THE IMPORTANCE OF BUYING OR SELLING STOCKS USING SIMPLE MOVING AVERAGES

The importance of using simple moving averages (SMA) in making decisions to buy or sell stocks were discussed in my prior article (How to Buy Stocks Using Basic Technical Indicators) published in August 2006. I noted that investors who carefully observe and monitor basic technical indicators like simple moving averages (SMA), volume, and price trend can make better and wiser stock buying and selling decisions.

Investors can purchase upward trending stocks as long as the stock price remains above its 20, 50, and 200 days simple moving averages. Conversely, stocks should be sold once they violate these averages. Investors can also accumulate the stocks of companies recovering from a downtrend or breaking out of a consolidation phase in small quantities once the stock prices rise above their 20 day SMA with plans to add more to their position when the stock prices improve above the 50 day SMA.

Applying these principles to Nigerian Breweries (NB) and Eco Transnational Incorporated; ETI appears to be recovering from a downtrend, while Nigerian Breweries (NB) is on a downward trend as indicated in the graph below.

Nigerian Breweries (NB)

As noted above, NB is on a downward trend since it has violated its 20 day SMA (N41.68) and 50 day SMA (N43.0). However, NB is yet to violate its 200 day SMA (N37.90).

It is my assumption that most professional “long” traders have probably exited most of their NB positions, since the stock has violated its 20 and 50 day SMAs’. Although NB has not violated its 200 day simple moving average, it could very well happen if management does not disseminate significant favorable news to its shareholders and the market shortly. If the stock violates its 200 days moving average, there are several minor price supports (N38.4, N37, N36.50, and 33.59) that will stop the stock from experiencing a free fall. The major price support is N30, a price attained on 3/30/06. This stock has been in a very tight trading range for the past 2 months, making it a very good income generating source for day and swing traders. I recommend that long-term investors who want to be long the stock should stay on the sidelines until the stock reflects some upward trend (i.e., trades above its 10 and 20 days simple moving averages).

Eco Transnational Incorporated (ETI)

ETI has only been trading on the NSE for 38 days, but during this short period the stock price has experienced significant price volatility swinging from a high of N337 (on September 14,2006) to a low of N191 (on October 27, 20060.  However, since October 28, 2006, the stock has been on an upward trend moving above its 10 day SMA (N210.39) and 20 days SMA (N234.03). The stock is now indicating a buy signal as indicated in the graph below. Nevertheless, investors should understand that although the stock is indicating a buy signal, it might still face an uphill battle because it faces several price resistance levels (N231.58, N243.76, N256, 270, N284.30) as the stock progresses upward. The stock’s ability to break through these resistant levels would depend upon the selling pressure experienced by the stock as it moves higher. If the sellers exceed the buyers, it would be difficult for the stock to easily break through these barriers.

I would advocate that the “small” investor remain on the sideline until the stock breaks through all the resistance levels. Traders who understand the resistance levels and patterns might use this opportunity to trade the stock as it progresses along.

Conclusion

A review of the most recent financial statements of both companies (ETI and NB); indicate that the companies are performing satisfactorily. Nigerian Breweries (NB) recorded an operating profit of N10 Billion for the six months ending June 30, 2006. This indicates a 13.7% growth in profit over the N9 Billion recorded during the same period in 2005. The turnover was N40.3 billion up from N40 billion achieved in June 2005. Profit before taxation was N9.9 billion showing a 37.5% improvement over N7.2 billion recorded during the same period in 2005 while Profit after taxation stood at N6.3billion, a 34.5% improvement over N4.7 billion recorded in 2005. The perplexing question by investors is why NB stock price is declining in light of these rosy financial pictures reported by the organization. There might be several answers to this question, it might be that analysts have determined that the financials for future quarters will not be favorable; Analyst might have some unfavorable data regarding the organization, or Analyst have determined that the stock is simply overpriced at this time using various price valuation models (i.e., discounted cash flow, Gordon Growth, etc). Regardless of the reasons, since average investors do not have these analytical tools or news available to them, I always recommend utilizing basic technical indicators because it reveals the foot prints of the institutional traders who are usually pre-disposed to advanced analytical tools and research reports.