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Most Important Rule for Growth Investors

The Most Important Rule for Growth Investors is to keep your losses small. The Second Most Important Rule for Growth Investors might be to respect strong charts.

Featuring Lutts’ Logic:

The Most Important Rule for Growth Investors

The Second Most Important Rule for Growth Investors

A Great Company, a Great Chart

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Today, between the holidays, I’m keeping the Cabot Wealth Advisory short and sweet.

We start with an email I received today.

“Hi Tim--Hope you had a great holiday. Was hoping for an update on ESLR. Looks like they are showing a slight heartbeat and had some news last week. What do you think? I am still in from the late 2007 article from Cabot describing a sector (solar) that will do well in the near future. I did write back asking which was the better stock to buy, ESLR or CSIQ. Unfortunately I was told ESLR. It is still down about 90% from its high and I haven’t been able to sell at this low, low price. Maybe it can at least get back to 10 dollars with a prayer. CSIQ has recovered from the solar crash of Jan 2008. ESLR has not. Hope you can re-analyze the company or let me know how I can become whole again. Thx”

ESLR, FYI, is Evergreen Solar, a Massachusetts company that has a proprietary “string-ribbon” silicon manufacturing technology. Its revenues are growing, but it has never made a quarterly profit. CSIQ is Canadian Solar, a company that’s based in Ontario but whose seven vertically integrated production facilities, as well as R&D, are in China. In the past four years, it’s made profits in every quarter but two (at the recession bottom a year ago.)

My correspondent refers to “the solar crash of Jan 2008,” while, in fact, what really brought the stocks down was the bear market of 2008. It was especially rough on solar stocks, which had been big winners in 2007. Cabot Market Letter’s big solar winner, First Solar (FSLR), was sold for a profit of 298% in September 2008.

And my correspondent should have sold his solar stock, too, regardless of whether it was ESLR or CSIQ. But he made the common beginner’s mistake of holding on to a loser too long, and now, sitting on a loss of 90%, he is hoping that prayer will get it back to 10 ... it’s now trading at 1.60.

Well, prayer won’t help and asking me to re-analyze the company won’t help. What will help is accepting the fact that his money is not working for him sitting in ESLR. Yes, the stock popped up last week (from 1.51 to 1.66) on news that Patriot Place, the 1.3 million-square-foot shopping, dining and entertainment complex adjacent to the New England Patriots’ Gillette Stadium, would use more than 2,800 Evergreen Solar panels in a 525 kilowatt installation that will provide 30% of the power used by the complex. But that doesn’t change the big picture. To me, the deal looks like local favoritism, and it doesn’t solve Evergreen’s major problems: that its costs are too high and that industry standards are evolving away from its proprietary technology.

What my correspondent should do is sell and move on, stop trying to get out even. When he writes, “I haven’t been able to sell at this low, low price,” what he’s really saying is he hasn’t been able to persuade himself to accept that loss and move on. And what you should do is resolve to never get yourself in a similar situation. The MAXIMUM loss you should accept from a growth stock is 20%. If you buy right, your average loss should be substantially smaller.

In sum, The Most Important Rule for Growth Investors is to keep your losses small.

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The Second Most Important Rule for Growth Investors might be to respect strong charts.

Case in point, Apple (AAPL), which broke out of a basing pattern today, gapping up to new all-time highs.

Now, Apple is far from an undiscovered stock. With revenues of $37 billion and a market capitalization of $192 billion, it’s a giant, and my preference is for smaller companies with more obvious upside potential in investor perception.

Nevertheless, Apple’s chart is sending a strong signal.

For the past 10 weeks it’s been building a base at the 200 level, which is where the stock topped out at the end of 2007. And today it gapped up to all-time highs, telling us big institutional money is moving in.

The only “news” lately is speculation that Apple’s long-rumored tablet computer will be released on January 26, in both 7" and 10" screen formats, and that it will be a big hit. It certainly sounds plausible, and combined with the fact that Apple still has great numbers (revenues up 25% in the third quarter and earnings up 44%), I think it’s reason enough to buy the stock.

Yours in pursuit of wisdom and wealth,

Timothy Lutts
Publisher
Cabot Wealth Advisory

Editor’s Note: If you want to learn more rules for growth investors and get the top growth stock picks in the market, you should check out Cabot Market Letter. The Letter is top-ranked for both one-year and long-term market timing because it follows a finely tuned system that has been perfected during the last 39 years. Click the link below to find out more.

http://www.cabot.net/info/cml/cmljb03.aspx?source=wc01

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Timothy Lutts is Chairman Emeritus of Cabot Wealth Network, leading a dedicated team of professionals who serve individual investors with high-quality investment advice based on time-tested Cabot systems.