Take Profits on Your ‘Expensive’ Stocks Now

by Sam Collins | October 24, 2013 2:46 am

The impact of Carl Icahn’s sale of half of his position in Netflix (NFLX[1]) on Tuesday carried over to Wednesday’s opening. And, adding to the profit-taking, worries over headlines from China reporting that its largest banks saw their debt write-offs triple during the first half of the year led to gaps down on the opening for most indices.

After the first hour of trading, selling slowed, and most indices closed with minor losses. But high-momentum stocks dropped the Nasdaq 0.57%.

Boeing (BA[2]) rose 5.3% after it reported strong third-quarter results and management projected higher-than-expected earnings and revenues. Netflix gained 2.4%, taking back some of Tuesday’s 9.2% loss. And Corning (GLW[3]) jumped 14.1% after announcing that it will broaden its relationship with Samsung and increase its stock buyback program by $2 billion.

At Wednesday’s close, the Dow Jones Industrial Average was off 54 points at 15,413, the S&P 500 fell 8 points to 1,746, and the Nasdaq lost 22 points at 3,907. The NYSE traded 708 million shares and the Nasdaq crossed 466 million. Decliners outpaced advancers on the Big Board by 1.2-to-1 and on the Nasdaq by 1.5-to-1.

DJU Chart[4]

Chart Key[5]

Despite a positive day for bond prices, the utility sector, which is considered an income substitute, fell Wednesday and flashed a sell signal from our proprietary internal indicator, the Collins-Bollinger Reversal (CBR). This, however, should be of little concern since the index appears to have become somewhat overbought. An adjustment lower will probably take the index back to support at its 50-day moving average before it resumes its upward trend.

XLK Chart
Click to Enlarge

The Technology SPDR (XLK[6]) broke above the top of its bull channel, which is its bullish resistance line, on Friday. However, the recent profit-taking in high-multiple tech stocks drove it back under the line, where it traded all of Wednesday. This back-and-forth movement within overall trends is considered normal, since each retracement results in an adjustment back to the norm or average angle of advance.

Conclusion: Tuesday’s adjustment of some high-multiple stocks caused a ripple of anxiety among investors as recollections of other periods of irrationality were recalled. Market analyst Ed Yardeni noted the spike in forward P/E ratios to 16.8 and 18.3 for the S&P MidCap 400 and the S&P SmallCap 600, respectively, saying that they were at “nose-bleed” levels. The implication was that the market is due for a “correction.”

A correction is usually considered to be anything in excess of an 8%-10% decline. This year, we’ve had only “adjustments,” which have taken stocks back to what I referred to on the above charts as the “norm” or average angle of advance.

Profit-taking of this nature is healthy and is an assurance that prices will resume their upward trend. But as P/E ratios increase, so does the probability of a “correction” or something worse. This is why I think it necessary to take profits on the “expensive” stocks and patiently await the next buying opportunity.

Today’s Trading Landscape

To see a list of the companies reporting earnings today, click here[7].

For a list of this week’s economic reports due out, click here[8].

  1. NFLX: http://studio-5.financialcontent.com/investplace/quote?Symbol=NFLX
  2. BA: http://studio-5.financialcontent.com/investplace/quote?Symbol=BA
  3. GLW: http://studio-5.financialcontent.com/investplace/quote?Symbol=GLW
  4. [Image]: https://investorplace.com/wp-content/uploads/2013/10/10-24-13-dju.gif
  5. [Image]: https://investorplace.com/wp-content/uploads/2013/05/chart-key.gif
  6. XLK: http://studio-5.financialcontent.com/investplace/quote?Symbol=XLK
  7. click here: http://www.bloomberg.com/apps/ecal?c=US
  8. click here: http://www.bloomberg.com/markets/economic-calendar/

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