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3 Advantages of Buying Pullbacks (& 3 Pullbacks to Buy Now)
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The Art of Buying Pullbacks
Investors who have been around the block understand that there are tons of ways to “skin the cat” on Wall Street. For example, some investors prefer to buy breakouts, while others prefer to buy gap-ups. My preferred trading method is to purchase pullbacks to the 10-week or 50-day moving average. In my investing journey, such pullback buys have yielded positive and profitable results for three main reasons, including:
Tight Risk: Trading Versus a Level
“All the math you need in the stock market you get in the fourth grade.” ~ Peter Lynch
“I have two basic rules about winning in trading as well as in life. 1) If you don’t bet, you can’t win. 2) If you lose all your chips, you can’t bet.”~ Larry Hite
“At the end of the day, the most important thing is how good you are at risk control.” ~ Paul Tudor Jones
The three traders above have little in common stylistically. Nevertheless, each preaches that the most critical investment rule is to control your downside risk. I have found this to be true in my trading career as well. Buying a pullback to a moving average allows me to contain risk versus a moving average. Conversely, buying breakouts requires wider risk (unless using an arbitrary stop, which I don’t recommend.) Furthermore, with pullback buys, you immediately know whether you’re correct or not on the trade.
Avoid Obvious Entry Zones / Shake Out “Weak Hands”
Standard breakouts tend to have a lot of “eyes” on them and are overcrowded and obvious. Savvy investors understand that what’s obvious in the market rarely works. On the other hand, pullbacks tend to undercut levels of support and allow for lower-risk, less obvious entries.
Can Establish a More Optimal Average Cost
By purchasing into weakness investors can establish a low average cost. A low average cost is critical for investors to hold for a large move. Because even the strongest stocks revert to the 10-week moving average, it’s best to have your average cost as low as possible to withstand any “upside volatility.”
Arm Holdings is critical to the AI buildout because its chip designs power a vast array of devices, enabling efficient and scalable processing necessary for the proliferation of AI technologies across various industries and applications. The company was by far the most successful IPO of 2023. Since going public in September, the stock is up some 107%! ARM has three essential qualities that make a pullback buy attractive. The pullback is the second to the 50-day moving average (likely to be high reward-to-risk), the stock is institutional quality (institutions tend to support stocks at the 10-week MA), and ARM is part of the strongest industry (a key driver of stocks).
Palantir builds and deploys software platforms for the intelligence community, principally in the United States. The company is enjoying a slew of government contract wins. Digestion in the stock makes sense – PLTR shares exploded 43% in February after reporting blockbuster earnings results. In other words, the pullback is warranted, and institutional investors will likely see it as an opportunity ahead of earnings in May. After all, PLTR delivered earnings above Wall Street expectations in five consecutive quarters.
DraftKings is the leader in online sports gambling. Last Wednesday, DKNG shares cratered more than 6% on heavy volume after the NCAA said it wants to ban prop bets in college sports.
“The NCAA is drawing the line on sports betting to protect student athletes and to protect the integrity of the game – issues across the country these last several days show there is more work to be done,” said the NCAA president in a statement.
Meanwhile, two other pieces of negative news emerged. An NBA player is under investigation for prop betting “irregularities,” while a Wall Street Journal reported that online gambling companies’ VIP programs are potentially under federal scrutiny.
Is the stock’s action normal or abnormal? While DKNG’s action Wednesday was not ideal, the stock did nothing more than retest its breakout zone (completely normal action).
From a fundamental perspective, I believe that online betting is so widespread that it will be difficult to retract prop betting. Either way, prop betting is a small sliver of DKNG’s business and Wall Street estimates suggest that EPS will grow at a robust double and triple-digit pace in the coming quarters.
Image Source: Zacks Investment Research
Bottom Line
Pullbacks to the 50-day or 10-week moving average offer investors several advantages. Arm Holdings, Palantir, and DraftKings are three examples of stocks that present themselves as potential pullback buy candidates.
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3 Advantages of Buying Pullbacks (& 3 Pullbacks to Buy Now)
The Art of Buying Pullbacks
Investors who have been around the block understand that there are tons of ways to “skin the cat” on Wall Street. For example, some investors prefer to buy breakouts, while others prefer to buy gap-ups. My preferred trading method is to purchase pullbacks to the 10-week or 50-day moving average. In my investing journey, such pullback buys have yielded positive and profitable results for three main reasons, including:
Tight Risk: Trading Versus a Level
“All the math you need in the stock market you get in the fourth grade.” ~ Peter Lynch
“I have two basic rules about winning in trading as well as in life. 1) If you don’t bet, you can’t win. 2) If you lose all your chips, you can’t bet.” ~ Larry Hite
“At the end of the day, the most important thing is how good you are at risk control.” ~ Paul Tudor Jones
The three traders above have little in common stylistically. Nevertheless, each preaches that the most critical investment rule is to control your downside risk. I have found this to be true in my trading career as well. Buying a pullback to a moving average allows me to contain risk versus a moving average. Conversely, buying breakouts requires wider risk (unless using an arbitrary stop, which I don’t recommend.) Furthermore, with pullback buys, you immediately know whether you’re correct or not on the trade.
Avoid Obvious Entry Zones / Shake Out “Weak Hands”
Standard breakouts tend to have a lot of “eyes” on them and are overcrowded and obvious. Savvy investors understand that what’s obvious in the market rarely works. On the other hand, pullbacks tend to undercut levels of support and allow for lower-risk, less obvious entries.
Can Establish a More Optimal Average Cost
By purchasing into weakness investors can establish a low average cost. A low average cost is critical for investors to hold for a large move. Because even the strongest stocks revert to the 10-week moving average, it’s best to have your average cost as low as possible to withstand any “upside volatility.”
3 Stocks to Buy on Pullbacks
Arm Holdings ((ARM - Free Report) )
Arm Holdings is critical to the AI buildout because its chip designs power a vast array of devices, enabling efficient and scalable processing necessary for the proliferation of AI technologies across various industries and applications. The company was by far the most successful IPO of 2023. Since going public in September, the stock is up some 107%! ARM has three essential qualities that make a pullback buy attractive. The pullback is the second to the 50-day moving average (likely to be high reward-to-risk), the stock is institutional quality (institutions tend to support stocks at the 10-week MA), and ARM is part of the strongest industry (a key driver of stocks).
Image Source: TradingView
Palantir ((PLTR - Free Report) )
Palantir builds and deploys software platforms for the intelligence community, principally in the United States. The company is enjoying a slew of government contract wins. Digestion in the stock makes sense – PLTR shares exploded 43% in February after reporting blockbuster earnings results. In other words, the pullback is warranted, and institutional investors will likely see it as an opportunity ahead of earnings in May. After all, PLTR delivered earnings above Wall Street expectations in five consecutive quarters.
Image Source: Zacks Investment Research
DraftKings
DraftKings ((DKNG - Free Report) ) Falls on Potential NCAA Crackdown
DraftKings is the leader in online sports gambling. Last Wednesday, DKNG shares cratered more than 6% on heavy volume after the NCAA said it wants to ban prop bets in college sports.
“The NCAA is drawing the line on sports betting to protect student athletes and to protect the integrity of the game – issues across the country these last several days show there is more work to be done,” said the NCAA president in a statement.
Meanwhile, two other pieces of negative news emerged. An NBA player is under investigation for prop betting “irregularities,” while a Wall Street Journal reported that online gambling companies’ VIP programs are potentially under federal scrutiny.
Is the stock’s action normal or abnormal? While DKNG’s action Wednesday was not ideal, the stock did nothing more than retest its breakout zone (completely normal action).
From a fundamental perspective, I believe that online betting is so widespread that it will be difficult to retract prop betting. Either way, prop betting is a small sliver of DKNG’s business and Wall Street estimates suggest that EPS will grow at a robust double and triple-digit pace in the coming quarters.
Image Source: Zacks Investment Research
Bottom Line
Pullbacks to the 50-day or 10-week moving average offer investors several advantages. Arm Holdings, Palantir, and DraftKings are three examples of stocks that present themselves as potential pullback buy candidates.