Too Far, Too Fast?

Turning the calendar to 2018 kicked off an exciting run in stocks as the market moved up almost 4% in 9 short trading days. In 8 of those 9 days the market closed higher and the one red day was down a whopping .1%. These euphoric-type moves can’t last forever especially when you consider how far price is from its 200 day moving average. Bullish RSI momentum has reached an extreme as it exceeded its all-time highs in the SP500, ever. When things become so stretched in one direction the markets need to rest and digest the moves, as such it would be normal and health to see a correction or a consolidation at a minimum.

Looking at the SP500 chart, you can see Tuesday gapped higher at the open and eventually closed below its open and down for the day and with large volume. This is clearly a distribution day. A day when the big money made some moves, locking in some profits. Anytime they speak, we need to listen. Keep in mind it was not just the SP500 that acted this was as almost all US and most foreign indexes followed suit.  Tuesdays’ action in stocks, while not surprising, was a warning shot to the possibility of a short term reversal. One could argue that “short term” price movement is only applicable to traders because investors have a much longer time horizon so there is no need to be concerned with them. This is a true statement but I find being prepared for any possible correction helpful to stay the longer-term course.

In an ordinary market, this gap higher and subsequent fizzle would be a huge red flag and a strong short signal. Unfortunately this is not an ordinary market and normal rules do not apply. We’ve seen poor price action over the last few months, but prices rebounded decisively within days, if not hours. Yesterday’s fizzle is still a significant concern as it usually is a sign of the start of a near-term dip. But without a bearish headline catalyst to drive fear into otherwise confident bulls, I don’t expect this selling to go very far or to dampen bulls’ conviction. If they refuse to sell, then it is much harder for a dip to take hold.  Complacency will eventually get us into trouble, but over the near-term confident owners keep supply tight by refusing to sell every bearish headline and any negative price-action. That said, at some point this unsustainable climb higher will falter. When that occurs is anyone’s guess. There is only so much money willing to chase these record highs even higher and yesterday’s daily reversal suggests we may be getting close to that point, at least over the near-term. One day does not make a trend so we will need to see what sort of follow through, if any, occurs over the next few trading days. If not, it yesterday’s action will just be another bump in the road.

Either way, I don’t trust this market, but because markets can be irrational for longer than we can expect and more importantly it keeps doing the right thing means we stick with it.

3 for the Bulls

We are in interesting times. No matter where you look, most charts of stocks are screaming “buy me”. Far be it from me to fight the trend, so I thought I would devote this post to 3 bullish charts which are setting up to break out of short term consolidation to the upside. Why 3? I wanted to provide an example of a stock at the bottom, middle and top of their longer-term charts.

Let’s take a look at a bottom feeder first, Chipotle Mexican Grill (CMG). Anyone following Chipotle’s multiple catastrophic PR nightmares over the past two to three years won’t be surprised to see their stock off 65% from its prior highs.  But it looks as if it may be ready to turn things around. With bullish RSI momentum divergence and price forming an inverse head and shoulders bottom reversal pattern, a break out and hold above the neckline would present a compelling investment opportunity. The pattern projects to a ~25+% upside target (around the 415-420 range) if it were to follow through.

My second chart is that of Pretium Resources, PVG. As you can see its stock has been consolidating since June of 2016, stuck in a box, its bottom at $7 and top at $12. In addition to the longer-term rectangle pattern, it recently has also formed a bullish cup and handle. Having a bullish shorter-term pattern develop within a longer-term pattern is not unusual and if triggers, increases the probabilities of it meeting either one or both targets. The more conservative cup and handle target projects to a 30% rise while a breakout from the larger rectangle, points to a healthy move near prior 2012 highs some 40% higher. This one has my interest.

My last chart is one that is familiar to everyone, Apple. Its price currently sits at all-time highs but it looks like it’s not done. Like PVG above as it has formed a rectangle and is trying to breakout to the upside. The projections for this pattern if it were to break and hold would, based upon the conservative target, push Apple’s stock price up 8%, while the more extreme target would see Apple test $300, some 17% from where it closed on Friday.

Each of the above stock’s charts have formed bullish patterns using classic charting techniques as defined in the TA bible, “Technical Analysis and Stock Market Profits” by Richard Schabacker. While there are never any guarantees when investing, I find those opportunities that conform to the rules outlined in Schabacker’s book have a much higher probability of success.

Will 2018 Bring the Return of Inflation?

The strength of the global economy is one reason why the stock market has started 2018 in a buoyant mood (with the Dow passing 25,000). At some point, in any expansion, businesses find it harder to recruit workers or get the materials they need; these bottlenecks cause wages and prices to rise. Central banks then start to tighten monetary policy, a process that can eventually turn the market (and the economy) down (recession). For years the US has been in a deflationary environment in spite of the FED’s ongoing attempts to do everything possible to create inflation but that looks like 2018 may signal a change.

Because commodities rise in an inflationary environment, following their price can be very profitable for investors in the back-end of the business cycle. The $CRB index is a basket of 19 liquid and highly diverse individual commodities is about the best proxy I have found which can help determine the direction of commodity prices. Taking a look at the chart of $CRB we see the index has been in a severe downtrend from 2014-2016 and after bottoming has consolidated sideways for 2 years. But it looks like it may soon change as it is attempting to breakout to the upside.  The consolidation is forming an inverse head and shoulders bottom pattern which projects, if it breaks out and confirms, to the 2015 highs, almost 30% higher.

I have learned the hard way that commodities are a fickle group and are not as reliable as stocks are when looking at charts and attempting to interpret what is next. As such I prefer to get additional confirmation before committing investment capital. What better confirmation than looking at the biggest market of all, bonds and see what, if anything, they are saying. You may be asking what do bonds have to do with commodities. The common thread is inflation so checking in on TIPS (Treasury inflation protected securities) makes a lot of sense.

In the chart of TIPS below you can see that they, like the $CRB index are knocking on the door looking as if they want to break out to the upside. The cup and handle continuation pattern that has formed points to a target move of 5% higher (don’t scoff, that’s a big move for bonds)

Whether we see inflation or not will only be known later in time. With both commodity prices and TIP bonds looking as if they want to go higher, is a signal the markets believe inflation may not be too far around the corner. As with all pattern breakouts, you should never invest unless the pattern triggers and confirms, which neither the $CRB or TIPS have yet done. Until then, it will pay to watch these two closely in the coming weeks/months for investment opportunities. 2018 may be shaping up to be a great year for inflation hedged investments

Dubbya Bottom

Back in July of last year I wrote about the W bottom pattern that had formed in Vietnam’s stock market ( “Good morning, Vietnam”). It occurred after a long one and half year downtrend that was followed by a one and half year sideways consolidation potential bottom.  At the time I mentioned that If it broke out above the upper blue resistance line and held, it suggested an upside target of $18, a 20% move higher. The chart I posted at that time was:

Fast forward 6 months and I am happy to report VNM closed at $18 yesterday as you can see in the updated chart below. 

As always, when our targets are met we have to ask, “what now?” My investing rules are such that if my upside target is achieved, I am required to sell at least half of the position. In the case of VNM, because the chart still looks constructive and there appears to be more room to the upside (2014 prior highs near $21 is the next target), an investor should consider selling just ½ and letting the rest run. Of course, each person needs to make those decisions based upon their own risk tolerance. If you decide to hang on to some shares, be aware you will need to give it some room to wiggle as it is currently very overbought and due for a pullback/consolidation before a big move higher can occur. For those that are watching and wishing, do not chase, the next opportunity is just around the corner

Understanding Support and Resistance

One of the most basic (and important) elements of Technical Analysis is support and resistance. They represent key junctures where the forces of supply and demand meet. In the financial markets, prices are driven by excessive supply (down) and demand (up). Supply is synonymous with bearishness and selling. Demand is synonymous with bullishness and buying. As demand increases, prices advance and as supply decreases, prices decline. When supply and demand are equal, prices move sideways (consolidate) as bulls and bears slug it out for control.

Resistance is the price level at which selling is thought to be strong enough to prevent the price from rising further.

Support is the price level at which demand is thought to be strong enough to prevent the price from declining further.

Taking a look at a post I made back in July of this year regarding Grainger, GWW, the chart illustrates that price was approaching a prior level of support.  As such, I was expecting it to find a bottom and experience at minimum, a reversion to the mean bounce. Additionally, momentum would likely form positive divergence and be the wind behind any bounce. July’s chart is below

Fast forward 5 months ahead to now, taking a look at the same chart of Grainger updated with recent action we can see how price did find that bottom, it also formed positive RSI divergence and provided a very nice tradeable bounce opportunity. 

In this case, GWW actually provided something much more than a tradeable bounce as it has  gained more than 50% from the July bottom. Identification of key support and resistance levels is an essential ingredient to successful technical analysis. Even though it is sometimes difficult to establish exact support and resistance levels, being aware of their existence and location can greatly enhance analysis and forecasting abilities. If a security is approaching an important support level, it can serve as an alert to be extra vigilant in looking for signs of increased buying pressure and a potential reversal. If a security is approaching a resistance level, it can act as an alert to look for signs of increased selling pressure and potential reversal. The bottom line is if a support or resistance level is broken, it signals that the relationship between supply and demand has changed. A resistance breakout signals that demand (bulls) has gained the upper hand and a support break signals that supply (bears) has won the battle.