This is a million dollar question (or it certainly is for some of the largest investors of the land, for this is what they win or lose if they get the timing wrong). In an earlier article I discussed the distinction between trading and investing. There is one place in which they can overlap and this is on the actual timing of the buy-in to an equity. I mentioned that investors act like a herd and tend to follow a price up and then follow it down again. The best investors will see what is happening and will buy in near the bottom of the rise, and then sell out near the top of the fall. It is not really possible to catch the genuine highs and lows, but there are signals which can give a clue as to what is happening.
The market basically moves in only three ways.
trends (up or down)
break outs (up or down)
sideways moves (with many smaller ups and downs during the move)
The secret for the trader is to work out what is happening at any one time and the look to buy in before a break out upwards, or sell before a break out downwards.
For a buy and hold investor, the rises and falls in a sideways market are of no consequence, but buying in just before a break out downwards would not be a good idea.
So what are these signals and are they reliable?
Well, there are many – but the most reliable and easiest to make money on are what are called flag patterns. These flag patterns are essentially when the chart (displayed in daily candlestick mode) represents a rising flag pole (a few days of rising price with good volume) followed by a small consolidation down which could be seen as the flag itself (a few days of falling price, but only small and not the size of the flag pole). If this flag is accompanied by a fall in volume then it is signalling that the market is actually taking a small breather, but that sentiment for the retrace is not there. In fact, the likelihood is for another break out to the upside.
The reverse of this would be true if the flag-pole was formed of a few days of falling price and the flag was a few days of rising consolidation with decreased volume. The trader would then anticipate a potential break out to the downside. The first example is described therefore as a bull flag and the latter a bear flag. They don’t always break out. A failed flag is called a rounded top (or bottom). The secret for making money is to buy in (or sell out) once the market has made its move. Watch for the break out and then get in (or out). Many investors are unaware of the signals. They see the stock has made a few days rise (the flag pole) and then see a few days retrace and get twitchy about losing profit – so sell out. The big rise then happens and they are now out of the stock – too late to get back in.
So – watch out for flags – they can make you a lot of money, and missing them can be costly.
PS. Remember that with all investment, but particularly stocks and shares, you can lose money and may not get back what you invested. If in doubt seek financial advice from an independent financial advisor.
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