Book Summary: How to Make Money in Stocks by William J. O'Neil

How to Make Money in Stocks by William J. O’Neil

Main Themes:

This document summarizes key insights from excerpts of “How to Make Money in Stocks” by William J. O’Neil, focusing on his CAN SLIM Investing System and chart analysis techniques.

Most Important Ideas/Facts:

• CAN SLIM Investing System: O’Neil developed this seven-step system based on historical analysis of winning stocks, aiming to minimize risk and maximize gains.
• Chart Analysis: O’Neil emphasizes the importance of interpreting stock charts, likening them to diagnostic tools in medicine. Charts reveal a stock’s price and volume history, helping investors identify strong, healthy stocks under accumulation versus weak or abnormal performers.
• Cup with Handle Pattern: This is a key price pattern signifying potential buying opportunities. It involves a price correction and consolidation period (cup) followed by a slight downward drift (handle).
• Characteristics:Duration: 7 to 65 weeks, typically 3-6 months.
• Correction Depth: 12-15% to 33% from peak to trough.
• Rounded Bottom: “U” shape preferred over “V” shape for a natural correction.
• Handle Formation: Occurs in the upper half of the base, above the 10-week moving average.
• Volume: Should increase significantly (40-50% or more) upon breakout from the handle.
• Pivot Points: These are breakout points where a stock breaks through resistance levels with increased volume, marking the start of a potential significant price move.
• Importance of Timing: O’Neil stresses buying at the right time, i.e., at pivot points. Buying too early or chasing stocks too high increases risk.
• Sell Signals: Understanding chart patterns also helps identify when to sell a stock, such as when it shows signs of weakness or breaks down from a pattern.
• Discipline and Risk Management: O’Neil advocates for strict discipline, including setting stop-loss orders to limit losses and avoiding emotional decision-making.

Key Quotes:

• Chart Analysis: “Just as doctors would be irresponsible not to use X-rays, CAT scans, and EKGs on their patients, investors are just plain foolish if they don’t learn to interpret the price and volume patterns found on stock charts.”
• Cup with Handle: “Cup patterns can last from 7 weeks to as long as 65 weeks, but most of them last for three to six months.”
• Handle Characteristics: “The handle should also be above the stock’s 10-week moving average price line.”
• Pivot Points: “When a stock forms a proper cup-with-handle chart pattern and then charges through an upside buy point…the day’s volume should increase at least 40% to 50% above normal.”
• Timing: “Your objective isn’t to buy at the cheapest price or near the low, but to begin buying at exactly the right time, when your chances for success are greatest.”

Overall Impression:

O’Neil presents a data-driven and disciplined approach to stock investing, emphasizing the combined power of fundamental analysis, technical analysis, and strict risk management. His CAN SLIM system and chart analysis techniques provide valuable insights for investors seeking to identify winning stocks and achieve consistent profits.

How to Make Money in Stocks FAQ

Based on William J. O’Neil’s “How to Make Money in Stocks”

1. What is the CAN SLIM Investing System?

The CAN SLIM Investing System is a seven-step process for minimizing risk and maximizing gains in the stock market. It is based on a major study of market winners from 1880 to 2009 and emphasizes a combination of fundamental and technical analysis to identify winning stocks before they make significant price gains.

2. Why is chart reading important for investors?

Chart reading is like an X-ray for stocks. It provides a visual representation of a stock’s price and volume history, allowing investors to identify patterns and trends that may indicate strength or weakness. Charts can help investors determine the best time to buy and sell a stock, minimizing risk and maximizing potential profits.

3. What is a “cup with handle” chart pattern?

The “cup with handle” is a common and reliable chart pattern that signals a potential buying opportunity. It resembles a cup with a handle when viewed from the side. The cup forms as the stock corrects and consolidates, while the handle represents a final shakeout before a potential breakout to new highs.

4. What are the key characteristics of a valid cup with handle pattern?

• Prior Uptrend: There should be a clear and definite price uptrend before the base pattern begins, with at least a 30% increase in price.
• Rounded Bottom: The bottom of the cup should be rounded, resembling a “U” rather than a sharp “V.”
• Handle Formation: The handle should form in the upper half of the base and above the stock’s 10-week moving average price line. It should also have a downward price drift with a noticeable decrease in volume.
• Tight Price Areas: The price pattern should exhibit tightness, meaning small price variations from high to low for the week, indicating strong accumulation.

5. How does volume help confirm a breakout from a cup with handle pattern?

When a stock breaks out from a cup with handle pattern, the day’s trading volume should increase significantly, ideally by at least 40% to 50% above normal. This surge in volume indicates strong institutional buying and confirms the validity of the breakout.

6. What is a pivot point and why is it important for buying stocks?

A pivot point, as described by Jesse Livermore, is the price level at which a stock breaks through its resistance level, signaling a potential shift in momentum and the start of a significant price move. Buying at or near the pivot point is crucial for maximizing gains and avoiding premature entry.

7. Why is it important to cut losses and how should it be done?

Cutting losses is essential to protect capital and avoid large drawdowns. Investors should implement a strict stop-loss rule, such as selling a stock when it falls 7% to 8% below the purchase price. This disciplined approach helps limit losses and preserve capital for future investment opportunities.

8. What are some common mistakes investors should avoid?

• Ignoring Charts: Failing to use charts to analyze price and volume patterns can lead to poor timing and missed opportunities.
• Buying at the Low: Trying to buy at the cheapest price often results in buying weak stocks that may continue to decline.
• Chasing Stocks: Buying a stock after it has already moved significantly higher increases the risk of getting caught in a correction.
• Averaging Down: Buying more shares of a stock as it falls can compound losses and increase risk.
• Holding Losers: Failing to cut losses and holding onto losing stocks can lead to significant portfolio damage.