Stock Picks 1: How to choose the right time to pick stocks

One of the most important skills for a trader or an investor is to be able to have profitable stock picks. Selecting profitable stock picks is certainly both an art and a science (and certainly not an easy thing to do) and that is why many people are not able to do it well. However, it does not mean one is not able to do well consistently. It takes years of practice and monitoring to be good in it.

Before we can do stock picks profitably, we must remember what we have learnt about the nature of the stock market. This is because no matter what stocks picks we have, it will not be profitable if we go against the current condition of the market.

What drives the stock prices up or down? If you have read to my previous post on Stock Market Basics 101 and the stock market timing guide, you will know that the big boys (aka the financial institutions, mutual funds and exchange traded funds) are responsible for the upside and the downside of the market. Now, the interesting thing to note is what they actually do to bring down the market indexes.

Before that, let's understand how the big boys do their stock picks. What they do is that they make their purchases or sales in several large blocks that can last from days to several weeks. This is to prevent the stock price from getting too expensive to buy or too cheap to sell off as people can easily follow their lead if they do it all at once. They will also stock picks from the same sector or industry at once as they seldom purchase a particular stock only. When this happens, you can notice that stocks in a sector start to rise, thus resulting in the laggards rising in sympathy with the group leaders. However, when they do that we retail investors can follow their tracks easily by checking for the volume that accompanies the stock price change. If the volume is higher than average significantly, say 30% or so we can be sure that the financial institutions are behind this. That is why we should always check the volume together with the change in stock prices too determine the reality of the situation.

What actually happens is that some of the big boys will start selling a number of stocks in large amounts (these stocks are usually related by sectors, say the tech sector and so on). When the selling power overwhelms the buying power, the prices of the stocks start to slide as a result. This will result in the the index being unable to rise, in fact it starts to slide as the selling "gravity" starts to act on the indexes. As the indexes go down, this weighs on all other stocks and their prices start to follow south as a result. If there is serious net selling, the drop in the indexes will be accompanied by a rise in volume, especially if the volume is greater than the previous day and greater than average.

The converse is true for a rise in the indexes. When the big boys start to purchase several stocks in large amounts over several weeks, the stocks' prices start to rise and this will lift the indexes. As the indexes go up the other stocks will tend to follow (a rising tide lifts all boats). If the net buying power is strong, there will be a good rise in the indexes followed by good volume.

The first golden question on stock picks is this: How do we differentiate the stocks that have been bought and those whom are lifted by the tide? Check for the rise in price followed by good volume. If the stock rises strongly in above average volume ( minimum 30%) this is one that the financial institutions and mutual funds are targeting and are buying. Note that one day of accumulation will not be enough to state that the big boys are buying. There should be at least two days within a space of a few weeks. Similarly, if we are looking into shorting we should be looking for stocks that are selling off in big volume. This tells us the big boys are doing as such and we should be doing the same too.

Before we get to the first rule of profitable stock picks, we need to know what exactly is the essence of profitable stock picks. If you have not realized it by now, it is to actually to decipher what stocks the financial institutions/mutual funds/exchanged traded funds are buying or selling and join in the ride. It can be done as remember, the big boys actually do their buying or selling over several weeks and we do not have that restriction. Learn to read the footprints and get in early way before the selling or the buying is done.

Thus the first rule of profitable stock picks is as such:

If you are going long in an uptrend market, purchase stocks that are rising in strong volume over a few days as these are the reasons why the indexes are rising.

If you are shorting in a downtrend market, sell short stocks that are falling in strong volume over a few days as these are the reasons why the indexes are dropping.

When a stock price rises with the rest of the market but in weak volume, it is merely rising with the tide and should not selected as one of your stock picks. Similarly, when a stock price drops in weak volume, it is not the target of the financial institutions/mutual funds/exchange traded funds and should not be considered a short selling candidate.In fact, the stock might have the power to do exactly the opposite and burn a big hole in your pocket.

Ok, this concludes part 1 of the stock picks series. I will be posting the part 2 within the next two weeks (my work is keeping me a little busy right now). Thanks for reading and hope that you have learnt something on stock picks that are valuable! :)

Tags: stock market, investing, trading, make money, stocks, finance, wealth building, stock market basics, stock picks