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It's a phrase we hear a lot, especially these days with the markets roaring higher: "ABC Corp. is at 52-week highs."
It's a really simple idea: The stock is as high as it's been in 12 months. But a lot of traders misunderstand what it really means.
These folks think of a 52-week high as a kind of yellow light. They're clearly worried that the stock can't go much higher because it's run as far as it can.
I hear this a lot. The reasoning goes something like, "Well, ABC is at 52-week highs. Is this really the right time to buy or go long on it? How much higher can it go?"
The right answer is: much, much higher.
I'm going to show you why – and then I'm going to show you a stock you can play that proves it…
Market Psychology at Work – in a Few Different Ways
A 52-week high is psychologically important, but not for the reasons you might think. It scares the heck out of some traders, and it's like candy for others.
Stocks hitting this level will push inexperienced or over-cautious investors out (not that that's bad – we all have our risk tolerance), while momentum traders and trend-watchers will tend to pour in, giving the stock the juice it needs to go higher.
We used the Money Calendar, which has 10 years of price action data on the market's 250 best stocks, to back-test this idea on a selection of small- and large-cap stocks.
Here's what we found:
- Small caps gain 0.62% on average during the week following a 52-week high.
- Small caps gain an average 1.89% on average during the month following.
The big guys didn't do quite as well, but still – not bad:
- Large caps gain 0.17% on average during the week following a 52-week high.
- Large caps gain 0.7% on average during the month following.
Those average gains are small – we're looking at 250 stocks, after all – but the data is clearly, unambiguously bullish.
And besides: When you're trading options, you can take small moves like that and turn them into hefty profits.
For that, we look at what I like to call "Alpha stocks":
Interestingly, the Money Calendar keyed in on some exchange-traded funds this time around, which really makes sense when you think about how stocks have been doing:
Here's How I'd Play It
Facebook is a great example of a stock that's hit multiple highs over the summer, since its earlier trouble with an advertiser boycott. It's just off its most recent 52-week high, and I can't see any resistance shaping up to stop it from going again, so there are a couple of possibilities here.
One possibility: You could buy 100 shares outright, for nearly $30,000. That may very well be right for you, and you'll probably make money when you sell, but it's a little rich for my blood.
If you've been with me for a while, that won't surprise you; you know, with a few exceptions, I don't like paying more than $500 for a trade – even one that will likely pay off.
Buying a slightly out-of-the-money (OTM) call, say a FB Jan. 15, 2021 $315 call, will still cost you around $2,430 though, again, there's a high degree of probability that it would turn out profitably.
The trade I'd make costs way less than 500 bucks, and I only need the stock to hit $315 before I double my stake.
Time for a spread – selling and buying a set of calls on the same stock with different strikes and the same expiration.
If we sell one FB Jan. 15, 2021 $325 call, we'll get $20.59, or $2,059 for 100.
If we buy one FB Jan. 15, 2021 $315 call, that'll cost us $24.20, or $2,430 for 100.
Your net cost, not accounting for commissions and slippage, is the difference between what you take in and what you pay, or $361.
All Facebook has to do by Jan. 15, 2021, is to be at or over $325. Could that happen by Jan. 15?
You bet. Heck – it could happen a week from today the way this market's going. That's the real story we've been seeing with these 52-week highs.
This Rare Market Phenomenon PAYS YOU to Buy Stocks
Imaging getting paid money for the chance to buy a stock you want – maybe even at a steep discount?
That sounds like a win-win right?
Well, I've detected the rare "Rising Money Line" phenomenon that can make this a reality. Click here to take a look…
About the Author
Tom Gentile, options trading specialist for Money Map Press, is widely known as America's No. 1 Pattern Trader thanks to his nearly 30 years of experience spotting lucrative patterns in options trading. Tom has taught over 300,000 traders his option trading secrets in a variety of settings, including seminars and workshops. He's also a bestselling author of eight books and training courses.