Tired of buy and hold? Try this instead

A time-tested investing method can be used successfully by billion-dollar hedge fund managers and small investors alike.

By StreetAuthority Apr 16, 2013 10:52AM
Image, Woman reading newspaper in livingroom copyright Tetra images, Getty ImagesBy David Goodboy                                                         

Michael Marcus turned a $30,000 investment into $80 million. He loves the technique I'm about to share with you. And he's not alone. Bruce Kovner manages a $4 billion fund. He swears by this, too. So does Kenneth Tropin, who earned $120 million in 2008.

Do they all invest in the same type of stocks or commodities? Do they share a secret investing trick known only to the ultra-rich? No. 

What these multimillionaire and billionaire investors have in common is that they all practice the same investing technique. And here's the best part: The technique is neither difficult nor limited to the largest money managers. In fact, it's a common and easy-to-use investing method that anyone can replicate.

If you haven't already guessed, the investing tactic I'm talking about is called trend following. 

What is trend following?
This is an investing method that takes advantage of long-term moves in stocks and commodities. It can be used effectively on the long and short side of any market or instrument. Think of buy and hold, with rules on when to buy and sell.

Trend followers wait for a distinct uptrend or downtrend to appear on the price chart. Then they enter in the direction of the trend. An uptrend is defined as a series of consecutively higher highs and higher lows, whereas a downtrend is defined by a series of lower highs and lower lows on a price chart. In most cases, trend followers use a daily price chart and either buy into an uptrend or short into a downtrend. New highs or new lows are often the trigger to enter the investment.

Other investors prefer to wait for a pullback from the highs to enter in the same direction of the longer-term trend. The reasoning is that the lower price of a strong stock will attract institutional buying interest. Trend followers believe that the price momentum will continue either higher or lower after a breakout or pullback. 

The key to protecting profits
The old saying "the trend is your friend until it bends in the end" relates to trend following.

The facts are that even the most skilled and knowledgeable trend-following investors don't know whether the trend will continue after the investment is entered. The trend could end immediately after you buy or short. The short-term pullback from the strong upward trend could, in fact, be the start of a new downtrend rather than a short-term pullback.

This unknown is why stop orders are a must in trend following. Unlike buy-and-hold investing -- which trend followers call "buy and hope" -- trend following requires the use of stop orders to prevent excessive losses. Where the stop orders are placed is a personal choice. Placement is a function of your personal risk tolerance. In other words, how much of a loss will you accept before closing the position and trying again? 

I like setting stops very close to the entry level. Then, if I'm stopped out, I try as many as three times to catch the trend before looking at other opportunities. The big-time trend followers do this across a variety of stocks, commodities and currencies at any one time. Basically, they enter positions, close the ones that do not profit, and let the profitable ones move higher or lower depending on the position being long or short.

Many profitable trend followers use trailing stops to protect profits as they accumulate. A trailing stop automatically remains a certain distance behind the advancing price and will close the position should the price change direction, in an effort to protect the profits.

This is just a brief introduction to the trend-following investing method. I recommend Michael Covel's best-selling book "Trend Following" for a comprehensive explanation of this investing method. 

Here are three stocks in strong upward trends, along with illustrations of how a trend-following investor would likely enter the position.

1. Coca-Cola Co. (KO)

 

2. LinkedIn Corp. (LNKD)




3. PowerShares DB US Dollar Index Bullish Fund (UUP)

 

Risks to Consider: Although a proven and highly effective investing method, trend-following can also be frustrating and risky. Buying on breakouts can easily fail, as no one knows how long a trend will last. In addition, buying pullbacks from a trend also has risk since the pullback may be the start of a new trend. 

Action to Take: Locating strongly trending stocks and buying on breakouts or pullbacks is the core of trend-following. Always use stops and be ready to close out a position if it goes against you. Remember, sometimes it takes several entries at a level to catch the move. 

David Goodboy does not personally hold positions in any securities mentioned in this article. 

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35Comments
Apr 16, 2013 11:38AM
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There are as many techniques to investing as the day is long.  Analyzing charts has been around for years,  My feeling it is not possible to turn a $30k investment into $80 Million without knowing something the other guy doesn't.  It had to be based on some kind of secret data or method.

 

Analyzing for charts is certainly no secret, as so many people are doing it looking for an edge.  As it is a common method, I can't seeing it producing uncommon returns.  Simply beating the market trends (S&P and DOW for example) is an uncommon return.  If too many people do the same thing, how can you really expect to do well?

 

I generally accept the notion that someone who uncanningly beats the markets must have access to data just not available to the daily layman.

Apr 16, 2013 12:03PM
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I don't expect this article to convert many buy and hold folks.  There is a big difference in the time and energy required to make this trend thing work vs that required of the typical buy and hold guy who every once in a while sells when his holdings have gone up a bunch and buys back when the price drops a bunch.  The latter system will work best for the vast majority of we simple folk who do something else for a living.


Apr 16, 2013 12:45PM
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No Thanks,

 

Its buy and hold for me.  - Remember these people make their money when you are buying and selling so its in their interest to get you to constantly buy and sell. Don't fall for the Trap !

Apr 16, 2013 12:16PM
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The author is wrong, the technique used is called insider trading.  And it is highly illegal.
Apr 16, 2013 11:27AM
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This article is funny,even the authors name is funny!
Apr 16, 2013 1:52PM
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Sounds like a very trading intensive strategy, especially with the use of option stops. Whether or not the investor makes money it's guaranteed to be great for their broker.

Apr 16, 2013 1:24PM
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"...it's a common and easy-to-use investing method that anyone can replicate..."  This SO fits the old saying: "If it sounds to good to be true it is."

Trend following is nothing new and studies have shown that many people lose money, perhaps more than gain money, following it.

At the same time, blind "buy and hold" is not wise either.  Personally, I don't buy I stock I expect to own less than three years.  I own Abbott Labs, Exxon, and Cracker Barrel Old Country Store that I originally bought in the early 90's through DRIP plans in order to get around the typical $183 dollar commissions Merrill Lynch was charging in pre-Internet brokerage days.

But every December, I review my stocks in terms of management, sector changes, competition, and income, revenue, etc. data.  I give myself a two-minute informed speech as to why I should keep or sell each stock (I do a similar speech any time I buy).  I also have a rule that if a stock drops below 75% of what I paid for it due to ordinary events (no Japanese tsunami, etc.), I admit I made a mistake and sell it.  That ensures my ego won't get in the way.  For example, I bought HPQ  at $35, then sold it at $26 even though I think it will turn around with so much positive cash flow to fund it and good positions in servers and other non-PC areas.  But now it's $20 and selling at $26 prevented another nearly 20% loss on my $35 investment.
Apr 16, 2013 3:46PM
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Crazy, the KO chart shows an upward trend from about $35.50 up to $41 and then you should buy? How about buying in at $35.50.


Apr 16, 2013 2:07PM
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This is also known as buy low and sell high. Why that is so hard is a mystery. I guess when something is up a lot (like gold at 1900 in sept. 2011) greed takes over and the people that own it believe it will only go higher. A recent survey also showed 80% of respondents said they have a harder time selling than buying. Like bad poker players they can't fold their hand when their gut is telling them to do so.
Apr 16, 2013 2:00PM
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Just another example of those with vested interests attempting to convince (or dupe) the public in believing there's a way to predict which investments will rise, and when they'll rise. The markets will provide the returns over time based on risk/return relationships - not Wall Street firms and publications using speculative strategies to enhance their own pocketbooks. 

Apr 16, 2013 2:12PM
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And if the  woman in the picture waits for the next day's WSJ to check her stocks for the trend she will need that paper to cover her as she sleeps on a park bench at night.
Apr 16, 2013 1:42PM
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Would that it were that simple. But when the market goes up or down you are still left deciding if it is the end of the trend or a pullback so do you buy or sell? You need to make these decisions ahead of time with strict, mathematical criteria or you will still be operating on emotions when the time comes to decide.
Apr 16, 2013 5:55PM
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I like to buy stocks that have waves. If you pick a few quality stocks and watch their pricing you will see the waves. The price will go from say 35.00 to 42.00 dollars and back again several times in a year. I will put in a buy at 36.00 and when I get the stock I put in a sell for about 40.00. When it sells I put the buy back in for 36.00 and away we go again. All stocks trade in a certain range and you can adjust the pricing up or down as needed. Just don't get greedy,take your 10-15% gains and bank the money. On some stocks I sell just enough to get back the money and keep the extra shares as a free roll.
Apr 16, 2013 4:03PM
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I'd find this article a lot more believable if they provided some comprehensive statistically analysis to demonstrate that buying at new highs or shorting at new lows actually correlates with future price changes across a large number of unrelated stocks.  Instead they offer us some infomercial annecdotes.  It's actually quite normal for one or two people to get lucky with any method out of thousands of people doing it.  So who exactly wrote this article and what is their financial intrest for doing so?  When an article looks like a sales pitch, sounds like a sales pitch, and closes like a sales pitch, you are probably being sold something.
Apr 16, 2013 1:23PM
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Trending is little more than Timing, with a favorable spin. However, I consider that while stock prices used to have a bigger tie to company value and performance, today's market is more akin to a casino. If one could predict where the lemmings are going to herd, one could take advantage of today's high market speculation.
Apr 16, 2013 12:13PM
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is the investors business daily (IBD) considered a trend follower?

 

Apr 16, 2013 6:35PM
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"turned $30k into $80 million".  LOL.  I bet he turned $300 million into $80 million.
Apr 16, 2013 4:12PM
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OK.  Got it.  Buy low, sell high later, or low sooner.  
Apr 16, 2013 6:33PM
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The problem with trying to time the market is.........you run out of cash before the market does.
Apr 16, 2013 5:14PM
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So this means that the standard disclaimer that "past performance is no guarantee of future returns" is incorrect!!
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