Hindsight may be 20/20. But with some studying, your stockpicking foresight can get pretty good in growth stocks, too.
XForeseeing the move by a stock with terrific fundamentals (the C and A in IBD's CAN SLIM investing model), a No. 1 ranking in its industry, and loads of fund sponsorship, before it happens is crucial. If such a stock breaks out with force, then you're more likely to grab shares at the proper buy point.
Think of the buy point as the ground floor of a potential elevator-like advance to new highs. It's not enough to just buy the right stock. You have to buy the right stock in the right way at the right time.
Those who read Investor's Corner regularly have a strong command of one of the most important patterns in growth investing: the cup with handle. The pattern allows you to be consistent in your buying. You're essentially entering a stock only when it's reached the point at which it can rise fast in a relatively short time frame.
William O'Neil, Legendary Investor And IBD Founder, Dies At 90
Investing Patterns That Have Existed For More Than A Century
Human nature hasn't changed. Greed and fear still drive the market. So the cup with handle and other useful patterns of investor behavior will continue to pop up among IBD's wide span of features and screens designed to help you find and buy great stocks at the right time.
Make a habit of going through the stocks presented in IBD 50, Big Cap 20, Stock Spotlight, Sector Leaders, IPO Leaders and Stocks Near A Buy Zone. Most of these can be accessed via Stock Lists on the home page at Investors.com. (See the Income Investor columns by clicking on "Research" on the main navigation bar on the home page.)
Are you completely new to chart analysis, or want to bring your skills up a notch? Check out the real-time annotations done in Leaderboard.
Defining The Buy Point
A buy point is a price level at which a stock is most likely to begin a significant advance. It also points to an area of the chart that offers the least amount of resistance to price progress.
Where that point is depends on the type of base the stock has formed, whether a cup with handle, a cup without handle, a flat base or double bottom.
This is the critical moment. Identifying the correct buy point can make all the difference between a successful investment and a losing trade. And before you buy, always check that the Market Pulse table, updated every day in The Big Picture column, shows the current outlook.
Let's look first at one of the easiest buy points to spot: one from a cup without handle.
In this type of base, the stock declines as much as 30% to 33% from a 52-week or all-time high, then starts to recover in a process that takes at least six weeks to complete. Once the ascent begins, there are no significant pullbacks, or anything that might be considered a handle.
The buy point on this pattern is easy: when it rises above the peak in the left side (or the start) of the pattern.
The flat base isn't much different. When the stock recovers and surpasses the base's prior highest point, that's when you jump in.
Growth Stocks And The Buy Point In A Handle
As the stock approaches new highs — building the right side of the cup pattern — the stock suddenly pulls back moderately in price. This pullback is up to 15% in depth but can be much less. According to IBD research, most handles in the most successful stocks show a drop of no more than 12% from the handle's highest price.
Also, a good handle will form within the upper half of the base. How can you tell? Sometimes you can see it visually. Maybe the handle began forming when the stock was just a few points below the cup's left-side high.
When it's difficult to tell, what should you do?
Use the midpoint test. Add the highest price and lowest price within the cup, then divide by 2. Do the same with the handle.
If the handle's midpoint is higher than the base's midpoint, a breakout has a better chance of succeeding. The stock has already shown strong demand by climbing off its lows, plowing past prior price levels in which some shareholders had bought and immediately harbored paper losses. As a stock rebounds, these folks eagerly sell and get rid of the stock.
Use the highest level in the handle area and add at least a penny to derive the buy point.
The double-bottom base is a bit different. The stock forms a cup pattern, but makes another correction before it reaches new highs. The second bottom usually is lower than the first.
The pattern has a W-shape. The buy point is the middle intraday peak of the W-shape plus 10 cents. Keep in mind that a handle may also form, presenting an alternative entry.
No matter what type of base it is, the stock should pass its buy point in heavy volume. That gives you the confidence big investors are buying as well.
How much volume should you expect? Trading should swell at least 40% above the stock's 50-day average volume.
If you're watching a stock during the trading session and aren't sure if volume is so strong, check the stock quotes at Investors.com. The volume percentage change is continually calculated.
Finding The Right Buy Point In Growth Stocks: Analyzing This Former Leader
Nursing care facility operator VistaCare went public in December 2002 and by April 2003, it had formed a cup base with a high handle (1). The highest price in the handle was 19.
Within the handle, the stock fell 11.6%, in range with the typical handle on a cup base during a bull market.
Meanwhile, stocks were taking off and leading growth names were bursting out of bases after the market followed through on March 17, 2003, Day 4 of a new rally attempt. On that day, the Nasdaq soared 3.9% in higher turnover; the S&P 500 gushed 3.5% higher.
VistaCare broke out on April 28, 2003, in heavy volume, then held above the final resistance level at 19 two weeks later during a pullback that became a bullish reversal (2).
On the breakout day past 19, VistaCare showed decent ratings on IBD Stock Checkup despite being such a young new public company: a 72 Composite, 80 EPS, 78 RS and A- for Accumulation/Distribution.
Investors who bought at the correct buy point stood to more than double their money by year's end.
A version of this column was originally published on April 16, 2010. VistaCare was acquired by Odyssey HealthCare in March 2008.
Please follow Chung on Twitter: @saitochung and @IBD_DChung
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