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I wrote a few posts earlier that I had checked out a couple of books from the library. The first one that I decided to go into was “How Technical Analysis Works“by Bruce M. Kamich. I’m about a third of the way into the book and it has been fairly interesting so far. The main points that Kamich has discussed are trend lines. Trend lines seem to be a promising way to predict the movement of a particular stock over a large period of time. Many of his examples show trends over the course of ten years. He used three years as well. He even had a couple of examples where the trend line was drawn over a time period of a year or less.

The purpose of a trend line is to show the investor the general direction a stock is headed based on past movements. The key to this is that it is based on past movements. Price movements that occurred in the past were based on news and expectations from the past. These expectations could change dramatically in the present day. Another important thing to consider is that trend lines are solely based on opinion. There is typically no one correct trendline to draw. This can prove to be especially difficult in short periods of time or with a very volatile stock.

In the book, Kamich suggests that if the price should fall below the upward trendline by a certain amount it may be a good idea to get out. He suggests that while some people use a 1% drop below the trendline as their signal to get out, many others will let it drop as much as 5% below the trend line before getting out in fear of missing out on a reversal. Kamich suggests that the best trend line trading strategy is to pre-determine your exit strategy so that you are not caught up in the emotion of trading.

Trend lines should be used as one of many tools to evaluate a stock. While they can be a helpful tool, the predictions that they may seem to make may not always come to fruition.

Below are a few examples of how one might trade using trend lines. If you click on the small images of the charts, they will open in their full size version in a new window.

This first example is your classic trend line example. The chart shows a one year chart for financial institution Horizon Bank (HRZB). The initial point starts in mid-June at roughly $23.75 and hits the next peak around mid-September at about $21.50. That is a drop of approximately$2.25 according to my guesstimates. If you believed that this trend line would hold true in the future, one would take a bearish position on the stock and short it. If you had shorted in mid-September at $21.50 you could have rode that price all the way down to the current levels of around $13 where you could have covered. This would be a 65% return over the course of about six months. Not too shabby. Below is the chart for HRZB. Notice that over the time period of the trend line the price of the stock never rises above it. Kamich suggests to always maintain your position in a given security as long as it is trading in favor with the particular trend line.

The next example shows a bit different of a story. As I’m sure you have already gathered, not all price charts fit this model as nicely as HRZB. Take Netflix (NFLX) for example. Their price chart over the last year has been a bit more volatile. Notice in this chart there are both downward and upward trend lines. The lines are numbered in order of when they would be chronologically drawn (ex: it would be impossible to draw U3 chronologically before U2). Between April and May the stock develops a downward trend line (D1) which extends all the way into mid-September when it is broken by an upswing in price. At this point in time NFLX is trading at about $19/share. Using the 1% rule, you would not cover your short shares until the price had reached $19.19, which we can see it quickly does. Following the 5% rule, one would wait until the price reached $19.95/share before repurchasing. As we can see, this happens only a few days later. Take not though that the $19 intersection should not be used for the 1%/5% rule, but instead the price of the trend line should be used. The day after the $19 intersection, the trend line may be at $18.90/share. Using the 5% rule, the stock would only need to be trading at $19.85 to warrant a buyback.

You will also notice on this chart that the stock reaches a low of about $16 in late July. In hindsight this would have been the best spot to cover the shares, but since the trend line goes all the way to zero we must assume that the price will continue to decline until the trend line has been broken. It is at this low where the price starts to rise ever so slightly. By choosing that late July low and combining it with another low in mid-September, we have created a new upward trend line (U1). Had a new investor noticed this new trend line, they could have bought in mid-September at $17/share and ridden the rise all the way up to current trading levels of about $33/share. That is a nice 94% gain over six months! Notice that the price never falls below U1 during this time period.

Take a look at U2. From mid-September to early November, the stock realized considerable appreciation. U2 is created by using the dip in mid-September and the dip in mid-October. Had you bought in mid-October at $23/share, the trend line would have suggested selling it at around $24.70 using the 5% rule. Using this trend line the investor would have only realized a gain of only 7.3%. This is a far cry from the 94% gain using U1.

You can see from U3 and U4 that an investor could potentially find a number of different trend lines for a stock depending on what date it was being analyzed and where they felt the most accurate dips in the market were to put a trend line through. As you can see from the Netflix example, using trend lines is an imperfect art that should be used as one of many tools to analyze a stock. U1 and U2 show how drastically an investors returns will be depending simply on what lines are drawn.

I am including three additional charts to look at and analyze to get a little more understanding on the art of using trend lines. I won’t go into too much analysis on these ones. Trend lines are a fairly simple subject, so after seeing the first two examples these next three should appear fairly straightforward.

• Jones Soda (JSDA): U1 gives investors a false hope in early December. Using this strategy wouldn’t have netted much if any profit for a speculator who bought in mid-December and would have sold at the very beginning of January. D2 seems to show the most accurate trend line, but is also based off more data than D1. This chart was created over a six month period of time



• Cemex (CX): Cemex faced downward pressures from mid-October through mid-January. This can be seen from D1, D2 and D3. These downtrends show how difficult it can be to correctly choose a trend line. U1 shows promise for a speculative investor. This chart was also created over a six month period of time.



• Ford (F): This stock has been all over the map as far as trend lines are concerned. U1 would have shown little or no gain. If you shorted using D1 you may have seen a loss. A short using D2 would have experienced the best gains.

As a final note: of these five stocks, the only one I own is JSDA as of 3/12/2008 (the time of this writing).

Now that I have suffered through Jones Soda’s terrible earnings report I now get to look forward to Gigamedia’s (GIGM) earnings report. They will also be reporting their Q4 2007 and FY 2007 financials. Oh and by the way, I do own shares in this company. I am actually looking forward to this report though. GIGM has been a solid company for me, and I have owned their stock for almost two years now.

Many people may not have heard of this company, and that is understandable. They are an ISP (Internet Service Provider) and web portal over in Tiawan, China and Hong Kong. The official description from Reuters reads, “GigaMedia Limited (GigaMedia) is a holding company that develops and licenses entertainment software and provides application services, owns and operates an online games portal and provides broadband Internet access services through its subsidiaries.”

One of the big things the company has going for it right now is their gambling applications. Many people may want to shy away from a company that makes revenues off of gambling, thinking that it is illegal. Well, Gigamedia does not operate in the United States and is therefore not subject to the online gambling rules and restrictions of the United States. They are free to operate as they please, and their site has caught on. Everest Poker and Mahjong have been some of their top performers recently. They have also struck some deals through Electronic Arts to operate some of their online games. Such popular titles include Warhammer and Hellgate London. Most of the games that Gigamedia offers are through its subsidiary Funtown. Take a look at the Funtown site. It looks pretty interesting, although I can’t make out any of it since it is all written in Chinese.

Analysts are expecting an EPS of $.17 for Q4 2007 and $.65 for FY 2007. EPS for Q4 2006 was $.19 and .$51 for FY 2006. So, analysts are expecting lower earnings for the quarter, but higher overall for the year. I think that the stock is priced perfectly right now, especially since it has been trading in a fairly narrow range over the last three months. Personally, I am expecting them to do better than analyst predictions. Their current P/E is at 28.96 based off an EPS of $.64. If they hit the EPS of .$65 that is being predicted, we could expect the stock to climb from its’ current position at $18.50 to $18.82.

Irregardless of the outcome of this quarters/years earnings, I plan on holding my shares for some time longer, as I see this company having a lot of potential to do good things.

Update 3/17/2008: So I am pretty bummed out over what has happened with this stock over the past week. I have watched it sink from $18.50 to $14.24, a decline of about 23%. The P/E has also fallen from 28.96 to 21.98. I think that the price of this stock has been unfairly punished by the market and is due for an increase in the near future. I feel that this is an excellent buying opportunity, since price levels for this company haven’t been this low since early September. I believe that $12.75 will be the approximate bottom. This price prediction is based purely on a hunch. Based on their earnings report and the guidance that was given, I feel that their P/E should be back up where it was before, which would put the stock at the mid to high 18s.

Here is a brief technical analysis chart that I created for the stock over the past month:

I believe that the line that will be the most helpful of the three is the middle line. The most negatively sloping line is far too unattainable and measured over such a short period of time for it to be much help at all. The stock will be ready for a rebound when it crosses over the middle line by 8%. I will try to keep this chart up to date so that we can test my prediction.

As a stock holder of Jones Soda (JSDA) I can’t help but be worried about what their annual report for the year 2007 ended December 31st will look like. Around this time of year last year things were looking great. You couldn’t say a bad word about the company. I rode the stock from $9.41 when I bought it on 9/25/2006 all the way up to $27.82 when I sold it on April 20th, 2007. I bought back in when it was trading in the high $7s, and have been disappointed since. To check out some of my other holdings, click here.

Unfortunately this company has been facing bad news and more bad news over the past year. First off, insiders were accused of dumping their shares right around its peak when the stock started to plummet. This definitely put a negative vibe on the company that until recently could do no wrong. Secondly they had issues making money. You know a company is doing something wrong when the interest that they earn from their free cash is making more money than the company itself. This was largely due to supply issues. The company had solid deals with stores, but they could not keep their shelves stocked. If a customer comes into a store looking for Jones Soda and there is none, then they are going grab whatever else is on sale. Another big issue with the company was that their CEO Peter Van Stolk stepped down from the company leaving them searching for a replacement to run the company.

During the year Jones increased their visibility with a stadium deal with the Seattle Seahawks. They paid a decent chunk of change for these official rights and it will be interesting to see how much the deal contributed to their revenues. One must take note that the Seahawks play only eight home games per year. Being an official soft drink provider is great, but for only eight games a year doesn’t seem to make a whole lot of sense especially for a company the size of Jones. They also inked a stadium deal with the New Jersey Nets basketball team. They have yet to sell there because of pending issues with the NBA. I also believe that the deal is only good for the Nets new stadium which has yet to be completed. On the plus side though, the Nets play 41 home games per year there.

Currently the average consensus of investment firms is that Jones Soda (JSDA) is a sell or an underperform. For the 4th quarter of 2007, analysts predict JSDA to have an earnings per share of $-.03. In comparison, 4th quarter 2006 had an EPS of $.08. JSDA also seems grossly overvalued with a P/E ratio for the trailing twelve months of $230.50 compared to the industry average of a modest 21.56 P/E. If Jones’ P/E were to be at the industry average right now, they would have to be trading at $.43 per share. Ouch! As a current shareholder that does not make me very optimistic. I also have a hard time seeing Jones beat $-.03 per share as well. Personally I think this stock is doomed for the next six months until 3rd quarter 2008 earnings come out sometime in October or November. The other thing that made me nervous was that Jones postponed their earnings announcement by almost a week. I don’t take that for a very good sign.

It will be interesting to see what happens tomorrow when they release their annual report. I will give my opinion of it after I have had the time to read through and digest the report.

Update 3/10/2008: I was expecting them to do bad this quarter, but they did horrible! I think that they will eventually turn things around because they seem like they are a good and legitimate company, but things are really not looking so hot right now. Let’s take a look at some of the awesome financials they reported this fiscal year shall we?

Here is the kicker. Analysts were predicting a loss of only $.03 per share. The reported loss for the quarter was -$.39 per share. Just a slight difference. It is no wonder the stock dropped 25.12% in after hours trading.

One interesting factoid I found was that JSDA’s earnings for Q4 2007 was -$10.204M, while their earnings for the fiscal year 2007 was -$11.629M meaning that the majority of their losses took place during the fourth quarter. Interesting…

On my way home on the bus from work today I was reading the Technical Analysis book that I  had picked up at the library earlier this week. About 3/4 of the way home this guy sitting near me asks what I am reading. I tell him that I am reading the book “How Technical Analysis Works” by Bruce M. Kamich. He tells me that he is really into charting and whatnot and from what he said it sounded like he was some sort of researcher for an investment firm.

We get to talking, and he goes on to tell me that he is doing some research on Berkshire Hathaway’s holdings. For those of you who are unfamiliar with the company, it is an investment company that is run by Warren Buffet who is one of the richest people in the world. What he was looking for was a common theme between all of the stocks that the company had invested in.

Here is what he found:

• Companies had a P/E ratio that was either in the low 20s or in the teens.
• Companies tended to be established and well known firms (with a few exceptions)
• The companies had a dividend rate between 1% and 5%.

As a summarization of his findings, Buffet seems to like well established companies that are underpriced and pay a decent dividend. So there you have it…if you want to trade like Buffet, follow these three easy criteria. Ah yes, if it were only that easy. It does give us a bit of insight on the thought process of one of the world’s greatest investors.

Sometime in May the government will be sending out checks worth up to $600 per individual or $1200 per household. The government feels that by doing this they will be able to stimulate our currently stagnant economy. It seems like a fairly good idea and all, but will people really spend the money? I think that for the most part people will spend it. People will look at the money as an unexpected gift and by spending it they won’t be deviating from their budget because they were never expecting this money in the first place. Sure, this may give a temporary boost to the economy, but it won’t be anything long lasting or long term.

Here is what I project people will do with their money:

50% will go out and blow it all within the first few weeks on something that they been wanting but not able to afford. These are the people who probably need this money the most to go towards paying off debt, but that isn’t going to happen.

20% will save the money. These people have always been good savers, and they most likely see this as a golden opportunity to increase their savings without doing any extra work.

10% will put the money towards their credit cards or other sort of loan product in order to pay it off earlier. These people have made an excellent choice for their personal finances. Any opportunity to pay off more debt should be taken advantage of. This is a golden opportunity to do so.

20% will do some combination of the above three things. It will likely be more spending than saving though.

Here is one thing that I don’t like about this rebate. Americans are drowning under piles of debt, but with this free money, most people aren’t going to put it towards paying off their debt. I think that the government should automatically put at least half if not all of this so called “relief” money towards their current debt. They would put half of the funds towards the debt and half as a refund check to the citizen. For those who were in collections or had late debts, all of the refund check would be put towards the creditors. This would encourage people to get up to date with their accounts so that they could get the majority of their check.

All this credit checking would theoretically create a high cost for the government, but the relief act would require creditors to submit a petition for funds if their debtors met a certain criteria. If they did not submit the petition they would not receive a portion of their refund.

I know that this is most definitely a fantasy idea, but I believe that if something like this were to take place, the American citizens would be much better off than they would be with just a straight refund check. I do agree that the government should not be one to tell people what to do with their money, but I do believe that if there was a financial incentive to do the right thing with it, people would be more receptive.

I am really curious to hear what others think about this idea. Do we need to encourage people to pay off their debts? Should the the government have a say or an influence in this? And last but not least, what will you be doing with your relief check come May?

I figured that since I have been living in Seattle long enough it was about time that I got a membership through the Seattle Public Library. Seattle recently built a brand new library for downtown. From the outside it has this totally random shape made out of steel and glass. It really is more of a work of art than an actual building. Inside there are 9-10 different levels. The first 5 levels have a lot of seating and computer areas, as well as a lot of fiction novels. The remaining floors are the non-fiction. These floors spiral on an incline around the northern half of the building. It is a pretty clever idea, but the library can be a bit confusing to navigate. The following picture is what the Seattle Public Library looks like. You can find a nice little review of the library, as well as some other cool pictures here.

Anyway, I set up my account during my lunch break and set out to explore the library. I decided to go check out the books they had in the business/investing section. Those are in the 330’s in the dewey decimal system for those keeping track at home. Originally I wanted to join the library because I didn’t feel like paying $27 + tax for the Turtletrader book at Barnes and Noble. Unfortunately it is already checked out, but I am next in line for it.

It took me awhile to find the right section. I knew that I wanted to be in the 330’s, because it seemed like every other finance book started with 33x as well. I naturally assumed that the 3xx section would be on the third floor. Turns out I was wrong, and the third floor just had fiction books. I found a map that showed that the section that I needed to be in was actually on the 7th floor.

Once I finally found my section, I realized that I needed to find something fairly quickly if I were to be able to check it out and get back to work with enough time to eat some lunch as well. The library actually has a pretty decent selection of finance titles, and after a bit of searching I came along a couple that looked like winners.

The first book is called The EDGAR Online Guide to Decoding Financial Statements: Tips, Tools, and Techniques for Becoming a Savvy Investor. The book was written in 2004 by Tom Taulli, an EDGAR Online analyst. The book looks like it shows how to decipher the typical financial statement that is on the EDGAR website and how to make the most of it. For those of you who don’t know, EDGAR Online is a website run by the SEC which lists all of the financial releases of publicly traded companies.

The second book that I checked out is called How Technical Analysis Works by Bruce M. Kamich. After flipping through this book, it looks like it gives a nice overview of many of the different chart reading techniques. This should be an interesting read.

I have to return these books by March 24th, so hopefully that will give me enough time to take a decent look through them and possibly write a little review about each of them.

The word of the week for this week is hedge. This word is very important for investors who may have a large position in a stock, and believe that the price of it may start moving in an unfavorable direction.

Suppose that a company owned 10,000 shares of Netflix. They bought the stock 6 months ago at $15/share for a total investment of $150,000. Since then, the stock has doubled up to $30, which gives them the value of their Netflix holdings to be $300,000. Now they would like to continue to hold the stock, but the company predicts that the economy may not be as strong as usual, and this could have a negative effect on the price of their stock. In order to protect against these losses, the company purchases protective puts with a strike price of $30 for June 2008. These puts cost $3/share. Each contract is for 100 shares, and the company purchases 100 of these contracts for a total of (100 contracts x 100 shares/contract x $3/share = $30,000). These options give the company the option, but not the obligation to sell all of their shares at $30 per share before June 2008 regardless of the current market price. If the price of the stock rises, then the options will expire worthless.

Let’s imagine though that by May 2008 the price of Netflix has dropped from $30/share to $20/share. Without the hedging that the company did, the value of their Netflix holdings would be only $200,000. This is a loss of $100,000. With the options, they could exercise them at the $30 strike price for the total value of $300,000. The only cost to them would be the $30,000 insurance policy that they took out. By using the options, the company will sell at a realized value of ($300,000 - $30,000 = $270,000). this is $70,000 more than what they would have had if options were not used.

So as a definition, hedging is essentially an insurance policy that companies take out in order to lock in profits.