It's the time of year when many of us like to rewatch "Rudolph the Red-Nosed Reindeer." Even if you've never seen it, you've probably heard of the Island of Misfit Toys – the destination for defective toys deemed unworthy for people's homes.
Now, this movie is the perfect trading and investing reminder to look for misfit stocks. Generally, these are the ones that aren't selling as well as they had in the past.
Maybe these companies' products or services have fallen out of favor, or maybe people in charge have made poor business decisions, or recent acquisitions haven't worked as anticipated. There are any number of reasons.
The best part is these stocks are easy to spot because they typically sit at or near their 52-week lows.
That means you're looking at the perfect opportunity to pinpoint the ones with the greatest turnaround – and profit – potential.
And it all boils down to this simple strategy…
Why the Best Time to Buy a Stock Might Be When It's at Its Worst
Do you believe that over the course of a year, a stock has turnaround potential to the tune of regaining 50% or more of its 52-week high price?
A few weeks ago, we talked about the dead cat bounce options strategy. In that update, I revealed Macy's Inc. (NYSE: M) and Sears Holdings Corp. (Nasdaq: SHLD) as two stocks with the potential for quick profits via long call options.
In the charts above and below for M and SHLD (respectively), we can see the stocks hit at or near what were 52-week lows. Each was able to turn around for a quick pop.
But this isn't just a "Dogs of the Dow" (DOTD) investment idea. I am looking at all stocks in the Dow, not just the top 30. And this isn't based upon company dividends, either.
However, what is similar between this turnaround strategy and DOTD investing is that I would consider a Long-Term Equity Anticipation Security (LEAPS) option on it.
Now, I'm not saying there won't be shorter-term trading opportunities throughout the year, but I'm not considering these as short-term trades at the start of the year. I see them with major long-term profit potential, so I'm not too inclined to concentrate on them for a quick pop right away.
If you do see a short-term technical pattern emerge on these stocks, I caution you to not worry about your LEAPS option on our turnaround strategy.
If you do, you might be tempted to close your LEAPS play when you close the shorter-term technical pattern. Although that might seem like the best idea, you actually risk leaving money on the table for that LEAPS option.
In most cases, the short-term pop isn't going to be the 52-week high for this turnaround stock. And the whole purpose of the LEAPS option was for a yearlong hold perspective.
Important Things to Look for in a Turnaround Stock
Here are important things to consider before deciding upon a LEAPS option target…
About the Author
Tom Gentile is widely known as America's #1 Pattern Trader thanks to his nearly 30 years of experience spotting lucrative patterns in options trading. Now, he's diving into the biggest market in the world - one that almost no one has heard of before.