Caterpillar CAT Confirms Bull Trap and Tests November Lows

Jan 26, 2009: 2:48 PM CST

Caterpillar (CAT) announced today that it was laying off 20,000 employees, which sent the stock down to test the November lows and officially confirmed a Bull Trap that was sprung in early January.

Let’s see Caterpillar (CAT) on the Daily Chart:

Caterpillar CAT Daily Chart

I’ll leave the fundamental news to other websites and will only focus on the technical picture currently.

We had an official trend reversal to the upside as we went into 2009 with price forming both a higher high and higher low, then the moving averages crossed (slightly) bullishly, forming a confluence support cradle… which failed, trapping nimble bulls who bought into these bullish developments.

The Bull Trap is officially confirmed today since price has tested its November and October 2008 lows, a prospect that ’should not’ have happened if the bullish reversal was valid.  Caterpillar now stands on a precipice – a careful balance.  If we break the October lows of $31.61 per share (today’s low as of this writing was $31.70), then odds become overwhelming that we continue lower in the stock, but the balance comes from the fact that price could find support at this level, confirming a triple-bottom on a triple-swing positive momentum divergence.

In short, from a technical perspective on the daily chart, Caterpillar is finely balanced beween doom and hope at the moment, and it might be best to wait until a clear victor (buyers or sellers) emerges before entering a new position here.  Although, this would be a decent spot to enter if you are a Caterpillar bull, because you could place your stop just beneath this level and would stand to make a good profit should price find support here.

Do additional analysis (including higher timeframes) to see the larger picture for Caterpillar, but for the moment, let it be an example of a “Bull Trap” that signaled a valid entry for bulls before price reversed, surprised them, and tested its prior low.

Corey Rosenbloom
Afraid to Trade.com

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Comments
  • Ignacio from Spain
    I agree. It's a high prob low Risk but I'm worried about the Volume that increased more than 120% on Monday. What do you think?
  • DaveB
    I know, the sharp spikes you see off of oversold lows can really be tempting. Even while I was holding a profit on the trade I was still disappointed in myself for giving in to my impulses and buying without enough confirmation.

    When I started trading last year I was always trying to pick bottoms, and I traded away a significant portion of my starting capital in the process. My head was filled with ideas of capturing those 20-100% moves that can occur in a matter of weeks, and that I'd be racking up huge returns each year doing it.

    My current feeling on bottom picking is that if I make 40% in two weeks on a successful attempt, it won't be enough to make up for losses I incur the other 4 out of 5 attempts where I'm wrong.

    For now, I don't think there is a way for me to balance it. I just have to avoid bottom picking. If that means sitting and watching USO rocket up to $60 in the next two weeks (not saying I expect that to happen), so be it. I figure I'm better trading with the trend and with a favorable risk/reward ratio. I know the gains won't be as spectacular, but I could always use leverage on the higher probability trades I find (use BGU or DDM instead of DIA). Or, as I build up my skills I could branch into the highly leveraged futures and options arenas, as a way of fishing for larger gains. At least that's where I'm at now, as I prepare to enter my second year of trading.
  • Well, therein lies the conflict in trading.

    If we enter with less confirmation - as price is going down waiting for a reversal, we have less chance of being right but if we're right, we'll make more money.

    If we enter when price has reversed, and is heading back up, odds are better that we'll be right but we'll make less money that if we entered before it became 'obvious'.

    We just have to figure out how to balance that.
  • DaveB
    Just to follow-up I sold out of my USO position today at breakeven. Even when it was in profit I wasn't comfortable with it because I'm not supposed to be bottom picking anymore. So when it came down today I wasn't going to wait and see if it would hold the $28.42 low. ;)

    I think I'll wait for a new uprend to be confirmed before I buy it again.
  • DaveB
    Agree on oil... which is why I was tempted into taking a small USO position around $30 last week. Going back into October on the daily chart it looks like a quadruple swing momentum divergence running through to the December lows. I've sworn off bottom picking but I just couldn't resist getting a foot in the door on this one.

    Thanks for the advice on the leveraged funds. I think I remember you mentioning this before, so thanks for the reminder!
  • Dave,

    Right on - I confess I'm an oil bull but not because of fundamentals - because of the multi-swing positive momentum divergence and 'rounding out' pattern that appears to be forming at least a short-term bottom. So my bias is to the upside (along with major support at $40).

    However, my suspicion is that this is now a common view and you're right - the market loves to throw off the majority.

    That's why stop-losses are required as are finding low-risk, high probability set-ups that create edge so that your fortune is not dependent upon any one trade.
  • Dave,

    No prob. Those cradle trades can be excellent low-risk, high probability (and high reward) opportunities so it's almost worth taking every one, no matter if they don't resolve as expected - the target is well beyond the stop each time.

    I agree that the SDS is making a strong cradle trade into support and forming a doji (today) which is probably an irresistible opportunity (from a risk-reward standpoint).

    The only caution I have is not to do much technical analysis on leveraged inverse funds - or other such derivatives. There's factors other than TA that affect them and it's always best to do extensive analysis on the underlying - in this case S&P; 500 - and then use the SDS to play out your bias on the S&P; 500 rather than trying to read too much into the technicals on the SDS.

    I've got burned a couple of times because of that.
  • DaveB
    Here's another.

    On the weekly chart of $WTIC, do you think we might have a bear flag developing?

    I do prefer the bullish case you made not too long ago on this blog as the more likely scenario but just wanted to mention this as a possibility.

    Someone here once commented that the market will move in the whichever direction causes the most pain to the most people. Since everyone and their brother is expecting an oil bottom here.... hey, you never know!

    Sorry for the off topic posts. ;)
  • DaveB
    Corey, sorry this is not on the topic of your CAT posting, but I wanted to point out something I noticed today.

    I'm looking at SDS in the daily timeframe. Back in December I noticed a bear flag into reverse confluence resistance (or an inverse cradle trade, if you will). It turned out to be a perfect opportunity to go long the market. A sign to get out of that long trade would have been at the first of the year when SDS successfully tested the 50 week ema, although I didn't notice it at the time. But I digress....

    Today I see what appears to be a nice "cradle trade" set-up on the daily with SDS bouncing firmly off the lows in that confluence zone (the 20 crossed bak over the 50 last week). What do you think?
  • Gawed,

    Of course - and it isn't always newer traders. It can be seasoned people who, after a run of successful trades, get sloppy or believe that they have finally 'figured out' the market and get overconfident. No matter what, it's still about edge and probability - and the outcome of any one trade is uncertain.

    What's worse is if people doubled down in such a swing.

    Keep in mind that not everyone follows technicals, and those that do so, often have their own system that may or may not use moving averages.

    It's going well now that the site is transferred to the new server. It was stressful in between.
  • is there really ppl who would have left their positions open and not set stops below the EMA or SMA either physical or mental?

    Hi by the way Corey, how is it going?
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