Use Volume to Find Winners

Check out the recent action in Baidu, for example.
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This column was originally published on RealMoney on Nov. 14 at 3:06 p.m. EST. It's being republished as a bonus for TheStreet.com readers.

Smart investors know to use volume to find stocks with sustainable rallies. Here's a situation from which savvy investors can both learn and profit.

In investing, a rising tide lifts all boats. The pristine health of the overall market and indices has been hard to ignore, and each day I see a long list of stocks hitting 52-week highs. But not all new highs are created equal when the overall market is pushing so many names higher.

I'm a big believer in looking for price advances on above-average volume when trying to make picks in a market where so many stocks are acting well.

One that holds up under closer scrutiny is

Baidu

(BIDU) - Get Report

. I mentioned this Chinese Internet search play

a few weeks ago, when it was trading in the mid-$90s. Its shares sold off after a positive earnings surprise but slightly weak revenue number on Oct. 31, and it floundered in the mid-$80 range.

Yesterday, however, Baidu's stock demonstrated that the selloff was a short-term overreaction. Shares climbed to $103.25 on volume of 5.8 million. This is about triple the average daily volume for the past three months of just under 1.9 million shares, according to Capital IQ.

Compare this to the action in another company that I like,

Palomar Medical

(PMTI)

. Shares of this manufacturer of light-based treatments for medical and cosmetic applications have shown strength since reporting earnings in late October, but have yet to convince me that the rally can last.

Yesterday, Palomar briefly hit a 52-week high of $51.18 on volume of 550,200. Palomar's average daily volume is 400,000, indicating that yesterday's "breakout" happened on about 38% higher-than-usual trading. I'm convinced that Palomar is simply trading a little bit ahead of the overall market, in part due to its leverage to discretionary spending, which includes things like laser hair removal and other cosmetic procedures.

I believe Baidu has significant long-term potential (combined with above-average risks and volatility), but the action in the stock indicates higher prices sooner rather than later. Speculators looking for a stock that could eventually double or triple would be wise to move out of

Google

(GOOG) - Get Report

and into Baidu. I like Google, but I don't see shares doubling in the next two years due to the already-high expectations on the stock.

In keeping with TSC's editorial policy, Larsen Kusick doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships.

Kusick is a research associate at TheStreet.com, where he works closely with Jim Cramer and works on TheStreet.com Stocks Under $10. Prior to joining TheStreet.com, he worked in options trading and management consulting. He appreciates your feedback;

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