Catching bottoms

I recently came across an article titled “Ten Rules For Catching A Bottom“.

Market timing is hard enough that no one can do it consistently but the rewards of success are high enough that it piques interest. Besides, the question “when should I buy?” is on the mind of every investor/trader simply because it affects outcomes.

Of the rules themselves:

  • My experience agrees with rules 3 (wait for a higher low) and 4 (wait for a longer term moving average to stabilize).
  • Rule 7 (keep your trades small) is vital, and I wrote about this in a recent post.
  • Rule 10 (step in slowly) is dangerous if one doesn’t understand how it affects rule 7. If you keep investing 1% of your portfolio repeatedly into a stock that keeps dropping and eventually goes to zero, you could lose 5-10% of your portfolio.
  • Rule 6 about using stop losses is not very useful if one follows rule 7 to keep trades small. In my experience, Rule 6 (use stop losses) can hurt outcomes. I would sell only if new information says that the stock isn’t worth holding; otherwise, I would hold. I’ll explain this with an example. Here are three stocks that were in the news last year, and the gurus who owned them:
  1. Valeant (VRX): Ackman
  2. Sun Edison (SUNE): Einhorn
  3. Horsehead (ZINC): Pabrai

Of these, VRX bottomed and then nearly doubled, but Ackman sold near the bottom. The other two (SUNE and ZINC) went to zero. If these hedge fund managers, with their extensive resources, could not predict survival, it is fair to say that most individuals cannot accurately predict outcomes either. A stop loss gives up a potentially large gain from a rebound for a small but certain avoidance of loss. If an investor wishes to avoid losses, bottom fishing isn’t the place to be to begin with, but once in the game with a tiny bet (e.g. 1%, all trades inclusive), getting out of the game with 0.2% remaining may not be a good idea.

DISCLAIMER: I own VRX stock. In the past, I have owned SUNE and ZINC stocks. The information on this forum is provided without any express or implied warranty of any kind. This information does NOT constitute financial or investment advice. The information is general in nature, and is not specific to the reader. YOU SHOULD NOT MAKE ANY DECISION, FINANCIAL, INVESTMENTS, TRADING OR OTHERWISE, BASED ON ANY OF THE INFORMATION PRESENTED ON THIS FORUM WITHOUT UNDERTAKING INDEPENDENT DUE DILIGENCE AND CONSULTATION WITH A PROFESSIONAL BROKER OR COMPETENT FINANCIAL ADVISOR.