No pain, no gain

TO MAKE a profit under the current market situation, I’ve been advocating the strategy of day and/or swing trading.

Day trading, as it implies, is buying and selling on the same day. The process may not strictly proceed in that order. One can sell first and then buy later to cover the short sale before the end of the trading day. Either way, it culminates into a complete trade that would spell out either a profit or loss.

Swing trading takes a longer time. It can take as long as four days or one trading week, as commonly practiced. Usually, the transaction process begins in buying.

Under our current trading rules, short selling is still not allowed. The only exception is when you are able to borrow shares to cover for the short sale. The borrowing of shares, however, must still have to go through some processes of prior approvals.

Market filters or screens as they are interchangeably called are simple, practical and rewarding tools for investing in the market. They primarily help you wade through the large number of stocks and find one that may lead to a rewarding trade.

Samples of market filters are readily found in stock market magazines and publications. These market filters can be designed to guide you in the selection of a stock in each segment of the market.

For instance, a different market filter may be used to spot bank stocks and another may be used to pick property or industrial stocks and so on. Nonetheless, a market filter must essentially be able to help you spot and screen stocks and their emerging stock play.

In this connection, technical analysis tools can supplement market filters to help you find stocks with potential market plays.

One instrument is the moving average. Depending on your objectives, you can readily find and identify stocks that are trading above their 60-, 90-, 120-, 180- or 200-day moving average. For day and/or swing trading, a moving average with a shorter time frame is used as filter.

Common criteria

As a start, stocks are categorized according to their market capitalizations. Market capitalization is the value of a company’s outstanding shares.

Outstanding shares refer to the number of stocks that a company has actually issued for private ownership. It is different from a company’s authorized shares, which basically represent the total number of shares a company has been allowed to issue. Moreover, the latter include shares that have not been issued yet.

A company’s market capitalization is derived by multiplying the company’s stock market price with the total number of shares outstanding. For example, if Company X is trading at P150 per share and has a total of 10 million outstanding shares, its market capitalization is P1.5 billion.

The significance of market capitalization, or “cap” as it is used in market parlance, is that it gives a gauge not only of a company’s size and riskiness but most important of all, the company’s true value.

Investment principles state that a company’s stock price may misrepresent a company’s actual worth. For instance, a company may have a higher stock price than another in the same industry. Because of its higher stock price, it gives the impression that it may be worth more.

However, when you calculate its market capitalization, you may find it much less than the other. To put it simply, the latter is worth more because it has a higher cap.

The other use of market capitalization is to help you understand the business size of a target company—whether it is small, medium or large. Usually, small cap companies are very risky, while medium and large cap companies are more stable and reliable.

Knowledge on the market capitalization will lead you straight to the type and size of the company you wish to invest in.

Next is the volume of shares and size of a stock’s total value turnover. Not every stock that has trading volume and price sizzles in one day is worth playing with.

A stock play must have a certain consistent level of trading volume and amount of value turnover that should allow you to enter and exit your trades with ease. This is referred to as “acceptable level of liquidity.”

A consistent level of liquidity can save you from the horrible pain of being stuck in a stock because you cannot sell when you must.

For retail investors, the middle range of the value turnover level for the market’s 30 most actively traded stocks may suffice. Lower than said range could be a problem.

Remember, it’s in the exit where you make money. When this cannot be done because there is not enough volume and amount of money to absorb your selling transaction, you cannot take your profits. Worse, you get stuck with your play money or capital.

Another complementary filter is the price earnings multiple or P/E ratio, a simple fundamental analysis tool to help you find good buys or bargains.

Again, a stock’s attractiveness based on the P/E ratio may vary from one segment of the market to another. To start with, the industry’s average can serve as a starting filter to use. This will have to be further refined by another filter that is more relevant to the stock’s market performance record.

There are stocks that have a higher historical P/E ratio record than others in the same industry.

A classic example is Ayala Land Inc. (ALI) as compared to other listed property stocks. Sheer P/E ratio pricing will prevent you from trading its stocks. But when you are aware of its historical market performance, its comparative P/E ratio will not hinder you from trading at all.

Bottom line spin

There are many other market filters. While they can be useful as references for trading exits, most are best suited as indicators for timing market entries.

The use of an additional mechanical filter for exits may not only be helpful but efficient. One such filter is the concept of the trailing-stop.

Often, we are overwhelmed by our emotions that we are sometimes “tempted to ride the tide a little longer” either for reasons of trying to make more profit or to wait until losses are reversed. Either way, these considerations stifle our better judgment and ability to act appropriately which, in the end, often proves bad.

The trailing-stop method may not lead you to optimal ex- its, but they are more scientific and “ensures acceptable profits while guarding against unacceptable losses.” They also make you more disciplined.

Under current circumstances, the market has been moving within a trading band of three to eight percent, either upwards or downwards. As such, they can be used as minimum references.

Depending on unfolding developments, they will be adjusted continually. This way, you will know your exact minimum profits or losses too.

As simple as they are, they entail some hard work and sacrifice. But as what has been repeatedly said, “no pain, no gain.”

(The writer is a licensed stockbroker of Eagle Equities, Inc. You may reach the Market Rider at marketrider@inquirer.com.ph, densomera@msn.com or at www.kapitaltek.com)