Don’t Buy Stocks When This Happens

By Jason McIntosh | Published 16 June 2022

Before deciding which ASX stocks to buy now, you should also know which ASX stocks to avoid. This is because a big part of successful investing involves protecting capital. And buying the wrong type of stock can put your capital at significant risk.

If you’ve been following my weekly videos, you’ll know that I’ve been saying that it’s all about defence in this market. Whether you’re in Australia, the U.S. market, in Europe, or pretty much anywhere, it’s a case of applying strategies to protect capital. People buying dips, people trying to pick the low, are taking a lot of risk in this environment. The market structures that I’m seeing don’t support a high degree of risk-taking.

I’m going to show you an example of what I mean.

This is a stock called Magellan Financial Group, and last week, it fell 15% in one day. The fund reported net outflows of funds under management and the market punished the stock. But then you look at this chart of Magellan, it’s been in a downward trend for months. One of the most important things that I can tell you is to trade with the trend. Don’t trade against the trend, trade with the trend.

Just about anyone could tell you that Magellan isn’t in a bullish trend. And when I see a chart like this, there’s no hurry to buy. But many people keep buying. They’ve been doing so all the way down. Often, they are averaging in at lower prices after buying at higher levels. Others are looking for a bargain. But it’s just such a risky strategy, and it’s been a capital destroyer.

The chart patterns you can see above is bearish. The moving averages are sloping downwards and the share price being well below those moving averages, it just doesn’t support taking a position. And the same goes for a host of stocks popular ASX stocks that people are buying with the aim of getting a bargain. Stocks like Dominos (ASX:DMP), Nick Scali (ASX:NCK), Domain (ASX:DGH), and ARB Corp (ASX:ARB). Each of these stocks did well over the past couple of years, but they are now falling away.

Here’s Nick Scali for instance:

Nick Scali is a furniture retailer that did very well during the Covid recovery. It ran from around $2.80 up to $16, so massive trend. I was talking about the company in the media in February. The moving averages had just crossed to the downside. And I said that Nick Scali was a stock to avoid. It’s trading below its moving averages, and when a stock is below its moving averages, that’s when the bad stuff typically happens.

The comment which came back to me was that some analysts were saying that Nick Scali was actually a buy due to floods in NSW and Queensland. The think was that this would lead to more furniture purchases and boost Nick Scali’s profits.

Yes, that was possible. But the price action didn’t agree. My thoughts were that until the stock was above its moving averages, it was safer to avoid. And you look what’s happened since then. It’s down 35%.

The message is clear. Don’t buy stocks which are below their moving averages and trending lower. It so often leads to trouble. Eventually, many stocks will bottom below their moving averages. But you can be holding onto these losing stocks for a long time.

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