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Trading Primer: PROFITING FROM A REACTION LOW - AMZN

|Includes:Amazon.com, Inc. (AMZN)

AMZN - another beloved momo stock has been taken to the woodshed on earnings.  I believe AMZN equals opportunity for the short term trader, swing trader and investor all in one.

This is a 1 year daily chart of AMZN.  Look at the last two times it tested the 200 ema.  It proved to be a spectacular entry with about $65 in upside each time.



Look at the price pattern going into earnings was faltering.  Some downside was expected.


This is the earnings announcement.


A large number of traders would watch this candle form and immediately sell at market.  They zig when they should zag.  This chart is showing a "reaction low".  A reaction is a behavior, behaviors are actionable if you know the right way to go.  How does this chart show us the right way to go?  We look at the actual candle formation as well as its' relative position in regards to historical pricing.

This candle, which I fondly call a slasher candle as it is such a graphic destruction of market capatilization, formed on high volume and went to an extreme price.  The body of the candle is filled red, indicating solid selling, but the bottom of the candle formed a lower shadow or "wick".  The wick represents the absolute power of the bears for that time period.  Every stock typically has a point in which it is so oversold it becomes a good value again.  From this candle we now know buyers will step in to defend $184.59.  Another way of putting it this is to say AMZN has a floor at $184.59.
 
Look what happened after the stock found a bottom.  It traded back to $198.89.  That's a pretty good return for the astute trader.  How did we know the water was safe to take a swim?


The maximum power of the bears ended at or near a moving average.  Moving averages ARE relative price movement.  They are good technical indicators to validate why a price may move the way it does.  Some stocks behavior is to interact with shorter moving averages, some stocks behavior is to interact with longer moving averages.  Traders should explore multiple moving average settings to see which ones are the most closely correlated to price.



So that's history, what now?

As a short term trader I think AMZN is a buy for the snapback trade.  I would expect to see a little dip in the morning due to retail market orders hitting at the open.  I am a buyer of that dip via bull put spreads for both the October weekly4  2011's and November bull put spreads 175/170.  I don't have specific net credits for these trades yet as volatility will adjust at the open.  I plan on executing the October's at the open and the Novembers on whatever dip there may be.

As a swing trader I think AMZN is a buy for the gap fill trade, and feel it will be boosted due to seasonality.  As a swing trader I would look to enter December 170 calls on opening weakness or on a retest of the reaction lows.

As an investor I think AMZN is a buy because it is a good growth story.  While I use the phone a friend method for fundamental analysis, my take is that AMZN has not committed any cardnial sin befitting a haricut of this nature.  For that reason, I would be long the stock in a retirement or other non-trading account and establish a covered call scenario for monthly income - with the intent of not having my position called away.

One beaten stock, three different types of money managers that will potentially buy this dip.  I'd say that has a pretty good chance of creating some demand.

Suz








Stocks: AMZN