In chapter 3 of "How Markets Really Work" Larry Connors asked, "Is it better to be a buyer after
the market has been strong and had made multiple days of higher highs? And, is
it better to be a seller after the market has shown signs of weakness and has
made multiple days of lower lows?" The answer to both questions turned out
to be a resounding "No". This answer was based on quantitative research
conducted over a 15-year period (1989-2003), and the results went against what
was generally accepted at the time. We recently updated the research through
June 2006, not just looking at the indices, but also individual stocks.

In this article, I'm going to ask the same question of
individual stocks. In other words, "Is it better to be a buyer of stocks that
have been strong and have made multiple days of higher highs? And, is it better
to be a seller of stocks that have been weak and have made multiple days of
lower lows?" Once again, the answer will be based on quantitative research; before we get to
that, let's define exactly what we mean by multiple days of
higher highs and multiple days of lower lows.

Multiple days of "higher highs" simply means today's intraday
high (not close) is higher than yesterday's intraday high (see figure 1).

Figure 1

Multiple days of "lower lows" simply means today's intraday
low (not close) is lower than yesterday's intraday low (see figure 2).

Figure 2

Multiple days of higher highs are often accompanied by
"bullish news;" after all, the stock is displaying strength -- yesterday's high
was above the previous day's high, and today's high is even higher. Trend
followers are jumping on-board and many investors fear being left behind and are
willing to pay almost any price to get into this "hot stock" before it runs
away!

Conversely, multiple days of lower lows are often accompanied
by "bearish news," and the stock is displaying weakness -- yesterday's low was
below the previous day's low and today's low is even lower. Short sellers are
enthusiastically jumping on-board, while many investors are dumping their
holdings, fearful their stocks will never recover.

At TradingMarkets, we try not to be swayed by emotions, but
rather rely on our own quantitative research into the behavior of stocks. We feel that before we
trade, it's important to know how the pattern, or setup, we are looking at has
performed in the past. That way, we can objectively assess whether the trade
offers a good risk/reward opportunity and what might happen in the
future. In doing so, we are able to determine a number of important variables:

• Number of Trades


• Avg. % Profit/Loss


• Avg. % of Winners


• Winners Avg. % Profit


• Avg. % of Losers


• Losers Avg. % Loss

We looked at over seven million trades from 1/1/95 to 6/30/06^*.
The table below shows the average percentage gain/loss for all stocks during our
test period over a 1-day, 2-day, and 1-week (5-days) period. These numbers
represent the benchmark which we use for comparisons.

Using the information above we decided to research what really happens to stocks that
make multiple days of higher highs and multiple days of lower lows.

Higher Highs

We looked at stocks that made at least three consecutive days
of higher highs, all the way to stocks that made at least seven consecutive days
of higher highs. The results revealed a number of interesting findings, some of
which are highlighted here:

• In all but one case, the average returns of stocks that
  made "multiple days of higher highs" underperformed the benchmark.
  
  


• In most cases, the average returns of stocks that made
  "multiple days of higher highs" were negative 1-day, 2-days, and 1-week later.
  
  


• The results, on average, showed even greater weakness
  when we looked at stocks that made at least five consecutive days of
  higher highs.

In other words, on average, stocks that make
"multiple days of higher highs" should not be bought.

Lower Lows

We looked at stocks that made at least three consecutive days
of lower lows, all the way to stocks that made at least seven consecutive days
of lower lows. Here's what we found:

• The average returns of stocks that made "multiple days
  of lower lows" were positive 1-day, 2-days, and 1-week later.
  
  


• In every single case, the average returns of stocks that
  made "multiple days of lower lows" outperformed the benchmark.
  
  


• The results were even stronger when we looked at stocks
  that made at least five consecutive days of lower lows.

That means traders should look to build
strategies around stocks that make at least five consecutive days of lower lows.

Graph 1

As you can see, on average, stocks that make
at least five consecutive days of higher highs show a negative return over the
next week (-0.20%). By comparison, stocks that make at least five consecutive
days of lower lows show a positive return (+0.76%).

Once again, our research shows that both news and
emotions lead investors to do the opposite of what they should be doing. They
are buying when stocks make multiple higher highs and selling when they make
multiple lower lows. In both cases, on average, this is will lead to negative
returns. Much like my previous article on

Gaps and Laps, we found even greater opportunities by adding simple
conditions, like stocks trading above or below the 200-day moving average, or
combining multiple higher highs/lower lows with
PowerRatings,
etc.

Our research showed time and again, across almost every
possible parameter, that the notion multiple higher highs are bullish, and
multiple lower lows are bearish is incorrect. The statistics clearly show that,
on average, it has been better to be a buyer of multiple lower lows, rather than
multiple higher highs.

So, rephrasing the question asked at the beginning of
this article, "Is it better to be a seller of stocks that have been strong and
have made multiple days of higher highs? And, is it better to be a buyer of
stocks that have been weak and have made multiple days of lower lows?" The
answer (to both) is a resounding "yes".

Please send me any questions or comments you may have
regarding this article.

Ashton Dorkins is
Editor-in-Chief of TradingMarkets.com.


editor@tradingmarkets.com

Larry Connors is CEO and Founder of TradingMarkets.com,
and Connors Research.

^* Our research looked at 7,050,517 trades since Jan
1, 1995. We applied a price and liquidity filter that required all stocks be
priced above $5 and have a 100-day moving average of volume greater than
250,000 shares.