In the last few months we have been discussing how to identify a correct buy point using common chart patterns / base formations such as cup-with-handle, double bottom and flat base. In addition to the type of base, it is important to understand the levels of the base.
The levels start at one and increase with each subsequent basic pattern. The amount of movement between two basic patterns determines whether the stage moves numerically or alphabetically. If the price from the pivot point of the previous base to the left high of the current base is 20% or more, the level increases by a factor of 1 – for example, from level 1 to level 2.
If the price movement is less than 20%, the level increases by an alphabetical factor – level 1a to level 1b.
The base level and the number are always reset to 1 when an intraday low price undercuts the low of a previous base.
The current market leaders have formed both early and late stages. Base phases help investors identify the progress a stock has made in rising in price. This is the greatest indication of a stock’s remaining growth potential.
It’s a good idea to keep track of the number of bases a stock has formed during its current run-up. As a rule of thumb, try to buy stocks that break out of the first or second base of their run. Late-stage bases are riskier. Late stage means a base that is number three or higher in base count.
After a fourth base is formed, most growth stocks don’t have much, if any, rebound. What usually follows is a long, steep slide. After a stock rallies large without major correction, institutional investors are more likely to cash in on their gains and drive the price into serious decline.
When a stock forms a late-stage base, it is usually well known to investors and lacking new buyers. In addition, in the late stage the base tends to have unsteady price fluctuations, strong sales spurts or other defects. That way, the chart will help you determine that the best buying opportunities are gone.
Late-stage patterns can work and sometimes turn into nice profits, but understand that they involve higher risk. If you are buying a stock in a late breakout, if the stock doesn’t catch on and goes south, you should cut your losses quickly.
Mug with handle base:When to Buy the Best Growth Stocks: How to Analyze a Stock’s Cup-With-Handle
Disclaimer: The information contained herein is not and should not be construed as an offer, solicitation or recommendation to buy or sell any securities. It is for educational purposes only.
From Marketsmith India
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