The momentum trade, Part 4 of 5 White Top View series, the investing choices
Momentum plays can deliver the biggest excitement and profits possible from trading. Momentum provides the power of the classic bull run that describes markets moving to higher prices day after day.
This Part 4 on momentum plays follows the earlier Parts 1 – 3 available by clicking the following links:
Today’s topic develops your trading knowledge by considering the momentum trade.
Presuming an already uptrending or bullish market, a strong bull run for an individual stock needs momentum to continue upward price movement for any significant time.
The bull icon serves interchangeably to represent a rising market, an investor buying long or the rising stock play itself. At such times we can say the bulls or herd runs as prices, volumes and investors charge ahead!
At a minimum, momentum needs both an increasing price for the stock and an increasing volume of shares traded. Simple basic trading of a momentum play means buying a rising stock that on most days continues rising or trending to ever higher prices.
Profitable momentum play execution requires trading out or selling the stock at the higher prices. Most such plays unfold over a matter of weeks or a few months; few extend longer than a year.
A momentum strategy can be characterised as buying high to sell higher. This approach sharply contrasts with the buy low sell high mantra of a value investor.
Great momentum stock plays need:
share price rising
volume of shares increases
order count increases
more investors buying
The confluence of increasing price, volume, trades and investors produces the best momentum plays. When that happens to many, rather than just a few stocks in a market, the collective momentum powers both the market and stocks to ever higher price levels.
Investors can easily be caught up in the excitement of a strong price move of any stock in a bull run. Riding such a run can be either very profitable or possibly quickly trample a portfolio. Like any stampede, a momentum driven bull run can quickly become dangerous!
Alan Greenspan, former Chairman of the U.S. Federal Reserve Bank famously called this “irrational exuberance”. “Bubble” is another more common description of any market carried away by momentum. Any “we can’t lose” greed driven market always ends badly. Bubbles always burst and markets do fall.
Momentum plays depend only on stock price movement
Momentum gives no regard to value, income or even the existence of any revenue. Simply seeing a stock price rocket higher can never be taken as any indication of value.
A momentum play can tempt you to reach for the easy money. Smart investors must still do their due diligence first.
Yes, do your homework first, not after you invest. Remember, when the music stops and the party is over, someone gets left holding stock rather than profit. You must sell at a higher price to bring home a profit.
To wrap up a trade most profitably, selling at or near the top is important. Obviously, someone has to be buying when you want to sell. That means making a profit requires selling and leaving before the party actually ends.
Exiting the trade before the herd loses interest can get very tricky. Experience and knowledge can let an investor favorably play such trades. However, achieving that level of knowledge and experience takes considerable time and effort. The price of experience can be very high.
A new investor must get experienced help before considering using any trading strategy. You can learn to trade. You can learn to play momentum; just don’t be in any hurry to test your skill with any but minor trades. Never confuse luck with skill; luck is best, but not at all dependable.
Whenever a deal tempts you to jump on without doing homework, think first. There will always be other opportunities to make a profit. There is no such thing as the last bus.
You may have to wait, but there is ALWAYS another bus. That is far easier, less stressful and many times more profitable than making up a loss.
Profits can come quickly
Momentum plays can end in a few weeks but most last 2 to 6 months. There are many exceptions and many false starts. The fast action and large profits are the big appeal. The danger being that our greed glands overcome our brains.
Some rising stocks that begin as momentum plays can have bull runs that last considerably longer. This occurs when business operations, growth, value and earnings of the company justify the higher stock price.
Those are rare but exceptionally profitable investments. They can begin as high risk speculations and evolve into momentum plays. Some few mature into spectacular growth companies! Apple anyone!?
Next time we will talk about how investors can profit when the market trends down, the short trade.
Would you consider making a momentum trade? Make a comment, ask a question, we can talk about it.
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White Top Investor
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