Here's a way to buy volatility or to hedge a long portfolio by Grant C

Many investors hold long positions as August ends--some because they sell calls against stock, others because of asset allocation, still others because they aren't paying attention, etc. For those thinking about hedging a long portfolio, here's an idea that might help. For others, like myself, who are die hard volatility traders, this idea will work almost as well as options or inverse index ETFs. The VXX is the ETN of the VIX and trades about 3X the S&P. The common method of measuring volatility in the stock market is the VIX, an index based on a ratio between purchased calls vs. puts. Mostly the VIX declines when the market either rallies or goes into a period of complacency or reduced movement. Sort of what happens during the summer months as the big boys go off to the Hamptons to relax. Eventually, they come back and more often than not, they reverse August's action and jam the market into a decline. The VIX, and the VXX, goes up as a sort of "Fear" indicator (more puts being purchased than calls). This is how the Sept-Oct. period got the nick name of the "Death Season". Now, I have no idea if history will repeat itself and fireworks will replace August's inaction, but it is my nature to bet against the extremes. Since the market is at an extreme with complacency or lack of volatility, I'm interested in the other side of that trad, and will use the VXX to implement that strategy. The one thing I've learned about volatility is that it is "extreme" reverting, not "mean" reverting as most of the trading books claim. Price is much more likely to revert to the mean, or an average, and volatility seems to seek the extremes, sort of like water in a pan that is tilted back and worth so it laps at the edges.

Long-base opportunity in SYT by Grant C

Here's a potential trade that offers lots of promise, but is ST/OB so not suitable for next week's Spike pick. SYT is all about long bases and moves within the Bollinger Bands. After hitting a yearly high around 51 in January, SYT has been grinding sideways, oscillating back and forth between the bands. Note on the weekly chart that all this sideways stuff is along the 50% Fib retracement from the 2008 high to the 2008 low. Now on the daily, the squeeze is in play and SYT has touched the upper band signaling it is ready to move. I'm inclined to wait for some sort of retracement--maybe 1-3 days--to the rising EMA before buying. Eventually, we should get a nice rise out of this long base and lots of chances to trade it back and forth from the rising EMA to the upper bands.

Simple pullback trade by Grant C

Sometimes it doesn't have to be complicated. I take these types of short-term trades whenever they popped up. FXC. the Canadian dollar ETF isn't right for a Spike trade so I thought I post it. FXC had a strong bull run and now we've gone through a 17-day grind down, about a 50 % retracement. We're testing support for a couple of days and looking for FXC to  move up above 88. Buy would be above Friday's high and Stop below Friday's low. Not thrilling, or something to write home about, but this type of pullback trade happens over and over again and is usually low risk.

Misery around the 200 - by Grant C (in Venice)

Hell for me would be forced to trade large when the SPX closes to the 200 SMA. I hate it! Now, there are many theories about why the market jerks and chops as it bounces around the 200 SMA--big institutions, hedge funds, etc. Doesn't really matter. I just know that chop and churn is what we're in for when the SPY comes within 5 % of the venerable 200 SMA, so I try my best to stay away, to "sit on my hands" as Alex says.

Here are two charts that show this behavior. The first is from May 2008 as the SPY closes on a flattening 200 SMA. Note the price candles with shadows and tails and nothing much happening--this is churning--up big in the morning, selling off in the afternoon, or the next day, down in the morning, up in the afternoon. Notice too, that momemtum is ebbing, and we have a triple bearish divergence on the MACD-H leading to evenutal price failure. This time around, we've spent a month churning in a consolidation, then popped through a declining 200 SMA. Things look a bit shaky now; we may have a false break out developing. Note again the triple divergence in the MACD-H.

I've noticed this chop and churn behavior around the 200 SMA over the years and always wondered what causes it--maybe some day, I'll find out, but I just know that I'm better off trading small or staying away until prices clear in one direction or another from the 200.

GLD Redux by Grant C

A couple of weeks ago, I noted that GLD was set up in a symmetrical triangle on the weekly charts. Frankly, I thought it would head down after a series of lower highs, but up it went. So, now what? Well, GLD did emerge, but it hasn't been much of a rush--no real urgency in volume or momentum, yet the intermediate trend is up with a possible retest of the highs in the future. Though we broke out, the 2-day RSI tells us we're short-term overbought. Some traders buy the breakout and in this case would have made money. Since I prefer a more conservative approach, I'm stalking GLD, looking for a retracement to value, or the rising 20-day EMA.

BTU's long lovely base by Grant C

One of the characteristics of market crashes are Alex's  "Fallen Angels". Those extraordinary stocks or companies that were high flyers, then collapsed in the mad rush to raise money for margin calls, then travel sideways for months redefining themselves. Instead of rising from the ashes, many just go out of business, which of course was true of numerous Internet companies long ago. Today, we have many commodity companies, like Peabody coal that are tracing out the "L" or long base. Some will start to emerge over the next few months. BTU is now OB on the weekly, but after it corrects to support, it will have a run up the right side.

Such a long, lovely base by Grant C

Since we had so much fun discussing GLD, I thought I throw out another one--DBA. However, since the price movement is pretty straightforward I doubt if we arouse the same level of opinion. DBA is the agricultural ETF, mostly softs. As you can see on the weekly, it crashed with everything else and has been trading sideways since Oct. 08. The result has been this enormous base, which means that the upside potential is equally enormous. The trick of course is the entry, and for that we need to look at the daily. The daily has a declining 200 DSMA, and a squeeze breakout showing. From past experience, the first time price hits a declining 200 DSMA it sells off. So, I'm waiting for price to come back to the rising 20 EMA, before thinking about buying. The other way to do it, would be to wait until price trades through the 200, and buy on the first pullback, or retest. Still, you could wait until the stock market corrects and the weekly 5-week RSI drifts back. The idea is not to chase an OB ETF, just be patient and wait for a reasonable entry. In any case, we can probably assume that the price of food isn't going down much in the next few months.

GLD monthly by Grant C

Eric's comment on my post about GLD's daily and weekly charts made me pop up a monthly GLD. Here's my favorite topping formation, a huge 1,2,3 Top formed on bearish divergence with the declining RSI and MACD indicators. If price drops, 65 is about right for a target. If my analysis is correct, then either inflation is not going to be a problem, or gold has finally lost it's value as a monetary subsititute.I bet on the latter--these days, not a lot can be done with gold except wear it.

More GLD--monthly by Grant C

Eric's comment on my post about GLD's daily and weekly charts made me pop up a monthly GLD. Here's my favorite topping formation, a huge 1,2,3 Top formed on bearish divergence with the declining RSI and MACD indicators. If price drops, 65 is about right for a target. If my analysis is correct, then either inflation is not going to be a problem, or gold has finally lost it's value as a monetary subsititute.I bet on the latter--these days, not a lot can be done with gold except wear it.

GLD symmetrical triangle - by Grant C

As most of you know, I like volatility and it contractions and expansions.

Here are two charts of GLD, the gold ETF. On both the weekly and daily charts, a large symmetrical triangle has been forming for several months. There has been two distinct lower highs--not good, while there was a creation of a double bottom, which is now being challenged. The 84-85 area is support at the 200 DSMA. If price breaks the 200, we are transitioning from a bull to a bear market and the drop to 78 should be quick. The weekly shows a similar view. Watch carefully over the next few days to see what happens--I will be.

FIB, the SPY high, little friends and fat rabbits - by Grant C

Fibonacci sequence is a mystery to some, a curse to others, and a Godsend to a few. To me it's a marvel, as is the clarity of a bee's honey comb (natural Fib sequence). To embrace it, or to grasp the Golden Ratio, is to embrace the notion that the market has more symmetry than most are willing to admit. However, since I have centuries of French Catholicism locked up in my genes, it's easy to believe that sin and redemption, Good and Bad, are balanced, or symmetrical in human existence. Therefore, I expect to see repetitive patterns in human behavior as mirrored in our charts. After all we are measuring and exploiting greed vs. fear, as they constantly repeat, aren't we?

I regularly look for Fib retracement levels on the weekly SPY chart just as I look for OB/OS readings on the 5-week RSI and bullish/bearish divergences on the weekly MACD-H. These are my little friends, my play pals, the tools that for good or bad, profit or loss, I hang my hat on week after week. Last Friday, April 16, SPY traded right into the 85-87 range, which was the .786 Fib retracement from the Oct. high of 159 to the Jan 65 low. It also corresponded with RSI hitting OB, and MACD up there too. The little pals were tugging at my arm, whispering that the bear mojo was starting to stir. Weekly price was at a Fib resistance, 5-week RSI was OB and the rally was 6 weeks old, about right for some time symmetry.

The daily chart was just as vivid. Friday's price action was classic churning, lots of Sturm und Drang but in the end a Little Worm or false breakout. The daily momemtum boys--RSI, MACD and FI--pointed, respectively, to short-term overbought on the RSI, declining on the MACD, and a wimpy lack of juice on the FI. To make it more interesting, Friday was the intersection of some long-term trendlines. All my little pals, the ones I grasp when I shut my eyes and dive with Alice down the rabbit hole, said the same thing, buy the 2X inverse ETFs at the close. Along the way down, the hooka smoking catepillar flashed a smile and mouthed, "while your at it grab some of that 3x FAZ."

Now, of course, with the SPX down 37 points at Monday's close cash is the position of choice, the Mad Queen is strutting across the chessboard, the Greatfull Dead are on their way to Terrapin Station, and the little friends are skipping back to that magical place whence they came. We are left trying to figure out how far down is down for this retracement. For that I have no answer, but eventually, we'll get to OS and it will be time to rustle the leaves, play the flute, and invite the little friends to saddle up their hobby horses and go fat rabbit hunting again. But for now, I don't plan to buy the dips, but look for chances to sell the rips.

T, the 1,2,3, Top trade by Grant C

I've written about the 1,2,3 Bottom trade, one of my favorite reversal patterns. Now, I thought I would show a 1,2,3 Top trade. Now that the market has had a rally, I'm starting to see a few of these appear. In the case of T--my last week's Spike trade--things stalled out around 27. The Hi #1 happened in late March, note how high the 13-day FI spiked. At that point, we sold off, retracing to 25 (#2) , which undercut at least 4 closes.

Then, like an old one-eyed war horse, T gathered itself for one more run for glory. However, 27 (#3) was the wall again, and T formed the Narrow-Range 4 bar. This is the small inside bar to the right of the long-range stab to 27. It is the narrowest bar of 4 days and indicates a collapse of volatility, which should lead to another long-range bar. In this case, it lead to two declining medium bars. Note the divergence in 13-day FI on the second stab to 27. From there it was easy, sell short at the low of the Narrow-Range bar, take profits at the rising 20 DEMA (red line); treat yourself to a nice bottle of cabernet.

VIX squeezed by Grant C

Trading is about price movements, but really we're measuring human behavior ruled by gut-wrenching fear and elated greed. The VIX, which is a ratio of puts and calls, measures emotional volitality--it moves up, sometimes violently when fear riens and price declines. When the VIX declines, price is stabilizing and usually rallies; the SPX price bars narrow and everywhere it is happytime. The VIX is an easy way to measure the emotional extremes if you use it properly. I say easy, but most traders think of it like the RSI with absolute highs and lows. Not so, the VIX is a relative measurement and needs to be compared against a 10-day MA to give accurate signals--all of which is for a future discussion.

But today, I want to point out a truly remarkable development on the VIX's weekly chart--something that foretells a major move. After the spike to 90 in October 2008 punctuated the market's big move down to SPX sub-800 (the VIX moves opposite the SPX--VIX up, SPX down, and vice versa), the VIX corrected, finally settling in a range about 50% of the move. We've been bouncing steadily between 35-55 week after week for about four months. While it may not seem like it, the VIX has steadily lost volatility indicating that neither fear nor greed is at extremes. Now, we are entering a rare squeeze on the weekly chart, which portends a major and probably violent move in one direction or the other. Though the indicators seem to be on the lowish side, these sideways moves often create unreliable RSI and MACD readings. So, we need to wait a week or so to fit this piece of the puzzle into place, but past experience says that come what may, either greed or fear will soon cause our little world to tremble and shake.

Bottom process part 3 by Grant C

Bottoming Process—Part 3, Week 13 by Grant Cooke


Part 3 in our comparison of the 2002 and 2008-09 bottoming processes shows that today’s market is considerably weaker and taking much longer to find support. By week 13, the 2002 bottom was well on its way to resolution. We had successfully tested the lows by week 11 and rallied nicely for two weeks until price hit resistance at the declining 20-week EMA. The successful test and subsequent rally had reversed the direction of the 5-week EMA, turning it up for the first time in several months. Even the declining 20-week EMA was starting to respond to the rally, and its decline was losing force and turning sideways. By week 5, the MACD-H had crossed the centerline, and then crossed down on less momentum forming a higher low and a classic bullish divergence. Bids were starting to hold. Bulls, though not snorting and pawing the ground, were at least coming out of hiding. While it would take several more months of sideways action to build a base for the next bull market, the trend was no longer down.

By comparison, the 2008 Bear is much more vicious and prolonged. At week 13, we’re resuming the downtrend after several weeks of sideways churning. The 5-week EMA has pitched down and price is clearly testing November’s lows around SPY 75 (SPX 750). MACD-H recovered a bit while the market churned, and now, but now it’s dropping again. In 2-4 weeks it will be below the centerline, unless something dramatic happens. Price may pause here for a week or so, but it looks like support will crumble and we’ll make a lower low along with the MACD-H.

Most disturbing is the converging Bollinger Bands, indicating we’re entering a squeeze on the weekly charts. These weekly squeezes are rare; the last one was in April 2008 and set the stage for the market’s freefall. Usually, they occur at significant junctures—tops and bottoms—but once in awhile they occur mid-move. If price doesn’t hold SPX 740-750, the subsequent action will be nasty. Conversely, if price somehow holds above SPX 740-750 and the retest of the low is successful, and MACD-H traces out a slight decline and subsequent bullish divergence, then we may get a move up powered by the squeeze.

Clearly, the 2008-2009 Bear market is not to be trifled with, nor ignored if you have money at risk. It is definitely changing the way the world perceives investing. Day traders are kings, and for us swing traders, the rules are simple: bet small, sell strength, buy weakness, and cash the chips quick.

Those sweet little triangles by Grant C

I'm curious by nature; which is often a flaw as a trader, when precision and timing mean more than flights of fantasy. However, over the years my curiosity has lead me into a very fertile area of inquiry for trading--volatility. For trading, volatility usually describes violent and quick changing price moves--think long bars on a price chart, not nice tight narrow-range ones.

Volatility is usually a function of emotion overruling reason, and therein lies profit. Good traders are creatures that understand fear and greed; profitable traders soon figure out ways to exploit this constant conflict in market behavior. The other extraordinarily profitable characteristic about volatility is that, unlike price, which follows a bell-shaped reality and is given to mean reversion, volatility is extreme reverting. This is probably worth repeating, because there is definitely money to be made in this insight (which comes from John Bollinger, BTW), volatility is extreme reverting, jumping from wild swings and long price bars to sudden pauses and short price bars, not a gradual sequential progression at all.

The chart of CAL clearly shows this behavior. Look at the bars on the right side, several long bars separated by three relatively narrow bars, which I've marked off with lines--looks like a small symmetrical triangle, doesn't it? Well, it does and it is exactly that, a period of indecision or confusion. Traders conflicted that the long move down from 21-16 was a trend, or an oversold buying opportunity. This push-pull tension went on for three days right at the 200 DEMA (red line), before fear overwhelmed them, the down move continued as the Bears took command and drove price to 13.

The sell short point is at the break of the third bar, a dime under the low or around 16.48. Since these little triangles, or consolidations, or continuation patterns, show up about half-way in a move, the target is sub 14. In my case, I closed out my position at the end of the first down bar, about 14.5. Notice that volume contracted during the triangle, and exploded as price fell out of it--classic behavior as fear set in once more.

I look for all sorts of volatility contraction set ups--triangles, squeezes on the daily charts, but really like them on the weekly or monthly charts. These little battles between fear and greed usually show up half way through a move and routinely make money. I take them in either direction, but especially like them to appear near 200 DEMAs where the big traders and hedge funds like to hunt--just slip into their wake; but remember to jump first before they reverse direction.

Big picture, way oversold - by Grant C

Most traders know that there's no end of ways to measure if the stock market is overbought or oversold. Hours can be spent pondering this basic, but critical condition. For most of my work, I use a very short, 2-day RSI momentum indicator. This serves me well for my hit-and-run trades. However, it pays now and then, to step back and get a grip on the big picture. So, I've included a multi-year monthly chart with 12 and 24-month EMAs above a 12-period RSI momentum indicator. For 5 years, from April 2003 until February 2008, the monthly price bar hugged the 12-month EMA like a dog on a chain, only drifting away for a few months rally now and then. In fact, we could be comfortably retired if we had bought the SPX futures when the 12 month EMA crossed up through the 24 and sold them when it crossed down through the 24. February 2008, of course, is another story and the market crashed almost 700 SPX points from 1400 to a low of 740. Now, we're bouncing off the 800 level, testing the support which comes from the 2003 lows. Millions of dollars are being bet on whether we hold this level or not, a wager that keeps the daily action choppy and uncertain. The 12-month EMA is plunging to meet price, but price is way, way, away. It should be clear that price is stretched further from the 12-month EMA than most of us have seen in our lifetime. The 12-month RSI is also at an extraordinary low--in fact, I saw a monthly chart that went back to the 1920s and the 12-month RSI wasn't this low then. So, big picture, we're historically oversold and overstretched and a solid argument can be made that someplace along in here we'll rally, perhaps all the way back to the declining 12 month EMA around 1000-1100. I'm not going to make that argument, however. I think, most likely, we trade sideways, bouncing up and down driving investors crazy. Once everyone gets bored and sick of the sloppy action, then there's hope that we might turn up.

Trading False Breakouts - the DAG Trade

DAG, the quintessential “Little Worm” trade
by Grant C

Grant C is a long-term Spiker. He started out as a Spectator, was promoted inot the Spke group, and won a number of quarterly championships.

Click on the chart to enlarge it
Both Alex and Kerry have commented on the dynamic occasionally found at the end of long and brutal stock declines, when at the last gasp, a stock will slip through final support, then for some unfathomable reason reverse back in a failed break of support. It’s been called a “Little Worm” trade because when you see it on a six-month daily chart, it looks like a little worm poking through a floor bottom, then pulling back. My twist on the trade comes from the added move outside a volatility band (Bollinger Bands), or beyond two standard deviations from a 20 EMA (normal value). These outlier moves beyond the bands, or price envelopes, often set up a snapback dynamic that Alex commented on in a recent webinar.

DAG is a double beta (moves twice the underlying index) ETN of a basket of basic agricultural commodities—wheat, corn, soybeans, etc. Like most ETFs or ETNs, DAG will trend nicely and together with its opposite number AGA offers a way to trade both sides of the ag softs without getting involved with the futures market. A word of caution—they are fairly new and the daily volume can be low, so take small positions, use limit orders on entries, and get out on a rising market.

I was first long AGA as it broke to new highs in early December. The highs were made with a low-energy MACD-H push so I decided to bail. Then it occurred to me that DAG—its opposite—might be setting up in a MACD-H bullish divergence reversal. Sure enough, it was, so a couple of days later when it slipped through support at 8 and closed outside the lower band, I started to wonder if we were setting up for a failed breakdown and reversal. The next day price pushed even further outside the bands, and my short-term indicator crashed to an extreme low, but MACD-H barely dropped below the centerline. The bullish MACD-H divergence was in, and on the third day, when it popped up and closed on its high, inside the band, I grabbed my position on the close. I figured DAG might be good for a quick run back to the declining 20 EMA, which would be resistance. I sold it on an expanded-range day at the EMA three days later.

This was a clean, classic “Little Worm” trade that offered a fair return at minimal risk, and illustrates a very common price dynamic—reversion to the mean from an overstretched position. Eventually, we’ll get another trade out of DAG, and AGA, but for now we’ll go hunt fat rabbits in another part of the market.
The Little Worm trade also works on tops—see the Qs late October 2007 top with a huge bearish divergence.

2002 Bottom by: Grant C

To help to focus my thinking about a bottoming process, I’ve been reviewing the last major bear market bottom—the 2002-2003 period. This is a chart of the SPY weekly prices, which shows a process that lasted about 12 months. The first market stab down resulted in a recovery rally that bounced to a declining 100 day EPA (red line) , then a swoon to test the bottom (notice the bullish divergence in MACD-H). Prices regrouped for another rally , this time recovering to a declining 200 day EMA on a strong MACD-H, then a final turn that drifts down, forming a higher low on a shallow MACD-H. Then the long-term averages start to turn up, and finally at the end of the year-long basing period, we cross up through the averages and begin a new bull market. As we all know, history doesn’t exactly repeat and we continue to live in a world that compresses time through the magic of the Internet. That said, we still should expect several months of range-bound trading. The “sell strength, buy weakness” pattern of trading will live with us for a while.