Dec 14

Is the Tax Rally running out of steam?

By Jani Ziedins | End of Day Analysis

End of Day Update:

The S&P500 started the day with modest gains, but a midday slide pushed us into the red when cracks formed in the GOP’s tax plan. A couple of Senators are withholding their support unless additional benefits are passed down to the poor. That said, the “selloff” was only 0.4% and shows the market is not all that concerned about these headlines.

The market finished pricing in Tax Cuts last week after the Senate approved its version. Rather than rally on the good news, the market actually finished lower. Going down on good news tells us most of the upside has been realized. And the same happened this Wednesday when the Senate and House agreed in principle on a compromise bill. The market gave up early gains and finished essentially flat. If anyone is waiting to buy the Tax Reform pop, they are several months too late.

The bigger risk is this turning into a sell the news event. We’ve been rallying since Trump’s election in anticipation of these regulatory relaxations and tax cuts. Now that we are only days away from realizing these pieces of good news, what does the market have to look forward to? The market ignored every piece of bad news this year because nothing could dampen the hope and anticipation of tax cuts. But soon those things are going to slip into the rearview mirror. What happens when we don’t have those overriding things to look forward to? Will bad news start mattering again? That is the million dollar question.

Markets are skeptical by nature and often fear the worst. The last 12-months of optimism has been a welcome reprieve from the typical cynicism. But as soon as the crowd gets used to the market’s mood, it changes. 2017 was a good year for stocks, but if there is one thing we can cross off the list of possibilities next year, it is a repeat of this year. Bulls can hope the rate of gains accelerate, which is a real possibility. But for that to happen the economy would need to ramp up and right now that doesn’t look like it will happen. More likely is we stumble into some bad news. Maybe some economic reports miss expectations and the R word starts getting thrown around. Or something happens in Europe. Or China stumbles. Or oil, bitcoin, or Trump. Any one of those catalysts could kick off the next correction. To keep going higher, everything needs to be perfect. To tumble, we only need one thing to unnerve traders.

For the time being things still look good, but the market is most definitely not easy and I don’t expect this gentle climb higher to continue indefinitely. The market has a nasty habit of smacking us when we least expect it and there are a lot of fat, dumb, and happy investors. But as a trader, a little uncertainty isn’t a bad thing. I make the most money when the market overreacts emotionally. This year all we had was a 3% dip on the North Korean war of words. Here’s to hoping 2018 brings us more volatility and profit opportunities.

Jani

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Dec 13

CMU: The part of Technical Analysis no one talks about

By Jani Ziedins | Free CMU

Cracked.Market University

Pick up any Technical Analysis textbook and you are bound to find countless examples of highly profitable chart patterns. Most books include a plethora of real-life charts showing a pattern developing, the buy signal, and the predicted move. The general idea is to memorize the various patterns, look through charts to find them, place a trade, and profit. Easy-peasy. Repeat over and over until fabulously wealthy.

Or at least that is how it is supposed to work. Unfortunately nothing in the market is ever that easy. While most of these patterns are valid and have sound human psychology principles backing them up, the problem comes from false positives. When a chart starts with the perfect setup, but it fails to complete the pattern. The idea of false positives is further complicated because so many patterns look similar. While this wouldn’t be a problem if similar setups told us to do the same thing, unfortunately most setups can give us conflicting advice.

  • Buy the higher-high, or sell the double-top?
  • Buy the dip, or sell the violation of support?
  • Cup-with-handle, or stalling at resistance?
  • Meaningful pattern, or random noise?

There are countless examples where a pattern works beautifully and any Technical Analysis writer worth his salt can find charts showing the pattern working exactly as it should. The problem comes from all the false positives. How many times did this exact pattern show up and fail to behave as predicted? False positives are the bogie no one talks about and is the biggest challenge in trading with Technical Analysis.

The pure technical trader claims nothing matters except the price-action. The company name, industry, financials, profitability, news, and all the rest doesn’t matter because the market has already incorporated all of that information into the price. The pure technician believes fundamentals are redundant and he ignores them.

Unfortunately ignoring everything except price leaves out a lot of useful information. Take one of the conflicting examples I listed above, higher-high or double-top. Nearly identical setup, but much different outcome.  One interpretation tells you to buy, the other tells you to sell. What should you do? Like everything in the market, the answer depends.

Most of the time the answer lies in the pieces of information the true technician ignores. Namely the news and the market’s reaction to it. No matter what the chart tells you, a stock that goes up on bad news is a great buy and a stock that stops going up on good news is one to run away from. I will dig a lot deeper into interpreting the news in another CMU post. Sign up for Free Email Alerts so you don’t miss it. 

Now don’t get me wrong, I’m not bashing the usefulness of Technical Analysis. It is a great tool and I use it every day. But like any tool, it has its limitations. Successful traders recognize profitable patterns, but they also recognize the false positives. Or which pattern is more meaningful when similar setups are giving conflicting recommendations. Learn and use Technical Analysis, but always be aware of the risks posed by false positives and develop a process to weed them out.

Jani

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Dec 11

CMU: The fallacy of “more buyers than sellers”

By Jani Ziedins | Free CMU

Cracked.Market University

Spend any time following the markets and you are bound to hear the phrase, “The market went up today because there were more buyers than seller.” You hear the opposite on down days when “there were more sellers than buyers.”

While that shorthand works well enough for casual market commentary, it is factually inaccurate. The first thing to realize is the market doesn’t create or store stocks. The stock market doesn’t have printing presses or storage vaults in the basement. At its core, exchanges only do what their name suggests, act as a meeting places for people to exchange stocks and money.

One hundred shares arrive at in one person’s possession, some money changes hands, and they leave in another person’s account. After the market closes, all the money and stocks go home with their owners. There is nothing left behind but an empty trading floor. Stocks and money was created or destroyed, all it did was change owners.

The fact stocks cannot be created or destroyed means for every stock sold, there is one and only one stock bought. To further complicate the situation, the number of buyers and sellers can vary and doesn’t have a bearing on whether prices go up or down. A large buyer can buy from dozens of sellers, or one seller can sell to dozens of buyers. The only thing that matters is the number of shares available for sale and the amount of money willing to buy those shares.

So as a matter of rule, there can never be more stock bought than sold. But there can be more people interested in buying than selling, or selling than buying. This is where market price plays the role of matchmaker and finds the exact balance point between buyers and sellers.

If a good piece of news comes out that creates additional interest in a stock, all these excited buyers start looking for sellers. But sometimes there are not enough sellers to meet demand. In these cases, buyers start offering a premium price to persuade owners to sell their stock. When enough buyers bid up the price, the rising price changes the supply and demand dynamic. At a the new higher price, some people are less interested in buying and drop out of the market. Other owners find the new higher price irresistible and are now converted into willing sellers.

The thing to remember is the number of stocks sold is always exactly equal to the number of stocks bought. The driver making this exact balance possible is the ever-changing price. Every time the price moves, even a penny, it is finding the exact balance point where the amount of stock for sale matches the amount of money willing to buy it. Prices might seem to wander randomly, but there is a very real purpose for every tick of the tape.

Jani

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Dec 07

Struggling to go higher on good news?

By Jani Ziedins | End of Day Analysis

End of Day Update:

The S&P500 finally broke a string of four down days and put together a respectable gain. While four down-days sounds bad, the losses were relatively modest, only giving back a portion of last week’s breakout.

Tax Reform is marching ahead, but the market is struggling to keep up. The lack of further price increases suggests the Tax Reform rally is running out of steam. We can continue creeping higher over the near-term but anything much above 2,700 seems like a stretch. If there was a lot of upside potential left in the market we would still be racing higher. Instead the breakout stalled and even dipped after the Senate approved their version of Tax Reform. Few things make me more nervous than a market that stops going up on good news.

News gets priced in quickly, that’s how markets works. Once the crowd started assuming Tax Reform was going to happen, the bulk of the upside had already been realized. If someone is still waiting to buy the headlines, they will be late to the party. At this point it looks like the actual signing of the bill will be anticlimactic and could even trigger a sell-the-news dip.

The path of least resistance is still higher and I expect the glide higher will continue over the near-term, but we are definitely approaching the end of the Tax Reform rally. Hope over tax cuts fueled the Trump rally over the last 12-months, but to keep marching higher we need to find a new standard-bearer. At this point I don’t know what it will be. Maybe blow-out earnings reports next month. But whatever it is it needs to be big to keep beating these ever higher expectations.

Switching gears to bitcoin, it shocking how high this has gone over the last few days. Last week we broke through $10k for the first time. Tonight we hit $17k. Two months ago we were under $4k. If anyone still believes this is not a bubble, clearly they don’t have any experience with bubbles. Without a doubt this thing will continue higher, but we are in the frantic part of the climb and the crash is not far away.

The problem BTC will run into is a lot of people are following this surge in price with a trailing stop. BTC passes $10k, they move their stop up to $8k. We surge past $14k and they move it up to $12k. That is actually a very sound strategy, unfortunately it doesn’t work when everyone else is doing the same thing. Without a doubt the price gains over the last few weeks are littered with countless automatic stop-losses. Once BTC starts dipping, sell orders are going to get triggered, which further pressures prices, which triggers even more sell orders. It won’t take long for a tidal wave of sell orders to overwhelm the dip buyers.

The scary part is the these things go down so much faster than they go up. $7k in gains over a week will be undone in an hour. I won’t pretend like I can call the top in BTC and this thing can easily continue past $25k and $35k over the next few days or weeks, but this rate of gains is most definitely not sustainable and it will come crashing down soon. If a person is planning on selling, get out on the way up because you will not be able to find a buyer once this thing starts going down.

Jani

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