Who Saw That Coming?!

Feb 22, 2008: 6:35 PM CST

The market is in yet another phase of shock and awe, surprising traders with a large price volatility move up within the last hour of trading today.

According to Reuters, The markets took the news of the recent credit bailout as a report of a “bailout on No. 2 bond insurer Ambac allowed investors to shake off fears of deeper problems in credit markets and a U.S. recession.”

Let’s look at that intraday action and then build up our perspective to the daily index charts:

S&P 500 5-minute:

I don’t pretend to imply that the technicals (price patterns and indicators) could have forecast the end of day rally – they couldn’t. Price moves through complex interactions of news, emotion, technicals (patterns/indicators), sentiment, and so much more. The news traders took the lead at the end of the day.

I must add that a positive momentum divergence was developing virtually all day as price made new lows.

Let’s see the move on the Dow Jones Index:

Please pardon the melodramatic ‘torn edge’ effect that symbolizes the ‘torn accounts’ of those who were short the market today.

Price rallied from an intraday low of 12,160 to an intraday high just shy of 12,400, meaning price rallied almost 250 points in 30 minutes. Wow.

I typically trade most aggressively in the morning, so my sympathy goes to you if you were short going into this unexpected large volatility price move against the prevailing trend. I’m sure the action was exacerbated by shorts covering en masse.

Now, let’s turn very quickly to the daily Dow:

I’ve read for the thousandth time today regarding the symmetrical triangle forming on the major US Indexes. Some of the folks on TV are even dusting off their technical analysis textbooks and addressing this recent visible action.

Folks, if everyone sees the same pattern, then odds favor the pattern will fail due to the inherent nature of liquidity in the market. Think from a contrarian’s perspective. If the triangle breaks one way, doubt that direction until confirmed by other indicators. Expect a fade.

Let’s see what happens!


POT What?

Feb 22, 2008: 10:04 AM CST

I have been following Potash Corp for almost a year now, due to the stock’s stratospheric rise among all stocks, especially fertilizer producers.

The recent chart patterns have been interesting, including a major busted chart pattern which threw traders for a loop. Let’s look at the recent patterns that setup in this high-flying stock:

The background is a major uptrend, and so we can expect long (buy) trades and should be looking for those opportunities.

Notice the triangle consolidation that formed throughout November, which broke sharply to the upside, completing its measuring rule price projection (height of the triangle).

Notice how this price expansion swing led to a shallow, 45 degree angle pullback into the 20 period moving average, which set up a classic bull-flag (and “impulse buy”) trade. To obtain the price projection, expect a measured move (equal swing) from the start of the flag. Notice how this was achieved perfectly before price rolled over into a new retracement.

Price then experienced a classic retracement and then experienced a violent upswing before… collapsing.

Generally, in an uptrend, position traders (and especially swing traders) utilize trailing stop strategies with extremely strong stocks. These trailing stops are placed a certain percentage away from price, but most strategies call for placing stops a close but comfortable distance beneath the key 50 period moving average (blue line).

Notice how price slammed beneath this line during the January 22nd market “mini-crash” and then took all these traders out on very high volume. Perhaps new short-sellers joined, hoping to capture a large move down from this euphoric stock.

They got that large move down, but just as soon as it unfolded, it was over within a period of days, and the behemoth stock was back above the averages and found support three times there before making new all-time price highs (along with other commodity related stocks).

It’s an interesting study in triangles and bull flags, with the bonus of seeing a busted expectation pattern on both sides of the market. Take care trading this massive money maker.


InTrade shows 63% Chance of US Recession in 2008

Feb 22, 2008: 12:52 AM CST

Popular betting site InTrade.com is a place where traders from across the globe can bet real money on the likelihood of a variety of events occurring.

Currently, the site is showing a 63% chance of the US being declared as in an official recession at some time in 2008, which is actually down from the peak at a 75% chance in early January.

In fact, prices (percentages) have flat-lined throughout February so far and actually have been slightly declining.

Let’s look at the price (percentage) chart:

What happens is that traders can buy on the bid or sell on the ask (offer) just like a real stock, only the system works more like a one-sided options trade.

Say for example you believed the US would head into a recession and you bought a contract expressing your belief at about $65. If the US did go into a recession in 2008, then you would be given $100 at the close (or expiration) of the contract and would lose your initial payment of $65, meaning you would receive a $35 profit.

The way we are able to derive percentages out of the structure comes from the inherent price that traders pay in aggregate through their buying and selling pressure.

While it’s not an exact science, sites such as this and that of Rasmussen Markets have often mirrored or exceeded the performance of standard random sampling polls and surveys conducted through professional organizations regarding which candidate would win certain primaries in this US Election Cycle.

Although these numbers change each day as traders factor in new and developing information, these markets react to news much faster than on the ground polls do.

These market prediction sites can’t guarantee outcomes of course, but they serve similar roles as the bookies in Las Vegas in terms of setting the line for probabilities and payouts. After all, what speaks louder than people putting actual money on the line for their ideals?

For a little bit of late night trivia, according to InTrade, Barack Obama currently (as of 1:00am EST) has a 80.3% chance of becoming the Democratic Party’s nominee in the fall to Hillary Clinton’s 19% chance. John McCain has a 94% chance of becoming the Republican nominee. Mike Huckabee? 1.2% chance.

When the markets are forced to chose between two options, the prices often converge to provide an actual prediction (which adds up to 100%) due to the inherent nature of the trading the contracts.

If you’re also a political junkie like I can be, InTrade and Rasmussen Markets can provide some interesting data that helps combine your love for the markets, speculation, and politics. Enjoy!


A Lesson in Two Ascending Triangles

Feb 21, 2008: 10:21 AM CST

The intraday price action of the DIA recently formed two back-to-back ascending triangles, which resolved nicely according to classical technical analysis. Let’s look at them:

The first triangle occurred after Wednesday’s overnight gap as price consolidated into a coil, with upper resistance coming from the declining 20 period moving average, but lower support steadily rising within the context of a developing momentum divergence.

Whatever force kept prices at the $122.80 level soon gave way and price ejected upwards, completing its measuring rule price projection target of the distance from the lower to upper consolidation trendline (purple arrow).

Price actually continued a bit higher, and then consolidated after the lunch hour to form the day’s second ascending triangle formation.

Again, the eventual resolution of the pattern achieved its measuring rule price projection target (purple arrow) and found immediate resistance at this level.

I could have drawn a third triangle throughout the 3:00 hour, with the resolution being this morning’s overnight gap, but it would have been a symmetrical triangle.

It’s often very rare to have two triangles occur in a sequence like this, and it serves for a great educational lesson.


Gap Fade Works Two Days in a Row!

Feb 21, 2008: 10:16 AM CST

It’s nice to see the market is returning to the classic gap fade pattern working. February has been a rough month for those who love to Fade the Gap according to classical trading, yet January was a very rewarding month for this strategy.

Let’s look at the recent action, including a bonus chart:

Although both gaps faded, neither faded according to the ideal strategy.

Yesterday’s gap experienced a period of consolidation before breaking sharply higher. My guess is that just before noon, if you entered a classic gap-fade trade, then you exited due to a time stop component just before the large volatility move up to your target, which was extremely frustrating.

Today’s gap experienced a bit of further upside in price before the gap fade trade achieved its goal. The stop wasn’t triggered, unless you were an ultra-conservative trader, but most likely you gave price just a little leeway this morning to see the first few minutes of action, and actually may have gotten a more favorable price for execution.

I can’t wait to run the statistics for February and see the percentage of days with an overnight gap, and then the percentages of times the gap closed according to the classical gap fade technique. My guess is that the success rate of the classic technique will be under 50%, after being 70% for January.

As always, when you finally discover the key, the market immediately changes the lock!

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