Beast Mode

Acacia Communications (ACIA) has been in beast mode since it IPO’d back in May of this year gaining more than 350% (from peak to trough) in 3 short months. Since it peaked, it has been consolidating sideways, digesting its gain and setting up for its next move.  Any time price consolidates it has the option to continue or reverse. Which way will ACIA go?

On the bearish side, the current consolidation has formed a symmetrical head and shoulders bearish reversal pattern with negative divergence which if confirmed has a target below some 29% lower, filling the gap.

The bullish interpretation is the recent consolidation is needed to set up for a push higher. Instead of the consolidation being a head and shoulders bearish reversal pattern it could easily morph into a bullish flag continuation pattern once confirmed with the conservative upside target some 100% higher.

As always there is a way to interpret any movement as both bearish and bullish, depending upon your bias. Since bias is one of, if not THE, biggest investment problems it is imperative to be agnostic when investing and wait for confirmation and have a plan in case you are wrong.

The stakes and return on this investment is big so it’s important to get it right. For me a close and hold above prior $128.73 highs is the confirmation I would be looking to go long. If, on the other hand, price closes and stays below the red horizontal support line at $102, I would expect a quick and violent decline back to fill the open gap below so those who feel comfortable shorting could initiate a position then. While price is stuck between the upper and lower boundaries I am happy to sit and watch the bulls and bears fight it out.

Small Cap Struggles

One of the first things I learned as a market analyst is to keep your eyes on small cap stocks. They are usually the first out of the gate in a burgeoning bull market and the first to fall at the commencement of a bear market.  As such, whether I am invested in them or not I watch closely for hints on expected future broader market behavior. As of right now while they have had a strong short term run, small caps have yet to confirm the broader market bull thesis by making new highs.

 In the weekly chart below you can see the current price sits just below the prior high made in June of last year. As such and as of this instant we have formed not only one lower low but also one lower high. Additionally you can see the head and shoulders pattern that has developed at the same time negative divergence has formed on RSI momentum.  If you are bullish this is not what you want to see. Looking to the left half of the chart you can see the last time this same set up occurred was in 2008 where the market subsequently dropped 60%. The target of this pattern if it were to play out is a slightly less gut-wrenching 50%.

With the charts warning of potential serious trouble is it time to sell everything, batten down the hatches and crawl into your fallout shelter? Probably not. A small 1% rise and hold will invalidate the topping pattern while further strength can easily wipe out the divergence.  This market, for whatever reason, continues to defy gravity and ignores all fundamental reasoning. As such, it is likely the small caps, like many other sectors, corrected and are playing catch up to the broader market. If this is the case, and we will likely now in the few weeks, this is one more feather in the bulls cap and further confirmation the trend is up (until it isn’t) so don’t fight it. 

Time for a Commercial Message

While the markets bide their time waiting for the Almighty powerful Oz of the banking world’s economic statement release this morning (11 am PST), I thought there is no better time than now for a teachable moment. You quite often hear me speak of reversion to the mean (rtm) being one of the most powerful forces in investing. As it turns out 2016 is a big mean-reversion year. Take a look at the performance of the 10 best performing S&P500 stocks from 2015 year-to-date. On average, those 10 stocks were up 72% in 2015. In 2016, their average return is lagging the S&P500 by being up 4.3%. One of them was acquired in September 2015, so I am showing only 9 for 2016.

Take a look at the 10 worst S&P500 performers of 2015. On average, they lost about 60% in 2015. Year-to-date, they are up 17%.

Like everything in investing, mean reversion doesn’t always work (I still have my shares of General Buggy Whip Co. that I was sure would eventually get back above $10). Nor do you know when the reversion will actually start so timing is always a challenge.  Regardless, great investors should keep good companies that are well managed and whose stock prices have punished on their radar. At some point in the future these types of rtm opportunities can have explosive growth and as such deserve a place in everyone’s portfolio.  

I can’t wait for 11:01 so the markets can return back to their regularly scheduled programming.

Incessant Repetition

You’re probably tired of hearing it as much as I am of writing about it but It doesn’t seem to matter where I turn in the markets, most every asset class is in some sort of “hanging by a thread” moment. Stocks broke out to the upside and are coming back to retest that breakout. Failing would be a very bearish sign. Bonds broke to the downside and are coming back to retest the breakdown. Failing would be very bullish.  The topic of this post, precious metals or specifically gold, is no different as you can see in its daily chart below.  It’s pretty obvious the $1310 level is of critical importance as it has tested it 6 times (2 from the underside and 4 from above) and where it sits presently. In addition to price closing Friday’s at horizontal support, it also closed right on the (blue) rising trend line which has acted as support 4 other times. These, combined with the fact price is above a rising 200 day moving average is constructively bullish. On the flip side providing the bears some room for optimism is the bearish negative divergence in RSI momentum, a double top and most recently, lower highs in price .

Extending our look to the weekly time frame it becomes much clearer to see that the current weakness comes at a very logical place as this level had been a point of resistance 3 times in the past when gold was in its protracted downtrend.  After a strong 6 week uptrend that started in mid-May, a period of consolidation is expected and needed. Another feather for the bulls is recent action looks very much like a bull flag which, if it resolves to the upside, would provide a target up near the $1550 level.  

As is always the case, current chart signals are mixed providing fuel for both bulls and bears, supporting both arguments. Having no bias and using a weight of the evidence approach, my expected intermediate term outcome would be a bullish continuation. In the short term though, because the more times a price tests a level the higher the probability it will break it, I am expecting a break below the current $1310 support opening the door for a retest of $1295 area where there exists strong support a likely area to revers. The eventual break above the longstanding $1380 resistance (red horizontal line) opens up the door for the potential of big upside as there is little overhead supply until it reaches $1575 which is what I am favoring longer term.

I do not know what will happen next I am just laying out one possible scenario so please do not take these ramblings as predictions or advice. Regardless of what happens next though, I expect Wednesday’s fed announcement will be the “event” providing the catalyst for the precious metals sector’s next big move.

Brazil Has a Wedgie

If you had 2 mischievous and devious brothers like mine you might be wondering how a country can have uncomfortable, bunched underwear. You might also be in need of therapy to rid yourself of the scars of their pranksBut, alas, I digress. In this case the wedgie I refer to is the rising wedge pattern that has developed in the Brazil stock market proxy, EWZ.

As you can see in the daily chart below EWZ has broken down from a perfect 5-touch rising wedge and currently sits on important horizontal support. I think this has a lot more downside if we get a confirmed move below support as this breakdown has occurred after the formation of bearish momentum divergence. If you are short Brazil’s stock market like me, it is important to know ahead of time where likely reversals may occur, a logical place to exit your short position. The pattern’s conservative first target is the $28.50 area, some 11% lower than where we closed yesterday. If the market doesn’t find support in that area and gathers some steam to the downside, the next likely target is the $26 area. This sane area is a very important level as it represents a confluence both a pattern target and the 200 day moving average.

As of right now and because EWZ is still in a defined uptrend on both the daily and weekly time periods we need to give the benefit of doubt to the bulls and view this breakdown as nothing more than a normal corrective pullback. But future events can always change the tide and as such we always need to keep an open mind and adapt to what the market gives rather than what we want or expect.

If this pattern works out as expected and there is interest, I have saved a couple of other relatively unknown “technical” patterns the noogie and wet willy (my oldest brothers personal favorite) for later.