Learning how to pick the best stocks to buy can be a daunting process even for those who have been trading for some time, but this need not be the case, and the first question we need to ask ourselves is ” why are we buying ?” An investor looking to buy and hold for 5-10 years, would have very different buying criteria to a short term day trader or an equity option writer, so before rushing in to buy our stocks, we need to have a very clear idea of our goals and objectives for the stocks we are proposing to buy. For the remainder of this article I have assumed we are looking at stocks for a long term buy and hold strategy for investment.
There are of course, many companies offering “black box” solutions, get rich quick schemes, and software that will give you precise buy and sell signals. Whilst some of these systems may work some of the time, over longer periods they eventually fail, as the markets are essentially driven by factors other than statistical analysis of historic data.The fact that something has occurred in a particular way in the past, is no guarantee that it will behave that way in the future – it this were the case there would be many rich investors around the world!
As a full time technical trader myself, I have found over the years that the simpler the system the better, and virtually all the information I use is freely available on the internet. All that is required is some effort, hard work and lots of practice. The process I use to identify good stocks to buy is largely a technical approach, but also incudes elements of fundamental analysis at the macro level The process if fully explained on my site, but the principles are as follows.
The first step is to consider the economy of the country where you are investing, as some stocks and sectors perform better in recession, than in expansion, and vica versa. As an example, utility stocks generally perform well in early recession as the professional money is looking for safe stocks with guaranteed income streams. Having done this the next stage is to look at the main indices of the country and to establish a long term view from the charts. In the US this would be the S & P 500 or the Dow 30, and in the UK the FTSE 100, 250 or 350. We then start to drill down into the sectors, looking at those that are performing well, and those that are doing badly – clearly we want to look for stocks in sectors that are doing well and in a long term uptrend.
Now we start to look at the charts of stocks in these sectors to identify those performing well and in long term up trends. The only indicators I use as this stage are volume, and simple moving averages. We are looking for any odd volume patterns, analysing candle formations, looking for support and resistance levels, and any signs of a breakout. Having identified some possible prospects, we then filter these on a daily basis looking for a 2% increase in price on the day for stocks within our watch list. This highlights target stocks that are active. Before buying we would then look at possible earnings dates, dividend dates, directors dealings, and any other details that may give us clues or warning signals which we should be aware of before placing the buy order. Finally when placing our order we always have a stop loss in place in case the price trend reverses suddenly. Overall we are looking to have a balanced portfolio of stocks in a variety of sectors – we don’t want all our eggs in one basket!!
