Electric, with roughly 3.2 billion shares outstanding, ranks high on any absolute-volume roster. But less than 3% of its stock changed hands each month during the past three months, well below the average for all New York Stock Exchange issues. In contrast, relative-volume leaders include companies such as America Online (AOL) (51 percent), Micron Technology (MU) (38 percent) and Zapata (ZAP) (102 percent). Volume laggards? Well, let's just say the names (Amphenol (APH), National Standard (NSD), Standex (SXI)) are rarely household words.
If you sense a pattern, consider a new study by Charles Lee and Bhaskaran Swaminathan at Cornell University that has finance professors abuzz. The researchers looked at NYSE and Amex stocks between 1965 and 1995 -- excluding Nasdaq stocks because volume there is inflated by trading among market makers. For each month, they constructed sample portfolios based on 10 price-momentum rankings and three relative-volume rankings. That gave them 30 portfolios every month, ranging from low-volume losers to high-volume winners. Finally, the economists measured the performance of these portfolios over different time periods.
I've already hinted at the results. Low-volume stocks tend to be value stocks, while high-volume stocks tend to be volatile, moving up or down with a vengeance. The authors, however, also see a relationship between trading activity and prices: When performance improves at thinly traded companies, trading picks up. Some of these low-volume winners become high-volume winners, classic momentum plays. Then comes negative news -- bad earnings or a poorly received new product -- and these same stocks are suddenly high-volume losers. As the excitement wears off, prices continue to decline. But there isn't much trading. Eventually business improves, low-volume losers become low-volume winners, and the cycle starts all over again.
Based on the Cornell study's results, you could have made a ton of money nearly risk-free over the past 30 years by simply selling high-volume losers and buying low-volume winners. Example: The average portfolio of low-volume winners earned about 21% in the first 12 months -- beating the market by four percentage points. Meanwhile, the average portfolio of high-volume losers posted a return of only 4.5 percent.
There are several lessons here, but the most important is to avoid like the plague -- high-volume losers (current examples: Callaway Golf (ELY), Cendant (CD), Sunbeam (SOC)). Statistically, the future of these stocks is to become low-volume losers.
Now for the bad news. Lee and Swaminathan based their calculations on average volume for three months or longer. The screening programs I normally use have data for shorter periods -- usually 20 days. Given the volatility, longer is better. So I wangled a copy of Market Guide for Windows, professional software, to develop the accompanying table. (FYI, Market Guide's three-month numbers for individual stocks are free on Yahoo!; you can't screen, but you can calculate relative volume and make useful comparisons.)
With such a powerful tool, I had a tough time deciding which stocks to feature. Low-volume losers rebound smartly if you hold them over two or three years, while low-volume winners have their best performance in the first year. Then I saw something surprising. Stocks with average relative volume but strong recent price gains turned in the best 12-month performance by far -- with average gains of better than 23 percent. No one knows why, but one guess is that these companies are in the process of being "discovered" by investors.
So I set out to find takeoff candidates. Using the Cornell study's criteria, I looked for NYSE companies that ranked in the middle third based on relative volume (between 6% and 11% of shares changing hands) and in the top 10% based on six-month price performance (a gain of at least 15 percent). I wound up with 65 companies. The nine stocks in my table are a representative sample -- selected with an emphasis on value yardsticks as well as above-average profitability and below-average debt. It's a diverse group, with one thing in common: These tend to be Middle America companies, touched only lightly by foreign economic troubles. That could be a major plus in the coming months. |
