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Letters to the Editor

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To the Editors:

The information in the AAII Journal has significantly improved my investing. I must, however, take exception to the article “When to Sell Stocks to Cut Your Losses,” by William J. O’Neil in the September 2005 issue. In the article, Mr. O’Neil suggests using an 8% guideline for deciding when to sell. [Editor’s note: The 8% rule is based on purchasing a stock at its buy point as determined by a stock’s chart pattern.] This 8% loss limit is overly simplistic because it does not take into consideration the normal, daily fluctuation in stock prices.

I tested the 8% rule on the seven stocks listed in the most recent O’Neil CAN SLIM stock screen using AAII’s Stock Investor Pro software. First, I tested to find how often these stocks could have lost more than 8% on the day after purchase. This occurred 350 times.

Then, I tested to see how often these stocks lost more than 8% within five days of purchase, and this occurred 1,048 times. This shows that the 8% loss point occurs way too frequently to be applied even to “stocks showing all the right fundamental and technical factors.”

Mr. O’Neil may have used some valid arithmetic when choosing 8%, but the rule does not work in actual practice. The individual investor would be better served by looking at recent high and low points in the actual stock price movement to determine the proper stop-loss point, rather than trying to apply a blanket rule to all stocks, regardless of their inherent vo

Ron Black
Via E-mail

To the Editors:

If Mr. O’Neil (“When to Sell Stocks to Cut Your Losses,” September 2005 AAII Journal) is going to cite “research” that shows that stocks should be sold 8% below their purchase price, don’t we deserve to know the source of that research so we can check it out ourselves?

I think a better way of setting stops, which is what you’re talking about doing, is to let each stock tell you where to set the maximum loss point. That can be done by computing each stock’s annualized standard deviation and setting it at one to two times that amount. This avoids the one-size-fits-all mode of limiting downsize losses. Excel or Lotus spreadsheet programs have built-in formulas for computing standard deviations of returns.

James E. Grant, CPA, PC
Via E-mail

To the Editors:

The “Individual Investor’s Guide to Exchange-Traded Funds 2005,” by Maria Crawford Scott and Jean Henrich, was most helpful (October 2005 AAII Journal). Most of our portfolio is now in ETFs. In the screening I have done, there are only a few mutual funds that are outperforming the equivalent ETFs now available—and at much higher expense. Swensen’s “Unconventional Success” made the ETF case very well for individual investors. The Morningstar “FundInvestor” has recently begun regular monthly reporting on the top 50 ETFs. I encourage you to continue your reporting and would be interested to see one or more model portfolios based on ETFs.

Michael Sheppeck
Via E-mail

To the Editors:

I have a Shadow Stock Portfolio that has four holdings that have lost 19%, 21%, 30% and 42% since I purchased them. Your sell rules do not cover sale of stock at some level of loss to protect overall portfolio returns. Do you have guidance

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John Hedeen
Via E-mail

Jim Cloonan Responds:

You must have bought some older recommendations that had gone up and then retreated. Unless we have indicated a sell, we still feel that all of these stocks are still worth holding. I do not believe in selling stocks on price movement alone, although price changes can be a warning to look for something else. A drop in price can mean either that the fundamental performance is weak and may get weaker or that the stock has had temporary problems or is out of favor and is now on sale. In the case of Shadow Stocks, it has been the latter more often than the former. We stick with stocks until they violate our criteria. [For more on the Shadow Stock portfolio, see the Model Portfolios column in this issue and the Model Portfolios area on AAII.com.]

Barry A. Bertani
Via E-mail

 

 

 

 


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