David Einhorn is a great investor. He has beat the market over a long period of time. However, using the TradeStops Stock State Indicator (SSI) and Risk Rebalancer tools, Einhorn could have improved his returns by a margin of almost 4-1.
Since 2002, Einhorn has gained almost 270% and beat the S&P 500 by about 20%. Had he been using the TradeStops tools and using his same stocks, he could have gained almost 1300%.
The SSI tools were responsible for the majority of this outperformance. The SSI green light / red light signals are simple to understand and extremely powerful in their results. They are based on the heart of the TradeStops system, the Volatility Quotient (VQ).
In TradeStops, it takes one year of trading history for a stock to develop a VQ. It takes two years of trading history to generate the green/yellow/red light Stock State Indicators. That means for the first two years that it’s trading, the stock has a gray SSI.
One of the defining characteristics of Einhorn’s investments is that he likes to get into companies early, shortly after the IPOs, hoping for large gains as the company moves higher. This is a risky strategy.
By default, our “beat the billionaires” system ignores stocks that have a gray SSI. Our system won’t get into an investment until the investment has at least the two years of history required to calculate an SSI color.
Given Einhorn’s interest in early stage IPO’s, we thought it would be interesting to look at what would have happened if we had gotten in alongside Einhorn on some of the gray SSI investments that he invested in.
What we found was that when we allowed our system to invest in Einhorn’s early stage investment ideas, the performance was worse… significantly worse.
Rather than a gain of almost 1300%, the returns would have been knocked down by 25% to under 1000%. The purple line below shows the results of allowing Gray SSI stocks into the system.
Our conclusion? Waiting for a stock to trigger an SSI Entry signal is still the best strategy of all.
A great example of how gray SSI stocks can get you into trouble is Halyard Health (HYH). This stock began trading in October 2014. Einhorn got into the stock in early 2015, only 6 months after the stock became public. He got out of the stock when it moved lower and took a loss of about 25%.
Had he been patient and waited for the initial SSI Entry signal that triggered in October 2016, he’d be sitting on a profit of over 35% with more potential upside on the horizon.
New IPOs are exciting and fun to invest in. But they can be dangerous for your portfolio. Even stocks that people think about as leaders in the markets such as Facebook (FB) and Alibaba (BABA) had difficult beginnings. FB was down more than 50% after its IPO and BABA was down more than 40% one year after its IPO.
It’s OK to keep these exciting stocks on your radar and in your watch lists. But to get the best returns, ignore the stocks that are in the Gray Zone and wait for the SSI Entry signals to tell you when it’s a good time to buy.
Another example of ignoring the noise and following the signals.
Richard Smith, PhD
CEO & Founder, TradeStops