Shanghai Exchange Resembles NASDAQ Bubble

Apr 5, 2008: 3:19 PM CST

In case you don’t follow global markets, I thought I’d show you the amazing, euphoric rise of th Shanghai ($SSEC) Stock Composite Index (China) and its precipitous fall and compare that to the US NASDAQ Composite blow-off of 2000.

The monthly chart shows a wild ride for investors, including the stratospheric rise from 2,000 to 6,000 in less than a year.

The precipitous fall from 6,000 to near 3,000 has taken less than a year to occur as well.

What did the NASDAQ look like?

It looks very similar, doesn’t it? Bubbles still form today in both stocks and global indexes. In 2007, we heard about how China was becoming a super-power and how their population was growing and their industry was booming. All that is true, but that does not translate instantly into overnight wealth in their stock market. Traders can bid prices up to euphoric emotional levels and eventually prices will revert back either to logical levels, or beneath logical levels, swinging the pendulum to the opposite extreme.

Be aware that overseas markets can affect the US Stock Market, and especially certain sectors of our market. Before concluding, let’s peek at China’s weekly chart:

The index even had the little ‘throwback’ or ‘dead cat bounce’ or bear flag that the NASDAQ had in 2000 before plunging starkly to form its bottom in late 2002.

I would guess the Chinese stock market has a little further to go to the downside before entering a period of consolidation in order to build a base for the next more reasonable price appreciation.

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A Little Index Overview

Apr 5, 2008: 9:31 AM CST

With the exception of Tuesday’s “April Fool’s” 3% stock market move, the rest of the week experienced tame trading. Let’s take a quick look at some of the index charts to see where last week’s action left us:

For the S&P 500, price crested and closed 4 days in a row above the key 20 and 50 period moving average. It’s possible these areas will now shift from resistance into initial support, adding a little fuel to the bullish fire.

On the other hand, volume is declining on the recent market rally, adding doubts – however – to its staying power. These conflicting signals are confusing to traders.

Let’s not forget that the market is currently in a ‘trading range’ or flat trend between 1,400 and 1,260. Until either of these levels are taken out, we should perhaps expect a little more consolidation as traders take in new information and ‘bet’ accordingly.

Let’s peek at the NASDAQ chart:

The chart is showing similar signs of life which are encouraging to the bulls. Momentum (via the oscillator) is trending up and price is now closing above the key 20 and 50 period moving averages as well.

I drew a mini bull-flag on the chart which has now completed its target. Price has formed an indecision “doji” candle on this timeframe, which could precede a short-term reversal (just to test prices a little lower).

The bulls currently have a little bit more going for them than last week, and short-sellers must be aware of that.

The tides may indeed be turning but always look to the risk, no matter what position you decide to take.

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Potash Amazes Us with New Highs

Apr 4, 2008: 6:23 PM CST

Potash Corp (POT) is a stock I have been watching for over a year now, and it has been an amazing ride up to new life-time highs hit today.

Potash is a large fertilizer company that has been increasing in market share and share price over the last few years, and now traders are becoming aware of this stock’s power.

Look at the volume explosion all through 2008 (along with the steady price trend):

I would recommend using your own style of analysis – be it fundamental or technical – in assessing what you think of this stock and its industry.

The 20 week moving average has served to contain price through virtually all pullbacks. Also, the three key moving averages are in the most bullish orientation possible.

Let’s peek at the recent action on the daily chart:

This is actually a very volatile stock, though the weekly chart may hint otherwise. This stock opens with numerous gaps in both directions, further increasing risk.

However, traders who have been patient and solid with this stock have been rewarded with excellent returns.

Even in a bear market in the broader stock market, there are still stocks and industries experiencing rampant bull markets!

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How to Trade a Bull Flag

Apr 4, 2008: 10:31 AM CST

One of my favorite intraday patterns is the bull and bear flags. But how do you identify and then trade these patterns?

Let’s focus just on the bull flag for this post.

Why do I like this pattern?

It is relatively simple to identify, only uses price (no complex indicators), and the stop-loss along with profit target projections are clear.

What does it look like?

Graphically, the pattern is comprised of a large volatility upward impulse move (which resembles a ‘flag pole’) which is then followed by a retracement that occurs downward in a near 45 degree angle. After this retracement is complete, a ‘measured move’ component breaks back to the upside which is roughly equal to the original flag pole portion.

I drew this basic graphic to illustrate the pattern:

The first component is the ‘pole,’ which you often can’t detect as it forms. It is the second component that creates the ‘trade.’

Once you see a clean retracement against a large, near vertical price move, this is your clue to begin looking for this trade. If the retracement is bound by near parallel channels which form a 45 degree angle, then this increases your confidence that a flag pattern is occurring.

If the retracement pulls back to the 20 period (or some other) moving average, or some other area of perceived support, this adds confidence to this pattern.

Entry

Generally, once you see price retrace about 50% of the initial ‘pole’ or price comes into a support zone, this would be your entry. If you are an aggressive trader, you can enter as price continues downward in the retracement in anticipation of a reversal. Generally, you’ll fall victim to less slippage and will get a better position if the measured move occurs.

If you are more conservative, you can actually wait for the price to break out of the upper channel and enter at that point. You’ll sacrifice initial trade location, but will put the odds a little more in your favor.

Stop and Target

Where do you place your stop and where do I play for a target? It depends on your style of trading.

The stop should go a ‘comfortable’ distance beneath the lower trend channel of the flag portion. Again, if you are conservative, you can place it just beneath the support zone or bottom trend channel.

If you’re more aggressive, you can place the stop lower than this zone, or even beneath the initial pole (of the impulse).

Keep in mind that you have a clear target once you establish your trade, and so you can easily cut that target in half to establish a clean 2 to 1 reward to risk ratio.

The target is an equal distance of the pole which is added to the bottom of the lower trend channel in the flag.

Example: If the ‘pole’ impulse is $5.00 (taking price from $40 to $45), and the retracement takes price down $2.50 to $42.50, then the ‘measured move’ target would be $42.50 + $5.00 or $47.50. Your stop could be placed where you are comfortable beneath $42.00.

Where does it occur?

This pattern occurs on any of the intraday time frames and the daily timeframe of ETFs, indexes, and futures contracts. Unfortunately, this pattern occurs less frequently on the weekly charts (though the targets are larger) and especially the monthly charts. Classic technical analysis books say that a ‘flag’ portion of the daily chart must unfold in 4 weeks time.

Where can I find examples?

I’m sure I will be discussing this pattern in more detail in the future, as it is one of my favorites. To find all the times I’ve discussed a bull (or bear) flag pattern, feel free to type in the term “bull flag” or “bear flag” in my search box at the top of the blog homepage.

Also, I have selected a few posts to get you started, which show examples on the daily chart and intraday charts:

Ideal Bull Flag on 60-min Chart (DIA)
Summarizing the Day’s Trades (Mar 31, ‘08)
POT – What?
Consumer Discretionary Sector Analysis (bear flag example)
Bull and Bear Flag Examples
Goldman Sachs Intraday Bear Flag (good example)
Bear Flag forms on Indexes (my projection came true!)

Keep checking back for more information on this pattern.

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Market Club Q1 Trade Triangle Results Revealed

Apr 4, 2008: 8:50 AM CST

Adam Hewison of Market Club fame recently released the trading profit results from their “Trade Triangle” technology service.

In one of his classic Trader’s Whiteboard brief videos, Hewison released their performance for the first quarter and how members were able to benefit from their signals from the markets they follow.

Hewison writes:

2008 has already been a roller-coaster ride. The after-shock of record high oil prices, the sub-prime disaster and the credit crunch still have a profound impact on market direction. However the “Trade Triangle” technology once again prevailed in uneasy times.

Of course it would be easy to show you the results for a cherry picked group of great performers. However, to show consistency we have analyzed the same commodities, indexes and precious metals that we have used for our quarter results in 2007. We are sing the same “Trade Triangle” method to show how you could have entered and exited the market with limited losses and plentiful profits.

The “Trade Triangle” technology can work for all types of traders. By working a filtering method into your trading plan, you are reducing risk and putting the odds in your favor that the market will move in the direction of a longer term trend.

If you are interesting in learning more about the Market Club service, see how they really did and if the service might be for you. Beyond the “trade triangle” technology signals, they offer daily commentary, analysis, various scans, blog posts, videos, and allow you to host your own portfolio on the site.

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