January 2016 - Charts on the Move

January started off with a bang to the downside and ended with a one-day mother-of-all-rallies. What's ahead. Either way it appears as if volatility is back in vogue. We have seen a clear change of intermediate term leadership as the bears have taken control. This means for me that until proven otherwise, risks to the downside outweigh any upside benefit and believe any failed rallies should be used to lighten up risk.

Not in my camp? Take a look at January's Charts on the Move video (link below) and see if it gives you a different perspective.

https://youtu.be/_4K5DBq-1_U

Pet Cemetery

OK this title may be a stretch but stay with me because while the title is not significant there is an important set of lessons to learn.

I was a big Steven King fan in my younger years and read every book he wrote. Without retelling the entire story and giving it away, Pet Cemetery was the story about a family who buried “things”, initially starting with a pet that had died, in their backyard. The twist was those “things” that got buried eventually came back to life. As you will see below, the aforementioned “dead horse” of last week’s post, GDXJ, must have been buried in the main characters of Pet Cemetery’s backyard as has risen back to life.

Most times I don’t cover potential outcomes that would be different than the point of my post. This is partially because I try to keep my posts short and succinct but also because I can’t, due to SEC regulations, provide investment advice to the “general” public. So the more information I provide the more it could be deemed advice or a recommendation. So I walk this fine line always wanting to insure regulatory compliance. These post are just to provide ideas as I expect anyone reading will be doing their own due diligence and to determine if it works for them. What I left out of last week’s post was the possibility of what is known as a bear trap, or in other words a case where my horse wasn’t really dead, just severely wounded. Let’s take a look at the chart I posted last week which showed GDXJ breaking down below the $18.2 major support level and see if I can show you the bear trap. These are not rare, one-off occurrences as such are important to recognize and understand because they happen often enough, especially in small, thinly traded markets.

A bear trap is where the market makers sell some of their inventory to push price below a level of very visible major support. This has the following effect; those that were long the security see this support level being broken and sell their shares to cut their losses. This selling helps to drive prices lower. Those that were bearish but waiting for a break below support, pile on short adding to the downward pressure. Once this plays out then comes the short squeeze or bear trap. Usually within a day or two of the support break, those same market makers who sold some shares to start the cascade lower, begin buying back shares trying to push price higher. The try to buy only enough to move price back above the prior support (which has now become resistance) level. Once that happens, those that had piled in short are forced to close out their short positions, adding fuel to the buying frenzy driving prices higher. Those, sneaky market makers make money by playing the investors emotions knowing how most will act because the fear of losing is a very powerful motivator. This is exactly what occurred with the miners as you can see in the updated GDXJ chart below.

There is a saying that from false breaks come big moves. This was a great example of a false break so we have to be open to the fact this move higher could be substantial. For now, I do not waiver from my bearish long term view that we will eventually see lower prices. For now, we will rally from an oversold condition allowing the market makers another chance to unload some shares at higher prices before it falls again. Until proven otherwise this is just a short squeeze, counter-trend bounce in a bear market.

So what’s the “take-away” from this example?

· There is always the chance you will be wrong so it’s an absolute requirement to have your course of action mapped out BEFORE you enter into an investment, in case it goes against you. There is no one action plan that works for everyone so yours should be based upon your investment style, risk tolerance and time period used.

· Being wrong is OK as it is a part of investing and a potential outcome any time you put capital to work in any market. Staying wrong is not.

· Cut your losers quick and let your winners run. Over the long haul this is how you insure long term out-performance, lower risk and preserve investment capital.

· Waiting for confirmation (2nd and 3rd day follow through to the downside for example) can greatly improve success rate but will lessen any gains.

·  Steven King and investing may not be a great combo, not unlike a strawberry Popsicle with ranch dressing.

Don’t Leave Home Without It

Almost 6 months ago to the day I wrote about the US broad market struggling going sideways but when looking under the hood a lot of stocks forming major topping patterns. I provided a couple of examples, one being American Express, AXP. Of the two, it was the one I felt least comfortable throwing out there because of the magnitude of the loss the pattern was projecting. As you can see in my original chart below, the first target (labeled as T1) was some ~25% below and the second (T2) was ~35%. Without the markets crashing and burning there was no way I felt either of those targets were realistic. I went ahead with the post anyway because all I am is the messenger.

Fast forward to today and even though the markets have not yet crashed and burned (a couple of manageable 10-11% corrections … so far) American Express has not only met my first target (T1) but is well on its way to the second (T2). And looking at the magnitude and voracity of the decline it looks like T2 may not be the end of its fall and a retest of the 40 level looks very possible. That would be a 50% haircut from the date of my original warning post if that were to occur. 

Congratulations for those who followed along.  You are up a cool 30% in six months. Not a bad annualized return. The further it falls, the greater the risk of a reversal so while I am not making a recommendation, I would ensure I had my exit plan mapped out.  One element of it should be to consider booking some or all profits at T2 and let the balance, if any, ride with a tight stop seeing if 40 is in the cards.

Beating a Dead Horse

I do keep a regular pulse on the precious metals market and I continue to be amazed at the resiliency of the (remaining) gold bugs in spite of the drubbing they have taken since the 2011 highs. We have seen repeated bottoming attempts only to have the rug pulled out and prices fall further throughout this entire 5 year decline.

Fast forward to July of last year. You can see in the chart below of the small cap miner ETF, GDXJ, price first found a bottom in the $18.20 area, chopped around and created a higher high in October giving the bulls some hope. Notice also, how that same $18.20 provided support during the entire 6 months + consolidation as it retested it many times. Sadly, the bulls hope was squashed in December as the next impulse move higher was lower than the previous, wiping out the hope for a new uptrend. The final nail was put into the coffin on Friday as the $18.20 failed support and prices are following strongly through to the downside today.

Unless there is some catalyst and we reverse back up here in the next few days, I see another plunge in the works. The head and shoulders pattern that was formed projects to a target around 15, some 17%+ lower than where we were on Friday. I don’t know if that will be it, but because of the carnage that has already taken place, I will be looking for the next flush down to be its final and the potential beginning of a reversal. But for now, the charts are telling us the bears are in charge and making money will not be done buying or holding.

R.I.P Glenn

My first concert I saw the Eagles 7-2-77 at the Oakland Coliseum, day on the green. I was hooked ever since.

No prescient words could ever be written that were more fitting for your passing. Glen, you had an impact on my life, may you rest in peace.

A perfect day, the sun is sinkin' low
As evening falls, the gentle breezes blow
The time we shared went by so fast
Just like a dream, we knew it couldn't last
But I'd do it all again
If I could, somehow
But I must be leavin' soon
It's your world now

It's your world now
My race is run
I'm moving on
Like the setting sun
No sad goodbyes
No tears allowed
You'll be alright
It's your world now

Even when we are apart
You'll always be in my heart
When dark clouds appear in the sky
Remember true love never dies

But first a kiss, one glass of wine
Just one more dance while there's still time
My one last wish: someday, you'll see
How hard I tried and how much you meant to me

It's your world now
Use well your time
Be part of something good
Leave something good behind
The curtain falls
I take my bow
That's how it's meant to be
It's your world now
It's your world now
It's your world now

“It's Your World Now”
Written by Glenn Frey and Jack Tempchin
From the Eagles’ Long Road Out of Eden album