State of the Stock Market

Teetering on the Edge

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What the market did last week is what the market does best – make a move when you least expect it.  While the market was certainly in overbought conditions and due for a retreat to major support levels, not many could have predicted the swift and decisive move downward right out of the gates to start 2005, crushing the majority of leading growth stocks in its path.  However, despite the damage, the market has managed to remain above major support levels, keeping the currently rally intact.. just barely.  At this point, given the number of distribution days just in the last week (Monday and Tuesday) and the technical damage done to many leading stocks (46 out of the top 100 ranked stocks in the Breakout Tracker have fallen below major support of the 50 day moving average, which is a telling statistic), there is certainly a bias towards further price erosion.  In order to avert a much larger correction, the markets will need to bounce back in a hurry next week with heavy buy volume.  Another high volume drop below major support levels and you can kiss the current rally goodbye (however, the longer term bull market trend would still be in place – see chart below).  Sure, and end to the rally so soon would not be what many expected, including myself.  But the market doesn’t care what you or I think.  You have to trust what the market is telling you in the language of price and volume.  Next week it should reveal more telling clues.

Let’s take another look at the chart of the Nasdaq:

The chart above shows the intermediate upward trend line, which is more or less the so called "mendoza" line (had to throw the baseball reference in there) for the current rally.  On Friday, this key support level was tested and is holding for now.  But notice also the difficulty the Nasdaq has had in getting back above support of the 50 day moving average (which now acts as resistance) around 2100.  That is an area that the Nasdaq will need to surge above with heavy volume if it hopes to avert a larger sell off.  The most telling sign of this correction is the amount of sell volume over the course of the week.  You have to go all the way back to the correction in 2000 to find a week with more selling volume!

The chart above illustrates the magnitude of last weeks decline, but it also shows that a drop below the intermediate upward trend line (shown in the first chart) wouldn’t necessarily mean the end to the bull market that began in October of 2002.  Most likely it would mean more of the sideways action we saw through most of 2004.  The "mendoza" line for the current bull market can be seen in the longer term trend line above, making the area around 2000 a very important support level should we get to that point. 

Stocks

When Insider Selling is a Concern

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In a recent post "Forecasting the Future: Chart Reading", I mentioned that the chart of DHB Industries (DHB) may have been forecasting some good news.  High volume gap ups in a chart with no news can often indicate some positive announcements in the near future.  That’s what was seen in the chart of DHB.. later, the big Army contract was announced sending the stock to the moon.. at least for one day.  Almost immediately the stock reversed on heavy volume and currently sits below support of its 50 day moving average.  It’s the kind of chart action that defies logic and something I don’t think I have ever seen.  Much of the damage done in this stock has to be tied to the large insider selling of the CEO, CFO and other insiders.  Imagine you’re the CEO of a company who has just received yet another large $100 million order from the Army bringing your order backlog to over $500 million.  The 4 million shares sold by the CEO on November 29th is one thing.  It’s highly possible that David Brooks was in fact unaware of the contract announcement.  Not to mention that insiders sell for many reasons.  The red flag was the big sale of 5.31 million shares on December 29th after the announcement was made… and he’s not done yet.  Many smaller sales continue to be made by the CEO Brooks as well as other company insiders.  This kind of selling raises eyebrows and should be a signal to you to stay away!  Just as the charts can forecast the future, so can insider transactions.  I would not be surprised to see some negative news announced soon.  Stay tuned!

State of the Stock Market

Market Faces a Big Test

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Another early rally attempt gives way to institutional selling late in the day.  That is the theme we have seen in the last three days, but the indices are still holding major support levels. If they don’t hold, it could open the floodgates for more selling pressure.  Let’s take a look at the charts:

The Nasdaq currently sits right at support of the convergence of its short term channel and the 50 day moving average.  It is highly likely that it will eventually drop and test that intermediate trend line around 2080, but if it should drop below that last line of support with heavy volume, a drop all the way to 2000 becomes probable.

The Dow has some room to drop before testing its major level of support around 10500.  If it can’t hold that level, a drop to 10250 becomes much more likely.

The S&P edges closer to its major support level around the covergence of the short term channel and the 50 day moving average.

Mail Bag

Does Your Site Offer Short Candidates, Commentary On Highlighted Positions & Current Market Health? You Bet!

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Question:

I signed up your service last Thursday so my exposure to the tools is limited.  I have been a user of [edited] and switched to your service because of the market analysis, model portfolio and the breakout sections on the web site.  I also didn’t feel the buy candidates were all that great on [edited].  I did some back testing of [edited] recommendations (although it was not overly scientific) and was not satisfied with the results.  The back testing of your model portfolio proved much better results.

I am a person who is dedicated to becoming a better trader.  However I have a full-time job and a family so time is very precious.   I am looking for the following from your service:

  • An easy way to monitor the direction of the market.  A red/green light or number system to tell me quickly the market direction.  Should on be long, short, on the sidelines, etc.  I think this can be found on selfinvestors.com in the “market strategy” section of the “market outlook” tab.
  • Bullish CANSLIM investment opportunities.  I don’t want to do all the research to find CANSLIM trading candidates with the proper charts/technicals.  I use to believe that entry was the most important aspect of trading.  However, I have come to believe more and more that the entry of a trade is of far less significance.  I want to focus my attention on exits, position size, and the psychology of trading and use selfinvestors.com to give me buy candidates of stocks that are moving in the right direction and have a decent probability of continuing that move.  I think the model portfolio with email alerts and breakout sections provide these candidates.
  • Bearish CANSLIM investment opportunities.  I do not see this as part of you service today but would definitely like to.  When the market direction turns bearish would like to profit rather than be on the sidelines.
  • Monitoring and commentary of recommended positions.
  • An online journaling method.  Not provided today by your service but I am looking at traderbrain.com for this functionality. 
     
    Probably much more than you asked for.  But so far I do find your service fairly intuitive with the services I am looking for and at a fair price.  I will keep you posted on whether or not I find profitable opportunities.

My Response: 

I have seen so many sites touting their big winners, while sweeping their many losers under the rug.  Quite frankly, i’m tired of it.  It’s one thing to buy a stock … that’s the easy part – I wanted members to get a feel for how selling should be implemented, both to lock in profits and avoid big losses.  I feel that the model portfolio provides a good window into how to implement a ‘real world’ strategy NOT based on hypotheticals. 

You are exactly the kind of member I am catering to – I appreciate members who are willing to learn and eventually use the tools here to make sound investing decisions on their own.   The site is designed to make the process of finding good buy candidates (both breakouts and stocks finding support) quickly. 

I don’t currently provide any numbering system or red light/green light to indicate the health of the market but do provide an ongoing look through annotated charts as well as provide a current market strategy and whether not I’m using margin.  This is provided on the Market Outlook page.

The service offers several ways to alert you to great buy opportunities… the Buy Watch screen spits out stocks that have yet to break out or are within a buyable range (default sort by Total Rank).  The Stock Watch reports alert you to opportunities that I think are especially appealing (these stocks are often purchased for the Model Portfolio – another way you’re alerted to opportunities.

On the short side of things (for when the market turns bearish), I will notify premium member of stocks I’m shorting in the Model Portfolio as well as highlight short candidates in the Stock Watch reports.    You can also use the existing screens in the Breakout Center to find short opportunities.  Probably the best way would be too Click Show All Stocks at the bottom then sort by % From 50DMA – look at stocks that have plunged below support on heavy volume.  Also take a look at stocks that are far extended above the 50DMA (for example if I sort by % from 50DMA I see NGPS at the top and notice that the stock is 84% above the 50DMA which would indicate the stock is overextended.  I also see that 50 may be a source of resistance (muliples of 5 and 10 often act as resistance levels).  Update – perhaps an easier way to find short candidates in the Breakout Center database would be to use the custom screener and screen for stocks just below support of the 50 or 200 day moving averages with very low Demand scores.  Then check the charts of these candidates to determine the best short opportunities.

Monitoring and ongoing commentary is provided for all positions in the Model Portfolio – these notes are provided through email alerts as well by hovering your mouse over the notepad image next to the ticker symbol for each position in the Model Portfolio Tracker.

Traderbrain.com looks like a nice tool, but just getting yourself a notebook and a good pencil can work great too!  I think tracking your thoughts on each trade is an excellent way to spot bad habits and improve your trading.  You will see my trading notes for each stock in the Model Portfolio by clicking the Notepad image next to each company name.  At some point in the future I will look to implement a system that allows members to create their own portfolios and trading notes as well as set up email alerts.  I’m hoping to implement these features at some point this year, but can’t guarantee anything at this point.
[update – email alerts are now available, allowing members to create their own tracking portfolios and notes may be a future project]

 

Blog

Bullish Action in Taser (TASR) Continues

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Despite all the controversy over Taser’s stun gun, the action in the chart continues to paint a bullish picture and today’s action would indicate another significant price surge is in the works as the stock is breaking out of a symmetrical triangle formation with heavy volume.  The pattern of big buying followed by decreasing sell volume that began in March (see past posts on TASR for a closer look by clicking CANSLIM Stocks to the left) continues and indicates good demand for the stock.  (click image for larger display)

After the recent 2 for 1 stock split (which was the third in the last year), the increase in the supply of shares can create significant pressure in the stock price if the increase in supply isn’t tempered by a subsequent pick up in demand.  A company will split its stock to decrease the price, which in theory makes it more attractive to the average investor.  But it also makes it easier for institutions to initiate new positions or add to their current holdings.  A small float (supply of shares not held by insiders available for trading) may squeeze out institutions that would like to initiate a position or add to an existing one.  So, if the demand is there, the increase in supply can be beneficial.  Based on today’s action, that appears to be the case.

Stocks

Big Profits in Flat Bases

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The following is a report sent to members of SelfInvestors.com. if you’d like to receive reports like this one each week, sign up to become a member today!

This edition of Stock Watch focuses on the most successful chart pattern around (in my opinion).. the flat base (for more on the flat base and other chart patterns, see the tutorial section "Chart Reading").  The flat base can occur in a couple of different situations.  One situation is 10-15% from the pivot point after a successful breakout (IBD has referred to this technical action as "3 weeks tight").  The stock will surge in price, consolidate quietly in a flat formation, then resume its advance.  The flat base can also occur after a significant gain in a stock and will form over a much larger time frame (5 weeks or more).  Keep in mind that flat bases often break out when you least expect it.  Get in the habit of setting real time alerts (most brokerages offer this service for free) so that you don’t miss out!   Let’s take a look at a few of the best flat base opportunities the market currently has to offer.

Mine Safety Appliances (MSA)
Industry: Security & Protection Services

Mine Safety first broke out at 44.10 and has been consolidating quietly in the last few weeks, possibly preparing for the next surge.  Look for a break above 52.60 as a buy opportunity of this top stock.

Mine Safety Appliances Company manufactures and sells products designed to protect the safety and health of people throughout the world. The Company’s principal products include respiratory protective equipment that is air-purifying, air-supplied and self-contained in design; instruments that monitor and analyze workplace environments and control industrial processes; thermal imaging cameras that enable firefighters and rescue workers to see through smoke and darkness, and personal protective products including head, eye, face and hearing protectors and fall protection equipment. Many of these products have applications for workers in industries such as manufacturing, municipal and volunteer fire departments, public utilities, mining, petroleum, construction, transportation, the military and hazardous materials clean-up. Consumer products target the do-it-yourself market and are available through select home center retail outlets under the MSA Safety Works brand

MICROS Systems (MCRS)
Industry: Technical & System Software

MICROS Systems surged over 40% very quickly in November and has spent the last month digesting those gains in a nice, quiet, flat base consolidation.  The initial surge in price and volume at the end of October shows big demand from the institutions.  Look for a break above 76.67 on heavy volume as a signal that the next wave of the advance is beginning.

MICROS Systems, Inc. is a worldwide designer, manufacturer, marketer and servicer of enterprise information solutions for the global hospitality and specialty retail industries. The information solutions consist of application-specific software and hardware systems, supplemented by a wide range of services. The hospitality industry includes numerous defined market segments, such as lodging (including individual hotel sites, hotel central reservation systems and customer information systems), table service restaurants, quick service restaurants, entertainment venues such as stadiums and arenas, business foodservice operations, casinos, transportation foodservice, government operations and cruise ships. The specialty retail industry consists of retail operations selling to consumers both general and specific products, such as clothing, shoes, supermarkets, hardware, jewelry and other specialty items.

M Systems Flash (FLSH)
Industry: Semiconductor – Memory Chips

The theme of big demand followed by quiet consolidation continues with M Systems and can be seen in the chart above.  Look for a break above 20.54 as a buying opportunity.

M-Systems Flash Disk Pioneers Ltd. designs, develops and markets flash data storage solutions for digital consumer electronics markets. The Company primarily targets two fast-growing digital consumer electronics markets: the universal serial bus (USB) flash drive market with its DiskOnKey product and the multimedia mobile handset market with its Mobile DiskOnChip product. DiskOnKey is a personal, portable, thumb-sized flash disk drive for the storage and transfer of digital data files, including media files, such as pictures and audio files. The DiskOnChip product jointly developed with Toshiba Corporation is a monolithic flash disk product that combines flash memory and a controller on a single die. M-Systems also sells flash data storage products targeted at the embedded systems and industrial applications markets, including its DiskOnChip and Fast Flash Disk products.

Stock Charts

Charts: Forecasting the Future

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There was a time when I had the patience (and time) to peruse the garbage filled discussion boards and listen to the thoughts of other investors/traders, occasionally offering my own two cents.  I must say those days are long gone, especially for the most hyped stocks.  I suppose I grew tired of sifting through the usual boasting, insulting, hyping and griping to get to the few interesting posts.  On a few occasions, I remember having a disagreement regarding the usefulness of chart reading.  It was said that chart reading was just "vodoo" and for the superstititous.  Believe it or not, many investors still feel this way.  But trading stocks without reading the chart is like navigating a thick forest without a compass.  It’s difficult to know where you’re going or where you’ve been.  It’s important to remember that the market looks to the future and the current price and volume pattern is a reflection of investors feelings about the future of the company.  So much so that often times charts can predict future news or growth long before it actually happens.  The charts can tell you where you might be going.  (I say might because chart reading is NEVER 100% – if it were, everyone would be rich.  It’s all about swinging the probability of success in your favor).  You don’t think so?  Then why is it that great companies with solid fundamentals sell off on no news, only to find out several months later that earnings and sales targets are missed?  Why is it that a stock surges with great volume on no news, only to release postive news a few weeks later?  Believe it or not, the big money (institutions… and/or insiders of course) has much more information on a company than you or I do.  As much as they would like to hide their tracks, it is not possible because volume levels reveal the move.  They are showing their hand.

Let’s take a look at a couple of examples of the importance of chart reading and the ability of charts to forecast the future.  The first example is of a company called Noble International, which was growing rapidly.  From March ’03 to June ’04 the company had posted quarter over quarter earnings growth of 61%, 38%, 23%, 71%, 24% and 38%.  That’s some mighty impressive growth.  The buy and hold investor who was just looking at the fundamentals probably would have held the stock until poor earnings were in fact released.  The problem with this strategy is that the stock will almost always sell off long before that first earnings report is released.  Once again, the charts (current price/volume) looks to the future.   Another argument from the buy and hold investor may be "Well, it’s a great company and it will come back."  Sure, it may come back.  It may come back in a month, 6 months, 3 years or never.  You lose no matter how long the stock spends correcting.  Either you’ll be hit with a sizable loss or you’ll be sitting on dead money for who knows how long.  You can always buy it back when the technical action improves (with most brokerages charging less than $15 for a market order, commission costs are no longer a big concern).  OK, on to the chart of Noble International (NOBL).

Looking at the chart above (click to see larger image) there were several clues that would have told you to get out of the stock long before the 50% decline.  Looking at the overall structure you see a series of failed breakout attempts.  The stock surges on heavy volume, only to fall back into a base on a few occasions.  But the first obvious signal occurred on June 9th when the stock reversed on heavy volume.  Clearly, institutions were looking to unload shares at any opportunity.  The next couple of clues came in the form of a high volume plummet below major support of the 50 day moving average.  If that wasn’t enough of a sell sign, then the large amount of insider selling during that time should have been.  Several million dollars worth of NOBL shares were sold in May and June by several insiders.  Sure enough, the following quarter, the company reported less than stellar results as earnings came in less than the year ago period with a -6% quarter over quarter growth.  A great example of the chart forecasting the future.

It can work in the opposite direction as well.  A great example of this is DHB Industries (DHB), which soared over 20% today on news of a major order from the U.S. Army as well as the City of Baltimore.  But several days ago, there was a darn good clue that some good news was on the horizon.  That clue came in the form of … you guessed it, a high volume advance on no news.  But something was going on.  Let’s take a look at the chart below (click for larger image)

As you can see, the big gap up with no news occurred on Nov 15.  It actually happened again on Nov 22, to a lesser degree.  Moves like these don’t usually happen for no reason.. it seemed at the time that another big order announcement was coming down the pike and that is exactly what happened.  Perhaps the CEO David Brooks (who sold 3.7 million shares on Nov 30th) should get a few lessons in chart reading!  Although, he’s probably too busy counting his money considering he made 70 million on the sale… what’s another 15 million right?

Stock Watch (Premium)

Stock Watch (12.16.04)

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Somanetics Corp
Industry: Medical Appliances & Equip

Somantics is a highly ranked stock (52) in the Medical Appliances group and looks poised for a big time breakout.  How to tell?  Notice the decreasing sell volume as the stock carves the second leg down of this double bottom base.. a sign that the number of those who want to sell is waning, clearing the way for buyers.  That is exactly what can be seen as the stock forms the right side, indicated by the surge in buy volume.  The only negative with this chart formation is that the second leg down did not undercut the first leg down at 9.23.  You like to see this occur in order to shake out the last of the weak holders.  But given the demand in the right side and the strength of the market, it may not matter much.  After all, there are few perfect bases.  Look for another surge in price and volume above 15.14 as a buying opportunity.

Industry Spotlight

May Be Time For a Good ‘Ol Fashioned Semiconductor Rally

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  Semiconductors have been gaining momentum in recent months and Intel’s positive guidance Friday may just be enough to kickstart the sector into a nice sustained rally.  Clicking on the chart at the left… you can see that the Semiconductor Index is showing signs of strength by surging above two major resistance areas, the downward trend line in green and the 50 day moving average.  Studying areas of support and resistance allows you to gauge the strength of a stock or in this case, an entire sector.  Surging above resistance and finding support at the previous resistance is a sign of strength (notice the rise above resistance of the downward trend line and the subsequent support there before eventually rising above the next major resistance level of the 50 day moving average).  All signs of strength.

Semiconductor stocks to keep an eye on would include VIRL, RMBS, FLSH, ATMI and KLAC. 

ETF, IPO & Breakout Stocks Analysis, Tracking & Research