Not everyone learns the rookie mistakes when they're rookies.
That's especially true when time is tight and your instructor is the real world. Many decades of research have revealed common mistakes investors tend to makes — pitfalls that are traps of human nature. This is the first in a series of Investor's Corner articles that will map out the most common mistakes among those.
Buying a falling stock is one of those pitfalls. It's tempting, because a pullback after a big advance makes the stock look like a bargain.
It's often most tempting for those who already have a position in a stock and a healthy cushion above their entry point. Things are going swell. The stock has been a ramrod. I'll just step in here and add to my . . .
The issue: When you buy stock rising from support or at a in strong , you are buying the most advantageous point, when institutional investors are piling into it. That momentum leaves you with a cushion, and that cushion helps keep you from being shaken out if the stock makes a normal pullback.
When you buy a leading stock rising through a buy point or rebounding from support, you are reducing your risk by taking advantage of research showing these are opportune places at which to buy.
Buying on the way down is flying blind, unless you do it on a moderate pullback to the 50-day or 10-week moving average. And then, you need to buy only when the stock bounces in heavy trade.
One example is wood products leader Weyerhauser (WY). The stock had climbed for the 12 months through late May. Its fundamentals were solid, with earnings growth accelerating from double- to triple- to even quadruple-digit growth in the six quarters prior to its peak. was in the 20%-to-30% range. The company had also converted to a REIT, providing a juicy dividend.
The stock had tested and rebounded from support a half-dozen times in the previous few months. On May 22, it reversed lower from a new high in heavy volume as it started a pullback.
That can be a red flag. But the stock had been volatile, and it looked as though it was just reacting to a blip in the general market.
Investors who bought anticipating a rebound found themselves with a stock that cut below its 50-day moving average in heavy trade May 29 (1). Combined, the reversal and the drop through the support level were worrisome. Shares fell further in heavy trade and by early June the stock was 8% below a 31.84 buy point.
That was a sell signal and no time to be buying at a "bargain" price.
Weyerhauser corrected a total of 20% in six weeks. Investors who held were forced to take that loss, or sit on their gelded capital while the stock continued consolidating.
- Investment & Company Information