You Don't Have To Be A Market Timer To Beat The Market
So, the bear market in the Nasdaq has finally come to an end. And a new bull market has begun.
The same is true for the small-cap Russell 2000 index as well.
Just like a -20% decline from the highest close marks the end of a bull market and the beginning of a bear market, a 20% increase from the lowest close marks the end of a bear market and the beginning of a bull market.
From their lowest close in June, the Nasdaq has rallied 23.3% while the Russell has rallied 22.5%.
The S&P has not yet exited their bear market. But they did gain an impressive 17.2% since their June lows.
The Dow never entered a bear market, just a correction. But they too have seen an impressive rebound gaining 13.3% since their lows were put in.
There’s still plenty of work to be done as the Dow is still down -7.85% from their highest close, the S&P is down -10.4%, the Nasdaq is down by -18.2%, and the Russell is down by -17.3%.
But it’s been a spectacular rally so far.
And it looks like the worst is behind us.
Unfortunately, too many people missed this rally.
In June, as stocks were hitting their worst levels, that’s when the pundits were at their loudest, telling everyone to sell their stocks. Right at the bottom.
Had you sold, you’d be down at least -23.6% (that was when the S&P put in its lowest close on June 16th.) I say ‘at least’ because many stocks fell far more than that.
And you also would’ve missed out on the double-digit gains that we’ve seen since then.
It’s a classic mistake too many traders and investors make.
But it doesn’t have to be that way.
And if you found yourself selling at the lows, or worse, shorting at the lows, you can correct that mistake.
Losing Less When The Market Goes Down
Of course, selling at the lows is just as much in hindsight as buying at the lows, because you don’t know they are the lows until after the fact.
Same goes for selling at the highs. Nobody does that except by accident.
And that’s one of the best arguments for not trying to time the market.
Even if you did accidentally get out at just the right time, you’ll need to hope lightning strikes twice, because you’ll then need to figure out where to get back in.
Anything short of perfect timing and you risk missing out on one of the biggest parts of a market’s rebound, because a large portion of a new bull market comes at the very beginning of the move.
Of course, while the market is falling, that’s probably the least of your worries.
But getting ‘all out’ in one fell swoop is not the answer.
Although, that doesn’t mean you are powerless to do anything in the market when things start heading south.
The best course of action is to cut your losses and to keep them small.
For me, I typically get rid of a stock once it’s down -10%.
Why ten percent? Because if I lose -10% on a trade, I only need to make a little bit more than 10% (11.1%) on my next trade to get that money back.
But if you lost -20% on a trade, you’ll need a 25% gain to get that money back. At -30%, you’ll need to make 43%. And if you lose -50% on a trade, you’ll need a 100% gain on your next trade just to break even.
In the first half of this year, there were over 1,690 companies down by -50% or more.
That’s why I like to keep my losses small.
So, I’ll typically sell if a stock falls -10% below my purchase price. And I’ll oftentimes open that up to a -15% to -20% pullback from their highs if I have a large profit.
As the market falls, you’ll find yourself losing less and less money.
This is how you can mitigate your losses, and lock in profits, when the market starts going against you.
More . . .
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Foolproof Way Of Getting In At The Right Time
Another benefit of cutting losses short, is that it can help you stay focused on finding top stocks.
Mounting losses will not only crowd out new opportunities for better stocks, but it will also make you gun shy on future trades.
By the way, once you get out of a stock, that doesn’t mean you can’t ever get back in. Of course you can. But don’t get back in the moment it goes one tick above where you got out. Make it prove itself first. And make sure it meets all of your buy requirements in order to do so.
But whether it’s a bull market, or a bear market, you should always be scanning for new stocks to get into.
When the market is falling, and economic conditions weaken, there will be fewer stocks making the grade. That’s just the way it is.
But there will always be stocks rising to the top. And savvy investors who diligently stay engaged in the market, even when times are tougher, will find those gems when others have given up.
And since you are doing this regularly, you won’t miss out when the market turns around.
In hindsight, we now know the market bottomed on June 16th. That was not obvious one day later on June 17th. Nor was that obvious a week later. But as time went by and the market rallied off its lows, it became more and more obvious that we just saw the bottom, at least for the short-term.
And if you are always scanning for new stocks with a high probability of success, you will inevitably find yourself in some spectacular picks at precisely the right time.
Between the low close on June 16th and the end of July, there were 4,303 stocks up by 10% or more, 1,730 stocks up by 20% or more, and 349 stocks up by 50% or more.
Imagine cutting your losses at -10% and exchanging many of them for winners of 10%, 20%, 50% or greater.
Of course, they won’t all be winners. Especially if you’re still picking stocks as the broader market is falling. You may get into a new stock that goes down. But that’s OK, because you’re getting out if it goes down -10%.
But plenty will be winners.
Even when the market was falling, there were hundreds of stocks up 10%, 20%, even 50% or more.
And there’s nothing magical about that either. Simply by cutting your losses short, and consistently looking for new stocks to get into, you’ll find yourself in winners like that.
Increasing Your Odds Of Success
That’s not to say picking winning stocks doesn’t require skill. Because it does.
If you keep looking at the wrong things to pick stocks with, you’ll rarely if ever get into the winners.
But picking winning stocks is easier than you think.
For example, did you know that stocks with a Zacks Rank #1 Strong Buy have beaten the market in 28 of the last 34 years with an average annual return of 25% per year? That's more than 2 x the S&P with an annual win ratio of more than 82%.
That includes 3 bear markets and 4 recessions.
And did you know that stocks in the top 50% of Zacks Ranked Industries outperform those in the bottom 50% by a factor of 2 to 1? There's a reason why they say that half of a stock's price movement can be attributed to the group that it's in. Because it's true!
Those two things will give any investor a huge probability of success and put you well on your way to beating the market.
But you’re not there yet, as those two items alone will only narrow down a field of 10,000 stocks to the top 100 or so. Way too many to trade at once.
So, the next step is to get that list down to the best 5-10 stocks that you can buy.
Proven Profitable Strategies
Picking the best stocks is a lot easier when there’s a proven, profitable method to do it.
And by concentrating on what has proven to work in the past, you’ll have a better idea as to what your probability of success will be now and in the future.
For example, if your strategy did nothing but lose money year after year, trade after trade, over and over again, there’s no way you'd want to use that strategy to pick stocks with. Why? Because it's proven to pick bad stocks.
On the other hand, if your strategy did great year after year, trade after trade, over and over again, you'd of course want to use that strategy to pick stocks with. Why? Because it's proven to pick winning stocks.
Of course, this won't preclude you from ever having another losing trade. But if your stock picking strategy picks winners more often than losers, you can feel confident that your next trade will have a high probability of success.
Here are a few of my favorite strategies that have regularly crushed the market year after year.
New Highs: Studies have shown that stocks making new highs have a tendency of making even higher highs. And this strategy proves it. The alignment of positive price action and strong fundamentals creates all the necessary conditions to see these stocks soar to even greater heights. Over the last 22 years (2000 through 2021), using a 1-week rebalance, the average annual return has been 43.2% vs. the S&P’s 7.5%, which is 5.7 x the market.
Small-Cap Growth: Small-caps have historically outperformed the market time and time again. Often these are newer companies in the early part of their growth cycle, which is when they grow the fastest. This strategy combines the aggressive growth of small-caps with our special blend of growth and valuation metrics for explosive returns. Over the last 22 years (2000 through 2021), using a 1-week rebalance, the average annual return has been 50.4%, beating the market by 6.7 x the returns.
Filtered Zacks Rank 5: This strategy leverages the Zacks Rank #1 Strong Buys, and adds two time-tested filters to narrow the list of stocks down to five high probability picks each week. Over the last 22 years (2000 through 2021), using a 1-week rebalance, the average annual return has been 51.2%, which is 6.8 x the market.
The best part about these strategies (aside from the returns) is that all of the testing and hard work has already been done. There’s no guesswork involved. Just point and click and start getting into better stocks on your very next trade.
Where To Start
There’s a simple way to add a big performance advantage for your stock-picking success. It's called the Zacks Method for Trading: Home Study Course.
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You'll quickly see how to get the most out of the proven system that has more than doubled the market for over three decades. Discover what kind of trader you are, how to find stocks with the highest probability of success, and how to trade them so you can consistently beat the market no matter where stock prices are headed.
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The best of these strategies produced gains up to +48.2%, +67.6% and even +95.3% in 2021.¹
The course will also help you create and test your own stock-picking strategies.
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Thanks and good trading,
Zacks Executive VP Kevin Matras is responsible for all of our trading and investing services. He developed many of our most powerful market-beating strategies and directs the Zacks Method for Trading: Home Study Course.
¹ The results listed above are not (or may not be) representative of the performance of all strategies developed by Zacks Investment Research.
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