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Just as athletes spend many years honing their skills to become Olympic caliber, building a profitable investment portfolio requires a great deal of time spent tracking market trends and researching stock performance.
With the Olympic games just around the corner, interest is turning to London, whereworld-class athletes will go head-to-head in a lifetime quest to win gold medals. Backhome, meanwhile, investors dream of someday striking gold with their investments. So inhonor of the 2012 London Games, I offer five "rings" of advice (one for each Olympic ring)to help you build a portfolio worthy of Olympic gold.
BLUE RING: ANALYZE THE MARKET
The first question you must ask before you invest in the stock market is, "Where is themarket headed?" The sports equivalent of this question is, "Who's got the ball?"
I'm constantly amazed that most investors and money managers never ask or answer thisquestion. They are always fully invested in the market regardless of the market'sdirection. The problem with this approach is that sometimes the market supports higherprices and sometimes it doesn't.
Think about a football game for a moment. When the market is supporting higher prices,it's as though your team has possession of the ball. This is the time you must try andscore, by making as much money from the market as possible.
When the market is not supporting higher prices, it's as though you've lost the ball andare playing defense. Think of these times as the market trying to score against you byextracting as much money from your portfolio as it can.
How well would your team do if it ran only offensive plays every game? You might do wellwhen you have possession of the ball, but when the opposing team has the ball, your teamwould be scored on at will. Your season would be mediocre at best.
This is the problem most investors and their advisers have. They simply don't knowwhether to run offensive or defensive plays, much less in what stadium the game is beingplayed. The New York Stock Exchange Bullish Percent Index, which measures the percentage ofstocks currently on buy signals, is a good guide to when the environment is ripe for youroffense or your defense. Then it is up to you and your adviser to decide which plays torun, which players to put on the field, and when.
YELLOW RING: EXAMINE THE SECTORS
Sector analysis is one of the least examined parts of the market but one of the mostimportant. To switch metaphors for a moment, picture a farmer's market. Just like thefruits and vegetables found there, sectors in the stock market rotate in and out of season.You wouldn't buy summer vegetables in the winter or winter vegetables in the summer. Yourbasket may include a pumpkin, berries, and even a gourd or two in the fall and winter.But during the summer, you would stock up on tomatoes, cucumbers, and sweet corn.
Why does this happen? Because vegetables taste much better in the summer when they're attheir peak. The stock market goes through similar cycles, and you must know what sectorsare in season.
Let's return to the Bullish Percent Index, only this time we'll use it for the sectorsyou or your adviser follow currently. This index provides an objective barometer forputting us in sectors at bargain prices and taking us out at inflated prices.
BLACK RING: CHOOSE STOCKS
For the next ring, we turn to fundamental analysis for answering the question, "Whichstocks should I buy?" The idea is to pinpoint specific stocks in fundamentally soundcompanies in the sectors discovered in the Yellow Ring section above. The simplest way tofind the best fundamentally sound stocks is to ask your adviser for his or her firm'srecommended list. If you use a discount firm, I recommend choosing stocks with five-starratings from Standard & Poor's, '1' or '2' ratings from Value Line, or Zacks InvestmentResearch. Whatever you deem to be fundamentally sound comprises this list.
GREEN RING: TIME YOUR PURCHASE
It is now time to evaluate those fundamentally sound stocks on a technical basis bystudying past market price data. Doing so enables us to select the investments that, ineffect, have possession of the ball, meaning the stock could support a higher price.Remember, you don't want just to invest in stocks of fundamentally sound companies. Youwant to be sure your stocks have a high probability of outperforming the market overall.
The two factors you should be most concerned with are relative strength and trendanalysis. Relative strength is a measure of price trend that indicates how a stock isperforming relative to other stocks in its industry or the overall market. Trend analysisis defining the general direction in which a security or market is headed.
The five positive technical attributes to look for:
If a stock has all five of these qualities, it is a market leader that is trendinghigher in price. If a stock does not have any of these five qualities, it could be a stockwith a speculative future and carry more risk than other stock choices. That doesn't meanits price can't rise, but your odds of outperforming the market are much lower withlow-attribute stocks-those that have fewer than three of the attributes listed above-versushigh-attribute names. It is also impractical to require every stock you buy to have allfive traits listed above be positive, so having three or more will be sufficient to improveyour odds of success.
RED RING: MONITOR YOUR PORTFOLIO
Once you take a position in a stock, you must continually evaluate and monitor yourportfolio so that you are aware of a trend or development that may require you to takeaction. You need to know what you will do if all your plans go your way and you score-orwhat you will do if your plans go awry and you lose possession of the ball. This is arather simple but important step most investors and their advisers fail to consider.
Will your portfolio rise, surpass all others, and cross the finish line to win the goldmedal? It all depends. If you grab hold of these five "rings," you may soon be standing onthe podium with a gold-medal portfolio.
The author is managing partner and chief investment officer of Balser Wealth ManagementLLC, in Avon, Ohio. Send your feedback to firstname.lastname@example.org
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