I believe that it is important to point out to all my readers, especially those who are not already members of S.O.M.E. (as members are already well-aware of my trading strategy!), that the more volatile the market becomes, whether it trades up or down, is more beneficial to us, as the returns on our options increase dramatically, as observed throughout June and July, so far.
I must say I am a great supporter of the bulls, but will play-along with the bears to extract as much value from our options plays, as possible. I am a great believer in things moving forward and improving as time progresses but I also know that we have to play-the-game to extend our profits. The only catch in this type of market is “knowing” or realizing in which direction it will take, and it seems that we have been able to fulfill this decision in most cases, to gain our profitability.
Key Events This Week
This Week’s Economic Reports
There are still quite a few major economic indicators available this week, which are:-
• There are no major economic reports scheduled for Friday.
This Week’s Major Earnings Reports
Note:-All earnings dates listed below are tentative and subject to change.
• China Sunergy Co. Ltd. (CSUN), Diana Shipping Inc. (DSX), The Gymboree Corp. (GYMB), Lowe's Companies Inc. (LOW), Nordstrom Inc. (JWN), and Urban Outfitters Inc. (URBN).
• Abercrombie & Fitch Inc. (ANF), ArvinMeritor Inc. (ARM), Dick's Sporting Goods Inc. (DKS), The Home Depot Inc. (HD), Saks Incorporated (SKS), The TJX Companies Inc. (TJX), Wal-Mart Stores Inc. (WMT), and SINA Corporation (SINA).
• BJ's Wholesale Club Inc. (BJ), Chico's FAS Inc. (CHS), Suntech Power Holdings Co. Ltd. (STP), Target Corp. (TGT), VanceInfo Technologies Inc. (VIT), Applied Materials Inc. (AMAT), Aruba Networks Inc. (ARUN), Hot Topic Inc. (HOTT), Limited Brands Inc. (LTD), NetApp Inc. (NTAP), NetEase.com Inc. (NTES), and PetSmart Inc. (PETM).
• American Eagle Outfitters (AEO), Canadian Solar Inc. (CSIQ), Children's Place Retail Stores Inc. (PLCE), Dollar Tree Inc. (DLTR), GameStop Corp. (GME), The J.M. Smucker Company (SJM), Sears Holdings Corporation (SHLD), Staples Inc. (SPLS), Autodesk Inc. (ADSK), Dell Inc. (DELL), The Gap Inc. (GPS), Intuit Inc. (INTU), Marvell Technology Group Ltd. (MRVL), and salesforce.com inc. (CRM).
• AnnTaylor Stores Corp. (ANN), H.J. Heinz Co. (HNZ), and Yingli Green Energy Holding Co. Ltd. (YGE).
Outlook for This Week
It's back to basics for stocks in the coming week, as traders watch incoming economic data for signs that a pattern of better news will emerge from the rubble of last week’s debacle.
Retail sales, industrial production and inflation data are all on the economic calendar, in a week where the Fed will also buy about $35 billion in Treasurys in an effort to boost the recovery. Earnings are expected from a few big retailers—Wal-mart (WMT), Lowe's (LOW), Home Depot (HD) and Target (TGT).
General Motors drives back into the stock market mid-week, with a more than 350 million share initial public offering, expected to price between $26 and $29 a share.
Traders are also keeping a wary eye on Europe, where Ireland's fiscal woes are expected to stay in the forefront, as European finance ministers meet.
Recap of Past Week
Stocks in the past week took their worst pounding in three months-- the worst since the week of Aug. 9. -- as a host of influences affected markets. Negatives included the G-20's criticism of U.S. policy, and the lack of accord among the group. There were also fears of rising rates in China after a hotter than expected inflation report. The peripheral European debt worries, and Cisco's earnings warning were also contributors to a selloff in a market that has climbed more than 15 percent since late August. Finally, commodities sold off.
The Dow fell 2.2 percent in the past week to 11,192 in its worst weekly decline in three months. The S&P 500 was off 2.2 percent to 1199, and Nasdaq, hit hard by tech, fell 2.4 percent to 2518.
Those pullbacks left the Dow up 7.3% for the year, with the S&P 500 up 7.5% and the Nasdaq up 11%. Those are very respectable returns, given that the Dow was down 7.1% for the year when the market hit its 2010 low on July 2.
In fact, the Dow jumped nearly 15% between Aug. 26 and Nov. 5, a big move in 51 trading sessions. (The Dow jumped 28.6% in the 51 sessions after the big market bottom in March 2009.)
"I think the data will be enough of a focus so we can shrug off some of these exogenous risks. The industrial production number ought to be good," said Barry Knapp, head of equities portfolio strategy at Barclay's Capital.
"..These risks, like Chinese monetary tightening and European sovereign debt, they're not an issue while things are going the right way in the U.S.," he said.
For the most part, recent data has come in better than expected, including ISM manufacturing data, the October jobs report, trade data and jobless claims.
The Week Ahead
The week ahead is, in fact, a huge week for retailers, with reports due from Nordstrom (JWN), Wal-Mart Stores (WMT), Target (TGT), Home Depot (HD) and Lowe's (LOW).
Plus, there are a number of important economic reports scheduled. And let us not forget that Congress will return from the election break, and there may be a short but probably intense debate on whether or how much to extend the Bush tax cuts.
Therefore, the week is likely to begin with more volatility. China may raise interest rates to try to cool down inflation, and that will be felt around the world, just as it was on Friday.
"Everybody's looking for a pullback," said Jefferies managing director Art Hogan. "I actually think we're going to see things firming up, and we'll start debating a few things, like does the Fed have to do all the $600 billion (in quantitative easing.)"
He said stocks could regain ground if the data continues to improve, and if the discussion in Washington turns toward cooperation when Congress returns to work Monday. Congress is expected to take up the issue of the Bush tax cuts, which are set to expire at year end.
"If you look at gridlock, there's good gridlock and bad gridlock. Good gridlock is when you get cooperation and things get done," he said. Congressional Republicans are angling to extend all of the Bush tax cuts, and President Obama has said he would discuss that option though he favors eliminating tax cuts for the wealthy.
Knapp said he expects General Motors to be a positive force in the market when it goes public Thursday. "It could be a positive catalyst for the market. Some people have been talking supply and whether that's a negative for equities, but I don't think so. Supply isn't the issue. Right now, it looks like demand will be off the charts," he said.
Expectations for this Week
The November/November Implications?
From a technical perspective, what do mid-November 2009 and mid-November 2010 have in common?
In both cases, there was a tremendous rally from the July and August lows, respectively, into century marks on the S&P 500 Index (SPX) that also correspond with key Fibonacci retracement levels.
For example, in 2009, the SPX rallied 13.6% from its closing trough in July into its mid-November peak. But from mid-November through mid-December, the SPX traded in a narrow range. A combination of the 1,100 century mark and the 50% retracement of the 2007 peak and March 2009 bottom at 1,120 capped rally attempts during that period.
This year, the SPX rallied nearly 17% from its August trough, at 1,047.22, to last week's peak at 1,225.85. The 1,225 area marks a 61.8% Fibonacci retracement of the 2007 peak and the March 2009 bottom. So, a fair question might be, "With the SPX again challenging a century mark and key Fibonacci retracement level, will the powerful gains lead to a period of congestion?"
Another similarity between now and this time last year is the negative sentiment among retail investors, who have now yanked cash out of equity domestic funds for 27 consecutive weeks. They also withdrew cash from equity funds in September, October, and November of last year. When retail investors finally got "comfortable" with the idea of investing in equity funds in January 2010, it was right ahead of a correction.
One significant difference between mid-November 2009 and now is the action in the 50-day buy-to-open put/call volume ratios on the PowerShares QQQ Trust (QQQQ) and the SPDR S&P 500 ETF (SPY). At this time in 2009, the ratios were declining, whereas now they are still climbing. Implication: it appeared hedge fund managers were not in accumulation mode in November 2009, but they still appear to be in accumulation mode now, and in the early innings of doing so, as their relative exposure is low. In order for the market to achieve a breakout above its April peak at 1,217 and the 1,225 area, hedge funds must remain in accumulation mode.
This week brings the expiration of November equity and index options. In the interest of comparing November 2009 and November 2010, a comparison of the open interest configurations of the SPY heading into the 2009 and 2010 expiration weeks is in order, since options open interest can significantly influence price action during such weeks.
Specifically, by using SPY's Friday closing prices and Friday morning's open interest configuration to make a comparison, concentrating the open interest analysis on the four immediate out-of-the-money call and put strikes. In November 2009, the call and put open interest at these strikes were call heavy, with call open interest exceeding put open interest by 50%.
Implication: little in the way of unwinding potential from expiring index put open interest. November 2009 expiration ended up being flat, with a boom on Monday up to the 110 area, flat action in the middle of the week, and a thud on Thursday that wiped out Monday's gains.
Going into the new week, out-of-the-money put open interest on the SPY is much heavier than out-of-the-money call open interest, unlike that of November 2009. Moreover, total put open interest at the particular strikes of significance is 17% higher than total call open interest, which is also unlike November 2009. This would imply greater short-covering potential from expiring put open interest that was probably purchased ahead of the midterm elections and the Fed's policy meeting earlier this month. Therefore, “buyer beware!” The negative of the big put open interest strikes is that they can act as magnets should the market continue last week's sell-off.
The Fed's Credibility
The Fed's image took a battering this past week, as G-20 leaders met in Korea and a number of countries expressed concerns about the Fed's quantitative easing (QE) program, and the decline in the dollar. The dollar has weakened, and stocks and commodities have risen since the Fed first suggested the program in late August.
"I'm sure the Administration wasn't expecting this type of backlash for QE2," said Stephen Stanley, chief economist at Pierpont Securities. The Fed has announced it would purchase $600 billion in Treasury securities in an effort to push down interest rates and reflate assets.
"The Fed's credibility to some degree has been damaged anyway, but the fact they've had so much blow back on QE2 from all sorts of corners is a problem. (Fed Chairman Ben) Bernanke, in particular, has staked a lot on this policy. If he doesn't get the kind of results he's looking for, it's a serious issue for the Fed,' said Stanley.
Investors will be watching for comments on the easing program when Bernanke speaks in Germany Friday to a European Central Bank Banking Conference.
The first purchase by the Fed under the controversial program was Friday, and it caused a dust up in the Treasury market as rates rose into it, opposite to the intended direction.
"This market's got volatility, and looking at the Fed purchase and what they bought and to look at he market sell off like that, is not a big sign of confidence," said Cantor Fitzgerald's Brian Edmunds.
"I think today was one of those classic kind of game the system trades. People sold aggressively in the Fed purchase. There there were willing sellers afterwards, all thinking the street was leaning long and money was coming off risk assets and other places," said Edmunds on Friday afternoon.
The Fed bought $7.2 billion securities and was offered $29 billion in the 5-year sector. On Monday, the Fed is expected to buy $7-9 billion of 5- to 7-year notes, and it will make similar sized purchases every day.
"If they continue to buy at the same size with diminishing liquidity, that same size has a bigger and bigger impact on the market," said Stanley. "I wouldn't be surprised that they have more impact as they get into December."
The Improving Economy
Stephen Stanley, chief economist at Pierpont Securities, disagrees with the speculation making the rounds that the Fed will be able to cut its QE program short because of the improving economy. He does, however, see improvement and will be watching retail sales Monday.
"Retail sales are set up for a good headline number. I have 0.9, most if it is autos and gasoline. The two of those are both working toward a big headline number. I'm not sure if you exclude autos and gasoline if the number would be great, but I don't think it'll be a disaster either. As far as I can tell, the retail sector is still bobbing along, not accelerating," he said.
As far as Ireland goes, Stanley said there does not appear to be a systemic risk. "I would say the thing that we saw in early May with Greece, that would be a kind of tell tale sign. It was when we started to see difficulties in the funding markets.We haven't seen a whiff of that this time around. Until we see that I would say obviously it's a big problem for them and certainly a problem for the Euro zone but I don't think it's a problem for the U.S.," said Stanley.
Knapp said Ireland does not need funds right now. He pointed to the country's credit default swaps, as a sign the situation is not nearly as dire as Greece. "Those cds credit curves are not inverted, meaning the one-year is not above the five-year. Typically, when you're in a crisis, the one-year explodes," he said.
The Dollar and Its Influence
As the dollar in the past week gained 2.5 percent against the euro, and 1.4 percent against the yen. The euro was at $1.3693.
"Overall, I think there's more room to run here, particularly for the euro," said Brian Dolan of Forex.com. "The weaker growth outlook there only intensified the deficit and debt problems they have. As growth slows, revenues are going to fall short, and deficits are going to widen and that's got to make it a bigger problem for the euro."
European finance ministers meet Tuesday and they could discuss new rules for sovereign restructurings.
Dolan said he is not as concerned about Ireland, as he is about the rising concerns (and yields) in Spain. They're over 10 percent of the Euro zone GDP and a much bigger risk," he said. "They could write a check tomorrow and bail out Ireland," he said.
Euro zone GDP was down sharply to 0.4 percent in the third quarter, quarter on quarter, from 1 percent in the second quarter. Meanwhile, in the U.S. economists have been raising third quarter GDP from the 2 percent reported, as new data becomes available.
Dolan sees the back up in Treasury yields, and the dollar's strength as a reflection of the improvement in the U.S. economy.
GM hopes to sell 365 million shares to start. The official range for the price is somewhere between $26 and $29. But news reports Friday suggested the demand for the shares is big enough that GM may sell an additional 54.8 million shares. It may get $30 a share or more.
That's what the underwriters will pay on Wednesday. They will parcel the shares out to investors, with trading expected to start on the New York and Toronto stock exchanges on Thursday. If the offering goes well, the shares may hit $34 to $36 at the end of the day.
The big problem for small investors interested in the shares will be just getting them. As of Friday, brokerages catering to small investors were not getting many of the shares, if any. That may be just as well. IPOs often start with price gains and then fall back.
One big investor, apparently, will be SAIC Motor, GM's partner in China. Remember, GM's business there is now bigger than in North America.
Ever since the Nov. 2 election, the question has been whether President Obama and the Democrats will dig in their heels on continuing the 2001 and 2003 tax cuts to all taxpayers or agree to extend them.
The answer may come this week when summits are held on the tax question. The betting is that the Obama administration will agree to a two-year extension of the tax cuts, something that will cheer Republicans and infuriate more left-wing Democrats.
For those who don't remember, there are six income-tax brackets now. The starting rate begins at 10%, with the top rate at 35%. The estate tax is 0% this year. And there are a host of other changes likely to come.
Investors are convinced that getting resolution on taxes will help the stock market.
The big report comes Monday morning from the Commerce Department: retail sales. Most analysts are looking for a 0.7% month-to-month gain. A bigger report will give the market a big boost.
Price Index and Consumer Price Index
The next biggest reports are the Producer Price Index and Consumer Price Index reports, due Tuesday and Wednesday, respectively. All sorts of commodities are sharply higher this year. The question is how fast are those increase filtering to producers and consumers.
Next are the manufacturing reports from New York and Philadelphia Federal Reserve banks, due Monday and Thursday, respectively. These have shown evidence of a slowdown.
Leading economic indicators, due Thursday from The Conference Board, should show an increase because of the big stock market rally.
Initial jobless claims, also due Thursday from the Labor Department, could really excite the markets if the seasonally adjusted number comes in at 435,000 or lower. That would tend to confirm a body of data suggesting that employers are starting to do some hiring over and above their holiday needs.
Housing Starts and Building Permits
Normally, housing starts and building permits, due Wednesday from the Commerce Department, would get close scrutiny. The numbers will be weak. Foreclosures won't get out of the way.
Events of Importance
Appearances by Federal Reserve Officials
Among appearances by Federal Reserve officials:
• Richmond Fed President Jeffrey Lacker will speak Sunday;
• Atlanta Fed President Dennis Lockhart is on tap Tuesday;
• St. Louis Fed President James Bullard will speak Wednesday;
• Minneapolis Fed President Narayana Kocherlakota appears Thursday in Chicago;
• Philadelphia Fed President Charles Plosser will speak Thursday in Washington; and
• Chairman Ben Bernanke will speak next Friday at the 6th European Central Bank Banking Conference in Frankfurt.
• Dynegy Inc. (DYN) shareholders are slated to vote Wednesday on Blackstone Group LP's (BX) bid to buy the power producer. The deal, which includes a plan to sell four gas-fueled plants to NRG Energy Inc. (NRG) for $1.36 billion, is opposed by its two largest shareholders, activist investor Carl Icahn, who owns 12.9% of shares, and Seneca Capital, which has a 9.3% stake.
Other Significant Happenings
• President Barack Obama is in Japan for a Pacific Rim summit and a series of bilateral meetings with other world leaders.
• President Obama has invited Senate Minority Leader Mitch McConnell [R., Ky.] and other congressional leaders to the White House on Thursday to talk about Bush-era tax cuts and other issues.
• The Senate Banking Committee is scheduled to vote Tuesday on Peter Diamond's nomination to become a member of the Federal Reserve Board. Diamond -- whose nomination by Obama has been held up by Republicans questioning his qualifications -- last month shared the Nobel Prize in economics with Dale Mortensen and Christopher Pissarides.
• A group of former legislators and federal officials will release a plan for reducing the national debt and strengthening the economy Wednesday in Washington, D.C. The plan was developed during the past year by the Bipartisan Policy Center's Debt Reduction Task Force, chaired by former Senate Budget Committee Chairman Pete Domenici and former White House Budget Director and Federal Reserve Vice Chairwoman Alice Rivlin. It is separate from a White House commission that laid out its preliminary plan on Wednesday.
• Congress returns to Washington, D.C., next week, and members of each house have scheduled hearings on foreclosure practices. Executives of Bank of America Corp. (BAC) and J.P. Morgan Chase & Co. (JPM) are scheduled to testify Tuesday before the Senate Banking Committee. The House Judiciary Committee will hold a similar hearing Wednesday. In addition, the House Ethics Committee is scheduled to begin deliberations in the case against Rep. Charles Rangel [D., N.Y.] on Monday.
This Week’s Earnings Expectations
This is an important week for earnings because retailers come front and center. Watch for the guidance because so many companies depend on the holiday season for their profits. A big issue: How much discounting do they expect to do to get business. The discounting will be a signal about the strength of the economy.
Here's a quick rundown on what reports are due:
Lowe's and Nordstrom.
Lowe's reports before the open and will offer a picture of whether people are confident enough to invest in their homes. Nordstrom's audience is the affluent. It reports after the close.
Jacobs Engineering (JEC), Home Depot, Saks (SKS) and Wal-Mart
Jacobs Engineering (JEC), one of the biggest engineering firms. The stock has moved up from a low in July, but analysts are concerned that the weak economy will still weigh on the company. Wal-Mart will offer a picture of the basic American consumer.
Netapp (NTAP), BJ's Wholesale (BJ), Limited Brands (LTD) and Target
Data storage provider Netapp (NTAP). A lot of people like this company. Earnings are expected to come in at 49 cents a share, up from 37 cents a year ago, with revenue up 31% to $1.19 billion.
Target, like Wal-Mart, deals with the great breadth of consumers. So, its perspective is useful. The question for the holidays may be how much discounting it expects. BJ's is reportedly looking to sell itself. Listen for the reason.
Salesforce.com (CRM), Dollar Tree Stores (DLTR), Ross Stores (ROST) and Sears Holdings (SHLD).
Salesforce.com (CRM), which provides cloud computing applications. Shares are up 56% this year, and the company has been raising guidance. There have been rumblings that cloud computing -- marketing of software applications strictly from the Internet -- may be overhyped.
All cater to middle- and lower-middle-class consumers. Sears also owns Kmart. And it is a big real-estate play. A big question: Why is the stock still down 44% from its April peak? And does it really see getting a benefit from being open on Thanksgiving Day?
INDICATORS AND MARKET CONDITIONS
The Dow & the Commodities Index
Commodities came under a lot of pressure on Friday due to fears that China might raise interest rates to fight inflation. They had been soaring along with the market since the May pullback and then got another boost in late August when Fed Chairman Ben Bernanke began talking about QE2. Commodities can be quite volatile, because investors move in and out trying to understand the implications of central bank policies of various countries. To help understand the implications associated here, and observing a reconstructed commodity index along with historical data, a comparison can be drawn to other times in the past.
The Commodity Index
Below is a graph of the Dow Jones Industrial Average since 2000 overlaid with the commodity index. Only four commodities are used to construct the index (lumber, wheat, copper, and oil) and gave equal weighting to each. The two lines have been very highly correlated since the bear market that occurred in the early 2000s. Since the bottom just after the 2008 crash, the Dow is up about 75% and the commodity index is up about 120%.
So when both the market and the commodity index are so strong, which one do you put your money in? No one can tell you for certain right now which will be the best (if only it were that easy), but I can tell you where you would have wanted your money in the past. I looked at the Dow and commodity index data going back to 1970. Using their three-month returns, I looked at times when the market was up at least 10% and the commodity index was up at least 15% (we're pretty close to those numbers right now). The table below shows what happened in the next six months and the one year. In those eight occurrences, it would have typically been better to avoid the market, which lost money in the two time frames, and instead put your money in commodities, which were pretty strong.
There is a very high correlation between the Dow and the commodity index over the last decade (it's pretty clear when looking at the first chart above). The high correlation is actually pretty unprecedented. It's interesting when you look at similar charts by decade. Since the year 2000, the Dow has gone almost nowhere, while the commodity index has tripled. This was the complete opposite of the 1980s and 1990s.
The two charts below show that during the 1980s and 1990s, the commodity index slightly decreased while the market soared higher.
The last decade is very similar to the 1970s. Below shows that decade, in which the commodity index tripled (from 40 to 120) while the market chopped around heavily but ended up pretty flat.
***Further evidence of market conditions can be seen in representations of charts below.
Tracking of SPY, DIA, IWM and QQQQ
One week after the markets decided to break higher, they promptly began a pullback and retraced to their starting point. Interestingly enough, the U.S. dollar bounced higher as the markets continued their inverse correlation to the currency. Most of the indexes have now pulled back to close last week's gap higher and are currently near their 20-day moving averages. Now that the markets have pulled back to a possible support level, the next move will reveal whether market participants still have an appetite for buying weakness.
S&P 500 SPDRS (NYSE:SPY) ETF
The S&P 500, as represented by the S&P 500 SPDRS (NYSE:SPY) ETF, steadily stair-stepped lower the entire week and ended back where it started before last week's breakout. The $119-$120 area will be the first level for traders to watch as a possible support level. This was the prior consolidation level and happens to also coincide with its rising 20-day moving average. If buyers can’t defend this level, it’s possible that SPY will return to test the $115 level. While SPY could easily enter a pullback to those levels and still be considered in a healthy uptrend, it would introduce the possibility of steeper reversal from a failed breakout.
The Powershares QQQ ETF (Nasdaq:QQQQ)
The Powershares QQQ ETF (Nasdaq:QQQQ) is currently seeing its first real pullback in several weeks. QQQQ also gave back last week’s entire breakout and is testing its rising 20-day moving average. QQQQ dipped below this average on Friday, but managed to close back above its average by the end of the day. QQQQ remains well above its prior breakout area near $50 and was already extended in comparison to the other ETFs. The $50 area is a logical place to look for support if the markets do enter a deeper pullback as this was also an important pivot high from April.
The Diamonds Trust, Series 1 (NYSE:DIA) ETF
Unlike SPY, the Diamonds Trust, Series 1 (NYSE:DIA) ETF did manage to hold above its prior base despite retracing last week's entire move. DIA had a clear consolidation level that may act as support in the near future between the $110 and $112 levels. DIA is back to the top of the small consolidation leading to the breakout and could find buying support here. A break below $109-$110 would be cause for concern as it would trap a lot of buyers counting on a breakout.
The iShares Russell 2000 Index (NYSE:IWM)
After lagging the other market index ETFs the past several weeks, the iShares Russell 2000 Index (NYSE:IWM) started to show hints of relative strength this week. Notice that while IWM did back away from resistance near $74, it managed to hold above its gap from last week. Volume also declined on average from prior weeks, which is a healthy sign. However, the $74 level continues to be a stubborn spot for IWM bulls and remains the key area to watch. A move above this level would be very bullish for the markets.
While it may be disappointing to some that the markets pulled back after breaking out last week, many stocks were already quite extended. Corrections are healthy for the markets and until more important support levels are broken, the benefit of the doubt should remain with the market bulls. Traders should also continue to monitor other markets such as the U.S. dollar and the precious metals as the correlation to the markets with these products is very high right now. While the bulls are likely to remain in control, traders should be cautious; the markets will likely need more time to absorb recent selling pressure. Once the markets stabilize, they are likely to produce a great trading opportunity into the end of the year.
Stocks Trading In A Narrow Range
A trader’s first job is to limit risk. When a trader is able to effectively control losses in the event of an incorrect trade, the profits will often take care of themselves. One effective way to manage risk is to focus on trading opportunities where a stock is just emerging from a narrow range rather than trying to catch a stock after a wide-range bar. By sticking to stocks with as narrow a range as possible, a trader can employ a tighter stop loss, therefore reducing the risk as a multiple of the possible reward. While keeping your risk tight may expose you to more whipsaws, by waiting patiently for these narrow range setups to develop and then pouncing as the range is cleared, a trader can keep his or her win rate at acceptable levels. This concept has become even more relevant recently as stocks become extended from their prior bases. Traders should focus on stocks that remain healthy, but are not overextended.
Radware Ltd. (Nasdaq:RDWR) is a pretty good example of a stock that is still in a clear, healthy uptrend, but is not too extended. RDWR has been trading in a tight range since its powerful breakout in September. What began as a pullback has gradually transitioned into a tight consolidation. Eventually, RDWR will begin to emerge from this narrow range and provide a decent trading opportunity with a clearly defined risk level.
Arbor Realty Trust (NYSE:ABR) is another stock that is presenting a narrow range within a healthy base. ABR had a strong run in June and July before experiencing some volatility later in the summer. It has gradually settled down and is trading in a tight range as it holds above its 50-day moving average. A move above the $5.60 level could present traders with a good trading opportunity that would allow good risk management with a stop below the tight range.
Baidu (Nasdaq:BIDU) is a perfect example of a really strong stock whose sharp ascent could present real problems for traders. Rather than attempting to latch on to this trend after a strong day, traders could wait for a narrow range setup that would allow them to drastically reduce the risk they are exposed to. BIDU may be setting up for this opportunity as it trades in a tight range after breaking above the $105 level. Traders should monitor BIDU to see if it can continue to validate this level as support by consolidating in its tight range. However, once BIDU begins to emerge from this range, traders may have a possible entry with a well-defined risk level.
Amerco (Nasdaq:UHAL) is an example of a stock that recently emerged from a narrow range setup. UHAL had a strong run in the middle of the year before settling into a consolidation between the $75 and $85 level that persisted for several months. It recently surged past this level on a high volume gap, which may not have presented many traders with a good entry. However, UHAL is pulling back to test this area as support, and could present traders with a second opportunity if it can form a few consolidation bars near this area and then resume the move higher.
The key for traders is to focus on limiting risk instead of setting your sights on the possible rewards. Attempting to enter a stock that is already extended, from its base, can subject a trader to the pain of a typical pullback within a stock's average trading range. A trader can greatly improve performance by focusing on improving entries at levels that limit risk. The four stocks above are close to presenting such opportunities, thanks to the formation of a tight range within an uptrend.
Check Out Silver's Stock Direction
Following a week in which the few macroeconomic indicators barely influenced stocks, a slew of data ranging from manufacturing to leading indicators to retail sales, and, perhaps most importantly, inflation, will return investors' attention to market fundamentals.
With stocks ending lower last week, investors and traders alike might be tempted to run for the hills. But Guy Adami, managing partner of Drakon Capital, doesn't think people should be trying to hide out.
After all, Adami explained, markets go down faster than they go up. Now is a buying opportunity with a stop of 1,220 and 1,230 on the S&P.
Looking further at the technicals, Stuart Frankel's Steve Grasso said 1,192 is the 200-week moving average and 1,195 is the 20-week moving average. Holding true, the market bounced at 1,194 on Friday.
Tim Seymour, founder of EmergingMoney.com, thinks the market could go lower. As a result, he reduced his portfolio overall and recommends staying short the miners.
Grasso is leaning on the sell-side of things, but said the market couldn't be broken this week. It was strong all week and only showed signs of weakness Friday. Even so, it closed at the 1,199 level — showing it "fought right back."
More than any other sector, the commodities jumped ahead of the Federal Reserve's news it would execute a new round of monetary easing as a means of lifting the US economy. But on Friday, commodities across-the-board sold off.
After both gold and silver continued to hit new highs, the Chicago Mercantile Exchange on Tuesday increased the margin requirements for silver futures. Those trading silver on margin now have to pay a minimum of $6,500 per contract traded, a $1,500 per lot increase that makes it more difficult to speculate on silver prices.
On the earnings front, 458 companies in the S&P 500 as of Friday had reported results for 2010’s third quarter, with the coming five weeks bringing the last 42 that remain. In the week ahead, 23 S&P 500 companies are scheduled to report, along with two Dow components.
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