"Chases the market" Investor

Generally, an investor "chases the market" when he or she enters into a highly priced position after the stock price has increased rapidly or become overpriced. An investor who exits a position after the security has lost considerable value also is said to be chasing the market. Both positions suggest that the investor chased the market by following trends unwisely. Many investors unknowingly chase the market and endure large losses as a result.

During the dotcom bubble, for example, many investors sought to profit from buying shares of internet and technology companies that were doing well. The popularity of dotcom companies eventually dropped and the investors who had chased the market were left with big losses.

Investors who chase the market typically make investment choices based on emotion rather than careful consideration of market trends using statistics and financial data. For this reason, this strategy has been widely criticized and most financial advisors warn against it

Closing Price and Last Price Traded

Logically and theoretically, the last price traded should be the same as the closing price of a stock. However, the way we trade stocks and the markets we trade them on have undergone numerous innovations over the last decade. Thus, a late-afternoon online search for a closing price or last quote might reveal conflicting results.

The last trade you see at the moment of the close may not truly be the last trade. With many stocks trading heavily at the close, a few minutes are required to process orders and determine which among them was the last trade. Depending on the exchange or quote service, these trades may be posted anywhere from 30 seconds to 30 minutes after the closing bell.

To make matters more perplexing, the closing price you see when you search for a quote online often is a "consolidated quote". This quote is delivered from a system that pulls transactions from all stock exchanges and puts them into one data stream. In addition to a consolidated closing quote, many exchanges, like the NYSE and Nasdaq, offer an official last trade or closing price for trades on their exchanges. Hence, you get what appears to be differing last or closing prices.

Additionally, with the advent of after-hours trading, you may see a "last price" that differs greatly from the "closing price" because the last price in this instance represents the last transaction that occurred in ongoing after-hours trading. In another few moments, the stock may trade again and have a new "last price". Of course, this information could seem puzzling when compared against the unchanging closing price from normal trading hours.

Leakage

Leakage describes a situation where information is released to the public when it should have remained private. This is often referred to as "leaking information". Most commonly, leakage takes the form of corporate insiders disseminating confidential information about publicly traded companies to outside investors. The investors then use the information to profit illegally from the non-public intelligence by buying, selling, or shorting the company’s corresponding securities.

Additionally, leakage may take the form of former employees using private information to maliciously punish their former employers or the form of company executives leaking confidential information to securities firms and/or the press as a way to manage expectations.

While leakage traditionally has been intentional, in the information age, it has taken on a less insidious, although equally harmful, form. The accidental dissemination of confidential data by careless employees, faulty technology, poor infrastructure and lax business practices all constitute leakage. Whatever the cause, leakage is unseemly, at best, and criminal, at worst.

Hockey Stick Bid

A "hockey stick bid" is a pricing strategy in which a supplier will spike the price of a commodity considerably beyond the firm's marginal cost. A supplier will typically make a hockey stick bid when the market demand for the commodity is very inelastic, so that buyers are willing to pay more for a commodity that is normally less expensive. A reason for such an inelastic demand could be a shortage of a necessary product so that the buyers are willing to pay whatever price the seller offers.

Examples of hockey stick pricing can be found in the energy market, where shortages sometimes occur and astute sellers realize the potential to make more money from the situation. The seller will then sell a small quantity of the commodity for a significantly higher price than average, thus forcing buyers to either forego the product or pay an exorbitant price. The term "hockey stick bid" refers to the graphical depiction of the pricing strategy in which the price is at a normal level and then suddenly spikes far beyond average levels, which often mirrors the shape of a hockey stick with the high bid being the tip of the stick.

This practice is considered fraudulent because it seems to manipulate the market price, especially in dire circumstances. A typical hockey stick bid example is that of an ice storm in which demand for energy to heat homes and businesses rises beyond regular levels and a energy supplier may submit a hockey stick bid forcing the buyers to pay excessively or freeze. In this example, it is clear that a hockey stick bid creates victims (the buyers) while the seller reaps the profits from the heightened need for the good.

Return on equity (ROE) vs Return on capital (ROC)

Return on equity (ROE) and return on capital (ROC) measure very similar concepts, but with a slight difference in the underlying formulas. Both measures are used to decipher the profitability of a company based on the money it had to work with.

Return on equity measures a company's profit as a percentage of the combined total worth of all ownership interests in the company. For example, if a company's profit equals $2 million for a period, and the total value of the shareholders' equity interests in the company equals $100 million, the return on equity would equal 2% ($2 million divided by $100 million).

Return on capital essentially is the same formula as return on equity, but with the addition of one component. Return on capital, in addition to using the value of ownership interests in a company, also includes the total value of debts owed by the company in the form of loans and bonds.

For example, if the company in the first example also owed $100 million in debts, the return on capital would drop to 1% ($2 million divided by the sum of $100 million in equity and $100 million in debts).

Both measures are well-known and trusted benchmarks used by investors and institutions to decide between competing investment options. All other things being equal, most seasoned investors would choose to invest in a company with a higher ROE and ROC.

Credit Card Company IPO

News of Visa's plans to go public created a buzz around Wall Street as soon as the papers were filed. The credit card giant cleaned out its closets - settling lawsuits and straightening out its accounting - in hopes of having the best IPO possible. MasterCard previously had raised $2.4 billion in 2006, establishing a record for credit card company IPOs. The question wasn't whether or not Visa would better the mark, but by how much.

The consensus was that Visa would set a new IPO record, erasing the $10.6 billion raised when AT&T spun out its wireless division as a separate company. Some people even held that Visa was placed ideally to double the mark. After all, credit card use was still growing internationally, usury laws in the states were circumvented, and recent changes to the bankruptcy act removed a good portion of default risk from the books of credit card companies.

Although Visa failed to double the record, it certainly did not disappoint. On March 18, 2008, Visa's IPO came in at $17.9 billion dollars. For the individual investor, the IPO was nice to look at, but nothing to participate in. A large chunk of the wealth ended up in the pockets of issuing banks like JPMorgan Chase, Citigroup and others in the underwriting syndicate. The underwriting syndicate collected around half a billion dollars in fees and also held onto large blocks of shares for their portfolios. Next came the institutional buyers and funds, buying up nearly everything the banks offered up. Basically, the only way to get a chunk of Visa's IPO was to be invested in a fund that bought in.

Investors will have their chance as the stock trades on the open market, going up and down as Visa tries to fulfill the expectations that come with a $17.9 billion dollar IPO.

Dow Jones Industrial Average Stock List

The best place to find a list of all thirty stocks included in the Dow Jones Industrial Average (DJIA) is the "Historical Components List" published on the official DJIA website. This fascinating list, which shows every change in the index since its creation in 1884, is updated every time as stock is added or deleted.

The DJIA, considered by many to be the gold standard of market indicators, is comprised of some of the largest and most well-known companies in the United States. Due to the diversity of stocks in the index, many economists consider the DJIA to be a strong indicator of the overall strength of the U.S. economy, not just the investments market.

Unlike the market-weighted S&P 500 index, probably the second-most watched indicator, the Dow Jones Industrial Average is a price-weighted index. Thus, the DJIA is calculated theoretically by totaling the prices of one share of each component stock and dividing by thirty. However, the current divisor now equals a fraction of 1% due to years of adjustments for stock splits, mergers and the like. The price-weighted method arguably gives a more accurate representation of the movement of the overall market because it is not influenced by the number of shares each company has outstanding.

Lose money than you invest shorting a stock?

The simple answer to this question is that there is no limit to the amount of money you can lose in a short sale. This means that you can lose more than the original amount you received at the beginning of the short sale. Therefore, it is crucial for any investor who is using short sales to monitor his/her positions and use tools such as stop-loss orders.

First, you need to understand the short sale itself. When you short a stock, you are hoping the stock's price will fall as far as possible. Because stocks never trade in negative numbers, the furthest a stock can possibly fall is to zero. This puts a limit on the maximum profit that can be achieved in a short sale. On the other hand, there is no limit to how high the price of the stock can rise, and because you are required to return the borrowed shares eventually, your losses are potentially limitless. This is why you are able to lose more money than you received from the investment in the short.

For example, if you were to short 100 shares at $50, the total amount you would receive would be $5,000. You would then owe the lender 100 shares at some point in the future. If the stock's price dropped to $0, you would owe the lender nothing and your profit would be $5,000 or 100%. If, however, the stock price went up to $200 per share, when you closed the position you would return 100 shares at a cost of $20,000. This is equal to a $15,000 loss or -300% return on the investment ($5,000 - $20,000 or -$15,000/$5,000).

The loss created by a short sale gone bad is like any other debt. If you are unable to pay for this debt, you will have to sell other assets to pay for the debt, or file for bankruptcy. The good news is that you are unlikely to sustain such massive losses. When you open a margin account, you usually sign an agreement stating that the brokerage firm can institute stops which essentially purchase the shares on the market for the investor and close the position. This purchase returns the shares to the lender, and the purchase amount is owed by the short investor to the firm. So, while the mechanics of a short sale mean the potential for infinite losses is there, the likelihood of you actually experiencing infinite losses is small.

How does somebody make money short selling?

Short selling is a fairly simple concept: you borrow a stock, sell the stock and then buy the stock back to return it to the lender. Short sellers make money by betting that the stock they sell will drop in price. If the stock drops, the short seller buys it back at a lower price and returns it to the lender.

For example, if an investor thinks Ben's Brewing Business (BBB) is overvalued at $25 and is going to drop in price, he or she may borrow the stock and sell it for $25. If the stock goes down to $20, the investor, after buying it back and returning it, would make $5 per share. However, if the stock goes up to $30, the investor would lose $5 per share.

If you can't see the amplified risk right now, let's make it obvious: when you buy a stock (or go long) you can lose only the money that you've invested. So, if you bought one BBB share at $25, the maximum you could lose is $25 because the stock cannot drop to less than $0. However, when you short sell, you can theoretically lose an infinite amount of money, because a stock's price can keep rising forever. So, for example, if you had a short position in BBB (or short sold it) and BBB ended up rising past $60 before you exited your position, you would lose $35 per share ($60-$25) - even more than the stock's original price.

While short selling does present investors with an opportunity to make profits in a declining or neutral market, it should only be attempted by sophisticated investors and advanced traders.

Short Selling

Short selling is hard enough to get your head around without getting into all the particulars. If you have a basic understanding of short selling, then you probably know that as a short seller, you are required to make up for any benefits a long investor would receive if he or she had actually owned the stock.

When you short a stock, you are borrowing the stock from an investor or broker, then selling those shares on the open market to a second investor. Even though you borrowed and sold the shares to another investor, the transaction between you and the lender is still listed on the books as if the lender is still long on the stock and you are short on the stock (even though that person no longer owns the stock).

Because that original investor who was kind enough to lend you the stock is no longer an actual shareholder with the company, the short seller is required to make up for any benefits the investor would have received had he or she actually still owned the stock.

In other words, if a company pays a dividend to shareholders, the second investor who bought the shares from the short seller would get the dividend check from the company. But because the original investor is no longer a shareholder of record (because the second investor owns those shares now), then the short seller must pay the dividend out of his or her own pocket.

Finally, when the short seller decides to close out the short position, he or she buys shares on the open market (from a third investor) and then gives the shares back to the original investor, who closes out the short position and puts everything back to square one.

The major difference between the stop-loss order used by an investor who holds a short position and one used by an investor with a long position is the position in which it is placed. The individual with the long position wishes to see the price of the asset increase, whereas the individual with the short position wants the price of the asset to decrease and would be negatively affected by a sharp increase. To protect against a large price increase, the short seller can use a buy-stop order, which is an order that will turn into a market order once the upper price has been reached. Conversely, the individual who holds the long position can set a stop-loss to be triggered when the price falls below a certain level.

For example, if a trader is short selling 100 shares of ABC Company at $50, he or she might set a buy-stop order at $55 to protect against a move beyond this price. If the price happens to rise to $55.25, the short seller's order would be triggered, resulting in the trader buying the 100 shares back near $55. A word of caution: on an extremely large increase in price, the buy-stop market order could be triggered at a substantially higher price than $55.

A different way that a short seller can protect against a large increase like the one mentioned above is by purchasing an out-of-the-money call option. If the price does experience a move upward, the trader can exercise his or her option to buy the shares at the strike price and then provide them to the lender of the shares used in the short sale.

stock splits do not affect short sellers in a material way. There are some changes that occur as a result of a split that do affect the short position, but they don't affect the value of the short position. The biggest change that happens to the portfolio is the number of shares being shorted and the price per share.

When an investor shorts a stock, he or she is borrowing the shares, and is required to return them at some point in the future. For example, if an investor shorts 100 shares of ABC at $25, he or she will be required to return 100 shares of ABC to the lender at some point in the future. If the stock undergoes a 2:1 split before the shares are returned, it simply means that the number of shares in the market will double along with the number of shares that need to be returned.

When a company splits its shares, the value of the shares also splits. To continue with the example, let's say the shares were trading at $20 at the time of the 2:1 split; after the split, the number of shares doubles and the shares trade at $10 instead of $20. If an investor has 100 shares at $20 for a total of $2,000, after the split he or she will have 200 shares at $10 for a total of $2,000.

In the case of a short investor, he or she initially owes 100 shares to the lender, but after the split he or she will owe 200 shares at a reduced price. If the short investor closes the position right after the split, he or she will buy 200 shares in the market for $10 and return them to the lender. The short investor will have made a profit of $500 (money received at short sale ($25 x 100) less cost of closing out short position ($10 x 200). That is, $2,500 - $2,000 = $500). The entry price for the short was 100 shares at $25, which is equivalent to 200 shares at $12.50. So the short made $2.50 per share on the 200 shares borrowed, or $5 per share on 100 shares if he or she had sold before the split.

Neither a long nor a short position is materially affected by a stock split - the value of the position does not change. So, if a company has announced that it will split in six months, it should have no bearing on the attractiveness of the short investment.

Bankruptcy

Bankruptcy

Bankruptcy is a legal proceeding involving a person or business that is unable to repay outstanding debts. The bankruptcy process begins with a petition filed by the debtor (most common) or on behalf of creditors (less common). All of the debtor's assets are measured and evaluated, whereupon the assets are used to repay a portion of outstanding debt. Upon the successful completion of bankruptcy proceedings, the debtor is relieved of the debt obligations incurred prior to filing for bankruptcy.

Bankruptcy offers an individual or business a chance to start fresh by forgiving debts that simply can't be paid while offering creditors a chance to obtain some measure of repayment based on what assets are available. In theory, the ability to file for bankruptcy can benefit an overall economy by giving persons and businesses another chance and providing creditors with a measure of debt repayment.

Bankruptcy filings in the United States can fall under one of several chapters of the Bankruptcy Code, such as Chapter 7 (which involves liquidation of assets), Chapter 11 (company or individual "reorganizations") and Chapter 13 (debt repayment with lowered debt covenants or payment plans). Bankruptcy filing specifications vary widely among different countries, leading to higher and lower filing rates depending on how easily a person or company can complete the process.

Bankruptcy Financing

Bankruptcy Financing is a Financing arranged by a company while under the chapter 11 bankruptcy process. Clearly, such financing is extremely high risk and is done at a relatively high interest rate. Sometimes referred to as "turnaround financing" or "debtor in possession financing". It can be very profitable to lend to companies that need money this badly, but at the same time, a lender runs a high risk of the creditor defaulting.

Bankruptcy Risk

The risk that a company will be unable to meet its debt obligations. Often referred to as "default" or "insolvency risk". This is a risk that both equity- and bondholders take when deciding to invest in a company. Aside from looking at overall profitability, analyzing a company's debt obligations and ability to repay, agencies like Moody's and Standard & Poor's attempt to determine this risk by giving bond ratings.

Bankruptcy Trustee

Bankruptcy Trustee is a person appointed by the United States Trustee, an officer of the Department of Justice, to represent the debtor's estate in a bankruptcy proceeding. Although a bankruptcy judge has the ultimate authority on the distribution of assets, the trustee is charged with evaluating and making recommendations about various debtor demands in accordance with the U.S. Bankruptcy Code.

Moving Average

Moving Average - MA

An indicator frequently used in technical analysis showing the average value of a security's price over a set period. Moving averages are generally used to measure momentum and define areas of possible support and resistance.

Moving averages are used to emphasize the direction of a trend and to smooth out price and volume fluctuations, or "noise", that can confuse interpretation. Typically, upward momentum is confirmed when a short-term average (e.g.15-day) crosses above a longer-term average (e.g. 50-day). Downward momentum is confirmed when a short-term average crosses below a long-term average.

Moving Average Chart

Moving Average Chart is a tool used by technical analysts to track the price movements of a security or commodity. It plots average daily settlement prices over a defined period of time, anywhere from a few days to a couple years. Usually, when a stock price moves below its 50-100 day moving average, things are not in your favor. The opposite is true for stocks that protrude their moving average.

Moving Average Convergence Divergence - MACD

MACD is a trend-following momentum indicator that shows the relationship between two moving averages of prices. The MACD is calculated by subtracting the 26-day exponential moving average (EMA) from the 12-day EMA. A nine-day EMA of the MACD, called the "signal line", is then plotted on top of the MACD, functioning as a trigger for buy and sell signals.

There are three common methods used to interpret the MACD:

1. Crossovers - As shown in the chart above, when the MACD falls below the signal line, it is a bearish signal, which indicates that it may be time to sell. Conversely, when the MACD rises above the signal line, the indicator gives a bullish signal, which suggests that the price of the asset is likely to experience upward momentum. Many traders wait for a confirmed cross above the signal line before entering into a position to avoid getting getting "faked out" or entering into a position too early, as shown by the first arrow.

2. Divergence - When the security price diverges from the MACD. It signals the end of the current trend.

3. Dramatic rise - When the MACD rises dramatically - that is, the shorter moving average pulls away from the longer-term moving average - it is a signal that the security is overbought and will soon return to normal levels.

Traders also watch for a move above or below the zero line because this signals the position of the short-term average relative to the long-term average. When the MACD is above zero, the short-term average is above the long-term average, which signals upward momentum. The opposite is true when the MACD is below zero. As you can see from the chart above, the zero line often acts as an area of support and resistance for the indicator.

Moving Average Ribbon

Moving Average Ribbon is a technique used in technical analysis to identify changing trends. It is created by placing a large number of moving averages onto the same chart. When all the averages are moving in the same direction, the trend is said to be strong. Reversals are confirmed when the averages crossover and head in the opposite direction.

The moving averages used in the diagram start with the 50-day moving average and increase by 10-day periods up to the final average of 200. (50, 60, 70, 80 ... 190, 200) Responsiveness to changing conditions is accounted for by changing the number of time periods used in the moving averages. The shorter the number of periods used to create the average, the more sensitive the ribbon is to slight price changes. For example, a series of 5, 15, 25, 35 and 45-day moving averages will be a better choice to find short-term reversals then 150, 160, 170, 180-day moving averages.

Morning Star

Morning Star

A bullish candlestick pattern that consists of three candles that have demonstrated the following characteristics:

1. The first bar is a large red candlestick located within a defined downtrend.
2. The second bar is a small-bodied candle (either red or white) that closes below the first red bar.
3. The last bar is a large white candle that opens above the middle candle and closes near the center of the first bar's body.
   

As shown by the chart, this pattern is used by traders as an early indication that the downtrend is about to reverse.

Morningstar Inc.

A Chicago-based investment research firm that compiles and analyzes fund, stock and general market data. Morningstar also provides an extensive line of internet, software and print-based products for individual investors, financial advisors and institutional clients. Among its many offerings, Morningstar's comprehensive, one-page mutual and exchange-traded fund reports are widely used by investors to determine the investment quality of the more than 2,000 funds it covers.

Morningstar is a respected and reliable source of independent investment analysis for all levels of fund and stock investors, ranging from inexperienced beginners to sophisticated experts. Its website includes free information on individual funds and stocks. More complete data is available through subscription services and publications. Many public libraries are subscribers to Morningstar services.

Morningstar Risk Rating

A rating system that measures how often a fund loses money compared to the risk-free rate of return (T-bill return). A rating of 1 is considered average for each class of funds. So, if a mutual fund's risk rating is 1.25, then it is 25% more risky than the other funds in its class.

Exit a Trade and Make a Profit

First there is no such thing as a perfect exit strategy. But you can use quantified exit strategies that allow you to exit into strength on the long positions and cover into weakness on the short positions as many people did in the Daily Battle Plan Tuesday afternoon.

The two exits people like best, and which also test the best, are the cross above/below the 5 period ma exit and the 2 period RSI above 70 (under 30 for short positions) exit. Each is covered in further depth Short Term Trading Strategies

If you use a 5 period ma exit, you can just as easily use a 3 day, 4 day, 6 day, and 7 day ma exit. The shorter ma exit will likely have a higher percent correct than the 5 period but the average gain per trade will likely be lower (you're often getting out too soon).

The longer period ma exit will likely give you a higher average gain per trade but the percent correct will likely be lower (you're in the trade longer exposing yourself to more risk). The same principles hold true for the RSI exits. How you look at your trading will dictate which exit time frame you're most comfortable with.

There are other good exits. For example, the first up close exit, shows surprising good test results and is a very interesting concept. The key to all this is to choose the exit that provides you with the best statistical evidence and which makes you most comfortable. Then stay as disciplined as possible and stick with it.

The exits mentioned above are all excellent and again there is no such thing as the perfect exit for every trade. Most trades will move further after you exited and a few may get close to exiting at the high or low (but this doesn't happen often enough!).

The key to properly exiting a position is to find that sweet spot which has historically been the best place to exit short term trades. Based upon the test results on over 8 million trades, the 5 ma and the 2 period RSI rank amongst the best at doing this. I hope this helps guide you with your exits. Many people like to tell all of us when to get into a trade. But knowing when to get out is just as important.