It is difficult for an investor to see the stock price ballooning and resist from selling the same at a profitable price. But, again it can be equally frustrating if the stock price increases even more, just after it is sold. This feeling resembles the archer missing the bull’s eye by a whisker. This is where the eight-week rule can prove to be beneficial for investors.
What is the 8-week rule or the 20% gain rule?
The 8-week rule of stock hold was devised by noted American entrepreneur and stockbroker William O’Neil in the early 1960s. The rule states that when stock price gains 20 percent or more from its ideal buy point within three weeks or less of breakout, it means that the market is in a healthy uptrend. The investor should hold for a minimum of 8 weeks more to see if it can be held for bigger returns.
Here, the term ‘breakout’ means the price of the stock rising from its level of the average closing price. Stock prices that surge fast can often yield the biggest profits.
The 8-week rule states that when stock price gains 20 percent or more from its ideal buy point within three weeks or less of breakout, the investor should hold for a minimum of 8 weeks more to see if it can be held for bigger returns.
The logic behind 8 weeks
If a stock price jumps by 20 percent swiftly from its ideal buy point, it has the potential to become a market winner. Holding such stocks and observing them more for 8 weeks straight will help investors identify such stocks and reap the potential rewards.
It is a tendency that when a stock price quickly rises by more than 20-25 percent, investors try to book their profits at that stage. When too many buyers try to sell the stock, it can cause the stock prices to decline sharply and give low returns during the holding period. The 8-week stock rule helps investors sit during the holding period and avoid selling too soon. Once eight weeks from the original stock price point have passed, investors can sell to lock in their gains or continue to hold.
Things to know about the 8-week stock investment strategy
Here are certain things to keep in mind to know about the 8-week stock hold:
It is not applicable for every stock: While some of the stocks from the bull market can be profitable but not necessarily all will emerge as winners. Investors should hold only those stocks for 8 weeks that are proven market leaders with strong fundamentals and quality institutional sponsorship. Stocks of companies with poor annual earnings growth should not be held. Also, while witnessing a 20 percent jump in stock prices, investors should pay attention to the overall attitude of the stock market before utilising this approach.
No guidelines about selling: The 8-week rule hold does give investors direction on how long to hold but it does not say when to sell once the price has touched. When to sell becomes complete guesswork as the stock price can fluctuate in 8 weeks or beyond. The correct time of selling becomes a challenge here as no one can accurately predict how individual stocks will perform daily. Sometimes holding stocks for 8 weeks can attract tax effects.
Emotions can interfere: An investor can develop certain biases while selling. For instance, they can develop recency bias which forces them to think about what has happened recently and will continue to happen. For instance, if recently a stock value, after surging by 20 percent, has further increased after 8 weeks, it does not necessarily mean that it will continue this trend. Such assumptions can lead to an incorrect decision of selling even after following the 8-week hold rule.
Pros of the 8-week rule
Investors might experience losses in this but it should be no more than 8 percent. Here the investors can lose twice, win once and still gain profits.
For new investors getting some profits boosts confidence and encourages them to invest in better stocks.
Investing in stocks that are undergoing market correction for a month is considered investing in dead money. The same money can be used to buy another stock that is surging in value.
Final advice for investors
The strategy is laden with losses if investors are blindly following the 8-week rule with disregard to where the market is heading or any bad news during the hold period. The rule majorly suits the stocks of the bull market more than the bear market.