This column was originally published on RealMoney on Aug. 24 at 12:09 p.m. EDT. It's being republished as a bonus for TheStreet.com readers.
Sometimes less is more. Now there's an idea that's applicable to just about every aspect of life, but it certainly applies to trading. Think about it: In the trading world, many of us could use less analysis, not more.
While this may sound like blasphemy to the hard-core number crunchers and spreadsheet warriors, hear me out. The most robust fundamental analysis first distinguishes between data that are nothing more than noise and data points that really matter. Skilled analysts focus their energy on important data, not the minutiae.
This "less is more" approach also applies to chart analysis. I have heard Jim Cramer say on many occasions that "charts work great ... until they don't." This observation illustrates the less-is-more approach to trading.
Chart analysis should be simple. We look at charts for two reasons -- to find the trend and to assess its strength. Newton's first law of motion really defines a price trend -- "Objects in motion tend to stay in motion ... " Once you find the trend, don't argue with Newton. Just accept it and operate under the premise that the trend will remain in place -- period.
Approach the market with a strong bias that the prevailing trend is valid and you'll be right every time. Yes, you'll always be right ... except for that one time when the trend actually does end, when the chart doesn't work.
Don't you wish you had been operating under this "less is more" approach back in 2003 when the steel market first started trending higher? Did you catch that entire move until the trend stopped working, or did you talk yourself out of it on the many occasions when various data points flashed bearish signals?
Most of us think too much. In this post-Sarbanes-Oxley age, there really are lots of data that are available to anyone who seeks it out. How do we distinguish between what's important and what's not? The answer is less important than simply accepting that not all data need be studied or scrutinized.
When it comes right down to it, all we're trying to do is answer one question: "Should I buy it, sell it, or just move on?" If you find yourself getting distracted by information or data that are not fundamental in answering this question, then just tell yourself, "Less is more."
And if you're having trouble understanding the basic trend of a chart, just squint your eyes a bit and check whether the dark blotches are moving up or down. There's your trend!
Let's look at some reader picks.
A reader asked me about
, noting that the relative strength index (RSI) was starting to positively diverge from the downtrend in price by making higher lows. As you look at the chart, you'll see that RSI is indeed forming higher lows. However, RSI is an indicator of trend strength. When I look for signs that a trend is weakening, I look at the opposite side of RSI. During downtrends in price, I focus more on what the
in the RSI are doing, and less on the
in RSI. Why? Because I want to see how strong the buyers are, and the peaks reveal buying strength much better than the troughs.
With that said, we can see that RSI is still on the decline -- if only barely. But I am not seeing a positive divergence in the RSI peaks. Boeing has been moving higher for so long that it's tough to get used to seeing the stock weak. But the recent break below $77.50 marks the continuation of the downtrend. Until the stock starts making higher highs, I'd steer clear.
A reader asked for an update on my prior analysis of
. When I last looked at Sears, I noted that the stock was likely to test the March breakout down around $120 -- that's $20 below current levels! That might seem like quite a drop, but it's really not so much after all. To put things in perspective, let's divide by 10. Now, we're looking at a $14.24 stock that could fall down to test $12.00 or so. How often do we see that happen?
I don't see anything that gives me a reason to change my tune. The stock is firming up at present levels, but it's probably going to require some patience to hold shares. With earnings out of the way, I just don't see any catalyst that's ready to push the stock of this good company higher.
A reader with whom I correspond on a regular basis has been chatting with me about
Accredited Home Lenders Holding
. He is still short -- as he has been from much higher levels. Yesterday's close fell below $32.50 -- a key support level. I can't find a reason to cover this short. LEND is a nonprime mortgage lender, and that's no business to be in right now. Now, if the company specialized in foreclosures ...
is close to breaking above resistance. Notice how RSI has continued to make higher lows on each pullback. A push above $33.50 would pave the way for the next leg higher.
Yes, you could call this a potential inverse head-and-shoulders pattern, but there are some fundamental differences between this daily chart and a textbook head-and-shoulders pattern. Most trend reversals begin with a higher high and higher low, and that's what we have here. True head-and-shoulders patterns are quite rare, and this ain't one of 'em.
a couple of weeks ago when the stock was down at $19, noting that the breakout was valid unless it pulled back below $17.50. That never happened, and the bulls are really having their way with this stock. Now, NVEC has a very small float, and about 20% of that float is short. Still wondering why this stock is starting to go vertical?
Be careful out there.
Please note that due to factors including low market capitalization and/or insufficient public float, we consider NVE Corp. and Accredited Home Lenders Holding to be small-cap stocks. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.
At the time of publication, Fitzpatrick was long NVE Corp., though positions may change at any time.
Fitzpatrick is a freelance writer and trading consultant who trades for his own account in Encinitas, Calif. He is a former co-manager of a hedge fund and teaches seminars on technical analysis, options trading and asset-protection strategies for traders and business owners. Fitzpatrick graduated from the McGeorge School of Law and was a fellow at the Pacific Legal Foundation, a nonprofit public interest firm specializing in constitutional law. He also practiced law in the private sector before pursuing trading as a full-time career. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While Fitzpatrick cannot provide investment advice or recommendations, he appreciates your feedback;
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