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Trading 52 Week Highs for Maximum Profits

In his book, “How to Make Money in Stocks”, William O’Neil relates a story about when he was a young broker trying to make it in the stock market. While he was researching how other successful investors made their money, he noted that all the biggest winners were purchased at new highs. All of them! This was a stunning awakening for him. Buying at new highs at first seems like a sure way to lose money.

A company hits new highs when there is new money pouring into a previously ignored company. Whether this is because there is new technology, expanding markets or for whatever reason, the company is now in a growth position. And this is signaled first by the price beginning to move.

In trying to understand how this could be, he noticed that all the companies that performed so well also had strong management and were in expanding markets. Many were very undervalued. So it wasn’t just any company hitting new highs, it was fundamentally strong companies that had found new growth opportunities. In other words, winners keep on winning.

But just buying into companies hitting new highs is not enough to assure success. You just might buy at the top, only to see your profits turn to loses.

It turns out that there are only two times that the 52 week high should be considered and both have to do with technical analysis. The first and best known pattern is the Cup and Handle. This is where the price has been falling for some time, usually six or more months, sometimes a year or more. The price then begins to move sideways and then upwards, forming a rounded bottom like a cup. It looks sort of like this:

It then drops back down for a few weeks or months and again starts to climb again. This forms the handle for the cup. When the price breaks above the previous high and triggers a new 52 week high, the time is right to move in. The new high should also be accompanied by large increases in volume, sometimes 300% or more above average. It looks sort of like this:




That second break out to a new high is where you want to move in.

The second and lesser known pattern is the Three Months Flat. It is similar to the cup and handle, but comes out of a long period when the price range does not vary much. There is low volatility and steady volume. Then, there is a sudden jump in price. The range on the breakout day will be larger and volume will be huge. This signals large buyers moving in ahead of the run up.

There also may be some large spikes in volume in the months leading up to the breakout. These look like flag poles sticking up above the average. But with the large volume, there is little or no change in price. They are a signal that something is going to happen.

When there are two or more of these flagpoles, there are large behind-the-scenes deals being made. When you see these signals, it is time to look into the insider trading activity for the company. If there is large institutional or management buying, it is time to follow suit.

But before you go jumping in with both feet, you need to do a little more research just to be sure you are reducing your risk as much as possible. The first is to check out the fundamentals. Basically, you want to see two years with increasing Revenue and increasing Net Profit. You also want to see two years of increasing cash. Last, you want to see declining or no debt.

Cross check with other trading strategies. Look for undervalued stocks. You can also look for an F-Score of 7 or above, which are inherently undervalued.

Now the more subjective factors to look for:

Questions to ask yourself

  • Is this company in a growing or new industry?
  • Can / will everybody use it or at least benefit by it?
  • Is the business difficult to get in to? (If so, good)
  • Number of analysts upgrading the stock (Increasing number of analysts following is also good)

Also, any good news, if it is not already too late. Usually, by the time news comes out the big move has already started or is even ready to play out.

You may not get a yes to all of these, but the more the better.

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