NEM (and many other gold stocks) Reversal Candles?

Click on Chart to Enlarge

The chart above is Newmont Mining (NEM). I am posting this chart because it shows what I consider one of my favorite candlestick patterns. I suggest clicking on the chart to view it more clearly.

The pattern forms when there is a large down day like Tuesday, then the next day price gaps up to the middle of that large black candlestick. Then price comes down to undercut the low of the large down day. However, there is a reversal and the price closes near where it opened. This forms a long lower shadow and a small real body. I view this as a harami/hammer/doji power packed reversal candle.

Here are other factors I want to see to take the trade:

1. Very high volume on the hammer candle (at least higher than the prior day)
2. Very oversold market conditions (this is present now as evidenced by the stochastic chart underneath the price chart)
3. Bullish technical divergence (price going lower, but indicators at higher lows)
4. Candle occurs around the lower bollinger band (this indicates that the reversal is occurring at a statistically extreme range, which is good)

I prefer the next day gaps up at least slightly. It did not do this today, and this trade may fail. However, I would take this candle pattern as a reversal warning in the near future, even if it is not a major trend reversal.

As an aside, I made a trade on AEM yesterday which is not going well today so far. I will have to exit if there is no sign of follow through later today. But these stocks are on my radar for a trade set-up even if today doesn't work out.

Pete

Looking at Gaps on SPY

One of the things I watch intently in analyzing a chart are gaps. A gap occurs when the opening price is much different from the previous closing price. This is often due to a news item....like the news about Freddie Mac and Fannie Mae this past weekend.



Most significant gaps are eventually filled, meaning that price will eventually come back to the origin point of the gap. I have seen statistics on this from sentimentrader.com, and as I recall most gaps are filled within 30 days. I always look for these gaps to be filled in order to set up a low risk entry point for a trade. That is because as soon as a gap is filled, the trend often continues.



So, as pertains to our current market and the chart of SPY.......we had a gap down last Thursday. That gap has now been filled by today's huge gap up this morning. In addition there has been an obvious bearish reaction to the gap up today. I pretty much expected this, and feel that price is unlikely to be able to make much headway in coming weeks. the question now is "how will the market respond if/when today's big gap gets filled?"



I expect maybe a short pause, but I would not look for a large upside reaction to that gap.



The take home message is that you should pay attention to those gaps if you trade DIA, SPY, QQQQ, etc. Look for reversal points shortly after the gap gets filled. Pay attention to how the market responds when the gap is filled. Does it blow right through? or do you get an almost immediate reversal?



As an aside, I bought DIA Oct. 114 puts this morning around 11:00 am ET, so I do have a bias here. I will not track that on the blog, but that trade reflects my views about the gaps mentioned above.



Pete

FRO Option Update

The Sept. 60 put that I recommended on FRO is trading for around 10.00 right now as of Friday's close. The entry price I used for the trade was 5.20 which was the open the day after I posted the trade. So that is close to 100% gain.

For beginning traders I think it is important to understand that every option you trade really has a risk of 100% loss. If you use a stop loss then you should not be losing 100% often, but realistically, most people hate to lose more than anything, and they move their stop order down or just don't use one. So it ends up that you could lose all the value if the trade goes against you.

For that reason, I think that beginning option traders should be using a system that will regularly result in winners of 100% or more when you are correct. Those big wins will counteract 100% losses at times. In fact if your winning percentage exceeds 50% and your average wins are 100% or more, you would still have an OK system even if you let all your losers go to zero or till whatever is left at expiration.

The flip side to selling at 100% gain is that the huge profit of an option really occurs when the delta rises to close to 1.00 and then the profit gains become more parabolic. To balance these factors, some recommend selling half your contracts for 100% gain to create a breakeven trade at worst. Then you are free to let the trade continue in hopes of catching a much bigger gain on the other half position. I think this is very reasonable for traders trading multiple contracts. If you are trading just one contract typically, then I think the best guideline to follow is to sell for either 100% gain or let it run till expiration. Pick one strategy and follow it consistently as the pros and cons will tend to balance out over time

Pete

UPS Put Option Trade

Click Chart to Enlarge

Today I bought an Oct. 65 put option on UPS. Looking at the chart you can see a couple sizeable gap downs in June around 67.00 and 66.00. Price has now come back to fill those gaps. In doing so, it made a classic shooting star/doji with a long upper shadow. At that same day, the high price touched against the 3 standard deviation upper bollinger band. Then with the market showing weakness, I feel that today was a good entry.

If selling short, I would exit on any close above 67.00. For the option trade, you could exit there as well, or if you only risk a small part of your trading capital, you could not set a stop loss, and just plan to hold it till either 100% gain or till expiration.

I may make a post soon showing a unique way to look at some put/call data that I have never seen in print anywhere else. It is not rocket science, but can be very helpful.

Pete

Market Update

I have been suggesting for the last week or so that I thought the market was weakening at that I am thinking we will start to accelerate to the downside. But enough of opinions, what are the facts I look at?

I look at a large number of studies and different sentiment indicators, but a few simple systems seem to work time and again.

1. The VIX has closed above the 21 day moving average and as of today the 5 day moving average is crossing the 21 day. This is a simple signal that works well on the VIX. Also the MACD of the VIX has made a cross signaling the VIX may rise (and markets fall).

2. 5 days of distribution the last few weeks. Heavier volume down days in the market are what Investor's Business Daily uses to track the market trend. Today was 5 distribution days for the NYSE.

3. Put/Call ratios (both equity and total) have recently made relative lows against standard deviation bands of the 10 day average. That indicates complacency and that is not good especially in a downtrending market.

I would again suggest bearish trades on BNI, DD, DIS. I would hold off on AZO until I see a more clear break down. However, most stocks follow the market, and if stocks start to come down hard, I think AZO is likely to as well.

Pete

SDS Trade Exit

The short-term model for the S&P 500 is now oversold. The current price of SDS is 66.90 for a nice gain up from 64.19 at entry. I recommend an exit on this. I would be for letting this trade ride for a while if the initial stop is maintained. But that will add more volatility to your portfolio.

Pete

Trade Updates

The SDS trade is doing well so far. The short-term model is back near oversold. Ayone in this could consider exiting tomorrow morning, but I will wait to post the exit until the short-term model does enter the oversold region. I will not be looking for a bullish trade at that point though. I feel that we may be close to a breakdown type of point in the market.

Also, the FRO put option trade made headway today. I will plan to hold that trade till expiration, but anyone in it may want to consider selling at 100% gain or 150% gain.

Trades I would make today include DD, DIS, AZO, BNI all for put option trades probably with October expiration and at-the-money or in-the-money strikes.

Pete