So, you missed a stock at its breakout. But since it boasts strong fundamental and technical ratings across the board, it's OK to chase it beyond the buy point, right?
XThat depends on how far past the buy point you get in. The further beyond the buy point, the greater the risk of getting shaken out of a stock. IBD can help investors pinpoint the ideal time to buy.
Terms such as "buy range," "buy zone" and "extended" are all related to the buy point. You'll see these terms, which CAN SLIM investors are familiar with, used quite often in Investor's Business Daily and its online products.
Here's How To Spot The Buy Zone
Let's start with the buy range, also known as the buy zone. That refers to the 5% margin above a proper entry point. Investors should try to buy in this zone after a stock stages a solid breakout from a base.
Of course, it's always best to buy as close to the actual buy point as possible. But the buy zone serves as a guideline for when a stock is in a lower-risk price level to purchase. Once a stock gets past the 5% cutoff, it's considered extended.
To Chase, Or Not To Chase?
Why 5%? Following a breakout, many leading stocks tend to pull back to test their buy point or their 10-week moving averages. Setting the cutoff at 5% allows for such pullbacks without tripping the 7%-8% loss-cutting sell rule. If a stock falls 7% to 8% below your entry price, that's an automatic sell signal.
Let's take a look at Activision Blizzard's (ATVI) breakout in the spring of 2020.
The video game publisher's stock cleared a 64.63 buy point of an eight-week base on April 15 (1), according to MarketSmith chart analysis. That put the top of the buy range for Activision at 67.86, or 5% above the buy point.
The stock, which is considered extended at any point above that, got to as high as 68.32 after the breakout. It eased 0.3% the next week to stay in the buy zone. Activision gave up nearly 3% by April 29, falling to as low as 62.34 (2).
At that low, those who bought shares at the 64.63 entry would be down 3.5%, not enough to trigger the loss-cutting sell rule. But that's not the case for investors who chased the stock beyond the 5% range.
The Shakeout
For instance, if you bought at the breakout week's high of 68.32, you'd be down 8.8% from what you paid. That purchase price was only 5.7% above the ideal buy point. But you'd get shaken out of the stock.
In this case, even the top end of the 5% zone would have been a bit too high: At a 67.86 purchase price, you'd be 8.1% underwater. But you get the picture.
That's why savvy investors try to buy as close to the ideal buy point as possible. Activision went on to advance 36% through its Aug. 7 high before pausing to shape a new base.
This article was originally published Oct. 30, 2020, and has been updated. Follow Nancy Gondo on Twitter at @IBD_NGondo
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