Does Volatility Kill? By Lynn Carpenter 
Last month we decoded chart trends. This month we will tackle volatility, which is probably even easier and much more misunderstood. People who trade options study volatility closely. They hunt it out or avoid it. They massage it and time it. They know it can work for them, or against them, and in either case it strongly affects their price. In contrast to the option trader, most of us stock investors give volatility very little thought, if any. If that’s you, you can continue to trundle happily down that path, ignoring the whole issue… if you stick with blue chips and plan to hold them for 20 years, that is. Otherwise, it would be worth your while to give the subject a little notice. A great deal of what the experts tell you about stocks and how to handle them is closely linked to their beliefs about volatility and their reactions to it. But on the more practical level, volatility may also affect whether you are profitable, what kind of stocks you should buy and how you handle your money. As with the series on trend lines, I am going to break this subject down into rational pieces. You will find that the subject is not abstract at all, and is certainly not as complex as some people would have you think. Normally, a discussion of volatility in stocks heads right to the deep waters of Modern Portfolio Theory, beta and academic studies. We’ll get there, but we’ll start at the commonsense end of the subject, before academics chop it up and give each of its parts ten-dollar names. I might start us out with a formal definition, but I will offer you something better. A picture. 
In the past year, Lockheed Martin and Overseas Shipping Group have both done well and gone up about 12%. In that time, the Dow and the S&P both lost ground. Investors who bought either one of these stocks should be happy with their gains so far. INTERNAL ENDORSEMENT Winners Cherry Pick!
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You don’t want to miss out… because, today, you can jump into any one of seven companies at what should be their once-in-a-lifetime lows… each is poised to take you to new highs. Grab this low-hanging fruit here. | But I will bet you that many aren’t. Lockheed is a little off its peak, but most of all, it was fairly boring. Those looking for big excitement probably weren’t satisfied with this nice, steady march. Overseas Shipping would have troubled even more investors. Even if they were happy to have 12%--as any sensible person should be—the ride was a rough one. The stock was up 35%, it was down 11%, up 15%, down 13%, up 6%, down 15% and finally up 12%. That’s volatile! In fact, both stocks have volatility, but Overseas Shipping has a lot more of it. On a practical level, spotting volatility is like recognizing good art—I don’t have to define it for you. You know it when you see it. Now, think about using stop losses. Everyone who bought Overseas Shipping when it was getting hot in April to June last year took a loss on the stock if they used a 25% trailing stop. Everyone who bought the stock in April, most of May or the second week in June who ignored the volatility, stayed off the stop-loss crutch, and stuck around has made money. In fact, there were only 16 weeks in the past year where it was possible to buy Overseas Shipping at such a high price that you would be down today (well, as of April 22, when I made this chart). But only if you did not use trailing stop losses. Contrast that to Lockheed Martin. A stop loss would have been a nice bit of insurance to comfort the investor who doesn’t want to check every position every day. The stock had its ups and downs, but not enough to trigger a 25% trailing stop. Is this a claim that stop losses are evil? Heck no. But I will proclaim loud and clear that half the people who use them and most of the people who advise them don’t think it through. You cannot buy a stock like Overseas Shipping Group if you are not willing to let it wander. This applies to quite a few stocks, most biotechs, for instance. You are, in fact, more likely to lock in a loss than to avoid one if you put a standard trailing stop on a volatile stock. If you want to use stop losses all the time, don’t trade extremely volatile stocks. Period. The two instincts are at odds. Volatile stocks hint at big returns and excitement, not safety. Safety does not usually come on the kind of stocks that smash records. What We Take from This: - In the simplest terms, “volatility” means a stock moves up and down. All stocks are volatile. A stock that moves up and down more than most is “highly volatile.”
- Using a conservative stop loss on a highly volatile stock is a mismatch of purposes. Either you should rethink your stop loss policy or stick with less intimidating stocks.
- It would be good to have a rule on this—how much volatility is right.
The third point is for next week, when we look at the first of several ways to get a handle on measuring volatility. Respectfully, Lynn Carpenter P.S. To let me know what you thought of today's article, send an e-mail to: feedback@investorsdailyedge.com. Steel Goes up 51% Overnight (And I Have a Bridge I'd Like to Sell You) By Lynn Carpenter Be careful what you read. Today I got a breathless missive from a commodities watcher who is usually very sharp. But this time the panicked message is that the price of steel has risen 51% in the past month. I am sure many others will pick that up and repeat it. But here’s what an investor ought to know. It didn’t happen. Not quite like that. The urgent news pertained to “bundles at $ per ton.” That would mean rebar or scrap metal prices. The bulletin should have made the exact type of steel clear… we’ll come back to that. Scrap steel prices have risen boisterously this year, but they did not go up that much in the last month. Nor has steel in general. Below is the Dow Jones U.S. steel index, which combines types. With a value of 426 a month ago, it clocks a 16% gain in the last month. As for scrap steel, the Ohio Department of Transportation keeps tabs on shredded scrap and #1 heavy melt. Those categories rose from $362 to $381 and from $338 to $355, respectively. That’s 5% in a month. Scrap, such as crushed auto bodies, was selling for $393 a ton at the end of March. Today, quotes were for $420 a ton from two sellers, about what most of the industry commentary is claiming. That’s a bigger rise than Ohio DOT suffered, but still barely a 7% increase in the past month. You could however find that steel jumped from less than $400 a month ago, to over $500 now, if you compare different categories—scrap to hot or cold rolled steel, for instance. 
The mini-furor in steel news seems to have begun in a serious source. Analyst Eric Prouty at Canaccord Adams wrote a research note saying that scrap prices were going up rapidly because supplies were low. Prouty said he expected scrap steel to rise from $100 to $150 a ton in the next year. "For perspective, shredded auto scrap is now selling for about $400 per ton and should likely increase to well over $500-plus per ton in the near future," Prouty predicted in his April 3 note. That’s 25% to 37% in a year, not 51% in a month. This turns out to be a really neat news item for you if you enjoyed the chart smarts series. In the segment on the bull resistance trend line, I used a chart from Steel Dynamics, one of the scrap metal users, to show why that line serves as a warning. Go back and look at the article. I walked through how I might think about the stock and deciding not to buy it at the time. To recap, Steel Dynamics was $38.72 at the time. It is $34.55 today. At the time I was writing, I didn’t know about the Prouty memo, but some people did and that was what sent the price of Steel Dynamics and peers like Schnitzer Steel into the sharp rise you can see on the chart in the original article. Go back and take a look at the article now that you know “what happens next.” It’s a good example of how analysis and charts support each other. It’s also a reminder that we usually do not know every single thing that might affect a stock—but most of the time, with the facts at hand and a little help from charts, we can do pretty well. At the very least, we can stop and exercise care. INTERNAL ENDORSEMENT Imagine if There Were Only 6 Numbers to
Choose from When Buying a Lottery Ticket! Wouldn’t that be great?! Of course, the less the number of choices, the more likely your chance of success, right? How many choices are there when buying and selling shares? Errmm… a LOT! Hundreds…One of the reasons I enjoy such consistent success from trading, is because I only have 6 options to choose from! Except this is even better in a way, because the lottery is pure luck… I only have 6 choices AND have a VERY good idea about which choice to make because of the insider signal | If you enjoy IDE's daily investing advice, you'll definitely be interested in checking out our sister publication, Early to Rise. Each morning, you'll get powerful wealth-building advice covering real estate, entrepreneurship, personal finance, marketing, and much more.
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