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Newsletter May 27, 2006 Do You Have High Hopes? Market & Sector Review The 80-20 Rule Largest Changes This Week This Week's Economic Reports Membership has been growing very rapidly recently mostly from wonderful mentions by a few excellent stock market blogs: The Kirk Report;& Trader Mike; to mention two. You should visit these as well as other stock market blogs as often as possible. If you pick up just one good idea or methodology your time has been very well spent. Do You Have High Hopes? I am probably dating myself a bit but I wonder how many of you remember Frank Sinatra? One of Frank's Academay Award songs (1959) was "High Hopes" the verse: Just what makes that little old ant Think he'll move that rubber tree plant? Anyone knows an ant, can't Move a rubber tree plant. But he's got high hopes, he's got high hopes He's got high apple pie, in the sky hopes The power of positive thinking, it's essential to trading successfully. Thousands if not millions of people have attempted to master the markets, unfortunately few achieve enduring success. If you don't push yourself you will never make it. It's one thing to be optimistic, but are you really setting yourself up for failure? Optimism must be tempered with realism. You should be optimistic when entering a trade and hope for the best but do not expect a miracle. While being optimistic about the markets or an individual trade is essential, you must, be careful not to turn that optimism into a false hope, or create overly high expectations for yourself. Trading requires creativity, and interaction with the markets. The markets don't always provide opportunities. There must be a match between current market conditions and a given trader's talents, style, goals, and plan. When they don't match it's next to impossible to trade profitably. A trader must continually monitor current market conditions and decide if he or she can trade under such conditions. If the market conditions are not optimal; stand aside and wait. When market conditions are ideal; a trader must push himself to take advantage of current conditions. Optimism will not change current market conditions. Another important consideration: If you are overly optimistic, you may not recognize your limitations. You cannot expect to trade in every possible market condition and make the same amount of profits. Unless you temper your optimism with a bit of realism and wait for your ideal market conditions to exist, you will likely fail to reach your expectations and become disappointed. When you are under the influence of disappointment and frustration you will make the most trading errors. Begin to think in terms of "should" instead of "must" and do not define your goals too narrowly. I should make $50,000 a year and not I must make $1,000 a week. They are not the same goal. If my goal is to make $50,000 per year I have an entire 12 months to achieve that goal. If the goal is $1,000 per week I am setting myself up for disappointment and frustration, the very first week I fall behind. If you just broke even that week then the next you must make $2,000 to be back on track, if you break even again then the following week its $3,000 and so on, not to mention a losing week, creating a seemingly impossible task. You will become frustrated, dissapointed, dejected and your own worst enemy. One of the greatest obstacles that traders face is their own unrealistic expectations. It's better to live by the old cliche', "Accept what the markets give you." You don't control the markets. You have to accept what you can get, and feel good that you got anything. If you adjust your expectations to market conditions, you'll feel better, and if you feel better you'll trade better. So any time you're gettin' low 'stead of lettin' go Just remember that ant. Oops there goes another rubber tree plant When troubles call, and your back's to the wall There's a lot to be learned, that wall could fall. Market & Sector Review The 80-20 Rule The 80/20 Rule is one of the most helpful of all concepts of time and life management. It is also called the Pareto Principle after its founder, the Italian economist Vilfredo Pareto, who first wrote about it in 1895. Pareto noticed that people in his society seemed to divide naturally into what he called the "vital few," the top 20% in terms of money and influence, and the "trivial many," the bottom 80%. He later discovered that virtually all economic activity was subject to this Pareto Principle as well. For example, this rule says that 20% of your activities will account for 80% of your results. 20% of your customers will account for 80% of your sales. 20% of your products or services will account for 80% of your profits. Editors Note: 20% of your trades will account for 80% of your overall trading performance, and so on. Transferring this rule to the stock market, during a bull market 80% of stocks advance, 20% remain the same or decline; during a bear market 80% of stocks decline, 20% remain the same or advance. If the secular bear market has indeed reared its ugly head you have but a few choices: hold your stocks through the decline and wait for the next bull market; sell stocks short; attempt to trade very short term (not an easy task even for seasoned pro's); or hold cash in an interest bearing account and wait for the next bull market. But wait another choice, if you must hold stocks: attempt to find the 20% that will advance or stay the same and perhaps collect some dividends while you wait. While the decision is a personal one and greatly depends upon the time frame in which you are operating, you're trading style, your plan, and your goals. It may be possible to find those sectors that contain defensive issues that actually can advance regardless of where the S&P or the NASDAQ head. Since the 80-20 rule also applies to traders preferences, 80% trade long only and 20% trade long and short, this week we will go back in history to the last bear market and see if we can discover where such long stocks may lie. For the many new subscribers the sector charts below are sectors as described by Hemscott Corporation previously known as Media General. At this time my primary data source is TC-2005 and these are the sectors and groupings they use. If you go to the member's section you will note, in the left most column near the bottom a link, Compare Component Stocks By: Industry Groups. By clicking on that link you will notice a listing of the groups contained within these sectors and by typing in the appropriate number of the sector or the industry group; you will receive the component stocks of that sector or group. Next to each stock within that sector or group will be: Relative Strength Percent Rank; its respective Group Ranking; Short, Intermediate, and Long Term Trends; Accumulation/Distribution and more; a link to a current chart courtesy of Stock Charts.com as well as a link to that companies fundamental position and prospects courtesy of MSN. While it may be different this time, notice how the first sector (Tobacco) made its bottom at precisely the same time that the S&P made its top. The Health Services sector actually made its bottom in 1998 and proceeded to advance throughout the bear market in the major averages. The Leisure and Transportation sectors also made their bottoms in 1998, their advance through bear market was not equivalent to the other two sectors but nevertheless they did advance. Those lucky enough to be long the right stocks in these sectors were mumbling to themselves; what bear market? Am I saying these sectors will again advance regardless of the direction of the major averages? Absolutely not, however there will, in all probability, be advancing sectors during any decline. I suspect (key word) at this time it may be other sectors. Personally, as a member of the "baby boom" generation (largest segment of the population) who are now entering their 60's, health services, health care, and pharmaceuticals appear to have long term appeal. As we age and in hopes of living longer and in better health than any previous generation, the earnings of the best run companies in these groups can only go higher. And we all know that earnings drive stock prices; eventually. But is the timing right? Let's take a quick look at MG520 Health Services; First Chart as of 5/23 close. Notice this sector reached its peak the first week of January and has been in a well defined downtrend since then. The correction to date; approximately 11%. It is also sitting at a point that marked the October/November lows as well as the March of '05 high. In other words an area that should provide some buying support. It's six month relative strength is still below zero meaning that over the last six months this sector has been underperforming the overall market. Now let's take a look at some of the composite data then and now. Again for new members Sector and selected Index charts are posted every Wednesday and Friday evening containing a plethora of composite indicators by each sector and each index. This is a great tool for determining exactly what is going on beneath the surface of sectors as well as the overall market. First the October 1998 bottom: Notice that coming into the October 1998 lows; A/D Volume made a higher low as did the % of stocks above their respective 200 day moving average. The McClellan summation index figured just on this sector's components also made a higher low. In affect the sectors internals were improving as it moved to new lows. The Accumulation/Distribution days displayed is as defined by William O'Neal's book "The Successful Investor". Notice in late October and early November a series of accumulation and rally follow through days. This constitutes a buy signal according to this theory. A more conservative trader/investor might have waited until this sectors six month relative strength vs. the broad market moved above the zero level, that occurred in May of 1999 a mere 4% above the early 1999 high with a great deal of upside remaining. Let's now take a look at the same composites as of Wednesday's close (note: you can check the updated charts as of last nights close in the members' section): The composite data here suggests this sector is perhaps oversold and due for a rally but no real bottoming action. Wednesday's low was on increasing volume, a distribution day, suggesting that even if we do rally here, a test of the low will be in order. This sectors A/D line, Advancing - Decling volume, % of stocks in uptrends, % of stocks above their 200-day moving averages are still making new lows, the McClellan summation index is also making new lows. In other words the internals of this sector continue to deteriorate. No buy signal at this time. Perhaps some time in the not to distant future? Once you decide that something of interest is happening in this or any other sector the next step is to narrow your research. For instance the Health Services sector contains well over 300 stocks and is made up of 9 different groupings as follows: Medical Instruments & Supplies Medical Appliances & Equipment Health Care Plans Long-Term Care Facilities Hospitals Medical Laboratories & Research Home Health Care Medical Practitioners Specialized Health Services You must now attempt to determine what industry groups within that sector are acting the best. If you do not have access to the Media General Charts substitute groupings by other sources such as Big Charts.com; Stock Charts.com; or buy the weekend edition of Investors Business Daily. You can even look through the sector ETF or index components that seem to match. The important point; it is far easier and over time more profitable, in my humble opinion, to follow 31 sectors than it is to attempt for forecast everything by the action of the S&P 500 or the NASDAQ Composite. The composite indicators displayed are a tremendous aid in determining the internal action of a sector or an index, and the internal always preceeds the external. Take the time to scroll through the composite charts. Do not try and force an opinion but quickly make note of any dichotomies that may exist, positive or negative; internal deterioration or internal improvement. This is the same analysis I have used over the past couple of months pointing to the internal deterioration of the market, even though my timing was less than stellar, the deterioration was noted on several occasions. 20% of your time spent on sector analysis, just may wind up accounting for 80% of your future trading profits. I'll finish this week with another old market cliche' "Theres always a bull market somewhere". Can you find it? Largest Changes This Week This Week's Economic Reports Have A Great Week! Bill Disclaimer: Trading in securities, of any type, may not be suitable for all individuals. The contents of this newsletter are not a solicitation to buy or sell securities. The opinions expressed are solely that of the author. You must do your own research, contact your own financial advisor for suitability of any investments. Data gathered is from sources believed to be reliable, but NO guarantee as to their accuracy is made.