When I was a senior in college, my roommate and I thought we could get rich by trading penny stocks.
It was 2014, the middle of the biotech boom, and there was a ton of speculation going on with hundreds of penny stocks. These were tiny biotech companies supposedly about to release the next big drug.
Internet message boards were exploding with new information on what to buy next. And, of course, the most popular stocks were the ones that were down about 90%.
They had to pop at some point, right? We found out that they didn’t. The hard way. Luckily, I didn’t have a mortgage at the time.
Of course, some of the stocks did rebound, but that was not the norm. And that’s the very nature of the market. It may sound too simple, but it’s been proven that stocks that are currently going up have the best chance of continuing to go up in the near future.
A Very Profitable Strategy
I know, that contradicts the entire “buy low, sell high” mantra that many investors and traders swear by. But keep in mind that what’s high now could end up being low in a year, or even a month.
History tells us that buying stocks at their 52-week highs is a very profitable strategy, much better than buying stocks at their 52-week lows. And it makes sense. If you think about it, why would anyone buy something that’s going down, putting yourself against the market?
There’s another mantra, “Don’t catch a falling knife,” which means don’t try and figure out the right time to buy into a falling stock. There’s much more truth to that one.
Even better is if a stock is making a new 52-week high after a big dip. If a stock has not made a new 52-week high for a long time, and then does, it means that not only have investors started to buy the stock, there’s actually more positive sentiment than there was before.
It’s a circular thought process. People see that a stock is good, so they buy it, causing it to go to a new high. Then, because it’s reached that new high, even more people buy into it.
The Best Time to Invest
There are quite a few examples of this happening in 2017. One such stock is Netflix Inc. (Nasdaq: NFLX).
After rallying for years, Netflix cooled off in 2016 and did not make a single 52-week high. But as soon as 2017 hit, it made its first 52-week high in about a year and a half.
Some people would have sold there, following the “sell high” mindset. But if you bought there, you would have made a 28% gain in just five months.
Another example is Vertex Pharmaceuticals Inc. (Nasdaq: VRTX). The stock was on fire for years. Obviously, a lot of people thought it was a good investment. And then it fell about 50% from mid-2015 into 2016.
The stock was over $140 per share in July 2015; by March 2016, it was down to $85. Having the “buy low” mentality would have meant people bought in around that level, assuming they were patient enough to wait that long.
Watching a $140 stock drop below $100 is not easy to wait through if you are in a buying mindset. But if you had bought there, you would have lost another 15%, as the stock dropped to $72 by December.
Then, this past March, the stock rallied to new 52-week highs. A lot of people would have sold there, following the “sell high” mindset. But if you had bought there, you would have made a 55% gain in just three months.
This has actually happened 161 times this year, and most people ignore new highs because they are afraid to buy into a rally. But remember that the best time to invest is when you have the market on your side. Of those 161 rallies, you would have made money with this strategy about 76% of the time.
In the Midst of a Market Crash
So now you’re probably wondering how to use this strategy. The most recent rally that I’ve seen is in Monster Beverage Corp. (Nasdaq: MNST).
After a 14-month drought, MNST finally made a new 52-week high on August 22, closing at $55.38 per share. Based on history, we should see this stock continue to rally for weeks or even months to come.
But what about when the market is falling? There is a lot of bearish sentiment out there these days.
That’s why I recommend using a stop-loss any time you do this. Because when all stocks are falling, it’s better to be stopped out with a small loss than ride the wave to the bottom.
Keep in mind that when stocks are falling, you won’t get into any 52-week highs because there won’t be any. But even in the midst of a market crash, this strategy can be highly profitable.
There are funds called inverse ETFs (exchange-traded funds) that do the opposite of the market. So, when the market is down, these inverse ETFs rally.
For example, you would have gotten into the ProShares Short S&P 500 ETF (NYSE: SH) on July 7, 2008, at about $140. By late November, after the stock market had crashed, the price was over $200, and you’d be up 40% while everyone else was down 40%.
So, while the idea “buy low, sell high” sounds good, it pays to wait for a stock to gain some momentum before you invest in it.
It’s much easier to ride the market’s opinion of stocks than try and go against it by buying stocks that have been beaten down. This is a strategy that will work in any market, and is sure to deliver consistent gains.
Regards,
Ian Dyer
Internal Analyst, Banyan Hill Publishing
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