Buying Stock On Dips 3 Days Ago

Fastly ($FSLY) a stock providing edge computing and CDN services crashed around 30% when it provided lower than expected earnings guidance.

This is the stock market. If you don't think your stock will ever dip so much in a day, think twice. 

• Tesla fell 21% on its worst stock day on 8 Sep 2020
• Facebook plunged 19% in its worst stock day on 26 July 2018, due to the data privacy issues
• Hathaway had an 18.51% percent plunge on 19 October 1987 due to Black Friday.

I didn't own Fastly stock but own a similar company, Cloudflare $NET, and was thinking about what would be my response plans. One person suggested the 3-day rule, which I didn't know about.

What is the 3-day rule in buying stock on the dip? The theory was to only buy the stock 3 days after a dip as it takes time for institutional investors to offload their huge volume of shares. The huge volume of offloading will support the dip further within the next 3 days so you should wait out for 3 days before buying.

Does 3-Day Rule Make Sense?

For me, the reverse rule makes more sense when the stock price goes up too rapidly, given many hedge funds limit the allocation of each stock to diversify their risks. For example, ARK-Invest had to sell their Tesla stock when the stock went up several times, even contradicting their positive long-term outlook. They then bought it again when their other stocks rise.

On the 3-day rule for buying stocks on the dip, I do not recall any funds or even Berkshire Hathaway (when they sold off all their airline stocks) having any rules to sell on dips.

Historical Performance of Stocks 3 Days After The Dip

Nevertheless, to see how a stock looks after 3 days using Yahoo Finance, I looked at the 3 dips for stocks I owned and also airline stocks since there was a known sell-off by Berkshire Hathaway.

• Tesla fell 21% to 330.21 on its worst stock day on 8 Sep 2020. and was already up to 372.72 on 11 September. Nevertheless, Tesla never seems to fall below this amount since. Overall, you lost around 12.8% by waiting for 3 days
• Facebook plunged 19% to 176.26 in its worst stock day on 26 July 2018. It continued to drop slightly to 172.58 on 31 July 2018 (technically 3 trading days later). The stock continued to move downwards for months. Overall, you saved around 2.1% by waiting for 3 days.
• Berkshire Hathaway had an 18.51% percent plunge on 19 October 1987 due to Black Friday to (3,170 for BRK-A) and raised to 3,440.00 on 22 October 1987. The stock continued to move downwards for the next few months. Overall, you lost around 8% by waiting for 3 days.

According to CNBC.com, regulatory filings shown that Berkshire sold nearly 13 million Delta shares for about $314 million and roughly 2.3 million Southwest shares for about $74 million on Wednesday and Thursday (1 April or 2 April).

Looking at Delta, a dip started from 1 April to $23.87 (using Adjusted Close) and was $22.32 on 6 April 2020. Overall, you gained around 7% by waiting 3 days before buying.

Looking at Southwest Airlines, it went lower from 1 April to $32.04 and was $30.70 on 6 April 2020. Overall, you gained around 4.2% by waiting 3 days before buying.

Therefore, it does seem like waiting for 3 days will let you accumulate more stocks. However, this was during a period whereby the bad news was reported and expected that the stock will dip without any strong support during the pandemic.

Overall, the historical performance seems to indicate mixed results and you probably need a lot of data to determine how often this happened (3-day rules) to decide whether it is worth the risks.

An alternative to the 3-Day Rule

While researching on the 3-day rule, I stumbled onto another strategy which made more sense to me during a possible bear case. The strategy is called stock replacement strategy which I will discuss in another post.

I will not be surprised if the stock market started shifting downwards suddenly so be prepared.