Meta-Trader - New High, Low PE, High Growth

Welcome Back Meta-Traders.

While this blog is supposed to be about Forex, I have had much more success lately with stocks and options. In this post I’m going to talk about how I go about the process of trading options on stocks. In some recent trades, I have found that I can risk about as much capital as I have in any of my Forex accounts, and make 30% to 50% in a just a day or two! We can’t be sure how long this is going to last, but it has been working recently so that makes it relevant.

Start by deciding which stock to trade out of the 5,888 stocks available to US-based investors.

To approach this, I use the TeleChart 2000 charting package at http://www.tc2000.com. This program is 100% browser based and uses Microsoft’s Silverlight technology. TeleChart 2000 is a marvelous charting and organizational tool. Once of its great features is real-time market scanning and filtering. All this including real-time streaming intra-day charts, all for about $300 a year, amazing! It even includes Forex, so check it out.

Here is the scan I use:

• New 10,000 day highs - that is equal to a 40 year-look back period so that’s essentially a new all time high. I always pay attention when a stock makes a new all-time high since it’s the most bulling thing a stock can do.
  
• PE (Price to Earnings Ratio) less than 20. This one will filter out stocks which have high valuation (or more importantly) stocks with zero or negative earnings. We want stocks with positive earnings since we want every possible advantage in our favor.
  
• 5-year earnings growth rate greater than zero. Again this filters out stocks without positive 5-year earnings history but there’s more to it and I’ll get to that in a second.
  

This scan can reduce over 5,800 stocks to just a handful of issues in less than one second! The scan shown on the left came back with 26 symbols, a very manageable number to handle.

Next, scroll over and take a look at the columns displayed. I have my columns setup as follows: Symbol, Price, Net Change, Net % change, Day High, Day Low, 5-Year Earnings Growth, PE, and Dividend Yield.

Now pay particular attention to the 5-Year Earnings Growth and PE. Jim Cramer says for a growth stock you can pay for a PE up to 2 times the growth rate. So for a stock with a 5-year earnings growth rate of 10% you can pay to 20 for a PE. As it turns out, there are plenty of good stocks whole growth rate whose growth rate is actually higher than the PE! This means that the stock is undervalued and could conceivably double in price.

Next ask yourself how is the market behaving today? The number of stocks returned in the scan alone is somewhat of an indication. If the market is behaving poorly or going down, don’t take any long positions. If the market is behaving well, go in favor the trend and buy breakouts. Always go with the trend of the market – don’t fight the tape!

Load up your Market data screen with all of your portfolio symbols and your favorites from the scan and watch, particularly the first 30 minutes of the trading day. I hardly ever trade in the first 15 minutes of the trading day since opening gaps are typically quickly reversed. In fact many pros make money scalping against the opening gap as we saw with Hubert Senters last week.

From this point, picking what to trade and when is completely subjective and takes experience and intuition. Check for news and earnings before taking a trade. I try to avoid stocks where there is any meaningful news or news pending. For example, if the stock just reported earnings yesterday, and has a big gap up, avoid it. Similarly, if the stock is running hard and earnings are due out after the close, avoid it as well unless you have a read on the earnings which I rarely do -except in the case of Apple recently. Ideally you want to see a stock that’s moving slowly but steadily, and earnings are due out in a week or two. Sometimes the nicest looking charts are the ones running up into earnings, just to get slammed the next day when the news comes up. I traded for years that way, getting blind-sided by earnings reports, tread carefully!

Also, the market depth screen sometimes helps to gauge supply and demand for a stock, but most participants don’t show their complete hand, so you have to paint a bigger picture in your mind based on the price action.

It occurred to me last weekend to trade high-priced stocks only. Those are the ones inclined to make big moves 5 or more points a day. Once you have your symbol and everything is right, go to the options chain. Whether you are bullish or bearish, pick the least expensive in-the-money option contract with at most a point or 2 premium so that you get a 1 for 1 move as the stock moves up. In options parlance, you want options with a delta close to 1 meaning the price of the option will go up 1 point for each 1 point rise in the underlying.

Using this method, I had 3 successful trades this past week in AAPL (Apple Computer), MA (MasterCard) and ISRG (Intuitive Surgical) and took in a total of 18 points of profit. The prior week, I took 3 trades and lost on all 3 trades, and lost a total of about 5 points.

All that said; let’s not confuse brains with a bull market. This market has gone straight up from the start of 2012. I make most of my money in bull markets, since I play mostly the bull side. There’s no telling when it ends, but we will stay with it as long as it lasts.

Have a great weekend all.