Never heard of it? Well I can’t say I have either. This however does sum up my approach to each investment I make within this portfolio. Now I understand the potential of technical analysis and agree that it can help a trader or investor pick uptrends, downtrends and potential reversals. However I am yet to be convinced on its application to the small/micro cap sector for a long term investment approach.
Why? Well it is probably best to use OBJ or MHM as an example. Now since purchasing both stocks world markets have been a little nervy to say the least. The other week we were seeing 4 or 5% swings on the global indices and both of my stocks have been caught up in the general market decline. Now had I set a percentage or dollar stop loss I would probably not be holding any stocks at this point in time, I quiet simply would have been stopped out. A technical trader would say that I can always re-enter the stock when a new uptrend develops and that a good stop loss forms part of any trade.
Okay, that all makes sense but what if an announcement comes out tomorrow stating that an agreement has been signed which will see the company’s revenues and profitability increase by a substantial margin? For a bio-tech stock with a market capitalisation of approximately $20-25 million an agreement of this nature could see the share price spike by in excess of 100%. In this situation I would have clearly missed the boat and although my analysis many have been correct I would be left holding nothing by a Sell Confirmation Note from a week or two earlier.
This underlines the issue I have with technical analysis at this end of the market. Yes it can be used to help predict future behaviour of the share price based on patterns formed over time (i.e. resistance and support levels, Fibonacci numbers, etc), it cannot however predict the release of an announcement. Why is this important for me? Because I base my analysis on fundamental research and anticipate an increase in the share price based on some future fundamental event.
As a result I do not have a price or percentage based stop loss. I review the company, the market and every announcement in detail. Based on the information available I ascertain the future potential of the company and monitor it over time. If the company makes an announcement regarding the loss of a major partner or the failure to achieve a certain target then I will re-consider my investment in the stock.
My stop loss is therefore essentially $0.00 because any unforeseen event could happen. A company planning to open a new mine may be blocked by a legal hurdle, a major partner could pull of an agreement with a bio-tech stock, all of which would send the share price substantially lower. What this means for my strategy is that I only invest what I am prepared to lose. And by lose I mean lose everything! Now common sense would suggest that even in the event of a bad announcement a company is unlikely to lose all of its value overnight. So although I budget for a total loss of equity I do expect that if such an event was to occur that I would be able to retain 20-50% of the investment depending on the scenario.
This approach is certainly not for everyone and definitely is high risk, although it does come with the potential for high returns as well.
As always do your own research and consult a financial advisor.
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