Lesson 4: The Life Cycle of a Stock
Stocks Are Only Good if They are Going Up
(Author’s Note, this lesson is an overview of the principles covered in Stan Weinstein in his book, 'Secrets for Profiting in Bull and Bear Markets'. It is highly recommended as part of a trader’s education")
I’ve been in a stock club for a couple of months,” my son reported as I was trying to show him my watch list of stocks.
Really? I responded, wondering why he had not mentioned this before.
My son then explained that his stock club would meet once a week and one of the members' dads would talk about stocks. "We got this million-dollar simulated account to play with.”
"That sounds like a fantastic way to learn," I said, genuinely impressed. "So, what did you learn about choosing stocks?"
"Well, one of the guys said something that got everyone talking," he began, his voice tinged with excitement. "He said you have to find stocks that are undervalued."
I chuckled, setting my coffee down. "That's an interesting perspective. Everyone thinks they're Warren Buffett." My son was confused as he responded, “Who’s that?” “That is a conversation for a different time,” I responded.
I saw that my son had “purchased” 100 shares of GoPro in his account, making a mental note that we would have to have some lessons in position sizing.
“Why did you buy that stock?” I asked, trying to withhold judgment.
“Well, it’s cheap, it’s only $1, and I know the cameras they make are cool.” I then pulled up GoPro’s chart.
“The cameras may be cool, but is this a good stock?” I inquired.
My son shrugged, so I continued, “The most important lesson is that a stock is only good if that stock is going up. Many people will look for cheap stock, or the next big thing, but most are ultimately disappointed.”
It’s important to understand that stocks have a life cycle. "Let's explore something fundamental today: the four stages of the stock life cycle.”
My son, always eager for new insights, perked up. "What are these stages, Dad?"
"Think of a stock's life like the seasons of the year," I started, pulling up a chart to visually walk through the concept. "Each stage corresponds to a different phase in a stock's growth and decline."
My son shrugged, so I continued, “The most important lesson is that a stock is only good if that stock is going up. Many people will look for cheap stock, or the next big thing but most are ultimately disappointed”
It’s important to understand that stocks have a life cycle. "let's explore something fundamental today, it is the framework for everything I do: the four stages of the stock life cycle. “
My son, always eager for new insights, perked up. "What are these stages, Dad?"
"Think of a stock's life like the seasons of the year," I started, pulling up a chart to visually walk through the concept. "Each stage corresponds to a different phase in a stock's growth and decline."
Stage 1: The Base-Building Stage
Knowing that a video game company would catch my son’s attention, "Here, let’s take a look at Roblox this past year. Notice how much time it was in a base-building phase? It just went sideways. It's like winter, where everything seems dormant. Prices are stable, moving sideways, but there's potential energy building up. This is where smart money accumulates shares quietly."
"No, we wait. Stocks can stay in this stage for years like Roblox did. We want to make money almost as soon as we buy the stock and not just wait for it to do something a year from now."
"So, it's about patience?" he asked, seeing the calm before the storm.
"Exactly. It's about waiting for the right moment, looking for signs of accumulation like increasing volume with little price movement."
Stage 2: The Advancing Stage
"Now, look at this," I said, showing him how Roblox recently broke out of this multi-year base:
"This is the advancing stage, or spring. The stock breaks out of its base, gaining momentum. It is at this point when we want to buy the stock as this is when the stock starts its rapid growth phase where we can make money.
"It looks like it's growing!" he exclaimed, connecting the metaphor to the chart.
"Exactly. This is when you want to be buying or holding because the stock is on a clear upward trajectory. I then showed him some other charts that have made amazing stage 2 runs. But remember, like spring, this mark-up phase won't last forever."
Stage 3: The Top Formation Stage
"Here's where things get tricky," I continued, and I showed him another chart, this time Tesla. Notice how it blew off and the price moves got wider on the chart but it could never quite make another push higher and the pullbacks became deeper?
"This is summer, the top formation stage. The stock might still show some gains, but the momentum is fading. You might see false breakouts or a lot of volatility."
"So, it's time to be cautious?" he deduced, seeing the warning signs.
"Absolutely. It's a signal to tighten stops or start taking profits. The trend is losing its steam, and the smart money might begin to exit before the decline."
Stage 4: The Declining Stage
"Finally, we have this," I pulled up GoPro’s chart, which showed the descent from $100 now to $1. "This is autumn, the declining stage. The stock is clearly in a bearish phase. Volume can be high as sellers dominate, and the descent can be brutal.
"It's like watching leaves fall," he observed, understanding my season analogy.
"Right. And just like seasons, stocks will cycle through these stages. The key is recognizing where a stock is in its cycle to make informed decisions."
"But how do we know when one stage ends and another begins?" he asked, getting to the heart of the challenge.
"That's where technical analysis, volume, and price patterns come into play. You look for the signs Weinstein describes—volume surges, breakouts, support, and resistance levels. It's about reading the market's language."
He nodded, the complexity of the market's rhythm starting to make sense. "So, we have to be like farmers, knowing when to plant and when to harvest?"
"Exactly, son. And remember, just like farming, sometimes you need to adapt to unexpected weather changes. Markets can be unpredictable, but understanding these cycles gives you an edge."
With that, I turned back to the charts and began quizzing him as to what stage particular stocks were in. “You got it,” I said.
“Think of the four stages as the skeleton or foundation, for our stock assessment. We’ll then have to develop buying and selling tactics. Just because a stock is in stage 2, doesn’t mean you should just run out and buy it. We’ll be talking about that in a lot of detail over the next few weeks”
So what do you think?” I asked.
“I think I should sell Gopro!” my son responded.
Until next week, stay curious, and may stocks move in your favor.
Cheers,
Disclaimers
“Not Investment Advice Disclaimer”
The content covered in this blog is NOT to be considered as investment advice. I'm NOT a financial adviser. These are only my own personal and speculative opinions, ideas, theories, hypotheses, charts, technical analysis (TA), insights, curated news publications, and price prediction(s).
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