Daily Archives: February 25, 2013


Conflicting Market Signals

February 25, 2013 (6:45 pm)

We explained in our post last Wednesday that the market would likely continue down on Thursday before re-testing the high’s early this week. As we expected, the market fell to an intra-day low on Thursday (down to $150) before rallying up to $152.85 this morning, just shy of its 52-week high formed last week. After that re-test, the markets completely rolled over and dropped nearly $4.00 into the close. That’s a 2.5% single day drop, from high to low. We’ve seen reversal after reversal over the past few days. That’s a sign of a transitory market. Since we’re sitting near a 5-year high, a transition from here can only be bearish. However, there are some conflicting signals that indicate a near-term rebound may already be due. There are a lot of charts here, so we’ll go through them relatively quickly.

SPY Failed Re-Test. After seeing a quick and significant sell-off last Wednesday and Thursday, the SPY rallied back to re-test its previous highs this morning. It got to within $0.50 of its previous highs before rolling over even more quickly than it had rallied. A failed re-test is an important piece of the topping process. After failing once, investors like to try a certain direction at least one more time before moving the opposite direction. They want to be confident that the shares are rejected at a certain price level and that demand has truly dried up. This is as true for the bulls as it is bears. With this failed re-test, the bears are now free to take over. However, that doesn’t necessarily mean that they will.

SPY Failed ReTest

SPY Trend Lines. Here’s another view of the sell-off. The bottom trend line (that the shares are now approaching) was formed by the November 16th bottom and the fiscal cliff bottom. On one hand, we now have a failed re-test that gives the bears the necessary runway to drive a correction. On the other hand, the SPY is reaching a significant trend line that may mark strong support and an inflection point. The shares, if they reach the bottom trend line, will also be oversold. We have an interesting near-term situation in the works.

SPY Channel

SPY Support Levels. Here’s yet another view of where the SPY sits. This morning, the shares rallied and tested the bottom trend line of the well-defined rising channel. They were clearly rejected at that trend line and dropped nearly $4.00 immediately. Oversold conditions will likely slow the selling in the near future. We doubt that investors will witness another day like today in the near-term, since the RSI is already so low. We will likely see consolidation around the current levels before dropping to $146, which is the first level of significant support. Below that is the gap that was formed after the fiscal cliff resolution.

SPY Support

SPY Rising Wedge. We’ve shown this chart multiple times over the past few weeks. The SPY shares were rejected at the upper trend line of this very long-term and significant rising wedge. We’ve seen negative divergence form over the past two and a half years, as well as decreasing volume. Both of these help to confirm that this pattern is to be taken seriously. Just for your knowledge, the implied price move is roughly $45, meaning the target of a breakdown is roughly $100 on the SPY (or about 1,000 on the S&P500). Interestingly, the bottom trend line currently sits at the $146 level, which we explained earlier as significant near-term support. We’ll likely see a bounce off this trend line before a more significant and sustained correction can begin.

SPY Rising Wedge

SPY Intermediate-Term Correction Targets. This next chart is not to be viewed as a near-term target, but instead on the intermediate-term. We expect to see the $140 level in the early May time frame. Our targets were derived by two independent methodologies that both happen to suggest the same price level. The first is a 100% measured move of the previous correction (Sept-Nov 2012). The second is a 61.8% Fibonacci retracement of the current rally. Both suggest the $140-$141 price level (again, likely around the early May time frame, not imminently).

SPY Targets

QQQ Failed Re-Test. Now let’s take a look at the NASDAQ. Just like the SPY, the QQQ’s saw a failed re-test of the highs and subsequent breakdown today. However, the QQQ’s are already within the oversold zone on the RSI. Since the first down leg was so strong, we’ll likely see a second leg down after a brief rebound or consolidation period.

QQQ Failed ReTest

QQQ Consolidation Zones. As we’ve recently discussed, the QQQ’s have formed a series of consolidation zones throughout the past four months. Each is has a tighter price range and shorter duration than the last. After last week’s sell-off, the shares today re-tested the highest consolidation zone and was firmly rejected. It’s now sitting at the bottom of the zone created after the successful resolution of the fiscal cliff. A 61.8% Fibonacci retracement of the recent rally gets us to fill the gap (almost exactly) that was created after the cliff resolution.

QQQ Consolidation

QQQ Long-Term Resistance Level. The chart below is self-explanatory. The $67.75 level represents significant, long-term resistance for the QQQ’s. Only a successful and decisive breakout would confirm a true bullish environment. Below it, the bears are in control.

QQQ Resistance

QQQ Head & Shoulders. This pattern is still squarely in play after the firm rejection of the long-term resistance level at $67.75. You can see the gap from the fiscal cliff sits directly below the current levels. If the shares continue to decline tomorrow, that gap represents a vacuum – meaning the shares will likely retrace the entire gap area. There’s no real support anywhere within the gap.

QQQ H&S

Volatility. This next chart is extremely important. It’s a bit complex, so we’ll decipher it one step at a time. The VIX measures the amount of volatility in the market. Low volatility implies a melt-up market, where complacency reigns and investors are confident that the market will continue to slowly rise. High volatility implies a turbulent market, marked by either (a) wild swings or (b) sharply falling prices.

VIX

On the chart above, we have two sets of horizontal lines. The first set are thick purples lines (of which there are 5), which mark each time the VIX hit a 70 RSI. At the bottom of the chart is the SPY index (which is representative of the broader market). You can see that each time the VIX hit a 70 RSI in the past year, there was a near-term rally in the markets. The second set are thin red lines. Typically, when the VIX runs above its upper Bollinger Band, the first close back within the bands marks a top in the VIX, and inversely, a bottom in the markets (the market tends to be inversely correlated with the VIX). We placed the thin red lines where the VIX drops back below its upper Bollinger Band. The green and red arrows indicate where this works (10 instances) and where it doesn’t (one instance). This may be confusing at first blush, but re-read it until you understand what we’re doing because it’s an important concept.

CONCLUSION. So you can see that there are a number of conflicting signals here. What we think it means is this. There will likely be downward pressure in the market because this first leg down after the failed re-test of the highs was so strong. However, since both the SPY and QQQ are nearing oversold levels and support levels in the near-term, we’ll likely see at least consolidation before a second leg down. This is also confirmed by the VIX indicator that signals a likely rebound from here. So the near-term crystal ball is obscured between the bulls and bears.

The intermediate-term course is a bit clearer. All signs point to re-testing the $146 level first, and eventually, the $140 level. Be cautious here, however, since we may not test it over the next few weeks. This is a two- to three-month process in our view.


Stocks to Watch

February 25, 2013 (6:00 pm)

We’ll discuss our views on the broader markets in a post to follow this one. In the meantime, let’s get to some specific stocks.

Apple. Honestly, we don’t have much to say here. But we know many of our readers are long-time Apple investors. The shares are nearing oversold conditions, but have some room to the downside before hitting a near-term RSI level (17-20) that typically precedes a rebound. Further, the shares are sitting between two significant trend lines and don’t have firm support until the $435 level (it’s previous low and blue trend line).

AAPL Trend Lines

Boeing. Shares of BA were firmly rejected at the upper trend line of a symmetrical triangle it’s been forming over the past two months. It is now sitting in no-man’s land, equidistant from the top and bottom trend lines and almost exactly at neutral RSI. That said, it’s Chaikin Oscillator is nearing oversold levels. We don’t have an advantage trading the shares here, so we’ll be watching how the triangle develops over the coming days.

BA

Broadcom. Shares of BRCM formed a well-defined rising wedge over the past four months. The shares broke down four weeks ago, and have since re-tested (and been rejected at) the bottom trend line. Further, the RSI and Chi-Osc are relatively high and provide plenty of room to the downside. The wedge has a target move of $4, so the implied target price is $31. However, it has some support at the $32 level, which will be important to watch. We may jump in on the short side (or with puts) on a near-term rebound.

BRCM

Berkshire Hathaway. Shares of BRK.B have formed a sort of rising broadening wedge. The wedge consists of two fairly well-defined trend lines that have formed over the past six weeks. The shares are sitting squarely at the lower trend line just as the RSI and Chi-Osc are hitting/nearing oversold conditions. This is a very likely candidate for a bounce here.

BRKB

Netflix. NFLX has both beaten us up and provided very lucrative profits for us over the past four months. The momentum is so strong in this one that you need to tread carefully. At this point, the shares look to have formed a well-defined rising wedge since its earnings announcement gap up. It did so on declining RSI, forming negative divergence. We took advantage of the initial uptrend ($175 calls) and made a 46% profit intra-day. A very successful trade. On the other hand, we got bearish too early with $175 puts and lost 17.5% over the course of two weeks. Overall, we made 27.4% between the two trades. At this point, the shares are coming off overbought conditions (RSI and Chi-Osc) as they break down from the rising wedge. The target move is roughly $35, implying a target price of $155. We’ll be looking to enter a bearish trade during the next bounce.

NFLX

Blackberry. Speaking of momentum stocks, let’s take a look at BBRY. The shares more than doubled in just a few weeks earlier this year. They’ve since formed a symmetrical triangle, which looks an awful lot like a bull flag. However, since this is a momentum stock, and the momentum is waning, the supply/demand of shares is beginning to favor the bears. The triangle has broken slightly to the downside. We’re not ready to call it a true breakdown yet, but are watching it closely. The triangle has an implied move of $6, which will be a lucrative opportunity if you can catch it.

BBRY Breakdown

SodaStream. Shares of SODA have broken down from a symmetrical triangle. Like BBRY, this symmetrical triangle happened after a sustained rally, making it look like a bull flag. This may be what BBRY looks like if it breakdown down. The target move of the SODA triangle is roughly $8, implying a target share price of $42. However, there looks to be some support at the $44 level. Further, the shares are nearing oversold territory. Therefore, the risk/reward characteristics may not support a trade with the current set-up.

SODA Breakdown