Chart of the day: GTLS

We have been swing trading the bottoming formation in commodities since December and now the formation has matured to the start of a possible trend move.

GTLS is a good example of a commodity stock ready to start a momentum trend.  It looks to have put in a bottom formation on strong volume and now is working hard to remount the 50 dma.  Once this level clears a measured move to $45 is in play in the coming months.

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The Next Explosive Bottoming Formation: Steel

Back in December we successfully identified and swing traded the bottoming formation in gold miners, followed by energy/oil/gas in early January.  Often when one or two sectors show this formation, other related sectors will follow.

Steel is showing signs that it is the next bottoming formation candidate.  This sector does not have an ETF to trade, so we look to leading stocks like X.

Notice the trend line break.  The big gap up 5 days ago was an earnings breakout, which gives the stock the catalyst it needs to start a new trend.  Positive volume is pouring in, which is exactly what we want to see.

As we saw with gold miners and energy, these types of bottom formations take time to develop and are volatile.  You must be patient with entry as there will likely be a pullback and test of the lows.

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How to identify explosive bottom formation breakouts

Every momentum stock starts from a bottom formation breakout.  Back in November we started talking about Gold Miners as a potential bottom formation trade.  

Study this chart carefully and notice the positive volume as gold miners put in a bottom formation, the remount of the 50 dma and successful hold on pullback.  

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How to trade the gold miner stock bottom formation breakout

Swing Traders must be vigilant about sector rotation and money flow.  Back in early December we started talking about gold miners as a bottom play in the Trade Report.  Notice that as gold miners were at lows, positive volume outweighed negative.  This was a clear signal that "big money" players were accumulating positions in this sector.  That's what we call positive money flow.

There were two great spots to play this sector.  First, a low risk trade was available on the second leg of the late December bottom retest.  Second, where we played it, on the remount of the 50 day moving average.  Now that the stock has exploded, we can weight for the inevitable pullback for another trade entry.

Unless we get clues to the contrary, gold miners is the sector to watch for 2015.

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You need to know this fundamental change in oil's character

Swing Traders focus on two key elements when assessing a stock's trend, volume and price action.  Volume often precedes price action as the big players leave footprints that are tough to hide.

During oil's parabolic downtrend, volume has consistently shown a distribution pattern while basing before it's next leg down.  However, the current volume pattern has changed the character of the oil ETF, USO.

Notice that the current basing range over the past 8 trading sessions, we see increased volume.  Not only has there been an influx of volume, the pattern shows positive accumulation, as upside volume clearly outpaces negative volume.

This often occurs before a strong bounce or change in trend.  When I see this type of clear change in character, I start accumulating.  I already have a position in oil and may look to add some more.

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SPY Chart Shows Developing Bottom Pattern

What You Need to Know About SPY's Change in Character

My recent bias has been short term bearish, intermediate term bullish.  Short term, the character of the market seems to be changing.  Price made a strong reversal on Friday on decent volume.  More importantly, price pierced through the 200 day moving average.  This is bullish.  

The negative volume pattern is slowly losing steam.  While not quite bullish, recent volume puts the distribution pattern in question.

On the chart below, notice that from the start of 2009 to now a "cup and handle formation" has emerged.  This bullish pattern often sets up a continuation pattern off bottoms.  

RSI has changed in character.  It recently made highs and now steadily resides in the to half of the range.  

As we can see, things are looking quite bullish.  So does that mean it's time to go "all-in"?   No, it's not.

There still are some concerns.  The 2009 high is two points away.  This could provide resistance.  Also, in a perfect world, volume would have picked up more than it has during the latter half of the bottom formation.  

A long trade still can be made, but I am still not going with a big position size.  Risk should be managed closely in case of pattern failure, which is a distinct possibility.  

Three SPY Trades

1.  Wait for pullback to bottom of range ($88--89).  Place stop below 50 day ma ($86).  Targets at $95 and $100 (see longer term chart).

2.  Enter now, above the 200 day ma ($92).  Place stop under Friday's price bar ($90).  Targets $95 and $100.

3.  Enter now, with stop under 50 day moving average.  To justify risk, target must be $100.  This is a longer term trade.

This was on excerpt from the Monday's Trade Report. Subscribe to receive the report 4-6 times per week, featuring my nightly journal, market outlook, focus list and trades.

Volume and Bottom Formation

Notice that volume during the second leg of the "W" formation is less than that of the first leg. If a bottom formation is in the works, this is a good sign.

A Crappy Picture That Clarifies the Ideal Volume Pattern

This picture I created ain't pretty, but it does a good job of showing the type of volume pattern I look for during bottom formations:

Monday Game Plan

Here is my game plan to being the week. This is taken from the Trade Report, sent today to subscribers:

January 26, 2009

1.  Market Notes:

While the focus of my swing trading style is daily charts, I look at a few weekly charts every Sunday.  I do not use the weekly chart for specific entry, rather to help me define major support and resistance levels.  

On the SSO chart below, we see two key support levels.  The first is the November low (around $18).  The second is the bottom of the trading range formed at $20.  The other lines on the chart are resistance lines, which can be used as targets.  

Technically, SSO is almost oversold on the weekly (note that it is not on the daily) and RSI shows a positive divergence.  I didn't market it on the chart, but notice that RSI is higher now than it was at the previous low.

 

Entry conditions:

A.  Intermediate term time frame

Traders with an intermediate term time frame (a few months) can enter here with a stop below the November low.  The initial target is the top of the trading range.  If entered at $22, with stop at $17 and an initial target at $30, the initial reward to risk is 2.67:1.  Waiting for a pullback would offer even better risk.

If the trade works, and the $30 target is hit, I would take partial profits, move my stop up and move my target to $35.  

B.  Short term time frame

Traders with a short term time frame should use the bottom of the trading range, not the November low, as the stop level.  I would look to enter on weakness, possibly around $21, with a stop under $20 and initial target of $25.  an entry at $21, with a stop at $18.90 and target at $25 would give a 2.5:1 reward to risk.  Setting the stop at $19.90 would give an even better risk ratio,.  I use a wider stop because of the increased market volatility.  

If stopped out of this trade, I would look to re-enter if the market tested the November lows for another quick, low risk trade.  If the target is hit at $25, I would take partial profits, move my stop up to entry level, and target to $30.

Trading Note:  I am focusing on risk for these trades.  Since the market is not at extreme oversold levels (T2108 and stochastics are not extreme yet), the probability of the trades working is not as high as if we tested the November lows.  This would create extreme conditions for T2108 and stochastics.  I label the SSO set above as low risk, average probability. 

2.  Sectors ETFs: 

Here are a few sectors that look promising.  You can trade individual equities within the sector, or just trade the ETF.  

FAS:  The leveraged financial ETF has been a volatile and gut wrenching trade.  So far I am one for two, with a third trade in progress.  My current trade was entered in the mid 7 range and is currently at $9.  As I learned from the loss I took on my first FAS trade, early profits are to be taken quickly, so I took partial profits at $8.90.  

The beauty of partial profits is it keeps you in a trade if there is a big move in the direction entered.  Of course it can limit gains, but I believe what is given up in gains is worth the profit it keeps in case the gains don't hold.  My favorite part of the trade is when I lock in that initial profit and the rest of the trade is "free".  

If not yet in the FAS trade, I would wait to enter on weakness, ideally as close to the bottom as possible.  An entry in the $7-8 range with an initial target between $10-12 and a stop at $6 would give us a good low risk trade.  

Aside on risk and picking bottoms or going against the trend:  

Whenever I propose a trade like this, I get e-mails (mostly from blog readers--subscribers understand my trading philosophy much better) telling me that it's tough to pick bottoms, I am gambling and stocks making lows can go lower.  I certainly am not gambling, and I know the stocks can go lower.  If anybody doesn't understand by now, my focus is on risk and probability.  If I can find a trade that risks only $1 to make $2.5-5, I am going to take it regardless of other market variables.  I don't mind taking small losses where risk is easily defined, especially if technicals are extremely oversold (creating higher probability of a short term snap-back).

USO:  I sent out a trade alert on Friday letting you guys know I was entering USO since I had not mentioned it as a setup in the report.  Amazingly, it jumped just a little while after the alert.  This is another low risk setup, or was a low risk setup.  The move on Friday has increased risk if entered at the current level.  Stochastics are also nearing overbought levels.  If looking to enter, hope for a pullback as close to support as possible.  The target is $35-36, with a stop under the support range.   

XLB:  The materials sector is showing a good accumulation pattern, as volume has been positive since the November low.  The uptrend in the OBV indicator confirms what our eyes see in the chart.  An entry close to $21, with a stop at $20 and target of $24 offers good risk.  I usually post leveraged ETFs, but did not here since price is under the 50 day moving average (lowering probability of trade).  Those wanting increased leverage, use UYM.

XLV:  Healthcare shows a strong price pattern.  Pattern buffs will notice the inverse head and shoulders pattern that is forming.  Classic entry requires a breakout of the resistance line drawn in the chart.  I prefer early entries, and find entry here with a stop below the recent price range (stop at $25), provides a low risk trade.  I again did not post the leveraged ETF since this would be considered an "early" trade.  RXL provides increased leverage.

  

GLD:  Gold has been the easiest trade imaginable for those who trade extremes.  The last 11 times price has been either extremely oversold or overbought, according to the stochastic indicator, price reversed.  Not only does price reverse, but most of the trades provided big gains for those trading the extreme.  

We have now reached extreme levels again.  I will look to short on strength (90-91) with a stop above the October highs (93) and target $84-86.  While I use GLD as my guide, I will useDZZ or DGZ.

EWZ:  A number of counties, including Brazil, show more relative strength than the U.S. market.  EWZ looks good on a pullback, with a stop under the recent trading range and target around $40.

3.  Individual Stocks Focus List:

My focus this week is on the 7 sector ETFs (and ETNs) listed.  While these 7 charts will likely be my primary trading vehicles, I am still looking at some individual stocks.  

I have already gone over all of the focus list stocks via videos last week.  The analysis still applies.

MASI (short), HOC, RIMM, SSYS, SHLD, VAL, SIGM, CSTR, NOC, SGR, SVU, SVU, ELS, TTES, SLV, STR, USD, SU, PNRA (short), CBRL (short), ACI, CBI, FSLR, X, GFA, IIVI, PKG, GNK, WGOV, PLD, MEE, HP, CGRP, KALU, SID, IDCC, SIGM

New Additions:

BRCM, GOOG and QCOM

All three stocks show similar patterns.  On the BRCM chart, we see a positive divergence in OBV and RSI.  Price is holding above the moving average and volume shows accumulation.  I like all three on pullbacks to support.

4.  Current Positions:

Long USO, FAS, SHLD, TTES, STR

Trade Report Video Podcast

Last night I included my first video in the Trade Report. I'm still working on the video quality, but it will still give you a good idea of my game plan for the coming days.

Chart: DIG

There's a lot to like about the DIG chart:

1.   Postive RSI divergence

2.  Successful test of bottom support

3.  Long tail price bar at support

4.  Oversold stochastic turning up

5.  Strong obv and volume action

Bullish Chart: CPO

CPO has formed a nice bottom formation. Price has broke out over price and moving average resistance, RSI has formed a positive divergence and volume shows strong accumulation. I like it on a pullback to support.

The FXI Answer

I left my analysis of FXI open ended in the last post and a few of you seem to think I was bearish!

The pattern is in fact quite bullish, and points to a bottom formation. Compare the current volume pattern to that during the top and bear run. For the first time, positive volume exceeds negative volume, while price forms a volatile trading range at the lows. This is a bullish pattern!

However, lows can still be tested, so I will only enter on weakness.

Sectors with Bottom Formations

No matter how bearish your fundamental thesis is on the following sectors, it's hard to deny that price and volume are showing bottoming formations in financials, casinos and real estate.

Here is what I wrote about these sectors in the Trade Report to start the week:

I have narrowed my list of stocks this week, focusing more on sectors. I also am not labelling sectors as bullish or bearish, since I've been reversing biases as extremes in buying and selling dictate. Here is how I am grouping them:

The beaten down sectors that were oversold but quickly became short term overbought. Well, they still look like bottoming patterns since the recent pullbacks have been on low volume. If one buys the bottoming thesis, it could be time to reverse again and go long.

Financials: SKF to short and UYG long.
Real Estate: SRS, TOL, DHI, HOV
Ailines: CAL, UAUA
Casinos: LVS, MGM, WYNN

These sectors have made strong moves this week, and the bottom formation thesis is still in tact.















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CAL setup

I mentioned earlier today that I entered to airline stocks. Both CAL and UAUA have similar setups.

CAL shows a classic bottoming formation. Note the volume pattern. Entry close to the moving average is ideal, with the upside target at the first sign of strong resistance. I may buy more tomorrow on early morning weakness.