Stocks do not exist in a vacuum. How is the stock compared to its industry group? How is the group in relation to its sector? Are stocks better than bonds or gold?
Relative price strength is one key technical indicator that shows you what value the market itself places upon a stock.
How is a stock’s price acting in relation to the market and all other stocks? The calculation is called the relative price rating. It is obtained by taking a stock’s price one year ago and its price today, calculating the percentage change and then comparing it to all other stocks over the same time period. In fact, the individual stock may be compared to an index such as the Standard & Poor’s 500 or an average such as the Dow Jones Industrial Average.
Most technically minded analysts restrict their stock selection to stocks showing a strong relative price. They use the measurement to cut out the vast number of laggards and mediocre performing companies that will hold their portfolios back. In short, relative strength is a screen that is helpful in telling which of the stocks to purchase or not to purchase.
An 80 relative strength rank indicates the stock’s price outperformed 80 percent of all other stocks over the past year.
This is especially important during a bull (up) market and can be a considerable measurement that leads to even higher prices. During a bear (down) market, relative strength measures that fall below 70 might indicate to you of a possible negative situation—leading to lower prices.
Finally, industry group-strength can be ascertained by using relative strength. When this is done, a whole group of stocks are calculated for their combined relative strength. This is once again compared to other industry groups, indexes and/or averages. Technically minded investors look to find a group that is outperforming the market, then from within the group they attempt to discern which stocks they want to have in their portfolios.
Tools like relative strength and others can be very helpful in managing money in the stock market. As always, make sure that you do your homework before you make any investment.
Quote of the week: “It isn’t as important to buy as cheap as possible as it is to buy at the right time.” — Jessie Livermore
Bart Ward is the chief executive officer of Ward & Co. Ltd., an Anoka-based registered investment adviser – specializing in the management of stock and bond portfolios in companies which are listed on the NYSE.