Investor's Business Daily, August 22nd, 2007
What is a bull trap? It's a stock that looks great and has everything going for it -- but is actually poised for a major fall.
Late-stage bases usually are such a trap. By the time a stock makes a fourth base, it already has three solid bases and advances under its belt. It has come a long way.
By this time, stocks are too well known to investors, and the amount of new buyers diminishes.
And the biggest shareholders -- the mutual funds, banks and other institutions that drive most of the buying -- are sitting on big gains.
What is a late-stage base? Usually it's the fourth base a stock builds, although in some cases stocks peak after their third base.
It can be the fourth base since the start of a bull market, or since the stock becomes a bona fide growth company. So bases that form while the stock is losing money or making limited gains don't count.
Many stocks in late-stage bases have prime numbers going for them: Sales and earnings growth could be booming, margins are wide and its IBD ratings are likely strong.
But that's the trap. Those great fundamentals drove the stock higher from at least three bases already.
You're buying into an old story. And the shareholders from lower prices in earlier bases seeking an orderly exit welcome such buyers.
How can you spot a late-stage base? It's just a matter of counting bases.
CAN SLIM investors know to look for one of a limited number of base types. Those are the cup with handle, cup without handle, flat base and double bottom. A more rare example, but still necessary to count, is the ascending base.
Remember, you must see an advance of at least 20% from any given breakout to the start of the next base. Otherwise, you're probably looking at a base-on-base pattern. And that just counts as one base.
Look at CheckFree CKFR, a provider of e-commerce transactions services, portfolio management and other financial services.
From the start of the bull market in 2003 through 2006, the stock formed four bases. (The first doesn't appear on the accompanying chart.).
The first three produced gains of more than 20%.
But the fourth-stage base really petered out badly (point 1). It didn't take long for CheckFree to fall below its 50.65 buy point 14d proceed to go into a long slide.
CheckFree dived 42% until bottoming about a year ago.
