I am sure many Readers will recognise the sentiment of “missing the Boat” and I regularly see this comment and I am also often asked “How can I justify buying a Stock which is hitting at New All Time Highs?”
In general I think this is a big challenge for New Investors in particular but I also know a lot of experienced Peeps who won’t buy something which is up at New Highs. This might be a Cognitive Error - correction, it definitely is a Cognitive Error !!
For me there are 2 aspects to this puzzle. The first one is that if a Stock is making New All Time Highs (and therefore pushing into ‘Blue Sky Territory’ with no obvious Resistance Levels where Sellers will naturally come in) then it clearly has MOMENTUM. I deliberately have used Caps Lock there because we should all know by now that Stocks which possess Upwards Momo are something we should be looking out for and trying to buy; and on the flipside we really must be avoiding Stocks with Downwards Momentum.
So on that basis it is clear that discounting a Stock from being a Buy just because it is making New All Time Highs is rather silly - in fact, we should be paying it even closer attention and trying to figure out why other People are buying it with such enthusiasm and is there Value still there for us?
Of course, in the immediate Short Term there might be a case for waiting for a Pullback so you can buy in a bit lower but of course this runs the danger of missing out entirely because the Dip never comes (arguably this is a bigger Sin than buying a bit high and having to suffer a Paper Loss on the Trade for a short period of time). One way around this is to go in with a Small Stake - that way you are in the game if it rockets on up but if it eases back you can buy more at the lower price (hey, I actually wrote “better Price” there but then decided “lower” was more appropriate - the higher Price is better if the Stock continues to move up and doesn’t pull back.)
In the case of a ‘Breakout’ of a Horizontal Resistance Level, I would say you should buy straightaway because in such situations it is unlikely you will get the Pullback. In fact, these are often the best times to be buying any Stock and I know much of @stealthsurf’s approach is based on such Breakouts.
This brings me round to the Second point - this is that whenever we look at any Stock we need to separate the concept of Price from Value - I have written many Blogs about this and I have included some links at the bottom of this Blog which Readers can indulge in. A particular previous Blog Series to look at is the one about how to Value a Stock - it has clear relevance to what I am about to scribble.
When a Stock is making New All Time Highs it will very often be the case (mostly to be honest) that the Stock will look quite expensive when viewed in terms of the raw Forward P/E Ratio (Price divided by Earnings for next year - read the Valuation Blogs) and maybe it will be on a Forward P/E of 20 or more -which is usually thought of as steep. There are nuances to this though that are particularly relevant when looking at a Stock with strong Upwards Momentum - it is all about the Growth Rate. This is where the PEG Ratio comes in (Price/Earnings Ratio divided by the Growth Rate of Profits in % terms) - ideally this should be below 1.0 in which case the Stock could be cheap.
It could also be that the Stock has a huge Cash Pile and when you run the raw numbers for the P/E and the PEG it seems a bit expensive - but when you strip out the Cash from the ‘Price’ side of the equation you find that the actual P/E (and therefore the PEG) is in reality a lot lower.
Another scenario is where you have a Stock with a history of under promising and over delivering - such as Fevertree FEVR which despite Forecasts of very fast growth actually smashed these Expectations and this meant that an already expensive looking Stock was actually a lot cheaper than people thought. These situations are difficult to spot though and you need to be really all over the Business to understand what is going on. Willingness to accept some ‘Valuation Risk’ here is also useful - although in such a case simple Risk Management approaches like having a relatively smaller stake or perhaps a Stoploss might be wise.
Another much more simple one and something to look out for is on recent IPOs - one that springs to mind is XL Media XLM which is by the simple fact of never being listed before able to just rise a bit and be making New All Time Highs - there is no history so it is all Blue Sky. The beauty with this one (I was telling Readers about it 2 years ago and I am so stupid that I haven’t bought it myself !!) is that not only has it been on a Forward P/E of about 10 with Growth near 30% (so a PEG Ratio of 0.33) but it also has a Cash Pile so it is arguably even cheaper.
In summary, don’t just be lazy and rule out a Stock “because it has run away and is making New Highs and I have missed the Boat” - you might not have done and you need to do the hard yards and get measuring the Business. Yes, sometimes a Stock making a New All Time High is overvalued and is best avoided - but very often this is not the case and you are missing out on a Great Stock with really strong upwards momentum.
Price vs. Value - this Part 2 contains a link to Part 1:
How to value Stocks - this is Part 4 and if you scroll down it has links to the first 3 bits:
Analysing the analysts:
Momentum - I thought I had done a specific blog on Momo but clearly I have not (a future WheelieBlog perhaps?), but this Series on Targets starts off on exactly that subject. By the way, I found it by using the ‘Search’ box on the Website and just typing in “Momentum momo” and it came up - so the Search box does work quite well but I do find it is a bit rubbish on my Fone sometimes:
Welcome to my Educational Blog Page - I have another 'Stocks & Markets' Blog Page which you can access via a Button on the top of the Homepage.
Please see the Full Range of Book Ideas in Wheelie's Bookshop.