This column was originally published on RealMoney on June 17 at 8:38 a.m. EDT.
We'll end this week with a simple question from reader D.J.
"Can you discuss churn and whipsaw and its effect on your portfolio?"
First, let's give some definitions. Churn is basically doing a lot of trading with little or no gain in your equity. The problem, of course, is that you're paying commissions on all those trades, so equity slowly gets eaten away.
Whipsaw is when a stock trades down or through your stop, causing you to sell, and then reverses to finish above your stop. Frustrating.
Now, what to do? No one likes churn, and to avoid it, the first step is to ensure that the average dollar gain on your trades is greater than the commissions you've spent. That's obvious to most, of course, so the real key is to make sure you're doing very little trading when the market is moving sideways. That's one reason I like a breakout/breakdown approach. You get very few of those setups in markets like the one we're having now.
Dealing with whipsaws is easier, but it involves trade-offs. The best approach is to simply use mental stops. That is, only if the stock closes at -- vs. trades through -- your stop, you sell. That selling usually comes at the next open, and with longs there's a bit of benefit in that stocks often gap up at 9:30 a.m.
The trade-off is that you will sometimes get a stock that moves through your stop and never comes back. Instead of selling right near your stop, you're stuck with a horrendous loss at the next open.
In general, though, both my testing and trading show it is more profitable over the long run to avoid the whipsaws with mental stops, acknowledging that from time to time you're going to get whacked.
Today, charts for the
Bed Bath & Beyond
Martha Stewart Living Omnimedia
Charts produced by TC2000, which is a registered trademark of
Worden Brothers Inc.
And that is the final word from Pinehurst No. 7, where I know it's going to sound cynical, but there's no way opening leaders Brandt Jobe or Olin Browne are going to win the U.S. Open. I feel bad for them, but they clearly have a round in the 80s in their cards.
Please note that due to factors including low market capitalization and/or insufficient public float, we consider Regeneron Pharmaceuticals to be a small-cap stock. 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.
Gary B. Smith is a freelance writer who trades for his own account from his Maryland home using technical analysis. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks.
Smith writes a daily technical analysis column for RealMoney.com and also produces a daily premium product for TheStreet.com called The Chartman's Top Stocks --
click here for a free two-week trial. While Gary cannot provide investment advice or recommendations, he appreciates your feedback;
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