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Herbalife Is A Trader's Dream....You Can Catch Falling Knives!

|Includes:Herbalife Ltd. (HLF)

Herbalife joins a long list of very profitable growth companies that were once high flyers....that the market had taken out and shot! Jim Cramer and others are telling you to please stay away, it is too dangerous to play Herbalife right now. Wait for the dust to settle.

Folks, that advice is just wrong! If you are a long-term buy-and-hold investor then you don't mind buying as a stock falls as you can accumulate on dips and get rewarded in the long-term. The quick down allows for averaging down for a lower average price, and the quick rebound back up makes for quick profits in both the short and long-term. And if you are a short-term trader, the volatile price action in Herbalife can only be described as a dream come true! To me, there is nothing better than to be in a stock with high short interest that is subject to large short-covering rallies, which can be profited from, then followed by large selloffs that provide buying opportunities to repeat the same process over again! A trending stock, moving up slow and steady, I lose patience and get out. It takes off and I refuse to chase it, so I never get back in. But with high short interest, high beta stocks, if you don't like the price now, just wait a few minutes, it will change! Whether you are a bear who is shorting the rallies, or a bull buying the dips, by playing the swings properly, both sides make out as bandits! Who knows or cares if Herbalife is a ponzi scheme. Just follow the stock price. I would rather be right on the trade and wrong on the argument. If you make money, you won the argument...and if you lose money, then you lose the argument. Who won the argument between the two billionaires who had a go at it last week on TV.....they both did! They will probably both be rewarded handsomely on this trade. That is why they are the big whales and we are the plankton.

Isn't There a Rule Against Catching Falling Knives?

Yes, there is a generally accepted investment rule that one is not to catch falling knives. One must wait until the dust settles before getting in. Wait until a low is established and the stock is coming back up, is the usual refrain. You might be surprised to know that many professionals don't follow this rule. Why? They know that if they wait until the "coast is clear", they won't get to buy at the bottom and they don't want to miss all of those profits. Professionals scale into the trade. They buy low and they buy even more if the stock goes lower. Then when a short-term bottom is established, the stock rallies just to the point that the technicals improve and buy signals are starting to be created. That is when the retail customer is told it is safe to buy. And the professionals are very happy to dump the stock off to the retail customer who is paying too much for the battered stock. When the pro gets out and is totally flat, he is then free to short the stock and drive it down, causing the retail customer who just bought to suffer an immediate loss. But maybe it just all that profit-taking from the bottom fishers. As the stock tanks, stops are hit that were placed by the retail customer. They are stopped out and they sell out....but guess who is buying as they are stopped out? The pro again of course. The retail customer is told that placing stops is a must, that it is wreckless to not place stops. I say the opposite. If you are playing so big that you have to place a stop, then you are just playing too big! You need to buy fewer shares, even if it means buying less than a 100 share round lot. Don't you know, that if liquidity is thin, the professionals can sell the stock off, just to run the stops and get cheap, low prices for which they can buy and quickly profit. Again, I don't place stops in the market.....I use a liquidity stop in my entire trading account for the day, but never a price stop on any one position I trade during the day. If support breaks and stops are hit, a majority of the time it is a great time to buy....not sell. My initial position is only a partial position so I am glad when support breaks and stops are hit. At the lower prices I get to buy and lower my average price. They say that 90% of commodity traders lose money and most daytraders lose money. The reason this is true is because traders are following the rules....rules that lead to their ruin like "You can't catch falling knives" and "You always have to place stops to be prudent".

Look At Green Mountain Coffee Roasters (NASDAQ:GMCR) For Clues

If you want a clue to the future price action of Herbalife, look to Green Mountain (GMCR). Notice I said look at the price action. All fundamentals will be incorporated in the price at any point in time so I spend 10% of my time on fundamentals and 90% on technicals. In 2012 I got interested in this stock because Green Mountain has great earnings and appeared to have great cash flow. That is all I needed to know up front about fundamentals. It was still growing and the stock just cheap by any measure. I figured that even if GMCR was doing funny accounting math, it would take 3 years to kill off this dog. Since the stock topped out in 2011 and had corrected down into the low 20s, I knew that the low price more than discounted all the bad news that could come out for the next year at least. I figured that at some point, the stock would bottom and was a double if not a triple. While I waited for the stock to tank, I sold weekly and monthly option puts. Negativity was so great, the premiums on the puts I sold were monster! Insurance against a sell-off under 20, got very expensive. As a short seller of puts, I was receiving that high premium and accepting the risk since I was bullish anyway. On August 1, 2012, the stock closed at 17.91, just a few minutes before earnings were announced. Herb Greenberg on CNBC had been wailing against GMCR, and was go giddy the stock was falling, he went over the top and declared, "Green Mountain is the Short Of The Century". He made the pronouncement just minutes before the earnings were announced. The stock opened post earnings and shot down to 15, but then quickly turned up and moved towards 20. Within a week the stock was at 25. Within a month it would trade to 33. Greenberg was wrong. GMCR was at that moment on August 1st the BUY OF THE CENTURY! His declaration to the contrary marked the bottom!

After hitting 33 in September, the stock returned to a low of 21 in October, only to swing up and down in the 20s. I felt very safe buying in the low 20s seveal weeks, because I had full confidence that 15 was the bottom and anything under 20 was an absolute steal! All rallies were immediately sold off and we were in a slow downward fade, the perfect pattern that I love to trade from the longside. Every time I got out on pops, the stock moved back down and let me back in. Day after day I bought the same prices or a bit lower, and like Groundhog Day, I made the same easy money. GMCR delayed the November 1st earnings announcement which the blogs took as very negative....what were they hiding?! But the stock price had more bounce during the 3 1/2 week delay and in fact hit 30 within a week of the earnings date in late November. The price action told me that the stock would pop up post earnings. The uncertainty was great, so option premiums were extremely high. That week prior to earnings put options that were $5 or more out of the money were screaming to be sold. I sold a few and wish I had sold more. Post earnings the stock would gap the next morning from 30 to 35 and never look back. The morning following the earnings, I quickly bought back the puts I sold, which were virtually worthless, and immediately bought a lot of shares. When the stock closed near the highs of the day, I was confident that we were rise for at least a week, so I bought and bought will we got to 40. The fact that a gap from 30 to 35 remained unfilled gave me tremendous confidence to buy. I again had a great time daytrading the stock for another month. At 43 I quit trading the stock and moved on. Most of the shares I purchased were in my wife's IRA. I told her she was invested in GM Car. That was the code word for GMCR. If I had told her it was Green Mountain she would have limited my trading and never let me remain long through earnings. She has no interest in the stock market but with the business channel on all the time, she heard all of the negative press. She knew that Green Mountain was a short and that it was too dangerous to buy................just like HLF is now. Right!

Disclosure: I am long HLF.

Additional disclosure: I daytrade this stock from the longside, keeping some shares overnight.

Stocks: HLF