Newsletter

August 26, 2006

Impulsive Behavior and Trading

Market & Sector Review
Relative Strength Ranking and Picking Stocks

Largest Changes In Raw Numbers (21 Days)

This Week's Economic Reports
No newsletter next week --> Enjoy your Labor Day Weekend!
Impulsive Behavior and Trading

Impulsive people have a way of reaching conclusions and taking action that, in comparison with normal deliberations and intentions, would be considered impaired. Acting on a whim, giving in to temptation, doing what you have told yourself time and again not to do, is acting impulsively. Impulsive people are not self-confident but simply hope and wish for results. Quite simply they have no long-term goals, within which trades and management should be planned, only immediate urges. Their behavior is abrupt and unplanned. The time between thought and action is very brief.

The net outcome of unplanned behavior is when failure occurs, the process of analyzing bad trades and malfunctions, that person cannot accrue effective lessons from the loss. Without a plan, impulsive people can't develop methods to determine what works and what doesn't. They can't understand why they failed.

Impulsive people are also deficient in a certain method of thought process. Normal people weigh, analyze, research and develop an initial impression. Impulsive people guess and bet heavily without much thought. Impulsive people are often victim blamers. The results are reflective of character and personality, not intelligence.

Victim blamers tend to interpret anything in life that doesn't go their way as somehow aimed against them, believing somebody or something is working against their welfare. It may be a boss, a girlfriend or an entity such as a company or the government. Or it may be outside forces such as "bad luck," "nature," "evil forces". They never learned to assume personal responsibility for their own actions versus blaming others. While everyone tends to lapse into blaming others at least sometimes for their misfortune, this trading type makes blaming their primary defense mechanism to deflect their own sense of urgency.

Because they are looking for someone to blame for their investments that lose money, they are among those most in favor of intense governmental investigation and prosecution of market manipulation of any kind. With each fresh uncovering of company accounting fraud, brokerage-analyst duplicity, insider trading or any other type of market manipulation, they smile and say, "See, I told you they're all out to get us!" But this only tends to make them feel more helpless and assume less responsibility for their own investing decisions.

If you have a tendency to be impulsive, the cure is to put together realistic and sound goals along with a realistic trading plan. Make yourself work towards the attainment of those goals by not violating the rules of your trading plan.
Market & Sector Review
Relative Strength Ranking and Picking Stocks

When you are shopping for a new car you probably want the one that outperforms its peers within your price range. Shouldn't it be the same with stocks? When you are interested in a sector, industry group, or an ETF; don't you really want to own the stocks within your favorite sector that are outperforming the rest? The Prudent Trader Members' area makes it easy to search through stocks, sectors, and groups, and find the strongest ones or the ones currently improving the most.

The RS Ranking goes from 0 to 99 with 99 being the best. It measures the stocks performance over the last six months and compares it to the rest of the market. A stock with a relative strength ranking of 80 has outperformed 80% of all stocks trading at $10 or more over the last six months. If in your search you come across a relative strength ranking of zero it means one of two things: first there may not be enough data to make the calculations, i.e. less than six months trading history, so a zero is assigned; or two the stock is currently trading at less than $10 per share - is not considered in the rankings and a zero is assigned (Note: DYN in table below).

You can search on site for the Top 100 stocks measured by relative strength over both a six and twelve month time frame by just clicking on the appropriate link in the members section. Perhaps more importantly when you have reason to believe a particular sector, industry group or index is about to move, you can easily search the component stocks seeking out the strongest.

Caution: it's a mistake to use relative strength rankings alone. Stocks with high relative strength scores may be over extended from good buy points. Even with a high relative strength rank the stocks should be forming a sound base on the charts that show signs of accumulation during that basing period (follow the Prudent Trader accumulation model during the basing period). If your stock of interest is not in a good buying position add it to your watch list and add into your mix strong earnings growth, return on investment, amongst two fundamentals. You will hopefully, at some point in the not to distant future be purchasing a good potential winner.

As an example; revisiting last week's letter exploring the largest changes report and the 20/20 hindsight look at UTH - Utilities Holders ETF, lets examine some individual stocks with both relative strength daily calculations and six month rate-of-change. If you did your homework this past week and scrolled back in time to mid May, applying your favorite indicators to UTH, would you have been interested? For this newsletter, we will assume yes. [Note: hindsight is an excellent learning tool, if and when the situation arises again, you'll be prepared.] Doing a little more homework however you may wish to look through the component list of UTH to determine if a component issue or two will suit you better than just purchasing the ETF.

If you go to Yahoo finance and get a quote on UTH, to the left of the quote box appears a link entitled ETF holdings, click on that link and you receive the top 10 holdings of that ETF and the percentage of the ETF each represents. A total view of the holdings, in this case, may be obtained by visiting Holders.com - let's use the complete list for this newsletter. The components of UTH come from three industry groups: Electric Utilities (64.1%); Diversified Utilities (30.74%); and Oil & Gas Pipelines (5.16%). I was able to have the program altered for a look back at relative strength percentile rank on May 19, 2006. The following spreadsheet displays all components of UTH sorted by relative strength percentile rank on May 19.

Notice that during the time frame we are examining (5/19 -> 8/18) UTH advanced 11%, nothing wrong with that and I know many who would be exceedingly happy with an 11% gain in three months. However take note that of the 19 component issues of UTH: 7 or about 37% did better than the ETF; 12 components (63%) did not advance as much; and one issue actually declined after making a new all time high. Could you have found one or more of those seven using relative strength percent rank? Charts as of 8/22/06 - Blue line on chart is 200-day moving average:

Had you at the time believed any impending move higher by utilities was interest rate driven and not energy price driven your first reaction might have been to throughout the two energy components (EP and WMB). Showing the greatest relative strength percentile rank at the time was EP (Oil & Gas Pipeline) and TXU (Electric Utilities). In fact TXU's (12.5% of UTH) explosive move on May 2 (up 15.5% that day) on almost five times its normal volume, almost single handedly accounted for the inclusion of UTH in the May 19 Largest Changes Report and its jump in relative strength percentile rank.

I am one of those who believe that technical analysis which includes relative strength has its limitations. When faced with the choices above I wish to view the fundamental picture of each company. Remember the vast majority of trading that occurs each day is done by financial institutions looking to position themselves, they need to justify their purchase with fundamental analysis not only charts. The spreadsheet below is a very quick overview, nothing more, of the fundamental condition of each company.

Are you interested in growth or value or a combination of both? Are you interested in dividends? These and other questions will determine how you view the fundamental data to find what is suitable for your portfolio or simply a trade. Study the above spreadsheet's for a moment; see if you can notice anything that may have led you to one company over another, relative strength combined with largest changes, fundamentals, or all. How well would you have done? In this case you would be profitable no matter your choice but to varying degrees.

I am perfectly aware that last week and this week we have examined a situation in perfect 20/20 hindsight. While should have, could have, will always be the battle cry of the uninformed, this is a great way to learn. The next time a similar situation presents itself, you'll be prepared because you studied in hindsight. No more could have, should have!
Largest Changes In Raw Numbers (21 Days)

This report is a picture (.png) file. If you wish right-click and save picture as, in a file of your choice, to review later.
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.