Pick Your Battles

You haven’t heard much from me lately, there’s a good reason.  No, I haven’t been off surfing in Costa Rica, or indo, or some other exotic locale, I’ve been right here at my desk.  Part of being a good trader is knowing when, and when not to trade.  I honestly don’t have a good hook on the market right now and I’m not afraid to say that.  I’ve played a few one off positions, most recently a nice win in $WNR and an ugly loss today in $AEA.  My $VRTX trade was closed out today for a nice profit and I added another lot to my short position in $TLT.  I also still hold trend trade positions in $GLD and $NFLX and a short position in $STRA which shows me a nice profit.

Overall, I just don’t have much conviction here because the market is just a mess.  The shakeout in the $SPY below 104.50 was ugly and broke a major trend line, along with making a new 20 day low for the first time since the major breakout back in July.  We continue to make higher highs and higher lows, all the while every momentum indicator says that this rally is running out of steam.  Major divergences on the daily charts lead me to believe that we are in a topping process.  Either that or the market is getting ready to make another push similar to what we saw in July, a rip your face off rally that brings us to my ultimate end game target between 1220 and 1260 on the $SPX.  This would correspond to the $USDX completing its full retracement to around 71.30.

As always I’ll trade what I see and react to what the market gives me.  That said, I believe we have entered the phase where the big money is selling on the rips instead of buying on the dips.  Fund managers have had an exhausting year putting their balls on the chopping block so that they can compete with the S&P 500.  They’ve been playing catch up all year and I believe have cashed in their chips for the remainder of this annum.  It’s hard to fire your manager when they’re up 20+% for the year, even if they lag their benchmark.  Now, if the market rolls over into the end of the year and you’re a fund manager who still has his chips in play, you’re gonna get the axe come January.  What I’m trying to say here is that there’s much more to be lost than gained for the people who control most of the money.

Watch the reaction in high momentum stocks that you feel may have just come along for the ride, not on a strong fundamental basis, but because in a bull market just about everything goes up.  Look for the average true range in many issues to expand as indecision takes hold of the market.  Watch for large holders of certain issues to support price after an initial strong sell off.  Remember, those who hold large inventory can’t sell all at once, they risk driving prices down too fast and not allowing enough time to exit with their gains.  This is the time when you need to look for patterns of distribution in many issues.  What does that look like?  After a strong name has experienced its first hard sell off on strong volume, look for price to be supported 10 – 15 % lower buy large holders of the issue.  They will prop the stock back up and the distribute inventory as the stock retraces more than half of the sell off.  The issue will then drop again, followed by another round of support and distribution by the major holders.  When the major holders have exited the issue, they will allow the stock to break through what had been acting as support.

Another thing to watch for is rotation into safer names.  We are already seeing this with nice runs in $MCD and $WMT over the past few weeks.  In a bull market the last names to make their moves are the low beta high dividend names.  The funny thing is that we still haven’t seen a move from the utilities $XLU which has been range bound since July.  I believe this group most accurately represents the fundamentals of our economy.  This, along with the fact that the rally has been about buying over leveraged high beta names which had almost been wiped off the face of the earth last winter, not safe dividend utilities.

The financials are losing their mojo and the fact that many of the banks were willing to completely nuke their credit card portfolios by raising interest rates on balances to 30+% leads me to believe that they are preparing for another bad winter from housing and the consumer.  Frankly I think that the next leg down in housing will be worse than even they believe, but it’s hard to argue with the precautions they are taking right now.

I will sit and wait, until the opportunity presents itself to put a meaningful amount of capital back to work in either direction.  Until then I’ll trade shorter time frames with less risk.

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