Buying at highs is hard. Nothing disturbs our bargain-hunter sensibilities like paying the highest price that anyone has ever paid. But often buying on the cheap when stocks are "on sale" leads to disastrous results for a portfolio. Stocks at lows tend to go lower. Pullbacks, like the one recently in Dutch Bros, offer a nice compromise.
Violent Bear Market Caused Deeper Bases
One characteristic of our recent stock market correction is how many deep bases it created. Take Dutch Bros. After an initial drop, it tried to rally back above its 50-day moving average line (1) only to fall again. Ultimately from its February peak to its April low at the 200-day moving average (2), Dutch Bros saw a 46% depth for its cup base. The pattern recognition algorithm in our MarketSurge product doesn't even consider bases over 50% deep so this was on the cusp. We have no interest in trying to catch a bottom as too many times a stock can surprise you by how low it can go. We would much rather buy at a higher price after a stock proves its ability to recover.
Though the deep base was less than ideal, one thing that helps a stock get back in good graces is when it starts trading tighter. But even after a strong 36% bounce (3), Dutch Bros was still stuck below its 50-day line.
What finally pushed Dutch Bros over its 50-day line was a stellar reaction to its latest earnings report (4).
Beware Of Extended Stocks
The earnings-fueled move put Dutch Bros on a fast track toward a level of resistance around its March highs. Following a brief two-day pause, the stock took out that resistance and we added it on SwingTrader (5). But knowing the risk of buying extended, we didn't give it much room to falter and we were out the next day.
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The quick exit saw our loss at less than 1% for the trade when it eventually corrected 13% over the next three days (6). Keeping the loss small gave us the chance to look at the pullback as a new opportunity for a more opportune purchase.
Dutch Bros Bounce
It should also be noted that right after making a temporary low Dutch Bros had a strong upside reversal right around its 21-day moving average line (6). Now we had the benefit of the a stock that was shifting back to an uptrend but offering a pullback at a level of support. With a clearly defined way to manage our risk, Dutch Bros joined SwingTrader again.
As we usually do, we took some profits into strength once we started making progress (7) and eventually exited the position when we had an outside day that closed at its lows (8). The expectation is for there to be further weakness following such days. While that doesn't always materialize, we are often keen to protect profit once we have it.
In fact, when that weakness didn't materialize as expected, we are also OK buying a position right back. That's exactly what we did the next day (9) as we crossed back above the highs of our exit day, an entry discussed on IBD Live this morning. Now we've back with a full position with a new stop that's higher and we gave up less than $2 per share to participate again.
More details on past trades are accessible to subscribers and trialists to SwingTrader. Free trials are available. Follow Nielsen on X, formerly known as Twitter, at @IBD_JNielsen.
