ASTUTE INVESTORS – EVERYONE DREAMS OF BECOMING ONE

Buy low sell high – a stock market adage easier said than done. In pursuit of putting this proverb into practice, sometimes an investor buying stocks at a low price ends up selling at much lower levels when the share price continues to slide and he must take steps to preserve his capital. Buy low sell high turns out to be buy low sell lower. Worse, if the price of that same stock moves higher within weeks or months after the sale!



There are also investors who are afraid to buy when prices are falling, lest they “catch a falling knife”. Indeed, catching falling knives can lead to financial disaster. However, if one knows how and when to “catch the falling knife” in a correct manner, the reward could be awesome compared with the bleeding suffered earlier.

To be able to do that, the investor needs to be an “astute investor”, a term used by stock market guru, Charles H. Dow, to explain the three market phases in his basic tenets of a financial market.

According to Dow, astute investors are those who sell their shares in the final phase of a bull market when everyone else seems busy recommending a buy and chasing to buy shares at higher levels, and they accumulate in the final phase of a bear market when everyone else seems busy recommending a sell and disposing stocks at lower levels.

If we were to recall the first three months of this year, many investment experts were divided on whether the KLCI would continue to slide, had reached a significant bottom or was nearing an important floor.

Having attended many investment seminars during that time especially in March, there were pundits predicting the index would slide further to around the 650 levels and there were some who envisaged the market having reached the bottom so long as the index did not break below the 800 levels.

There were also some who played safe by recommending a 50% exposure in equity due to the heightening global economic uncertainty then, notwithstanding the extremely attractive valuations of many blue chip companies.

After hitting this year’s lowest closing level of 838.39 points on 12 March, the KLCI advanced by 237.38 points or 28.3% up to 29 June, with many fund managers’ darling stocks that had become penny stocks registering returns beyond 100%.

The main question in the minds of many investors and traders would probably be whether an astute investor should use technical or fundamental analysis, or both. Indeed this issue is debatable and each of the fundamental and technical analysts would probably say that their approach is the best.

In fundamental analysis, experts would look at the potential of a listed company in terms of earnings, cashflow and dividend payable during the current and following financial year, given the company’s business operations and the economic environment. The forecasts on earnings, cashflow and dividend would allow an investor determine the important market ratios of price earnings multiple, price cashflow multiple and dividend yield.



In technical analysis, experts would look for reversal patterns to determine the end of a bear or a bull market campaign. In a bear market campaign, they would analyse the major trendline resistance, price formation, indicators and volume action, and monitor if a breakout has occurred.



The above basic analyses are indeed inadequate to determine a major market bottom and market top.

While fundamental analysis guides investors in terms of market ratios, the question is, what are the ratios deemed reasonable for investment or divestment? Price multiples are indeed moving targets in both bull and bear markets.

In addition, one would find that there were continuous downward adjustments in earnings, cashflow and dividend when the major economic trend is negative, resulting in depleting fair valuations for stock even after share prices have come down significantly. The opposite is also true when the major economic trend is positive.

As for technical analysis, no technician will be able to determine a market bottom until a reversal is established. For a confirmed reversal of a bear campaign, the price should have already been off low and for a confirmed reversal of a bull market, the price should have already been off high. Hence, it would be difficult to buy at the trough and sell at the peak.

So, what’s the solution? Based on observation amongst investing friends – professional and individual investors – there are at least five solutions: use the right economic indicators; be a market contrarian at the right time; be a risk taker at the right price; conduct an advanced fundamental analysis which takes into account its price behavior; and conduct an advanced technical analysis.

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Article Contributed By Ameer Ali Mohamed. Ameer is Director, Financial Research of NextVIEW. He has a total of 20 years experience as a corporate journalist, investment analyst and fund manager, including as research head of two stockbroking firms and CEO/CIO of a funds management company.



Republished with permission. This article was published in the Just Say It column in Shares Investment (Malaysia edition) July 2009. You can get the latest copy of Shares Investment (Malaysia edition) at leading bookstores in Malaysia.