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Option Millionaires was started in February 2008 to provide traders with information about option trading. Led by three career option traders, whose pseudonyms are JimmyBob, UraniumPintoBeans, and Vantillian, they started one of the most popular option trading communities on the web. Now, Option... More
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  • Sector/Segment Check – Where To Find Opportunities Now

    On a much needed elaboration of the stock market idiom, "a rising tide lifts all boats," let's talk about how to pinpoint where the best chances for profits are in the overall market. Which sector stocks will be more likely to rise? Will a large cap stock likely outperform a small cap stock? Just keep thinking about that phrase, "a rising tide lifts all boats" as you read the question below.

    If you were to invest in a single stock, equipped with no information about that stock but its market segment (shown below), which stock would be more likely to climb?

    • Option A: Gold miners
    • Option B: Biotech

    The answer to this can easily be found in the charts of the groups. Would investing in a single gold mining stock be a profitable strategy right now? It could, but you will find yourself swimming against a tide of bearishness. Here's (NYSEARCA:GDX), the gold miners ETF. Investing in any gold mining stock will likely be akin to trying to catch a falling knife. There could be opportunities, sure, but why take the risk?

    (click to enlarge)

    Then there are biotech stocks. Take a look at (NASDAQ:IBB), which tracks the NASDAQ Biotech Index, over the last two years.

    (click to enlarge)

    So, the rising tide among NASDAQ biotech stocks could certainly lift all boats, including the boat (stock) you are planning on trading. This principle can be applied to long and short term trades. A stock in a clear uptrend is more likely to react positively to earnings announcements while one in a downtrend is more likely to react negatively to an earnings release.

    One can also accomplish this type of analysis with relative strength charts. For instance, I know that the S & P 500 is in an uptrend; so is the Russell 2000 Small Cap Index. Which index is doing better? If I invest in a stock in the index that is performing better, my probability of having greater profits is likely higher.

    So which index is doing better? In this case, a rising line means that the Russell 2000 (NYSEARCA:IWM) is outperforming the S & P 500, and a falling line means that the S & P 500 (NYSEARCA:SPY) is outperforming.

    (click to enlarge)

    Simply put, don't bother buying into a clear downtrend. You may have the skill to catch that falling knife and make a substantial profit a few times, but eventually, most everybody who fights the trend will lose a finger (or their house if over-leveraged!). In short, here is where it appears easiest to find profitable trades for me, based on this methodology.

    • Small cap stocks
    • Biotech stocks
    • Insurance stocks
    • Technology stocks, ex large cap
    • Financial stocks, especially regional banks
    • Healthcare stocks
    • Maybe telecom stocks

    Try it. You won't believe how much easier it is to make profitable trades. Good luck!

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Jul 28 4:37 PM | Link | Comment!
  • Heavily Shorted Basic Energy Services (BAS) Finding A Second Wind
    Here comes Basic Energy Services (NYSE:BAS) again attempting to finally make a break to the upside. This stock can easily be described as one of the more disliked stocks listed on the NYSE, managing to maintain a short interest of at least five times its daily trading volume for most of the past year. Let's take a look to see if this current move higher could be sustained into the months ahead.

    BAS made its final low in July of 2012, after a fierce, 11-month decline of over 65%. Since then, the traditional signs of a long term base appeared.

    1. Diminished volume when the stock tested its July low that following November
    2. A breakout above its September recovery high
    3. A strong RSI divergence on a weekly basis
    BAS - A Bottom In The Making?

    (click to enlarge)

    Then, after the stock nearly doubled, apparently everybody lost interest. The stock drifted again lower, aggravating both call option holders and short term traders alike. Now, however, nearly five months after the February peak, it looks like BAS is about to take another shot to the upside. In a similar pattern to its 2012 base, BAS made a positive RSI divergence and just broke above a key trendline last Friday (July 5th). See the chart below

    (click to enlarge)

    Currently, the minimum target, given the width of this base and the current bullish patterns in oil prices, which should help oil stocks such as BAS, is around $15-$16. If the March high can be pushed through, then there may be another surge in the stock, such as in 2011.

    So the strategy? This trade is still very timely, so buying now is still a low risk, high reward proposition. I would suggest entering a half position now, and the other half once the June high is pushed through, to limit overall risk. Given the stock's past tendency to move sideways after failed breakouts, I would not suggest utilizing options in this trade. However, for those looking to limit risk, a covered call strategy could prove beneficial. I'll be keeping an eye on this one and positing again as the stock gets more interesting.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Jul 06 6:07 PM | Link | Comment!
  • Lessons From Apple & Psychology Of A Downtrend

    The Psychology of the Bearish Earnings Beat

    In the 1980s, Peter Lynch continuously advocated the notion that "earnings drive the market." That appears true, as rising corporate earnings generally results in a rising stock price, and vice versa. So, from a pure binary standpoint, an earnings beat should drive prices higher and an earnings miss should send them lower. Correct?

    Unfortunately, fundamental analysis has two forecasts it must make. First, a fundamental analyst needs to forecast the future of a company (i.e. its earnings). Second, he/she needs to forecast how the market will react to those earnings. That second part is what caught so many Apple bulls off guard last week.

    To understand what happened with Apple's earnings, which beat estimates last week, we need to understand the psychology behind the stock's fluctuations. This method of thought can be applied to essentially any stock.

    It's almost like we have to tell a story about Apple's price history. At $700 dollars a share, Apple was the stock that everybody wanted to own. Few, besides us here (Elliott Wave was saying that $675-$700 was a danger zone) were neutral, let alone negative on the stock.

    So then the stock topped. As you can Volume Profile study, a lot of shares were exchanged within 15% of the top in the past two years. (On a quick side note, if one plots down volume into the April peak of AAPL, you'll see that there was tons of selling into that rally, while the September rally was actually halted by the lack of buyers, which could no longer push the price up.)

    (click to enlarge)

    Since there were a lot of shares exchanged near the top, there were many "weak hands" who were stuck with losses almost immediately. These weak hands are likely the majority of those who still hold the stock today, which is why every rally has been seen as a selling opportunity.

    So let's take Apple's most recent earnings, which was a slight beat. First, the weak hands, already discouraged, are likely swearing to themselves to dump any shares when they can get a small rally. Secondly, those who sold near the top see the stock's downtrend and hear about the company's lowered guidance, so they keep their hands off of it. Then, there are potential investors, who have never bought. A single news event is usually not sufficient to cause long term investors, the ones who really have the impact on price trends, to buy.

    Therefore, what is left? Buyers will not touch the stock, and the mass of sellers who bought at higher prices, while not short sellers (just around 2% of Apple's float is sold short), sell into a vacuum, able to continue to push prices down, regardless of the news. That is the anatomy of a downtrend.

    So what did we learn? Regardless of an earnings beat or miss, the psychology of the market is important. The only thing that will drive the price of a stock up is more demand than supply, and supply remains clearly dominant in Apple. To see when buyers are beginning to rush back into Apple, a simple relative strength line can be used. When the line turns back up, long term investing, earnings beat gambles, and bullish swing trades will have higher profit potential.

    To determine the trend of the RS line, I use a 30 and 50 day simple moving average crossover with the ratio chart. On Thinkorswim, type the symbol (AAPL/$SPX) exactly to retrieve the chart. In the picture below, the red circles represent negative crossovers and the green circles are positive crossovers.

    (click to enlarge)

    So until we see another crossover, Apple's downtrend is still intact. Caution advised!

    Apr 28 6:26 PM | Link | Comment!
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