Archive for January, 2009

Is the consumer really dead?

Monday, January 5th, 2009

2008 was certainly no joy ride for investors but 2009 could well turn out to be a walk in the park if the turnaround in the Consumer Discretionary sector is any indication. One ETF dedicated to this sector is the Powershares PEJ, a medium sized blended fund (it contains a mixture of growth and value stocks) designed to track the Dynamic Leisure & Entertainment Intellidex, an index composed of thirty stocks culled from the restaurant, gaming, leisure, and media industries. The three and a half year old fund hit an all-time low of $6.15 on November 21st, off 68% from its July 2007 high near $19.50.

A bullish chart
The November low formed the head in an inverse head-and-shoulders pattern as shown in the stock’s daily chart below. The left shoulder formed during October, the head in November, and the right shoulder in December. The neckline was broken last Friday indicating that the stock is poised for a strong upwards move. Theoretically, one wants to see the neckline broken on heavy volume but last Friday’s lackluster action can be forgiven since it was a holiday-shortened trading day with many people on vacation. Today’s action, however, more than made up for Friday’s shortfall with the PEJ trading over twenty times normal volume! (Average daily volume is only around 9000 shares.)

Profit expectations
Once a stock convincingly breaks its right neckline, theory tells us that we can expect it to move to a value given by the neckline +/- (neckline – top of head). (+ for inverse formations; – for normal head-and-shoulders formations.) For PEJ, the neckline is at $9.40 and the top (or bottom, depending on your point of view) of the head is at $6.20 which means we should expect to see the stock rise to the $12.60 level. This represents a 28% increase over today’s closing value of $9.85. Not a bad return! [Note: PEJ is not optionable, alas.]

Top 10 PEJ holdings
The table below shows the most recent top ten holdings for the PEJ. All together these stocks comprise almost 47% of the fund. From looking at the component charts, it’s no wonder the fund has broken out. All of these stocks have been badly beaten down with the sole exception of MacDonald’s which is nearing an all-time high.

If you’re a DIYer and would rather concoct your own basket of stocks from this list, you may wish to start with Yum, Liberty Media, Brinker, and Ticketmaster which have all charged out of their recent black holes and broken out of their bases. Close on their heels are Marriot, McDonald’s, Carnival, and Starbuck’s. Pulling up the rear is International Gaming which needs to break $15 before I’d be a buyer. Disney is the only stock that seems to lack clear direction. It’s been bouncing around the the low to mid-20s for several months and I’d prefer to see it break $26 (or better yet, $28) before stepping in. Based on previous price highs, this stock has less room to run translating into a lower potential return compared with the others.

[Note: The “Comment” column in the table represents the PEJ portfolio percentage.]

Summary
I’m not sure what a breakout in consumer discretionary means for the overall economy, but it suggests that fear in the financial markets could be unwinding and those stocks that have been brutally and perhaps unfairly discounted are being re-evaluated. Or, maybe it’s just that folks are getting tired of all this fiscal belt-tightening and are looking to kick up their heels. I don’t know, but whatever the reason, the charts are telling me that now is a good time to take a gamble on this sector.

Notes:
1. Liberty Media has three ticker symbols–LINTA, LMDIA, and LCAPA. I don’t know the difference between them so I chose the one with the highest average daily volume.
2. PEJ currently pays an annual distribution (dividend) of just over 1%.

A trader’s New Year’s Resolutions

Friday, January 2nd, 2009

To me, New Year’s represents not only a time for wild celebration (which seems to occur less and less the older I get), but also as a time for a “State of my Life” review of the previous year. Part of that review involves examining the efficacy of my stock trades and trading strategies and how both can be improved.

Without further ado, here’s my list of New Year’s resolutions that I believe can be of benefit to any trader.

This year I vow:

1. To stick to my trading plan. People generally lose money in the market not because they don’t have a trading plan, but because they don’t stick to the rules. For example, the famous Turtle trading experiment conducted by market wizard Richard Dennis showed that those students who were diligent in following his trading rules were much more successful than those students who didn’t. (See my May 13th blog, “The Legend of the Turtles,” for further info.)

2. To write down my profit and loss points before entering a trade. Doing so will go a long way in helping me sleep at night.

3. To not put all of my eggs in one basket. This means not placing all of my money in a single stock or mutual fund, or with only one money manager. (I call this the Madoff rule.)

4. To do my own due diligence and not trade solely on a “hot tip” given by a friend, a CNBC talking head, my broker, or anyone else. Remember that some else’s opinion is just that—their opinion, and that includes me.

5. To keep on top of my trades. This means that if I initiate a trade with a time horizon of only a few days, I will check that position on an intra-day basis. If I can’t commit to doing that, I won’t enter such a trade in the first place.

6. To adopt a Zen-like attitude. The best traders are not emotionally invested in their trades making them much more likely to stick to their rules. Out of greed, fear, and hope, note which of these emotions most affects your trading. You can do this by adopting the next rule.

7. To diligently keep a trading journal. I always start out the New Year by keeping one but abandon it around April when laziness sets in. However, the times that I have kept one have always been beneficial, alerting me to detrimental trading patterns and strategy weaknesses. I also learned that greed and fear were not my emotional enemies but that, surprisingly, hope was. Hope has blinded me to technical breakdowns in a stock’s chart by lulling me into thinking that my great stock can’t go down any further. I keep holding on, ignoring their continued downward slide. Sure, some of them did come back, but it took years. Hope is the one emotion that still gets the better of me but the occasions when it does are becoming much more rare–at least I’m learning!

8. To keep up with the latest market news and trends. As with any other discipline, the more you know the better you’ll be as a trader.

9. To gingerly trade in bear markets. I’m in the middle of doing research which is showing that in the long run trading in bull markets is more profitable and less risky than trading in both bull and bear markets. Trade timing (i.e., knowing when to enter and exit positions) seems to be the key factor to success in bear markets; in bull markets, trade timing is less of an issue as the overall trend generally lasts longer and the market is less volatile.

10. To suspend trading (except for closing out trades) when I’m feeling under the weather or after suffering a string of losses. I’ve found from previous experience that illness impairs judgement and a string of losses undermines confidence. Time off helps me regain my trading mojo.

11. To remember that not every trade will be a winner. In these instances it’s useful to recite the Trader’s Serenity Prayer: “God, grant me the serenity to accept the market as it is because I do not have the power to change it, the courage to adjust my trading strategies as indicated by the diligent notes I’ve been keeping in my trading journal, and the emotional detachment (read: wisdom) to faithfully execute my trading plan.”

12. To have the discipline to stick to these resolutions!

Here’s to a healthy, happy, and prosperous New Year!