We are not big fans of charting as a means to make decisions about where the price of a stock or index will go. However, when a charting strategy has a high level of consistency while taking away our own person bias, we have to dig a little deeper. This is a general overview of the incredible forecasting power and the practical investment lessons that we’ve experienced while employing Speed Resistance Lines.
Speed Resistance Lines, as demonstrated by the writing of Edson Gould, have been of significant aid in tempering our enthusiasm for a stock or index, especially when applied to targeting downside levels. Within the context of the current bull market since 2009, we’ve seen a large majority of the stocks achieve the conservative downside target (more SRLs we’ve run here). This means that even when we thought we selected the right stocks to apply to the SRL, we have been wrong.
Below are the earliest three examples of Speed Resistance Lines (SRL) that we introduced with the focus on downside targets. The first SRL we will review is the Dow Jones Industrial Average from 1949 to 1975. The second SRL is for the Philadelphia Gold and Silver Stock Index (XAU) from 1998 to 2016. The last one is Netflix (NFLX) from 2007 to 2013.
sources:
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Scheinman, William X. “1966 and All That: One Stock Market Analyst Sees Some Ominous Parallels Today”. Barron's. March 17, 1969. pg. 5.
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Scheinman, William X. “600 on the Dow?” Barron's. February 9, 1970. pg. 5.
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Scheinman, William X. “May to December: The Bear Market, Says One Analyst, Will Hit Bottom This Winter”. Barron's. August 24, 1970. pg. 5.
DJIA from 1949-1975
According to a series of published articles in Barron’s magazine from March 17, 1969 to February 9, 1970, when the Dow Jones Industrial Average (DJIA) started at 904.03, it was projected that the DJIA would decline to as low as 600. The ultimate low for the DJIA was 577.60.
DJIA targets
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587.21 (conservative target)
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459.46 (mid range target)
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331.72 (extreme target)
The amazing level of accuracy in the SRL at the time could have led to some errors on our part. The circled area that says 631.16 would have been where we would have consider buying stocks, as we would have thought the downside target had been achieved (close enough is ok with us). However, as seen in late 1974, the DJIA managed to go as low as 577.60 before the ultimate rise to the secular peak in the year 2000.
Although we would have bought at or near the 631.16 level, it is worth noting the performance of stocks if an investor had bought at the 1970 peak as outlined by Jeremy J. Siegel’s article titled “The Nifty Fifty Revisited (Siegel, Jeremy J. The Journal of Portfolio Management. Summer 1995. page 8.)”. Assuming the worst case scenario (buying at the peak of 1970 near 1000), we would have done exceptionally well as a “buy and hold” investors if we managed to buy the right stocks at the 631.16 level.
As introductions to a technical theory go, this was probably not the best start. After all, you could end up misleading yourself into believing that it would work all the time. Being naturally skeptical, we applied the theory to the gold stock index.
XAU from 2011 to 2016
On April 14, 2011, when the Philadelphia Gold and Silver Stock Index (XAU) was at 219.18, we projected downside target of 76.32. This was when we were relatively unsure of how the SRL worked. Below is what the XAU did after that April 2011 posting.
XAU targets
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142.04 (conservative target)
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109.18 (mid range target)
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76.32 (extreme target)
Again, as the downside target appeared to be achieved in October 2014, we would have, and did, buy gold stocks under the belief that the downside risk was limited. In fact, there was more than another –50% decline in the gold stock index after achieving the 76.32 level.
All in all, we’ve managed to fare better than the chart indicates as seen in our Precious Metal Portfolio, this in spite of the fact that one holding went bankrupt. Our goal was to avoid buying at or near the top, what we didn’t factor in was the prospect of how much further the XAU could go to the downside.
NFLX from 2007 to 2013
As we refined our work on the concept of Speed Resistance Lines, we tried to apply them to what seemed to be disparate stocks and indexes. One stock we applied the SRL to was Netflix (NFLX) on September 22, 2011. we thought that if it works on indexes then how about on individual stocks. Below is the updated version of the chart and the subsequent price action that followed that September 2011 posting. For the sake of matching the original posting, we’ve included the pre-split price with the post-split price (example: pre-split peak 298.73/post-split peak 42.68).
NFLX targets
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21.25 (conservative target)
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17.74 (mid range target)
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14.23 (extreme target)
After September 22, 2011, we saw the price of NFLX decline as low as 53.81/7.69. This in spite of the fact that the stock had an extreme downside target of 99.58/14.23. Again, The SRL managed to point to the direction but not the extent of the decline. In this case, shares were bought at or above the 53.81.7.69 levels.
Key Takeaways to the SRL
First and foremost is the fact that SRLs work best when applied to stocks or indexes that experience parabolic increases. Second, when applied correctly, the extreme downside targets (worst case scenario) could be minor waypoint en route to lower levels. Third, downside targets may never materialize. If this is the case then don’t worry, just focus on those that do materialize (at minimum the conservative target) and run fundamental analysis to verify the investment quality of the stock or index of interest.
In our limited experience with Speed Resistance Lines, we feel confident that within a bull market, the SRL can isolate a probable low target for a stock better than any technical tool we’ve tested so far. We say within a bull market because such low targets are not expected to materialize at all and therefore the capability of SRLs exceeds conventional expectations.