Five Ways to Increase Your Profits and Reduce Your Risk
The Market Today
One Strong Chip Stock
---
Long experience has taught me that the number-one thing subscribers want from Cabot is stock tips. They want the name of the next Apple (AAPL), the next Netflix (NFLX), the next Amazon (AMZN).
But what I’ve discovered is that many people, even when presented the right stocks, don’t know how to handle those stock tips properly. What these investors really need is a good set of rules, combined with the discipline to follow them.
So today it’s back to basics, with five ways to increase your profits and reduce your risk.
1. Avoid Low-Priced Stocks.
Too many investors reason faultily that low-priced stocks offer greater potential for advancement than high-priced stocks. They believe—wrongly—that it’s easier for a $2 stock to double than a $20 stock or a $200 stock.
The truth, however, is that price is no impediment to a stock’s progress. Any stock can double if management makes the right moves and investors’ opinion of the company improves. But when a person buys a low-priced stock, particularly one with low trading volume, what he buys is higher risk. Risk is higher because these stocks are unproven. Institutions are not supporting these stocks. And increased risk is the last thing beginning investors need.
2. Don’t Avoid High-Priced Stocks.
Still, many amateurs ignore high-priced stocks. One reason for that is that they want to own a large round number of shares, like fifty, a hundred or a thousand. So if I recommend Amazon (AMZN), currently trading at around $650, they reply, “Don’t you have something more reasonably priced?”
Instead, they should recognize that high-priced stocks get that way by being successful, and that there’s nothing wrong with buying just a few shares of such a stock. In fact, I’d much rather own two shares of Amazon at $650 than 650 shares of any stock trading at two dollars.
3. When Investing in Growth Stocks, Watch the Charts.
Everyone likes a good story, but savvy growth stock investors require their stocks to also be in confirmed uptrends. That’s the proof that other investors like the stocks, too, and are increasing their opinion of their future prospects.
The first thing I do when I hear a growth stock recommended is look at its chart. If it’s not going up, I’m not interested. Sure, if the story is good, I might put it on my watch list, but I know my odds of success are much better when I invest in stocks that are already in uptrends—like Facebook (FB) today.
4. When Investing in Value Stocks, Watch the Value
Again, a good story can be attractive. Today, for example, I could argue that certain oil stocks or solar power stocks have been oversold. But unless I see the valuation explained with clear, cold numbers (the way Roy Ward does in Cabot Benjamin Graham Value Investor), I’m not interested.
5. Diversify—But Don’t Overdo It.
This is the oldest rule in the book, and there’s a reason for it. Nothing is certain. Even the best companies and stocks can be brought down by unexpected events—just like energy stocks were over the past 15 months.
I recommend diversifying across stocks, of course; across industries, so you’re not overly concentrated in any one sector; and across time, which means not jumping into a group of stocks on the same day.
But how many stocks should you own? Many experienced investors often hold 20 or 30 stocks, though I’ve noticed many of those people often have a number of “dead” stocks in their portfolios. I like to own between five and 10 stocks—and to keep a close eye on every one of them. That’s concentrated diversification.
Note: if you’d like a closer look at my style of portfolio management, Cabot Stock of the Month provides a nice window. At present, I have positions in seven stocks. All are profitable. The average profit is 101%. You can find more details here.
---
Moving on to the market, late last week saw such heavy selling that our intermediate-term market-timing indicator is back on the fence. This doesn’t mean the market is headed down from here, but it does mean that the broad market’s April-May top still stands.
It means that breadth is increasingly troubling.
And it means that it’s getting harder and harder to make money.
Which means that if you’re still trying to make money this year (I am!) that you’ve got to be selective. And that’s what Cabot is all about!
One recent recommendation from Cabot Top Ten Trader looks like this.
Remember what I said above about charts being so important to growth-oriented investors?
This chart tells me investors are still piling into this stock!
It shows a healthy uptrend in September and October, as the market rebounded from its August 24 selloff.
It shows a high-volume breakout in early November, as the company’s excellent earnings report sparked a wave of new buying.
And it shows a normal pullback since, right down to support at 30, which marks the top of that earnings gap.
Technically, it’s a very high-potential chart, and I recommend buying here.
And fundamentally?
I can tell you that the company is in the semiconductor business, and that it’s doing very well in video games and automobiles—including navigation systems.
I can tell you the company is very well managed; it’s posted positive earnings every year of the past decade.
I can tell you that after-tax profit margins are very healthy, at 19.5%.
And I can tell you that analysts are looking for 27% earnings growth in 2017 (likely conservative in my view).
But what I can’t tell you is the company’s name. To get that you need to take a closer look at Cabot Top Ten Trader, which every Monday steers you to 10 hot stocks with great potential to soar in the weeks ahead.
Yours in pursuit of wisdom and wealth,
Timothy Lutts
Chief Analyst, Cabot Stock of the Month
Publisher, Cabot Wealth Advisory
