Article: Do Your Own Thinking

Perhaps it is just an inherent human trait, but it never ceases to amaze me the eagerness with which we want to embrace someone else's opinion.  What worries me is when traders don't think for themselves and place too much trust in supposed 'experts'.  That characteristic is even manifest by some who subscribed to this newsletter hoping it would tell them what to buy or sell.  This newsletter won't do that.  Instead it will try to teach you to think, and give you tools and insight to help you do your own technical analysis.

One can find on the Internet countless web sites offering advice, newsletters, and stock picks.  I raise a warning voice that traders should not be so eager to embrace the information they peddle.  I offer the following look behind the smoke screen.

Many of the newsletters which offer daily picks, or hot-stocks to watch, fall in the category which I call 'pump and dump' services.  They artificially manipulate stock prices for the benefit of the owners of the service.  Some of the picked stocks pay the newsletter or brokerage for the promotion.   Several years ago my broker would call with suggested stocks to buy.  I remember investing in Ramada Inns around $11 on the broker's recommendation.   His firm's research department had issued a buy recommendation for Ramada.   The stock ended up being near its peak when I bought, and I eventually exited around $7.   Where was the broker during the decline?   It sure felt like I had been a victim of a 'pump and dump' promotion so my broker's firm could unload Ramada stock, or he could turn a commission.

One of the stock-pick web sites I visited bragged that 83% of their picks hit their suggested target price.  I looked at their stock picks for the month of December, and their table showed an impressive 20 out of 20 picks with a positive value in the column labeled 'The Point Move It Made So Far'.   So, I looked at daily charts for each of their 20 stock picks for December, and marked the price and the day of the suggested pick.   In so doing, I then saw through the smoke screen and got an immediate distaste in my mouth for this stock-pick service.   Look at the following example that was their stock pick on 12-02-1999 at a price of $18 1/4.

The following irritates me.   First of all, this service says their entry price is $18 1/4.  This is the closing price on December 1st and is pointed to with a red arrow.   The stock pick was supposedly in an e-mail issued on December 2nd prior to the market opening.   If one acted promptly, one might have bought the December 2nd open, but that is at a higher price than the $18 1/4 they imply their subscribers bought at based on their pick recommendation.

The real irritation is that they say this stock has made a $2 7/16 move so far.   When you study the chart, $2 7/16 is the difference between the pick price of $18 1/4 and the highest high following the pick, which just happens to be on December 2nd, the day of the pick.   One would have had to buy the previous day's close (impossible to do on December 2nd), and sell at the highest high since then in order to realize the results implied by this service.   Come on people, give me a break.   That isn't going to happen.   The implied 13% gain on this recommendation is in reality probably a 30% loss.   In all fairness, some of their December picks have good gains after 4 to 8 weeks.   What I am trying to illustrate is that there is no substitute for doing your own thinking.

A second Internet stock-pick service I found, on the surface looked exciting.  This service evaluates 7,000 stocks each day and rank orders them according to scores given for value, safety, and timing.   To monitor their stock picks, I entered their top 50 buy recommendations in a paper trading account and used the closing price on January 25th as the entry price.   I dollar balanced the portfolio to invest $5000 to $6000 in each stock.   Was it just my 'bad luck' to start this exercise before the DOW had a down week because of fear interest rates would rise?

Anyway, one week later the account was down 4.7%.   But, during the same time period, the DOW fell 2.6%.  So, what gives?  One would not expect a list of BUY recommendations to crash faster than the DOW.  In fairness to this stock-pick service, they expect you to invest for the long haul, and my critique of one week's setback is probably unfair.

Whether I am right or wrong in my assessment, or whether either of these stock-pick services are worth the monthly fee they charge is not the issue.   What I am trying to do is to get you to think.   Be suspicious of stock-pick recommendations.  Do your own analysis and thinking.  The greatest value I personally find in these stock-pick services is it causes me to look at charts I otherwise would not have examined.   Occasionally, I find a recommended stock with a chart formation that is attractive to me.   Usually the biggest problem is that by the time the stock appears on a recommendation list, the move I am interested in is already history, and the chart is about to enter a consolidation or correction wave.

Article by Howard Arrington