How to Ride the Trend and Lock in Profits

One of the great traders of all time, W.D. Gann, explained in his book Truth of the Stock Tape, why you should not have a fixation on the price at which you wish to sell a stock.

A lot of traders hope to sell their stocks at a certain price; on the other hand, some traders have no idea when to sell.

Buying is the easy part. Consistent success in the market is in the selling. Make it a point to study past action and develop some indicators for yourself which will give you a feel as to when to sell.

W.D. Gann wrote that traders should move with the market to make a profit, and that it should be the market that tells you when to get out.

Have you had the experience of setting a profit target which the stock almost reached, only to have it turn around and nosedive, after patiently holding it for weeks in profit?

Well, W.D. Gann knew all about that. He spoke of how ‘stocks sometimes go within 2, 3 or 4 points of their selling price and start to decline’.

Let’s take the example of Blackmores Ltd [ASX:BKL], which was the big mover of 2015. Here’s the weekly chart…

Source: Optuma
Click to enlarge

If you took a position in Blackmores around early 2015, you would have had only one problem.

When to sell?

A nice problem to have, but still a problem.

When a stock goes into new highs like it did in early 2015, that’s when all the analysts using fundamentals will come out and say Blackmores is overvalued.

It can be hard to hold when news articles like that come out. And if you did sell on those articles, you would have taken yourself out of a huge move to come.

You have to develop your own strategies to keep you in for the big move, and take you out of the trade when you need to be out.

If you took a position in Blackmores early 2015, the positive thing to do would have been to raise your stop just under the moving average all the way up to protect your profits. And exit your position if there was a strong close beneath the moving average. That way you are maximising your profits without being fixated about a price you might have read about.

Late October 2015, after the stock briefly touched $200, there appeared an article by The Sydney Morning Herald, quoting one stock broking analyst who thought Blackmores could be well on the way to $300 by the same time next year.

Again, W.D. Gann is so instructive on this. He says:

In nearly every bull or bear campaign in the market the general public gets certain fixed points in their head where stocks are going to make tops or bottoms. The newspapers talk about certain favorite stocks going to 100, 125, 150 or 175. Everybody gets the idea that these prices are going to be made and they become hope prices but are never realized.

Sound familiar?

The strategy of raising stops under the moving average, in this case would have kept your profits in the bag.

In January 2016, the share price failed to find support at the moving average and traded below it for the first time in well over a year. It was perhaps an early indication that the market was forecasting the news to come seven months later in August, suggesting the massive growth of the prior years was slowing.

That slow sales growth was confirmed in late October with the release of first quarter earnings, suggesting changes in the export market were hampering sales.

A study of Blackmores reminds us to find a way to ride the trend as much as you can, and lock in profits. A simple moving average is one way to do that and get you out in good time.

The key to successful trading is always to lock in profits.

Once you get in right, the big money is made by riding the trend and exiting intelligently.

The moving average is simple tool, but don’t underestimate its power.

The first question about moving averages, is which moving average to use? Should one use a 30 day, week, or month moving average? Or 20, 15, or some other Fibonacci number?

My answer to that would be go back and back-test prior runs, to see what time frame works best for your style of trading. Find which moving average keeps you in the trade for the long run and takes you out of the trade in good time when you need to be.

Another approach you can take to moving averages is to let the market guide you. For example, if you’re looking at a weekly chart and the stock is consistently finding support at a moving average of, say, 15 weeks, then use that going forward. For another stock, if the share price is continually reacting off a 30 week moving average, then use 30.

Because if the share price previously found support at a particular moving average and then fails to find further support, you can use that in conjunction with your other indicators to signal a possible change in trend.

Work with the market, rather than imposing your ideas on it.

Regards,

Terence Duffy,
Lead Researcher, Cycles, Trends & Forecasts

From the Port Phillip Publishing Library

Special Report:Crunch Point at Curtis Island’ How a failed $60 billion gamble by Australia’s three biggest energy giants could pay off big for you… [More]

Money Morning: Buffett Says US Wealth Creation Machine Will Not Be Stopped

Money Morning: How to Make Sense of Share Buybacks


Terence Duffy is an analyst and chartist, specialising in researching economic trends and cycles.  His primary focus is housing and land affordability. But you can also depend on him to offer his unique analysis of stock market charts. As Terence will show you, the charts often forecast, well in advance, the good or bad news to come.


Money Morning Australia