When a stock does break out on strong volume and makes a 10-15% run in 2 days it's normal for it to pull back some or even test the breakout point isn't it before it makes another move or consolidates? Also is it possible for a stock to sell off heavy below the breakout without any bad news on the stock or if the market looks healthy? I've heard a stock can pull back 20-25% after a run. Is this 20-25% based on the stock price or the difference from the breakout point and the amount the stock has gained? (June 11, 2001)
Yes it is 'normal' for a breakout stock to test the recent breakout. A stock can come all the way back to the actual breakout point. Not all stocks do this; on the strong leaders it is a 50-50 proposition. Still, even the strong stocks will come back a bit after the initial surge as shorter term traders take profits. The biggest moves often occur after this test, but sometimes stocks just do not come back. Thus we can buy some on the breakout, and if we get a test, buy some more when it starts back up or takes out the breakout high.
Stocks can sell off after the breakout, moving back below the breakout point even without bad news. What this means is that the base simply did not weed out all of the sellers. A base can look great, but then it simply fails. We can rest assured that this will happen from time to time; if it does, we simply close out the position and look for the next one. Odds are we will hit more winners than losers playing solid breakouts from solid bases.
As for the percentage a stock pulls back after a run, that is typically called retracement, and the amount varies from stock to stock. Initially on a run a stock will retrace 25% to 30% of each move higher as it builds higher highs and higher lows. It usually gets 4 to 5 runs out of a breakout or along a trendline before its starts to falter and then go back to test a lower trendline or support level. The fourth and fifth bounces up off the trend tend to show more volatility and can retrace 50% of the last move up. When we see that fourth bounce up, we usually do not play the fifth as it will be much more volatile and will often lead to a test of that lower support level (often the 50 day MVA). We will wait for that test and then pick it up off of that level for the next run.
We cover all of this in detail in our technical analysis seminars that will start again in July, and it is a real eye opener to understanding stock movements.
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