News
"A Vital Source for the CANSLIM Investor" 

Sunday,  August 1st, 2004 | 7:40 PM
August 2004
Volume 7, Issue 8
 

Home | CANSLIM.net StockNews Archive | Renew Your Subscription | Your Profile | Help

What the M is Telling Us Now
July was a horrible month for the major indices and obviously a painful time for investors who continued to hold sinking issues past the 7-8% maximum loss guideline offered by William J. O’Neil.

The July ’04 CANSLIM.net News cover story by Gary Kaltbaum opened with the headline, “Nasdaq Starting to Lead - More BreakOuts and Set-Ups”. He was obviously influenced by how well the major indices were performing through the end of June. Yet while that headline set a positive tone, those who read more than just the headline noticed his cautious remarks, “Here are trading levels that need to be watched. The range is tight so it can go either way. On the upside, DOW 10,490...S&P 500 1,147. On the downside, use DOW 10,306...1,122 and then more importantly 1,113 on the S&P.”

In the first two days of July the Dow promptly traded below and closed below those downside targets mentioned. By July 8^th the S&P 500 Index had also violated its lower target while it and the Dow were also sinking under their 50-day moving average lines. So, based upon the general direction of the market, what was the smart thing for CANSLIM oriented investors to do? Obviously, the answer was not more buying, but reducing your exposure in equities. We know that the M in CANSLIM is critical, because you can do everything else right and still have a very difficult time when the overall market is on a downward spiral.

The Nasdaq and the S & P 500 are trading below their 50-day and 200-day moving averages

It is no wonder that progress has been hard to make, as prior weeks of negative market action, and actually months of zigzagging have established a clear series of lower highs and thus downward trends for the major indices. Prior months' trading ranges could make for slow progress working back up through resistance. Stick to your guns when it comes to your buy and sell discipline. Until more leadership is evident, patience will be needed. Caution and discipline are also critical, as always.

The market’s most recent conviction and breadth has been only slightly encouraging. At the time of writing, the major indices appear to be making a rally attempt, one that could possibly allow for them to make an important technical break for the better. But the technical challenge that lies immediately ahead is whether or not each of the major indices can muster the strength to rise above their respective 50-day and 200-day moving average lines. It will take more serious institutional buy side conviction for the major indices to challenge their downward trend lines, or eventually rise above them. Until there is more clear leadership, the M is telling us we are better off staying with a cautious stance.

While we are waiting to see whether the major indices can flash meaningful gains with higher volume and confirm the latest rally attempt, it is smart to study the high-ranked stocks that are holding up the best and hovering near their highs. At the present time there are 173 stocks on the CANSLIM.net Leaders List trading within 10% of their 52-week highs. That means there is potential for there to be some improvement in terms of one of the most important market characteristics CANSLIM fans are looking for – new breakouts. Any confirmation day that lacks a good number of quality breakouts would be suspect.

The bad news is that August and September have not historically been good months for the stock market. Uncertainty over the upcoming election, more interest rate hikes looming in the future, and historically high oil prices are a worry for investors. The combination of these uncertainties seems to have most institutional investors paralyzed on the sidelines and for the moment unwilling to buy into anything with great conviction.  Most of the second quarter earnings news is out of the market's system now, so investors are left to wonder what might be any positive catalyst to help the market environment make a decided turn for the better.

- Kenneth J. Gruneisen

*CANSLIM.net's most timely buy candidates are analyzed by our experts in great detail in the "Stocks to Watch in This New Market "section.

Note: Links above (in Leaders column) refer to write-ups on previously featured stocks.

- CANSLIM.net News Staff

Today, when introduced as an “expert”, I probably even blush a bit.  Nothing I am doing is anything that couldn’t be done by someone else who was willing, but the truth is that most people are just not willing to work very hard at it.  Few are disciplined and determined enough to take the steps necessary to become self-made experts.  And the real root of any expertise I personally possess is that I am very selective about my buying and always willing to sell quickly and take small losses.  I am willing to sit it out when the market environment is ugly, knowing that the firepower will be important to have ready when the market gets another confirmed rally going.

The guidelines outlined by O’Neil in “How to Make Money in Stocks” are fairly simple.  Most average investors just seem to wing it too much, and that is where their problems start.  You just can’t ignore the overall market action.

However, if we see more of the same negativity and lack of buying demand, we will sit it out
in a heavy cash position. 

You would think that the 2000-2003 bear market would have taught all of us enough lessons, but it seems that investors either have poor or selective memories.  The reality is that most stocks go right along with the general market direction, and in market meltdowns the selling pressure brings down the prices of good and the bad companies just the same.  People have a natural tendency to gloss over the importance of the M in CANSLIM.  They argue that even in the toughest of times there must be some areas in the market that are benefiting, so they press on and keep buying.  They believe that the fundamentals of a company, such as a lower P/E ratio, make it a compelling value at lower than usual prices, so they go out and buy more.  They think it is smart to buy when others are selling, and suddenly become big fans of contrary indicators.  And before long they are so far down on their holdings that they say to themselves, “There is no point in selling now.  It is a good company, so I am sure it will come back.”  Those are famous last words!

I am not one to suggest reckless, aggressive buying, but I am one who expects that the market will improve in the short term, and I think the next seven months will be better to investors than the last seven months.

New leaders will eventually begin to emerge from bases and help to lift the market. So if you are about to give up on the market, realize that there are some signs right now telling us, “Watch it! This has been a huge slide in a short time span, and the market looks like it may be bottoming.”  MAY BE BOTTOMING is the key part of that statement.  You should not assume anything until you see the proof.

I’ve said it many times, but it bears repeating that we all should be prepared to react intelligently to whatever the market is doing – we DO NOT pretend to be psychics!   If we see an improvement in the market’s bias, we will get more proactive about buying the best high-ranked leaders coming out of sound bases.  However, if we see more of the same negativity and lack of buying demand, we will sit it out in a heavy cash position.  This latter scenario doesn’t make us get angry or emotional.  If anything, we should be happy that we know the difference and we aren’t running against the wind. 

Kenneth J. Gruneisen - A Registered Investment Advisor & Registered Principal, Ken manages a Source Capital Group (Member NASD,SIPC) branch office and offers personalized assistance. Investors with a significant financial interest in equities may inquire about opening an account by calling the office locally at (954) 785-1990 or 1-888-237-8399 or emailing to kgruneisen@sourcegrp.com  Further information is always available upon request. Contact us if you know anyone that may have an interest in receiving this or any of our other reports. Comments contained in the body of this report are technical opinions only and are not necessarily those of Source Capital Group, Inc. The material herein has been obtained from sources believed to be reliable and accurate, however, its accuracy and completeness cannot be guaranteed. Our firm, employees, and customers may effect transactions, including transactions contrary to any recommendation herein, or have positions in the securities mentioned herein or options with respect thereto. Any recommendation contained in this report may not be suitable for all investors and it is not to be deemed an offer or solicitation on our part with respect to the purchase or sale of any securities. Source Capital Group, Inc. is a NASD/SIPC member firm.

Financials | StockTalk | News | Chart | SEC | Zacks Reports

Profile: Coventry Health Care Inc. is a managed health care company providing services to a cross section of employer groups and individuals throughout the company's health plans. Commercial products include health maintenance organization (HMO), preferred provider organization (PPO) and point of service (POS) products.  They provide a range of health benefits to members participating in Medicare and Medicaid programs.  Strength from other issues in the same industry group is a nice reassurance that this is a leader in a leading group of stocks.  Fundamentals are strong, having a well-established annual earnings growth record and strong current quarterly results that earn it the highest possible EPS rank from IBD. 

What to Look For and Look Out For: The price has already cleared its pivot point yet remains still within the maximum buy price range. Some investors may want to simply buy the stock now, however it may be wiser to wait and see that the overall market gets a confirmed rally going.  As always a disciplined CANSLIM investor would not pay more than 5% above the pivot point ($53.24).  A break below its upward trendline (connecting lows from 5/25) or it 50 DMA of $48.74 would be cause for concern. Losses greater than 7-8% from your purchase price should not be tolerated.

Technical Analysis: While carrying high ranks from IBD the stock had quietly cleared a better that 7-week base and then retraced back to just under its pivot point.  It convincingly broke out of on 07/26/04, trading three times average volume and rising decisively above its pivot point of $50.70, a clear technical buy signal. That impressive action was followed by a slight gap down and loss on even greater volume the very next day, yet it did find support at an upward trendline and stayed above its 50-day moving average line (the blue line).  This is usually a bullish sign of institutional support, and the stock now has virtually no overhead supply (resistance) in the way of new highs.

Financials | StockTalk | News | Chart | SEC | Zacks Reports

Profile: United Industrial Corp develops and produces aerospace and military systems, electronics and components under defense contracts.  To a lesser extent it also provides energy generating systems for industry and utilities. During 2003, the company discontinued its third business segment, a transportation segment.  Defense is the company's largest business segment and the United States Department of Defense is its main customer. Leadership in the group is a nice reassurance, as the Electronic-military Systems group is in the top 10% of IBD’s 197 Industry Groups.  Its other ranks from IBD are very strong, especially based upon its +58% and +162% earnings increases in the December ’03 ($0.49 vs $0.31) and March ’04 ($0.34 vs $0.13) quarterly financials.

What to Look For and Look Out For: The action has already been encouraging of late, and a breakout above the pivot point ($25.44) while trading above average volume could trigger yet another technical buy signal.  Watch also for it to reach and rise above its May ’02 high of $26.05, which could be a very significant long-term chart breakout.  Meanwhile, a break down under its 50 DMA would be cause for concern and a technical sell signal.  Beyond that, its next support should be in the $21-22 range above its April-May highs.  Keep in mind that this company trades only about 58,900 shares on an average day, so the lack of liquidity can lead to greater volatility.  It will hold a conference call on Friday, August 6, 2004 at 10:00 a.m. (ET) to discuss its financial results for the second quarter of 2004.

Technical Analysis: The stock has been gradually rising yet trading in a fairly tight range since its 06/14/04 gap up over $22 with gains on heavy volume.  While the overall market had a very tough July, notice UIC’s lack of declines on higher than average volume as a reassuring sign that there are not a lot of anxious sellers.  A look at its 3-year chart shows the stock is now testing near its all-time highs where it had peaked in May ’02. 

Financials | StockTalk | News | Chart | SEC | Zacks Reports

Profile: DHB Industries, Inc. (DHB) has two divisions: DHB Armor Group (Armor Group) and DHB Sports Group (Sports Group). The Armor Group principally manufactures three types of body armor: concealable armor, tactical armor, and modular concealable/tactical armor. The Sports Group manufactures and distributes protective athletic apparel and equipment, including elbow, breast, hip, groin, knee, shin and ankle supports and braces, as well as a line of therapy products.

As you might suspect, the value of body armor has been proven in the Iraq war. DHB also supplies armor to U.S. police forces and is just beginning to tap the foreign markets. The company was profiled on IBD’s “New America” page on 7/9/04 and has appeared on the IBD 100 list over the last three weeks (ranked 32^nd most recently). This high-ranked leader in the Commercial Services – Security/Safety group (ranked 6^th on IBD’s 197 Industry Groups list) has a good Zacks (2) fundamental ranking, and this year’s PEG ratio (0.33) is indicative of much value at current prices. It announced on 6/8/04 that a new $240 million three-year contract was awarded them by the Defense Department.  Funds hold 21% of available shares, management 50%. Moreover, 4 top performing funds have added 3 million shares in last reporting period.  

What to Look For and Look Out For: The risk/reward looks favorable here and from this month-and-a-half period of consolidation (between black lines) a volume increase could help it breakout above its pivot point ($16.55). That assumes the company's ongoing fundamental performance remains positive. It should be noted that its March ’04 quarterly financial report showed only a +17% earnings improvement over the year earlier period (less than the +25% minimum increase guideline). While an easy comparison against its June ’03 results ($0.09) seems to be approaching, it would be hard to tolerate mediocre results when the company reports (soon). Any close below the bottom black line, especially with increased volume, would be of concern and possibly lead to a test at its 50-day moving average.  A violation there would be a technical sell signal.

Technical Analysis: Notice the similarity in its last two consolidation periods, where narrowing triangles on reduced volume were followed by high-volume breakouts. The 3-year chart shows DHB rose from a multi-year cup-with-handle pattern (Mar ‘02 to April ‘04), and later gapped up on June 9^th, 2004 on the news of a record DOD contract. The number of consolidation phases in its bullish run (beginning in 1/03) is some concern, however since that gap DHB’s float has turned over 2.8 times.

Financials | StockTalk | News | Chart | SEC | Zacks Reports

Profile: American Medical Systems Holdings, Inc. manufactures and markets a line of products for erectile restoration and other men's health needs, including products for incontinence, stricture and prostate disease, and women's health needs, including products for incontinence, menorrhagia, prolapse and other pelvic floor disorders.  Others in the Medical – Products group are providing confirmation of leadership, but the group is mixed.  It has a great annual earnings growth history, and its ranks from IBD are strong, especially its high Earnings Per Share rank in the top 5% of all public companies.

What to Look For and Look Out For:  Any drop back under the 50-day moving average line would be cause for concern, but a reversal of its recent progress and violation of the July 27^th low close of $29.37 would be a more serious technical sell signal.  Meanwhile, a rally above prior highs and over its pivot point on at least 50% above average volume would be a technical buy signal.  Overall market conditions are a key concern for investors still, so watch for a confirmed rally in the major indices as an important reassurance before any aggressive buying.

Technical Analysis: The stock has recently risen above its 50-day moving average line on light volume while working on the right side of a better than 9-week base. It has been trading in a fairly tight range since its May 26-27 high-volume breakout from a 5-month consolidation.  The stock is within close range of all-time highs and has only limited resistance remaining due to little overhead supply.

Experts frequently get it wrong. Examples litter history: Erasmus Wilson, professor at Oxford University said: "When the Paris exhibition closes, electric light will close with it and no more will be heard of it;" Captain Edward J Smith of the Titanic: "I cannot imagine any condition that would cause this ship to founder;” Harry Warner of Warner Bros. in 1927 said: “Who the hell wants to hear actors talk? or Thomas Watson of IBM, who in 1943 said: “I think there is a world market for maybe five computers.” A few more: "We don't like their sound. Groups of guitars are on the way out," from a Decca Recording Company executive who turned down the Beatles in 1962, and the prestigious Wall Street Journal in a 1995 editorial opined, "Bill Clinton will lose to any Republican who doesn't drool on stage."

A diverse group of people possessing various degrees of knowledge and insight and acting independently in their own interest, outperforms experts. Whether guessing the number of jelly beans in a jar, the weight of an ox, predicting the outcome of the presidential election, or determining the position—within 200 yards--of a downed submarine (1968 Scorpion), the crowd's estimate, i.e., its collective view, has proven to be far more accurate than any expert’s opinion (examples cited in The Wisdom of Crowds).

A good example is what happened following the Challenger disaster. Within minutes, investors dumped the stocks of its four major contractors: Martin Marietta (manufactured the external fuel tank), Rockwell International (built shuttle and its main engines), Lockheed (managed ground support), and Morton Thiokol (built solid-fuel booster rocket). Twenty-one minutes after the explosion, before anyone had a clue as to what had happened, the investing crowd had spoken: Martin Marietta was down 3%, Rockwell International 6%, Lockheed 5%, and Morton Thiokol had so many people trying to sell and so few willing to buy that a trading halt was called (by the end of the day it was down 12% while the price for the other three had begun recovering). The crowd almost immediately labeled Morton Thiokol responsible, even though that day there had been no public comments singling out Thiokol. Six months later a Presidential Commission revealed that O-ring seals on the booster rockets made by Thiokol were indeed responsible.

In another example, Surowiecki illustrates the intelligence in the crowd's opinion by citing findings from the television quiz show "Who Wants to Be a Millionaire?" Participants on this show, if you remember, could choose help in answering specific questions: either to phone a friend or ask the audience. The friend had presumably been selected on the basis of his or her superior general knowledge, while the audience consisted of a group of people with nothing better to do that afternoon than wander into a TV studio. Over the life of the show, the friend (the so-called expert) came up with the right answer 65% of the time, while the crowd had an amazing 91% success rate. So how can we use the crowd's opinion to our advantage?

Several groups have developed futures markets to predict from the crowd’s opinion: presidential elections (Iowa Electronic Markets - http://www.biz.uiowa.edu/iem/markets/Pres04_WTA.html), new drugs (Eli Lilly - http://e.lilly.com/), new technologies--and the weekly close of the Nasdaq - (Technology Review - http://www.technologyreview.com/index.asp). The Defense Department even had the foresight to suggest a market-based approach to forecast the likelihood of terrorist events before a squeamish Congress nixed the idea (Carl Hulse, The New York Times - http://www.glovesoff.org/web_archives/nyt_terrormkt.html).

In the stock market, the price of a stock is set by people representing all sorts of levels of information, intelligence, and resulting expectations: traders betting a stock’s price direction over the next few minutes to weeks, long-term investors expecting the value of their shares to rise and short-sellers betting the price of a stock will fall. Through their collective buying and selling, the market efficiently prices the value of a company's stock. This crowd's response to fear and greed manifests itself in predictable chart patterns, e.g., the multi-day pullback after a period of steady rise followed by its reversal at specific levels of symmetry (often common Fibonacci levels). These are crowd responses that have played out the same way for the past 100 years.

Fibonacci ratios likely measure the balance between human fear and greed, i.e., as price falls, fear dominates, and sellers rule, but a point is reached where greed enters, an opportunity is perceived, buyers again rule, and price climbs. I recently polled a group of 121 traders for their preference as to where they would expect the reversal of a pullback to begin. They were shown a picture of rising daily bars (white bars on Chart 1 without the percentages) and then asked to choose a point at which they thought this pullback would most likely reverse: 1.7% chose a 12% reversal, 0% a 19% reversal, 5% a 27% reversal, 77.4% either the 38, 50, or 62% most common Fibonacci reversals, 9.2% a 75% reversal, and 5% a 91% reversal. It’s natural for the crowd to expect a reversal at these three standard Fibonacci levels. That’s where they want to step in to buy again! That's where they perceive the stock is a bargain again! It's a natural symmetry expected by the crowd.

- Richard W. Miller, Ph.D.

You, the investor, need to analyze your financial situation and come up with a plan of action in order for you to start constructing and paving your road toward financial independence.

I personally believe that a return of at least 5% to 8% or more on a yearly basis (within a retirement account where you will be able to defer taxes) is a good return for the average investor to receive on the larger portion of their investment dollars. I strongly believe in investing that larger portion in no more than 2 to 3 funds that are to be held for a minimum of 5 to 10 years, all the while re-investing the dividends and/or interest. In other words, don’t touch it!

Investing in individual stocks using the CANSLIM method and following its selling rules is crucial for your individual stock purchase success. For investors with a limited amount of investment capital, especially those that are just starting to invest, it is wiser to minimize the percentage of your investment dollars in individual stocks. Your retirement is too important for you to place 100% of your dollars into individual stocks that may or may not escalate in price. A big portfolio of individual stocks is also extremely time intensive to successfully monitor.

Due to the current market downturn - which may or may not continue - it is best to invest in some well-selected funds that are currently selling at a discount due to the fall of the market. Remember, buying funds for your retirement during a downturn in the markets (you get more shares when the price is down and then you hold onto those shares) is the opposite from buying individual stocks using the CANSLIM method (buying shares of a company while the price is breaking into new highs on big volume).

Here are some of the types of investments that most investors (especially beginners) should have as part of their investment pie:

• A dividend oriented fund (somewhat conservative)
• An S&P 500 Index fund (conservative with an aggressive touch)
• A tech oriented fund (aggressive and riskier)

The following are some vocabulary words that can help you understand if you or your financial advisor is selecting the right combination of funds for your portfolio.

Investing in your future and investing regularly within your retirement account, be it an IRA, Roth IRA, 401(k) etc. is of most importance for your future financial freedom. Should your employer offer a 401(k) plan you should invest the maximum amount before investing in other plans because your employer matches or partially matches your contributions. Consider that free money!

Investing in funds while the markets have declined or are declining is like buying goods and services at a discount! Setting a plan of action to invest today will alleviate or eliminate the pain you could feel when you find out that you lived for the moment and never saved for those rainy days.

Soraya Nasrallah, obtained her Series 7 license in 1992, and has served in the capacity of Sales Assistant, Head of Operations Department, and Stockbroker.  Contact Soraya Nasrallah via email at snasrallah@sourcegrp.com or by phone at (954)785-1990 for assistance you with your portfolio. She will be pleased to offer ideas that suit your investment needs, and she can help you achieve the gains you have been searching for.  Miss Nasrallah has just introduced a new educational program called InvestorWiz! specifically created for teenagers and novice investors, incorporating stock market basics with CANSLIM in a colorful and picturesque format. It is the perfect gift for those who just don’t know much about the world of stocks and investing! Comments contained in the body of this report are technical opinions only and are not necessarily those of Source Capital Group, Inc. The material herein has been obtained from sources believed to be reliable and accurate, however, its accuracy and completeness cannot be guaranteed. Our firm, employees, and customers may effect transactions, including transactions contrary to any recommendation herein, or have positions in the securities mentioned herein or options with respect thereto. Any recommendation contained in this report may not be suitable for all investors and it is not to be deemed an offer or solicitation on our part with respect to the purchase or sale of any securities. Source Capital Group, Inc. is a NASD/SIPC member firm.

Thankfully, the good folks at the American Association of Individual Investors (AAII) have helped us towards our plan of having more face-to-face presentations. Two Florida chapters of the AAII have graciously invited us to give a presentation at their respective meetings on September 21 and September 22. The Florida West Coast and Central Florida chapters extended the kind invitations. There is a nominal charge for attendees.

CANSLIM.net founder and regular contributor Kenneth J. Gruneisen will be the presenter. This is primarily an educational presentation. Kenny will be speaking about the CANSLIM method of investing and how it is applied to investing and trading decisions.

The AAII clearly endorses the CANSLIM method, as this quote appears prominently on their website: "CANSLIM has been one of the most consistent and strongest-performing [stock selection] screens during both bull and bear markets." As CANSLIM experts, having CANSLIM.net speak at one of their meetings makes perfect sense. To learn about the AAII, simply go to http://www.aaii.com.

As we prepare for this upcoming meeting, we see the opportunity to expand and repeat these seminars and presentations. While getting out of our home territory is sometimes a scheduling difficulty, we have subscribers all over the world and we are excited about the prospect of meeting them. Many of our subscribers are clustered around radio markets where Gary Kaltbaum’s radio program, the Investor’s Edge, is broadcast. This is strong testimony to the power of broadcasting and the popularity of Gary Kaltbaum.

If you would like to be notified of upcoming seminars, you can register for email notification here: http://www.canslim.net/seminarreg.htm. While the upcoming AAII meetings might not be in your geographical area, consider traveling to Florida to combine business with pleasure. You would have the opportunity to meet one or more of the CANSLIM.net crowd and learn more about the CANSLIM method of investing.

Andrew C. Hansen
Editor, CANSLIM.net
editor@canslim.net

CAN SLIM (written here as "CANSLIM" or "Canslim:) is a registered trademark of William O'Neil + Co. CANSLIM.net is not owned nor affiliated with William O'Neil + Co. or any of their subsidiaries including The Investor's Business Daily newspaper.