Looking for Sector and Company Trends

The Smart Profits Report: Issue #319
Monday, June 19, 2006

Looking for Sector and Company Trends: Profiting From the “Templeton Tactic”
By Dean Albrecht
Advisory Panelist, Mt. Vernon Research

The period immediately before you take a position in a stock or option can be one of the most apprehensive times you’ll face as an investor.

The question that runs through most minds is: “How do I know this investment is going to pay off?”

Well, as any seasoned investor will tell you, the short answer to that question is that it’s impossible to predict what’s going to happen. There are no guarantees - not in a volatile market, where the climate can change without warning and for no reason.

But there are steps you can take to make the process go smoother and avoid some sleepless nights. And the process all starts before a potential investment even pops up on my radar screen, when I first look for sector and company trends.

Conservative or Speculative? Appreciation or Income?

You first need to identify what you’re looking for from the underlying stocks in which you have options positions. Are you looking for growth or value? Solid capital appreciation over several years, or a conservative, income-based stock that pays a decent dividend? Perhaps you can afford more risk and want to go for a speculative small-cap?

Personally, I look for an investment that provides solid growth at a reasonable price. And unlike many investors who immediately shun a sinking stock, I also look to buy good companies on a growth pullback.

There are two ways to look at the overall market climate:

When the market is trending up over the short term, you want to be invested, because the bullishness is likely to spill over (or as the adage goes, “a rising tide lifts all boats”), and if you make a short-term error in your actual investment, there’s a good chance the market will bail you out.
When the market is trending downward, the usual reaction is to short it, or buy puts. This can often pay dividends, if only because of investor behavior. Sometimes all it takes is a little negativity and the “investment herd” panics and blindly follows everyone toward the exit.

But be careful. If the situation reverses and the market (and your investment) heads back up, you need a decent tolerance for risk, patience and courage in your convictions to wait it out.

Or you could take the Templeton approach…

Turning $10,000 Into $40,000… In Four Years

Sir John Templeton is one of the most renowned investors - a man who once famously placed his bets without really paying too much attention to overall market direction.

Back in 1939, he simply formulated an idea, did his homework and borrowed $10,000 from his boss to buy the 100 cheapest, most undervalued stocks that he thought represented incredible value. Many of the companies were trading under $1 and/or were close to bankruptcy.

But by employing an astute macroeconomic view (remember, this was the start of World War II, when American patriotic spirit was at its highest) and the “rising tides lifts all boats” theory, he cashed out on all the stocks within four years and pocketed $40,000 in profits.

At the onset of the dotcom crash in 2000, Templeton also spotted the top 100 overvalued stocks that were in the most trouble and shorted them. He took profits between 50% and 75%.

Keep It Simple: Looking for Sector and Company Trends

However, not everyone can have the same success as Templeton did.

With options, the key to maximizing profits is searching for the right trends in the underlying securities/companies and their sectors.

Take Apple Computer (Nasdaq: AAPL), for example. The company is benefitting from a surge in the lucrative online music sector and trending upward. With that, it makes sense to go long, even on a pullback. After a remarkable run, the stock then expectedly retreated, but continued to feed off strong sector momentum and moved back up.

The same occurred with Research In Motion (Nasdaq: RIMM). At the height of its problems in court over the Blackberry patent, I analyzed all the sector and company fundamentals and sent out a bullish alert. That, coupled with the trend on my stock analysis system, told me that this was a company primed for a move.

Despite RIMM temporarily edging down, true to form, the system proved right and the stock jolted up by $20 over the next couple of months.

Remember that the market primarily moves on two simple - but very powerful -emotions: Fear and greed. So, first identify what kind of investor you are and what you’re looking for from your investments. Then use that investor sentiment and any underlying market/stock trends to your advantage.

Good Trading,

Dean

Today’s Smart Profits Cribsheet

Timing your investments properly is one of the most critical elements to successful trading. So if you want to maximize your options profits, you’ll need Mt. Vernon Research Chairman Karim Rahemtulla’s essential four-step guide in Smart Profits #104.