"Buy low, sell high" is possibly the most famous adage about making money in the stock market. It's so obvious it sounds like a joke. In reality, it's a lot easier said than done.
- Buy low, sell high is a strategy where you buy stocks or securities at a low price and sell them at a higher price.
- This strategy can be difficult as prices reflect emotions and psychology and are difficult to predict.
- Traders, thus, use other tactics, such as moving averages, the business cycle, and consumer sentiment to help decide on when to buy and sell.
What Is Buy Low, Sell High?
Behind the truism is the tendency of the markets to overshoot on both the downside and the upside. Part of the reason is a pure herd instinct that drives stock prices. The investor who takes an unbiased look at the market might be able to see the herd instinct at work and take advantage of the extreme ups and downs that it causes. That investor can buy low and sell high.
Unfortunately, it's easy to determine after the fact whether a price was too low or too high and even why. During the moment, it is monumentally difficult. Prices both affect and reflect the psychology and emotions of market participants.
For this reason, "buy low, sell high" can be challenging to implement consistently. Traders trying for a more objective view consider other factors to make a more informed decision. These factors include moving averages, the business cycle, and consumer sentiment.
Moving averages are derived solely from price history. They show price fluctuations over time, essentially smoothing out the short-lived price bumps to show the general direction of a stock over time.
Some traders track two moving averages, one of short duration and another with a longer duration, to protect downside risk. One common method is to use the 50-day and 200-day moving averages. When the 50-day moving average crosses the 200-day moving average, it generates a buy signal. When it crosses the other way, it generates a sell signal. The point of the moving average is to help a trader time a buy or sell at the right point in the trend.
Business Cycle and Sentiment
Over the long term, the drivers of the market as a whole follow a consistent pattern, moving from fear to greed and back to fear. Times of maximum fear is the best time to buy stocks, while times of maximum greed are the best time to sell.
These extremes take place a couple of times every decade and have remarkable similarities. The emotional cycle follows the business cycle. When the economy is in a recession, fear predominates. This is the time to buy low. When the economy booms, prices go up like there's no tomorrow. This is the time to sell.
Long-term investors might consider watching the business cycle and consumer sentiment surveys as market timing tools. Regularly published reports such as the Consumer Confidence Survey provide further insight into the business cycle.
There are notorious examples of market extremes, including recent instances such as the internet bubble of the late 1990s and the market crash of 2008. Both proved to be excellent opportunities for those who bought low and sold high.
At the time, it seemed as if the trend would never end. Internet stocks surely would never go down in 1999. The housing industry certainly would never recover after 2008. In those moments, investors who sold internet stocks or bought housing stocks might well have felt they were being punished, as the trends kept going in the other direction—until, that is, they didn't.
A successful investor must ignore the trends and stick to an objective method of determining whether it's time to buy or time to sell. If you don't already have a trading account and would like to try your hand at the buy low and sell high strategy, feel free to check out Investopedia's list of the best online brokers to help you choose a broker and get started.