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Stockscores.com Perspectives for the week ending June 10, 2006


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  • In this week's issue:

    The market has a remarkable ability to predict how the economy, industries and individual companies will do in the future. Banks, governments and brokerages could save the millions they spend on economists and financial analysts to make these predictions by simply looking at what the market's opinion is. How do you figure out what the market thinks? Simply by looking at a chart showing historical price movements.

    For example, over the last few weeks I have seen numerous media reports discussing the US housing slowdown. It seems that rising interest rates are having an effect on the confidence of real estate buyers and this is affecting home sales.

    As is often the case, the headlines are far too late for real estate investors to take advantage of. Those who are sitting on a property that they planned to make a short term flip on know that the market has slowed, but knowing that now did not prevent them from paying too much last year when they bought the property.

    Now, consider this comment that I wrote in the August 5, 2005 edition of the Stockscores Perspectives newsletter:

    "After the performance of the home building stocks today, it seems that money is coming out of Real Estate. The upward trend lines of most of the big home building stocks were broken today (check TOL, BZH, KBH) and that is the first sign of a possible trend reversal."

    Here is how the chart of Toll Brothers (NYSE:TOL) looked on that day:



    I have drawn an upward sloping trend line on the chart and circled the day that the trend line was broken with a strong gap down on abnormal volume. This chart pattern set up is a reliable indication that the trend is reversing. It is a graphical picture of a dramatic change in opinion by market participants.

    Good traders anticipate the future, and as a result, the market tends to predict the future. At the time of this breakdown, Toll Brothers was selling lots of houses and the real estate market was hot across America. Today business is not as strong, and here is the chart showing was has happened since August.



    The market predicted what the headlines discuss today.

    Most investors make their decisions on what they hear, see or read in the media. This makes them reactionary instead of predictive investors and sets them up for failure. This week, most of the headlines talked about the strong sell off in stocks leading many investors to sell their holdings out of fear that they would go lower.

    However, the market predicted this sell off almost a month ago when it notched an abnormal price move to the downside, breaking the upward trend line. That was the pro traders selling; today they are buying back stocks from the amateurs.

    I want all of you to be better traders. To do this I want you to stop reading the newspaper, stop listening to the financial news and ignore the reports you get from big brokerage analysts. All you need to do is listen to the market. It shows the opinion of the people who know the most.

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    The Reversal of Fortune Pro Market Scan looks for stocks that have a high Sentiment Stockscore but have suffered an abnormal move to the downside today which brings the Signal Stockscore down. It is good way to find charts of stocks that are in strong, long term upward trends but are breaking their upward trend line. This break of the trend line is a good signal that the buyers may be losing control of the market and the sellers will take over, sending the stock in to a downward trend. Stocks found with this strategy and the right chart pattern are good considerations for short sells or an option strategy that takes advantage of the downward trend.

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    1. RBAK
    The Reversal of Fortune scan did not have too many candidates today but RBAK did come up and has the sort of chart pattern that I like to see. The stock first made a double top, a sign that buyers are losing their enthusiasm and are unable to push the stock to new highs. It then wend down heavily on Friday on higher than normal volume, breaking the upward trend line. The stock has some support at $20.50 and that may help it bounce back in the short term, but I expect that bounce to be relatively short lived and the stock should start to roll over in the weeks to come. This chart set up is wrong if the stock is able to close above long term resistance at $24.50.

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