Buy the breakout?

By Jani Ziedins | Intraday Analysis

Nov 13
S&P500 daily at end of day

S&P500 daily at end of day

MARKET BEHAVIOR
Stocks turned early weakness into all-time highs as this market keeps defying the skeptics.  The one-way rebound from the morning lows reeks of shorts tripping over each other trying to get out.  While not as strong as last Friday’s reversal, it ranks among the best gains we’ve seen over the last couple of months.  We continue trading near the upper end of a trading channel that dates back to spring and are well above the 50dma.

MARKET SENTIMENT
I’m contrarian by nature and today’s short-squeeze makes me suspicious.  We’ve come a long way, there are few worries to be found, and the market pops on “unexpected” news Yellen wants to continue Ben’s policies.  No doubt I’m late to the skeptic party, but that is by design.

It was a painful day to be short and many of the buyers were bears forced to cover their losing positions.  While bulls cheered the reversal and all-time highs, the red flag is seeing powerful trade from an already extended market.  Often we embrace powerful moves as signals of strength, but that only applies when there is a huge weight holding the market back.  That is the source of the coiled spring poised to explode higher.  We don’t have that setup here because worries are few and far between.  When we see unjustified strength, we must suspect looming exhaustion.

TRADING OPPORTUNITIES
Expected Outcome:
Now that most shorts have covered, who is left to buy?  That is a really good question.  One I cannot answer.  I don’t have a crystal ball and cannot call tops, but I do trade odds and right now the market feels extended.  While we can easily continue higher, without widespread fear as fuel, the chances of a big move are limited and at best this will grind higher.  On the other hand, if we run out of buyers, there is nowhere to go but down and we have well over 100-points of clear air between us and the 50dma.  While I’ve been a big proponent of this market because confident owners keep supply tight, if we run out of buyers, it doesn’t matters how tight supply is.

Now don’t get me wrong, I’m not expecting a market crash or anything of the sort.  It just feels like it is time for a step-back before resuming our climb higher.  We trade probabilities and risk/reward.  Right now the risks are large and rewards are small.

Alternate Outcome:
These things go so much further than anyone expects.  While we’ve come a long way, there is no reason we cannot continue higher as underweight money managers keep chasing this market into year-end.

Trading Plan:
We are in this to make money and when the potential upside is limited and the downside large, it is wise to take money off the table.  Since May the trade has been buying weakness and selling strength.  Right now we are at new highs and risk is greatest when we have no fear.

MSFT daily at end of day

MSFT daily at end of day

INDIVIDUAL STOCKS
TSLA was left out of the broad market’s party as it continues struggling with $140.  The euphoric, one-way buying is taking a break and it needs to reclaim $150 and the 50dma for the stock to get its mojo back.  TSLA departed trading fundamentals a long time ago and bulls cannot use them to justify buying and holding here.  This is a momentum name and until it regains it, we are best suited staying away.

AAPL also failed to enjoy the market’s good fortune.  All of this year’s good news is behind us and it will be months before there is another upside catalyst.  The stock is holdable as long as it stays above $510, but things could get ugly if it slips under $500 and the 50dma.

Surprise, surprise, MSFT is the newest momentum stock.  Only after something is ridiculed and left for dead does it present an interesting buying opportunity.  While everyone obsesses over AAPL and what a great value it represents, MSFT is the far better stock to own because it is going up and that is the only thing that matters.

Plan your trade; trade your plan

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About the Author

Jani Ziedins (pronounced Ya-nee) is a full-time investor and writer who has successfully traded stocks and options for more than a decade. He earned a B.S. in Mechanical Engineering from the Colorado School of Mines and an MBA and M.S. Marketing from the University of Colorado Denver. His prior professional experience includes manufacturing engineering at Fortune 500 companies, structural engineering, small business consultant, collegiate instructor, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two young children.

Matt November 13, 2013

Only one space after a period.

    Jani Ziedins November 14, 2013

    You just opened my eyes to a raging controversy I never knew existed, one-space or two. I learned to type on a typewriter way back when and two-spaces was the rule. I’m not sure if I can overcome this ingrained habit, but thanks for making me aware of the single-space movement.

Vaughan Dodd November 14, 2013

“Expected Outcome:
Now that most shorts have covered, ”

I would argue that you begin with a false premise. Please substantiate your claim.

Thank you.

    Jani Ziedins November 14, 2013

    We just broke to new highs and shorts often use previous highs as their stop-loss. In addition, they’ve been fighting this market for months and are getting demoralized as the market keeps going higher. You can see that frustration on the Stocktwits SPY stream. The shorts will eventually be right because every market eventually tops, but they are often early. We are quite a ways into this, so it is time to become more critical of this markets strength because we know it cannot last forever.

LT November 14, 2013

Look everyone…for Friday put a call in for SPY its gonna hit 180+. Plus S&P will hit 1800 by tomorrow. If you’re scared buy a small call but I assure you its going to hit 1800 by this weekend or next.

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