Monday, August 29, 2016

Monthly Breakout Watch

We are now entering the last week of August, its time to have our Monthly breakout list ready as Thursday will open September. These names need to hold their current positions or expand higher through Wednesday's close to be considered confirmed moves.

The weakness last week was very similar to what we saw in June and July; early strength was faded but then rallied back strongly to close out the month. We will see now if August can close out like the previous two and validate these strong looking signals.

Long-term breakouts are the most powerful potential signals. It pays to align yourself with these dominant trends, even if you don't trade them directly on the monthly signal, use them as the basis to build short-term trades off of. The largest moves in the market start from strong monthly bases, this is where the real winners are born.















A few others to note that have my attention: (these will not trigger this month most likely, but it's good to keep an eye on long-term winners as they consolidate near highs)






Studying the monthly timeframe is an absolute pillar of my trend-following process and how I build my longer-term portfolios.

Thanks for reading 

Sunday, August 21, 2016

Anatomy of a Whipsaw

When we are trading a proven winning plan we know the odds are in our favor over the long-term, the market gives us our signal and we take it. But we know how odds work, we win some we lose some. 

As most who follow me know I'm a breakout momentum trader. I take a position on a display of strength through the price action. Sometimes this works and sometimes it doesn't. When these breakout moves fail it's called a whipsaw. The market moves strongly in one direction only to turn on a dime in the opposite direction killing our trade thesis. As traders this is something we will always have to deal with. As legendary trader Ed Seykota has said, "if you want to avoid whipsaws quit trading". 

Getting false signals is a big part of trading. How we deal with these unexpected reversals is a major factor that determines our long-term edge.  

We discussed HAIN last week in our post. It had all the criteria of a strong
breakout entry. The move came on huge volume with a lot of upside Call option activity, and even Buyout chatter.

However Monday after the market closed HAIN announced a delay in the release of their quarterly earnings report due to "accounting irregularities". 

As we know the market hates uncertainty. Following the announcement the stock dropped more than 25% on Tuesday triggering stops for a larger loss than anticipated.

While this drop was more than we had planned for, through proper position sizing we were able to keep losses mitigated so they were only modestly damaging. 

A concept that is very important to understand is regardless of how confident we feel about the setup, anything can go wrong with a trade. For a stock to decline ~25% in one day is almost as bad as it can get. But had we not kept our discipline and maintained proper position size this loss could have been debilitating. Unexpected moves like this are precisely how most traders blow up their accounts. They feel so confident in either their ability and/or the current setup that they risk too much of their capital. 

Prior to Tuesday's monster decline the stock was displaying very typical breakout behavior; there was little to hint at anything close to what played out. There simply is no way to anticipate this occurring with any real accuracy. Sure we could have avoided the trade due to earnings being announced soon or that the day after our entry the stock retested the breakout level putting us at an early loss. But these movements are quite common ahead of a news release or following a breakout. We account for risk to be elevated in how we size our holding and manage our expectations. 

Ultimately we must stick to our plan and not let bias or greed influence our decision. As a general rule for swing trades (which this was) I will enter a partial position (risking .5% of total account equity) and only if the trade then moves in my favor will I add another .5% size. This means the maximum I will risk on any one trade is 1% of my total account. It is by being conservative and not attempting to get rich on any one trade that allows me to survive a shit-kicking like we experienced here. 

Another important element to surviving in the market is to not let an initial loss turn into a disastrous loss. Just because the stock "fell too much" doesn't mean we should continue to hold the position thinking the damage is already done. This is exactly how traders can make a bad situation worse. Could the stock bounce back? Sure it could. But its also just as likely (maybe more so) that a real problem exists and this could just be the beginning of a 50% or greater rout. 

The best thing to do once the trade thesis is invalidated is to GET OUT. I don't care if we only planned to lose 10% on the trade and we lost 30%. That doesn't matter one bit. Sure it sucks, but what if we hold and then it turns into a 60% loss? From my experience its much easier to make back our losses in a new strong entry signal than from a failed trade that we hope will recover. 

For total disclosure we entered HAIN at $54.15 and placed our stop at $51.90. Since we had taken our initial .5% risk position size against the $2.25 stock price movement (~5%) and we exited at $39 (-25% move for the stock), our loss on the trade was -2.5% of total equity. While this is more than I prefer to lose on any one trade, because of the conservative position size damage was still relatively minimal.

The math supports moving into a new position rather than holding and hoping with the loser. Following the decline for HAIN it would require a 35% gain in the stock to get us back to even. If we entered a new position with similar risk parameters as the original trade it would require a 25% gain for the same profit. Although if we entered a new trade and it moved in our favor we would likely add another half position, requiring less of a move in the stock for more profit. For sake of discussion say we add another .5% risk after a +5% move for our new trade. This would then only require a ~10% further rally to get us to our +2.5% account gain. Basically if we can position ourselves in a new successful trade and pyramid the trade according to our plan of adding to winners, the gain needed from the new stock would be roughly half compared to holding the existing losing position and having it get back to even.

If you want to survive at trading and eventually thrive you must learn to take a loss when it comes. At least half of our trades will fail, if we can't keep those failed trade's losses to an absolute minimum the amount we make from our winners won't be enough to keep us profitable. When a trade shows a loss and invalidates our initial thesis we need to step aside, take the small loss, and find the next opportunity. Revenge trading, holding losers and fighting the market are what emotional unsuccessful traders do. To succeed we need to do the opposite. We must trade free of bias, cut losing trades when they invalidate our plans, and most importantly listen to the market and follow its direction. 

While its always frustrating to get caught up in a losing trade, especially one of this magnitude, dealing with whipsaws is a big part of our process. The key to success is to keep position size on losing trades small to minimize risk and to cut the losing trades quickly once they invalidate our plan. If we can do that while adding to our winning trades we put the long-term odds greatly in our favor. 

Sunday, August 14, 2016

A Few Thoughts

Bullish patterns are in motion as sellers remain non-existent

Inverse Head Shoulder-Daily
The first bullish pattern in motion and moving toward its target is the Inverse Head/Shoulder formed from the Brexit fallout. Rough targets call for a move to 2,225. Shorter-term support levels should be 2,172 and 2,150. As long as the trend of higher lows continues there is little to overthink. Odds continue to suggest higher prices.

Double Bottom-Weekly
Longer-term the move to new highs continues and the Double Bottom formation from Aug and Feb lows suggests much higher prices ahead. Key support on the Weekly comes in at 2,100 and 2,000.

NYSE Base Breakout, Flag, Follow-Through
 A monster base breakout remains in motion and is seeing follow-through after this week's higher high. The Inverse Head/Shoulder formation suggests prices over 12,000 and the recent action has formed and triggered a 4-week bull flag.

IBB Biotech retest
Biotech has been in a downtrend since mid-2015. For most of 2016 the group has chopped back and forth between 290-240. This range has broken out to the upside and is now throwing back to retest 290 as new support.

Zooming in on the pullback we can see a nicely formed bull flag. A move back through the short-term downtrend would suggest a confirmed retest and higher prices would be likely.

Generally these throwback opportunities present strong risk/reward trades. If the flag breaks out higher stops can be placed just below the new pivot low. The trade thesis is then if the stock stays above the breakout level it can be held with confidence.

Big Selloff in Gold
Gold has been consolidating its big run recently and has been doing so in a very choppy manner. Friday had a strong gap higher open that was quickly sold and GLD closed below the prior day's low. When a stock trades above but then closes below the prior day's range it can be a signal of trend reversal and caution should be warranted.

Longer-term there remains no damage to Gold's new emerging trend, but short-term its tough to be aggressive in this area after Friday's weak action.

XLE continues to build reversal 
Energy as a group keeps forming higher lows and pressing against resistance. It appears its just a matter of time until this breaks higher.

Playing off a strengthening Energy sector, a stock I like a lot and am buying right here is KMI. After Warren Buffet disclosed a position in the name back in January shares stabilized and tightened from March-July. KMI then broke above resistance and has spent the last 3-weeks consolidating that move. 19.50 has proven so far as a confirmed retest as price has moved up from its bull flag above a rising 20 Week SMA. Stops below last week's low present a very strong risk/reward.

One of Wall Street's favorite stocks to hate appears to be turning higher following its disastrous IPO. ETSY fell from $35 down to nearly $5 in 2015, but from November through July the stock formed a very tight base. Two weeks ago ETSY broke above 9-month resistance on the highest weekly volume ever for the stock.

I appears a change is coming for this name and someone is accumulating the stock heavily. We are long as well.

30 min Flag
Shorter-term the stock displays strong price action. A bull flag is now rolling higher and a push above this week's high could propel another leg up. I like this one and have good gains to show already. This could still be very early in its turn.

One of my favorite stocks made a huge breakout on Friday. Organic product producer/distributor HAIN made a big move on tremendous Daily volume to close the week. There are many rumors swirling about a potential buyout in the near future, although nothing specific has been discussed it appears the writing is on the wall that HAIN will be acquired.

The price action tells the story here better than any rumor however as it is now resuming higher off a 6-week tight consolidation. I wanted to see a closing price above $53.08 to get involved, but was forced to act early as the action became very bullish, we entered near $54.10. I like this here and above $52 it seems like a good bet to press higher.