Apple Dives – Traders Disgusted

Jan 29, 2008: 10:25 AM CST

Apple Inc (AAPL) has been a darling, dream stock for 2007, appreciating from roughly $80 per share to a peak of $200… before plummeting precipitously recently to start off 2008.

Let’s take a look at the widely unexpected carnage Apple investors have had to endure recently:

Let me explain all the annotations I have made.

  1. The blue ovals. This was indicative of a dislocation in the market in early November. Typically, stocks do not just plunge off a cliff unless an unexpected news report or lawsuit emerges that was completely unexpected. Often, precipitous declines are forecast through some sort of volume or momentum divergence. Both occurred, but what was key was the massive selling that occurred that slammed price from $190 down to $150 in four days. This was a sign of trouble to come.
  2. Investors, and TV News personalities, declared this to be an extremely profitable opportunity to pick up Apple shares cheaply. They were right… for a time. Price floated higher with the ominous dread that something was amiss.
  3. Notice the volume divergence. As price floated cautiously higher, fewer and fewer buyers were taking part. It was almost as if a distribution was taking place.
  4. Notice the momentum swing divergence (between price and the oscillator). The divergence was a further warning that the bulls were losing momentum, and when combined with the volume divergence and the price shock of November, odds favored downside momentum… but we never know how far a move will carry.
  5. Finally, the momentum divergence, volume divergence, and spike downthrust were resolved violently with an almost unimpeded price plunge from $200 down to $130.
  6. Price has formed a new momentum low and the moving averages are rushing to catch up with the horrendous negative price action.
  7. Google (GOOG) is showing a similar pattern, as money is rotating out of the technology sector into more defensive ones, perhaps as big money forecasts more difficult times ahead for the market.

Here is a weekly chart of Apple to put the recent move into perspective:

You can feel the volume and momentum divergence more clearly on this weekly chart. Notice the radical signal that preceded the fall.

Investors, try not to blind yourself to the possibilities of ’surprise’ price declines in the most darling stocks, and just because a stock is mentioned 100 times per day on the news or in the blog world doesn’t mean that bad things can’t happen to that special stock. Often times, stocks will warn you through patterns, and the patterns are nothing more than the informed money exiting or distributing their positions to the relatively uninformed speculators or new investors. Big money often leaves a trail, but they frequently try to disguise their actions.

Do be careful.


Quick and Instant Gap Fade

Jan 29, 2008: 10:05 AM CST

Readers know how much I enjoy gap fade trades. This morning was no exception, though it was nowhere near the magnitude of last week’s gap fades. Let’s check it out:

I’m utilizing the one-minute chart (not recommended for trading) to illustrate the point, because the 5-minute chart is too narrow to illustrate.

Gap fades are normally entered after giving the market a few minutes to shake from the overnight session, and this is a rare example of a signal to fade the gap that was, itself, faded initially, which tested the intestinal fortitude of those participating.

Notice how the market initially moved to fade the gap and traders who entered around $124.20 were targeting $124.50 with a stop a certain distance (depending on their risk tolerance) above the day’s high at $124.40. Traders who placed their stop too close (pennies above $124.40) were nicked out of their positions as the market sharply tried a bull swing but failed at that level before reversing convincingly to the downside to fade the gap unimpeded.

I like to highlight examples where expectations are temporarily thwarted, or the market moves to confuse the majority. This is such a case. You really had to put in your stop and put in your target and walk away. If you stared at the prices moving, you likely would have become frightened and exited your gap-fade (short-sell) trade quite literally at the high tick (so far) of the morning.

I have highlighted the two trades that formed as a result of this morning’s gap.

  1. The red line. Fade the gap. Sell Short and target yesterday’s close (purple line)
  2. The green line. Play the impulse in the direction of the gap (exit your short trade first with a profit) and then target the intraday highs. A stop could have been placed beneath the rising 200 period moving average on this chart, or elsewhere depending on your risk tolerance.

Just for reference, here is the same price action on a 5-minute chart, which is the smallest time frame you should attempt to trade:

Notice how price is now coming off the intraday high. I would suspect price would test the rising 20 period MA and then inflect off to retest these highs.

Gaps sometimes form the initial trigger for a trend day, but I doubt this will occur due to the announcement of the Federal Reserve tomorrow regarding interest rates. The market usually consolidates before exploding one way or the other following the announcement. The market expects a .25 minimum cut but would prefer (and actually probably expects) a .50 cut.

We’ll see!


Link: Donchian Trading Guide

Jan 28, 2008: 8:55 PM CST

Rudy at the Ticker Tape Trader recently posted a variety of rules from famous trader Richard Donchian, famous for his Donchian Channels trading system made famous by the Turtle Traders.

While I suggest you look at all the sample of guidelines, I thought I would highlight a few of them here:

“From a period of dullness and inactivity, watch for and prepare to follow a move in the direction in which volume increases.

Recall that Donchian was famous for his breakout type of trading system, and this guideline is in line with the famous principle “Price alternates between states of range expansion and contraction.”

Furthermore, A move followed by a sideways range often precedes another move of almost equal extent in the same direction as the original move.”

Watch for good buying or selling opportunities when trend lines are approached, especially on medium or dull volume. Be sure such a line has not been hugged or hit too frequently.”

As a trader who relies heavily on moving averages and trendlines, I found this principle particularly valid. While a trendline is more valid with a greater number of touches, eventually the line will break. Sometimes the break will be a stronger signal in opposition to the original trend trade.

Breaking of minor trend lines counter to the major trend gives most other important position taking signals. Positions can be taken or reversed on stop at such places.”

Triangles of ether slope may mean either accumulation or distribution depending on other considerations although triangles are usually broken on the flat side.”

Also, as a trader who frequently observes and trades triangles, I have found this to be true. Descending triangles (with a horizontal base) frequently break to the downside. Either way, any type of triangle is a type of consolidation pattern where price winds down to an equilibrium, and are often key signs of big money actions in terms of accumulation and/or distribution.


A Quick Look at Where We Are

Jan 28, 2008: 12:19 PM CST

Here’s a quick Monday afternoon snapshot of the current US Indexes and what may be in store for this potentially volatile upcoming week:

First, where the Dow Jones Index stands:

  • 2008 has gotten off to a very bad start
  • January is on course to set new lows on the index, which is bearish due to the potential “January Barometer” effect
  • Price made a new momentum low
  • The moving averages are in the most bearish orientation possible
  • Price appears to be making a bear flag, which potentially could be a failed flag (due to today’s action)
  • Price was rejected twice equivocally at the 11,600 level, creating a temporary bottom (or support)
  • The two long shadows (wicks) formed by these candles are bullish patterns
  • Volume is surging on the index and the respective ETFs. Capitulation? Or aggressive accumulation?
  • Bulls would love to see price clear 12,600, breaking above the falling 20 period moving average
  • The daily trend is clearly and confirmed down

Onto the weekly Dow Jones:

  • A momentum divergence (sell) has been resolved soundly to the downside
  • Price made a new weekly momentum low
  • Price attempted a test of the 200 period weekly moving average, which found support
  • Despite all the volatility of last week, the Dow managed to close the week positive (bullish)
  • It appears that a counter-swing up (buy swing) is forming which could take price higher
  • A “death cross” of the 20 and 50 period moving averages seems imminent, but has not happened yet
  • The weekly chart is beginning a new confirmed downtrend
  • Price is below the levels where 2007 opened

Let’s take a brief look at the US Dollar Index:

On this weekly chart, we see the most bearish orientation possible of the moving averages.

We also see significant resistance by the 20 period weekly moving average

A swing divergence is forming, in which the index could traverse the average, but the trend is still uniformly down, and interest rate cuts don’t help this very much.

Should the Federal Reserve cut rates Tuesday or Wednesday at their scheduled meeting, then this would add further pressure on the dollar, but would probably help prop up the US Indexes a little more, further confirming the perceived up-swing in price which seems imminent.

Also, recall that Amazon (AMZN), Google (GOOG) and other heavyweights (including various Dow Jones components) will be releasing earnings this week, so – despite what the charts are hinting at – anything can happen so it may be best not to get too aggressive until some of those unknowns clear.

It seems like this week could be a win for the bulls, but let’s remember that any upward swing is only a counterswing, and we need price to stabilize before we start calling for the bottom or the birth of a new uptrend.

(Post Sponsor: INO TV, my recommended source for education, speakers, workbooks, ebooks, and trading information from experts)

Trade and invest safely this week.


Goldman Sachs Divergence Trade

Jan 28, 2008: 10:26 AM CST

It seems the divergence setup is becoming one of my favorites as well. Goldman Sachs (GS) recently exhibited a lengthy divergence with a snap resolution today on the smaller timeframe, which may bode well for the stock in the short term.

Let’s look:

Typically, a divergence sets up a small target trade (retracement only), but a lengthy divergence can frequently precede a trend reversal and allow you to play for a larger target with a very tight stop.

Such is the case on the 5-minute chart today in Goldman Sachs.

A divergence occurs when a key oscillator fails to confirm a new price low in the stock. Multiple swing divergences can set up a bias in the opposite direction as – in this case – sellers were unable to push price lower at each expected sell swing.

Momentum was decreasing on the side of the bears (sellers) and increasing on the side of the bulls (buyers).

Because momentum often leads price, one could have joined the rising strength of the buyers and put on a profitable, low-risk trade.

For my momentum oscillator, I use the standard MACD in StockCharts (or any other charting service) and set the parameters to 3, 10, 16 (which is the difference in a 3 and 10 period exponential moving average that is smoothed by 16 periods).

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