Know Stock Outcomes Before They Happen

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Physician's Money Digest, February15 2003, Volume 10, Issue 3

Although you may not realize it, diagnosinga patient and investing in the stock marketshare something in common. In bothcases, charts play an important diagnostic role.Physicians use x-rays and charts to focus on theinternal workings of a patient and approximate arecovery time. Stock charts, on theother hand, are vital in determiningthe health of a stock, and can signal arecovery or a lurking disaster.

FUNDAMENTAL READING

Many investors and even moneymanagers place strong emphasis on thefundamentals of a company. Unfortunately,these data can be very misleading,which can get an investor into a lotof trouble. These investors and moneymanagers ignore the fact that the fundamentalsof a company are immediately,and in some cases prematurely, discountedinto the price of the stock.

Investors need to base their investingdecisions on more than just the fundamentalsof a company. They need to seethe whole picture. And that's where being able toread a stock chart comes in handy. Reading a stockchart can provide an investor with the followinginformation: daily, weekly, and monthly movementsin the stock prices from the high of the day to thelow of the day (with the close as a tick mark on theline); daily, weekly, and monthly volume of thestock; buying and selling volume; resistance andsupport levels; moving averages; and trendlines.

But just because you can read a stock chartdoesn't necessarily mean you understand what itsays. Many recognized market-tape readers of thepast had it right when they interpreted several basicprinciples of price and volume action of a stockchart. Their attention to detail provides today'sinvestors with valuable insight. Beingable to read a chart is a skill that increasesthe odds of a profitable investment. Inaddition, it indicates to the investorwhat's probably going to happen next. Afew examples of what you can interpretfrom a stock chart include:

  • Increasing volume during an advance,with intervening pauses or setbacksoccurring on light volume, indicatesthat the underlying demand isgreater than the supply and favors aresumption of the advance.
  • Increased volume at the top of arally, or of an advance, that lasts forsome time, with no appreciable gain inprices indicates a turning point.
  • A tired or struggling advance indicatesa lack of demand (few buying-ordersand light selling-orders).

RELIABLE FORTUNE TELLERS

In addition, price-volume action will dictate thefundamentals of the stock. If a stock has a negativeearnings release, it's more than likely that the stockwill have a down day on heavy volume. So, withouteven turning on the news or reading a company'snews release, an investor can get the scoop on astock. In fact, the charting of the stock can tell thewhole story before the newswire reports the event.

The recent Enron debacle is an example ofthis investor foresight. Do you think some investors(or insiders) knew about Enron's troublesbefore they were broadcast on the news or inthe headlines? The answer is yes. And if youdon't think these investors in-the-know sold theirstock, take a look at the stock chart. The stockchart reports news before the broadcasts, andwell before the fundamentals show problems. Inmost cases, once an investor hears the news, it'salready discounted into the stock price.

That's why it's so important for physician-investorsto understand both fundamental and technicalanalysis before they invest. Once an investorhas compiled a list of financially sound companiesbased on fundamentals (eg, revenue, earnings,profit margin, etc), they must then turn to technicalanalysis for further help. In this case, it's used todetermine the most bought stocks that have thegreatest probability for strong appreciation.

Unfortunately, some advisors and brokersknow how to use fundamental data, but do notunderstand technical analysis. It's a good ideato find an advisor or broker who understandsboth—especially in today's market environment.In a more difficult market, a much more proactiveapproach is required to perform well. And aproactive approach requires a full tool kit of fundamentaland technical tools. A really goodresource for learning more about the subtle craftof chart interpretation can be found on the Website www.investors.com.

Michael Doran is a private

money manager

affiliated with Sierra

Capital Planning in

northern California. He

runs a fee-based business

and a hedge fund

for qualified investors.

For more information,

call 877-467-8657 or

visit www.sierrainvestor.com. Christopher

Nezbeth contributed to

this article.