No investor, even the greatest, is perfect. That is why the 5% buy zone provides a bit of leeway when trying to get in on leading stocks. Following this approach has garnered rich returns in energy stock Exxon Mobil in 2022, to name just one.
The tool gives investors the maximum range in which to buy a stock when it has moved above its ideal buy point. This is how you can avoid buying a stock that's gone up too much but is still at an optimal level.
Investor's Business Daily founder William J. O'Neil wrote in his classic book "How to Make Money In Stocks" that buying before a stock reaches its ideal entry point or past the 5% buy zone carries extra risk.
"If you buy at more than 5% to 10% past the precise buy point, you are buying late and will more than likely get caught in the next price correction," O'Neil warned.
5% Rule Gives Energy Stock Investors Exxon Edge
One of the top areas in the stock market in 2022 has been energy stocks. Those who snapped up Exxon Mobil stock in January have been rewarded with gains of nearly 60% so far this year.
XOM's breakout from a cup base in the first week of January had several attractive features. First of all it came in volume that ran well above average, always a good sign.
In addition, the stock made its aggressive upward move after a prolonged period of sideways movement and base-building.
Finally, the stock's relative strength line showed remarkable upward momentum. This compares a stock's performance to the broader S&P 500 index.
Nevertheless, judicious investors had a decent window of opportunity to get in on the stock. It's buy point of 66.48 was actionable as high as 69.80, or 5% above the entry. The stock did not get extended past the latter level until Jan. 11, a full six days after the breakout began.
Russia-Ukraine War Sparks Surge
With the Russia-Ukraine war sparking a global energy crisis, the price of XOM stock had a long way to run. Those who held the stock until it reached its early June 2022 peak of 105.57 were richly rewarded. Gains on the perfect buy point reached 58.8%, but even those who got in as late as 69.80 could have netted as much as 51.2%.
This article was originally published Oct. 21, 2022, and has been updated. Please follow Michael Larkin on Twitter at @IBD_MLarkin for more analysis of growth stocks.
