Afrustrating aspect of trading shares is that the investment world is forever changing. Trading strategies that worked well for months, or even years, suddenly stop working.
One reason is that none of us owns exclusive rights to a winning strategy. There are many smart investors who are quick to spot a winning approach and adjust their trading practices accordingly. As more of them shift their behaviour to exploit a new opportunity, money flows change and, eventually, profitability falters.
Say, for example, that a new short-term trend suddenly developed and shares began to bounce up every Tuesday. Some eagle-eyed traders would spot this short-term profit window and purchase shares on Monday afternoon to catch the bounce. As more traders play this trend, money flows would change. Some money that once drove prices up on Tuesday would now be committed on Monday. With less buying occurring on Tuesday, prices would be more likely to decline, not rise.
This example illustrates the stock market adage that, in the world of investing, success virtually always breeds failure.
Two changes in market behaviour recently caught my eye. I do not know for how much longer these trading quirks will remain but, for the moment, both are worth thinking about.
Value ratios such as price-to-earnings ratios (p/e) and dividend yields have played an important role during most of 2009. But some investors are now placing less reliance on absolute valuations. My impression is that relative value is becoming more important. Traders seem increasingly willing to invest in a company because of a perceived level of under-performance versus sector competitors.
Another sign of the times is that traders are increasingly willing to buy shares prior to an earnings update. I often see prices bounce two or three weeks before an update is published. This is quite a change from trading conditions earlier this year when prices typically rose after the release of a positive update. Pre-announcement gains were rare.
I regard both of these trend changes as signs that the bull market is beginning to mature. There is probably more upside to come but explosive gains that often occur near the beginning of a bull run may now have run their course. If I am right, the easy money has now been made for the bull market of 2009. Future investment profits will be harder to come by.
One company with promising prospects is Corin Group, a small manufacturer of orthopaedic devices for hip and ankle replacements.
Its shares were buffeted by wild fluctuations in the last two years. Prices initially rocketed up on news that a significant long-term agreement had been signed with Stryker, a leading company in the US orthopaedic market. The agreement was extremely important because the US is the world’s largest market for orthopaedic devices, accounting for almost three quarters of global demand. Corin shares more than tripled in just 12 months and eventually peaked at around 640p.
Unfortunately, Stryker dropped the ball with a series of delays. Corin had to issue a warning in May 2008 that its US partner would not reorder any hip devices until the end of the year at the earliest. Its shares crashed to an all-time low.
A follow-up announcement in November 2008 quashed hopes that Stryker would soon begin to reorder. Shares plummeted once again, losing more than half of their already depressed value.
There is no getting around the fact that 2008 was a dire year for Corin. But under the surface, a number of positive events occurred. A new management team wrote
off obsolete inventory and began to broaden the product line. Marketing efforts outside the US were expanded.
Corin’s efforts are beginning to pay off. Revenues in Europe, Australia and Japan are rising. This is significant because surgeons are a very difficult group to sell to. They tend to stick with devices they are familiar with and great effort is required to swing them over to a new surgical product as Corin is doing. My view is that it bodes well for the future.
Another point that investors appear to be ignoring is that Stryker has now finally begun to reorder, admittedly at a low rate.
But the cherry on the cake was a recent statement by a top executive at one of Corin’s competitors. He observed that hip replacements had become a necessary, not discretionary, part of modern life. Any revenue declines that his industry experienced because of the recession would be temporary.
Analysts regard Corin as a potential rebound candidate. Some try to pick the precise inflection point when the sales trend will begin to rocket up. Current forecasts are for no second-half revenue growth, compared with last year. But sales and profit margins are expected to grow in 2010.
It is hard to know if these forecasts are on target. My view is that all the bad news is now in the price and foundations are in place for a solid improvement in Corin’s fortunes. Attempting to predict the moment when explosive growth will occur is an attempt to predict the unpredictable. But the time to prepare for the eventual rally is right now.
Stock market historian David Schwartz isn an active short-term trader writing about his own trades and strategies. Send any comments or suggestions to tradersdiary@ft.com
