The key to buying stocks and stock market success is to always be on top of your outstanding positions, especially with any major changes in the underlying fundamentals.
If you ignore the warning signs, you may as well go to Las Vegas and gamble away your capital. Buying stocks is not like going to the grocer’s and looking for the cheapest deals. If stocks are getting thrown around and are steadily moving lower on the chart on higher volume, clearly, something is wrong or the company has experienced some dramatic change. This is what you want to avoid.
When I trade, I don’t care about the company’s fundamentals. I simply look out for reversals, whether I’m buying stocks or shorting them. The key is to be on top of things.
For the majority of investors, you don’t need to be constantly staring at the chart on the screen. What you need to do is be on the lookout for any major changes in the sector, a company rival, or the company itself. Failure to recognize changes and heed red flags could result in major losses.
The risk of buying stocks is intensified even more when it comes to smaller companies. If you buy a blue chip stock, one bad quarter or weakness in just one area is no big deal, since the company is usually big enough to absorb any short-term shocks and bounce back. This principle doesn’t apply to small-caps.
For instance, buying the “dog of the Dow” is a strategy often used by traders and institutions to invest in out-of-favor stocks that are paying the highest dividend yields at the time due to weakness in their stock prices.
For instance, as of October 21, the top five dividend yields on the Dow were as follows:
1. AT&T Inc. (NYSE/T; $34.61; 5.20%)
2. Verizon Communications Inc. (NYSE/VZ; $50.01; 4.24%)
3. Intel Corporation (NASDAQ/INTC; $23.88; 3.77%)
4. Merck & Co., Inc. (NYSE/MRK; $46.61; 3.69%)
5. McDonalds Corporation (NYSE/MCD; $95.20; 3.40%)
Take a look at the chart for McDonald’s below. The company faced issues in the 1970s and then steadily rallied into 1999 before facing another downturn to 2003. If you bought the stock at these down points, you would have made a lot of money just by holding.
Chart courtesy of www.StockCharts.com
When buying stocks for a contrarian turnaround, a simple strategy would be to accumulate these blue chip companies. The reality is that these companies are not going away anytime soon, so they offer investors a decent investment opportunity for buying stocks on weakness.
As I said earlier, the same idea cannot be said for small-cap stocks compared to blue chips. A small company that sees a major reversal in one of its businesses may never recover. This is why you need to be extra careful when looking at smaller companies when buying stocks.