"Think & Trade Like a Champion": Mark Minervini’s Top Stock Trading Strategies (Part 2)

Welcome back to our deep dive into Mark Minervini's trading strategies. If you haven't already, be sure to check out Part 1, where we laid the groundwork for understanding his approach. Please refer to the link below.

Part 1: "Think & Trade Like a Champion" - Mark Minervini’s Top Stock Trading Strategies

In Part 2, we'll explore the MVP indicator, the Line of Least Resistance, Stop Loss and Profit Taking strategies, and delve into Minervini's Four Keys to Limiting Drawdowns. Then, we'll wrap up with my final thoughts. Let's get started.

MVP Indicator

Sure, you might pick a stock in a downtrend that eventually turns around and enters an uptrend. But why take that gamble when there are plenty of stocks already trending upward? Instead of playing guessing games, focus on stocks that have already demonstrated strength—you’ll have a much better chance of finding the next big winner. [Neo: I tend to agree, with the exception of turnaround stocks. These are stocks whose prices have already fallen significantly but have recovery potential, creating a high-risk, high-return profile.]

Use the MVP indicator to assess a stock’s potential: Momentum (the stock is up 12 out of the last 15 days), Volume (trading volume increases by 25% or more over the same period), and Price (the stock price is up 20% or more in those 15 days).

When to Buy: Line of Least Resistance

One of my key principles is to never force trades. Instead, allow the market to come to you. Be patient and wait for the stock to meet the criteria set by your strategy. Confirm that the stock will indeed reach your identified entry point and behave according to your plan. [Neo: Whether a stock trader or an investor, this is true. You can't force trades. You should always wait for the right opportunity to arise.]

Price consolidation signifies a period of equilibrium. As strong investors take the place of weak traders, supply is absorbed. Once the "weak hands" are shaken out, the reduced supply allows the stock to rise, as even a slight increase in demand can overwhelm the minimal inventory. This phenomenon is what the legendary trader Jesse Livermore referred to as “the line of least resistance.” [Neo: Andre Kostolany expressed a similar idea, even though he didn't use the term "the line of least resistance."]

Your task is to time your purchases along this line. As previously mentioned, the line of least resistance represents the price level at which a stock can move swiftly, making substantial gains in a short time. I refer to these as velocity trades.

The best trading opportunities arise when a stock rallies for several consecutive days on increasing volume. This is how you can distinguish institutional buying from retail buying.

A stock in accumulation typically displays certain characteristics, such as price tightness accompanied by contracting volume, often identified as a Volatility Contraction Pattern (VCP). This pattern is what you want to observe before making a purchase. Keep in mind that the VCP usually occurs at higher price levels after the stock has already appreciated by 30% to 50% or even more.

Leaders in one market cycle seldom lead in the next. However, some stocks may emerge late in a bull market and take the lead in the subsequent cycle. Key indicators to watch for are how well the stock holds up during bear markets or significant corrections. [Neo: Another point to note as a value investor: stocks that hold up relatively well during strong bear markets often continue to perform well in the subsequent bull market.]

Remember, personal opinions carry little weight compared to the market's wisdom and verdict. Let the market's strength guide your investment decisions, rather than your personal biases. (Neo: This holds true when the stock market trends upward or downward over the long term. However, in some countries, markets can remain stagnant for years, making momentum trades ineffective.)

If you adhere strictly to your selection criteria and focus on the best stocks for your portfolio, you'll likely find it challenging to identify numerous candidates worthy of inclusion in your elite group. Remember that diversification doesn’t shield you from losses, and excessive concentration can lead to significant risks. The goal should be optimal position sizing. [Neo: Yes, investors should aim to strike a good balance between reasonable diversification and concentrating on the best stocks.]

Stop Loss

I made the same critical mistake that many investors do: when the stock I owned began to decline, instead of cutting my losses, I bought more. This is how accounts get wiped out and investors go bankrupt - by compounding a mistake rather than compounding their money. [Neo: Many investors have made these mistakes, indeed. But the real question is how to distinguish worthy stocks that have simply become cheaper from bad stocks, bought by mistake, that will continue to decline.]

Think of your portfolio as a garden. You need to pull the weeds and water the flowers, nurturing what you want to flourish while eliminating anything that depletes your resources. [Neo: This is one of the best pieces of wisdom from this book: pull the weeds and water the flowers—cut losses short and cherish gains for as long as they last!]

When you say, “Just this one time,” you’re stepping onto a slippery slope. Telling yourself that you’ll break your rule just once opens the door to losing discipline, as it’s never truly just “one time.” My performance shifted from mediocre to exceptional when I resolved to never allow a “just this one time” moment again. [Neo: Like everything else in life, you need discipline to achieve success in investing. I believe this is true for both stock trading and stock investing.]

Once a secular market leader reaches a significant peak, there’s a 50% chance it will decline by 80% and an 80% chance it will drop by 50%. [Neo: The cycle of boom and bust is relentless. Besides major events like the dot-com or subprime mortgage bubbles, small fluctuations constantly occur in the stock market, especially among market leaders.]

You need to retrain yourself to celebrate when you adhere to your rules and take a small loss. This action activates a positive feedback loop, making you feel good in the moment for keeping your losses minimal, thus breaking the cycle of associating losses with pain. [Neo: Thoughts shape reality!]

Make it a point to truly celebrate. Dance around, play your favorite music - whatever it takes to create a new emotional response. By doing this repeatedly, you can reprogram your pain/pleasure cycle. Commit to following your rules, cutting losses to keep them small, and celebrating those decisions. Over time, your body will start to associate the act of cutting losses quickly with a sense of achievement and joy.

If a stock closes below its 20-day moving average shortly after a breakout, that's a red flag. An even more concerning sign occurs if the stock drops below the 50-day line on heavy volume.

Profit Taking

One of the most challenging decisions in trading is knowing when to sell. If you sell too soon, you risk missing out on future profits; if you sell too late, you might regret giving back gains. This struggle between fear and regret often leads to indecisiveness.

The best and indeed, the only way to manage these emotions and prevent them from sabotaging your success is by establishing sound trading rules. Without them, you’ll find yourself caught in the turmoil of excitement and doubt. [Neo: This is especially true for traders, but it may not apply in the same way to long-term investors with strong convictions. However, when that conviction fades, a long-term investor may begin to act like a trader for that stock.]

Consider using a trailing stop, specifically following the “breakeven or better” rule, which is based on the 50-day moving average - an important trendline for many leading stocks. [Neo: Even as a long-term value investor, I monitor moving averages from time to time. Differences are that I don't necessarily sell when the price breaks below the moving average line, and I tend to refer to much longer moving averages, such as 120 days or more.]

Adopt a short-term mindset for losses and a longer-term perspective for gains: cut your losses quickly and let your winners run. [Neo: Mark said the same thing in a more poetic way - you need to pull the weeds and water the flowers]

To achieve substantial returns in the stock market, you must master two key principles: 1) make significant profits when you’re correct, and 2) minimize large drawdowns when you’re wrong. [Neo: This is absolutely true, even for a long-term value investor. Holding onto stocks can lead to significant returns over time, but it can also result in substantial losses. The real challenge lies in knowing when to cut those losses, sometimes even when you believe in the stock’s potential for recovery.]

Stock Price

I seldom focus on the price-to-earnings (P/E) ratio. The growth stocks I typically invest in are considered "expensive" for a reason. Rather than being deterred by a high P/E, I view it as a characteristic of a fast-growing company. In fact, I find it more concerning when a stock's P/E is exceptionally low, as this may indicate underlying issues. [Neo: It’s true that growth stocks can have much higher P/E ratios, and their prices can continue to appreciate due to rapid earnings growth or an expanding P/E. This can make them challenging to track as a long-term value investor, but they may be ideal for a short-term momentum trader.]

After a leading stock has experienced a healthy advance over several months, its price may begin to accelerate and rise at a steeper angle than before. When this happens, it’s wise to sell into the rally and secure some profits. A climax top often occurs when a stock’s price surges 25% to 50% or more within one to three weeks.

Sometimes, stock prices may decline even after positive news, such as a favorable earnings report, which can confuse investors. Even if earnings look good and the overall story remains intact, it’s usually better to exit the position and seek clarification later, rather than wait for reasons that may not become clear until the stock has already suffered significant losses.

Whatever you do, don’t mistake a sharp decline in stock price as a buying opportunity. Many investors fall into this trap: when a stock they own drops suddenly, they believe the market must be mistaken and decide to buy more, thinking the stock is still a strong performer. They fail to realize that the decline may signal that larger players suspect something is amiss and are exiting their positions. When this occurs, it’s time to sell. If you didn’t have the courage to sell earlier while the stock was strong, you need the wisdom to sell now. [Neo: For a long-term value investor with conviction, a sharp price decline in a favored stock presents a good buying opportunity. However, I understand that a trader may take the opposite view, which is good because that’s how the market operates.]

Four Keys to Limiting Drawdowns

Key 1: Sell into Strength. Professional traders often sell into strength, taking advantage of eager buyers. While it’s possible that a stock may continue to rally after you sell, it’s much wiser to exit while the stock is strong rather than wait too long and risk losing most or all of your significant gains. [Neo: This advice is more applicable for traders but may not suit long-term value investors.]

Key 2: Trade Small Before You Trade Big. Losses can provide valuable insights that indicate your strategy might not be working. This could mean your timing is off, or that the market is affecting stocks in general. Why risk more capital on a position that isn’t performing well? [Neo: Losses after a purchase aren’t inherently bad if the original investment thesis remains intact; it might even present a chance to buy more at a lower price. That said, I agree with the principle of trading small before committing larger amounts, as I prefer to build positions gradually rather than all at once.]

Key 3: Always Trade with the Trend. Attempting to go against the trend rarely yields positive results. The likelihood of a stock reversing its trend and moving in your favor at the moment you expect is low. Let the market, not your opinions, dictate your actions. If a stock you’re interested in has declined, wait for it to show signs of recovery before investing your hard-earned money. This principle applies across all time frames, whether you’re a long-term investor, swing trader, or day trader. [Neo: I agree. Unless you're super convinced for a particular stock, you had better avoid a falling knife. Even Peter Lynch said that.]

Key 4: Protect Your Breakeven Point Once You’ve Achieved a Decent Gain. As your stock rises, adjust your stop-loss order upward to safeguard your gains. [Neo: This is similar to Key 1. While it’s beneficial for traders, it may not align with the strategies of long-term investors who have strong convictions and an investment horizon spanning years, not just months or weeks.]

Closing Remarks

While I follow the investment styles of Warren Buffett, Peter Lynch, and others that contrast with Mark Minervini's short-term technical trading approach, I have gained valuable insights from his book. Although I’m not particularly interested in Mark's technical trading guides or chart patterns, I am genuinely impressed by his champion mindset and risk-first philosophy, which align with key aspects of long-term value investing. 

Despite differing styles, there’s always something to learn from various investment gurus. Therefore, whether you identify as a short-term trader or a value investor, I highly recommend reading this book. You’re sure to find valuable lessons that can enhance your investment journey.

Thanks for reading. Wish you grow rich slowly and surely!

This blog post includes excerpts from the book “Think & Trade Like a Champion”, published by Access Publishing Group, quoted under fair use as permitted by copyright laws in relevant jurisdictions. The content includes both direct excerpts from the original work and my personal thoughts, rephrasings, and interpretations. All original text and images from the book are the property of the respective author and publisher, and are not to be used for commercial purposes.