Analysis, Perspective, Trading Strategy
It’s a Trader’s Market. Shorten Time Frames. Use Hedges. Take Early Profits
By Joe Duarte on January 6, 2019
time is different as we are living in a new world where the stock market
is more like Texas weather – if you don’t like it now, just wait a minute –
than a vehicle for price discovery and investing.
Volatility is certainly here to stay as the Dow Jones Industrial
Average traveled over 1300 points on a closing basis in a mere two
trading sessions last week. For those who slept through the spectacular
events, things started to unravel when Apple (NSDQ: AAPL) delivered
a stark warning about its upcoming quarterly results on January 3.
The market promptly crashed and burned delivering a 600 point decline
putting the bears in “I told you so” heaven.
On January 4, a huge beat on the new jobs section of the monthly
Employment report and a cordial sounding Fed Chairman Powell who noted
that the central bank was going “to adjust policy quickly and flexibly”
combined to kick start what seemed to be a dead cat bounce which turned
into a real stock rally, at least for a day.
That was Then
No matter what they say, this market now trades one day at a time,
sometimes one headline at a time, making it difficult for anyone who
has even a few days for a trading time frame.
So what does it all mean? Well for one thing, the Fed admitted that
it’s willing to pause on its path toward more rate increases for a
period of time. So for a day that was good news. Of course Powell’s
remarks don’t necessarily mean that the Fed will stop raising interest
rates altogether but it does suggest that the Fed may know something
about a bank or two that may be in some trouble and they are hoping
to keep things from getting worse. And since he’s back on the talk
circuit on Thursday, we may have more fireworks, unless someone else
beats him to the headline circus.
Furthermore, the currency markets had a flash crash last week, which
suggests that the market may now be reaching a significant potential
fracture point beyond stock prices. If this dynamic develops we could
see something similar to the 1998 Thai Baht and the 1999 Ruble crises.
Anyone who lived through those events should shudder given the fact
that a stock market crash is like comparing a lit match to the nuclear
explosion that could materialize if a major currency crisis is further
inflamed and fueled by algo trading.
Moreover the Fed may have noticed that we live in a new world where
even as they move at the speed of a dormant glacier, information travels,
and algos trade at the speed of light. Indeed, this incongruence between
the Fed’s clock and that of robot traders leaves the markets at the
mercy of the algos leaving while the central bank scrambles.
Market Breadth Tries to Recover
The New York Stock Exchange Advance Decline line (NYAD) is trying
to recover from the drubbing it took over the last three months. Because
this indicator remains the most reliable market trend gauge since the
2016 election, its actions remain paramount to understanding what may
come next in the stock market.
Currently NYAD has bounced and has climbed above its 20-day moving
average which suggests that the short term trend in the market has
reversed. Also encouraging is the combination of both the RSI and ROC
indicators moving above 50 and 0 their midpoints, a sign of a possible
reversal of the recent down side momentum. Of course if this configuration
of indicators fails to hold up, all bets are off.
Despite the selling on January 3, the December 24, 2018 selloff in
the S & P 500 (SPX) had all the hallmarks of a capitulation selling
climax: extraordinary volume, a huge break below the lower Bollinger
Band, and a feeling that the world was coming to an end. Thus the ensuing
rally has not been as surprising as it might have been otherwise.
But the rally has yet to be fully convincing as SPX failed to close
above its 20 day moving average to end last week, although NYAD did
close above its 20 day line.
A similar picture emerges when we look at the Nasdaq 100 Index (NDX)
where the 20 day moving average remains an area of key resistance.
It’s a Trader’s Market
The new market reality is all about increased volatility, rapidly
development of new trends, and heavy sector rotation.
From a trading standpoint, the extremely oversold chip stocks such
as Applied Materials (NSDQ: AMAT) and Micron Technology (NSDQ: MU)
are moving higher and may gather some steam.
This, along with some base formation in commodities and a bit of
a move in select emerging markets is what’s working at the moment.
But of course, it may not be what works in a few days. It is a trader’s
Therefore it makes sense to look for trading opportunities more broadly
than usual, perhaps in unfamiliar territories, in terms of sectors
and geography. It also makes sense to shorten trading time frames,
to take early profits, use tight stops and reduce position size while
always keeping an eye on the exit. Finally, keeping a very close eye
on opportunities to hedge is also a useful survival skill these days.
I own MU and AMAT as of this writing
Joe Duarte has been an active trader and widely recognized stock
market analyst since 1987. He is author of Trading
Options for Dummies, rated a TOP
Options Book for 2018 by Benzinga.com - now in its third edition, The
Everything Investing in your 20s and 30s and six other trading
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