Lining up the Fundamentals and Technicals

Making trading or investment decisions based on both the fundamental and technical picture is not a novel idea. There are analysts or portfolio managers with both a CFA and a CMT. Many trading firms, hedge funds, and advisories keep technical analysts on board so that they can have an understanding of what the market itself is saying. One story that Ralph Acampora likes to tell is, when fighting on behalf of the technical analysis, a SEC lawyer held up a chart, and said, "Ralph, what is fact on this?" Ralph responded that the PRICE was fact. Price is what is happening right now. It sums up what all market participants think. Earnings are history. Earnings get revised. Stocks get upgraded to buy, and then often when it is too late, they are downgraded to sell. In the realm of technical analysis, there are hundreds of different oscillators, indicators, bands, moving averages, and candlestick set-ups. But those are still just a derivative of the only thing that really matters: price.

Does that mean that fundamentals and technical indicators should be ignored? Certainly not. Using one or two technical indicators can help eliminate bad trading decisions. Understanding the fundamentals of a company can help to see the bigger picture. Then when you get price confirmation, you can be right in a big way. 

Let's look at an example of lining up the fundamentals and technicals of a stock, IBM, and see how it plays out. We will check back in every month or so. The fundamental work I leave to Barron's. I like to read Barron's on the weekends, and since they came out with a bullish piece on IBM, I thought it would be a good example. I will sum up what they say, look at the chart, and come up with a thesis.

Firstly, IBM has massively underperformed the S&P 500. Barron's believes that the stock is at a bargain price. Since the new CEO took over in 2012, shareholders have seen a loss, even with dividends. Compare that to the S&P over the same time period, which is up 130%. IBM is now leaving its lower margin businesses behind. Their gross profit could grow this quarter for the first time in years. We don't need anymore than that. If you require more evidence, go buy the paper. Barron's make a compelling case, and based on that alone, the stock is a buy. But that is not all you can base a decision on. You need to look at the chart.

To the right is the monthly chart. Right away we can see that the stock topped in 2012 at above $215 a share. It has steadily fallen since then, having put in a few lower highs. At this time frame, the stock seems pretty directionless. It might continue to consolidate until the apex of this triangle is reached. Let's zoom in. 

There are 3 lower highs and 3 lower lows that are circled on the weekly chart below. A 52-period EMA is also on the chart. The EMA has started to move sideways following its decline. That is one possible sign that the stock is beginning to stabilize. So, the lower highs and lows are circled. The more recent high, which is a higher high, is displayed in the first rectangle. The second rectangle shows that we now have a possible higher low, provided that it holds. Another sign that the stock might be stabilizing. 

So if we have a case that the stock might potentially be shifting, what now? Since we want to keep this trading decision in line with the fundamentals, we are looking for an area to be a buyer. The most obvious spot that sticks out to me would be a close above the recent high at $183. That would confirm a bull market in the stock. We can also extrapolate a possible price target by using the ABC method. 

This is a super simple technique. Just take B-A, and then add it to C. We would subtract 116.90 (A) from 182.79 (B).  The result is 65.89. Adding that to C, or 139.13, gives us our potential price target of $205.02. However, waiting to buy upon a close above B provides poor risk/reward. Where do you place your stop? Below C you are risking more than you can make. You would need to enter earlier in order for this set-up to work. Let's zoom in to a daily chart and see if there is another signal we can look for. 

The most apparent thing on the daily chart is the gap up. This followed earnings. Since then, the stock has given back nearly all of those gains. The most important thing for the stock to do right now is hold C, which is our higher low. On the daily chart it is displayed in the rectangle. Our stop, if we enter a trade, will go below that level. Buying right now would keep the risk/reward low, but possibly at the expense of having a higher probability trade. You'd only be risking $10 to make $57 (based on our ABC target of $205.02). That is great, but I need to see a little more confirmation that the stock is ready to move higher. And since the earnings gap and fill, I haven't. The high of that move was $162.51. Coincidentally, or not, that level is also where we gapped down to back in April. Above this, there is a lot of empty space. So if we get some momentum as we move higher, we could certainly propel through. The level that sticks out to me as a possible entry is at the link line. If you look back to July, we gapped down from there, and then on the most recent decline, it acted as resistance. If we get above this level, which is $151.90, I would be looking to be a buyer. Initial stop would go below C, or $139.50, and our target would be D, or $205.02. 

We will track IBM and see how it develops over the coming weeks. If C is taken out, then the trade idea is invalidated. Without that low holding, this potential reversal is moot. We would then need to wait for another signal. The stop will be moved as the position moves in our favor. It will not be set to trail, but rather be moved manually to key technical points. Finally, the entire position will likely not be closed at D. Should we fail to hold above B, we will exit some. And a small portion will be held until there is a clear reversal of trend. 

Week Ending 11/10 - An Update on the Yen, Crude, ES, Corn and $ECYT

Last week we looked at a few different markets where I saw interesting things happening. As tends to happen in the markets, levels were tested, breakouts were reversed, and new patterns formed. So let's take at the same markets as last week and break down their behavior.

If you recall from last week, the yen was on major lows and ready to breakdown. We looked at how we were testing support for a third time, but in a very different manner than the first two times. The first two times we briefly traded in the general vicinity of the .8750 level and immediately reversed and rallied. The most recent test was different in terms of duration and attempted breakdowns (more time spent at the level and more tests of it; see last post). We did indeed breakdown, but for now, it appears that this was a "fakedown." On the 6th, which was Monday of this week, we broke through .8750 decisively, but we were unable to facilitate trade at these lower levels. A strong rejection took place, and that daily candle ended up being quite bullish. I don't think we are going to see a strong rally to swing highs like we did the last two times. I think the dynamic of this market has changed now. There are new shorts and longs at these levels. The .8750 level being breached is going to change the perception of participants. Perhaps a smaller rally is needed to lure in some longs, and then a retest of .8750 will result in a shakeout of these positions. This new selling could be the fuel for the next leg lower.



There are two daily bars circled here. The first is the bar that actually broke the low. Notice how we rallied back and closed on highs that day. I think it is highly likely that new shorts entered the market upon breaking the .8750 level, and they were forced to cover upon rallying back above it.

The next circled daily bar is the day in which volume was unusually high. Obviously, a lot of trading was done in this area. Let's zoom in and take a look at the hourly and see what signs, if any, are there.



There are a few trendlines that may act as possible support should we fall back again. The breaking one of these trendlines would be significant. The circled region is where heavy trading took place. A new high was tested, and then we settled into a range. I would like to see some confirmation of further downside before taking any shorts. A close below this current range low, a breaking of one of the trendlines, or another failed attempt to move higher would all qualify. The immediate trend is up, as evidenced by the higher highs and higher lows. Until that trend is invalidated, being short isn't an option for me. Being long is also not an option given the clear downtrend on a slightly longer-term time frame. No position is a position.

Crude oil ripped higher on Monday. The previous Friday, we had closed strongly, so this was not a huge surprise. The strength of the move was impressive however. Since Monday's move, we have seen consolidation as longs take profits, new longs enter, and new shorts enter in anticipation of a reversal. I normally find that after such an explosive move is a terrible time to trade. You can expect a lot of desperate longs that missed the move to come in, only to be countered by new shorts. Generally the action is choppy and there is not any direction to be had. This can be seen on a daily chart or a 1 minute chart.

The most interesting thing about the above daily chart is the highest support line. A test of this level is marked with the blue arrow. On this time frame, you can't see where this level comes from. But, if we zoom out a bit...
It is actually the low of a range from 2015, and the level from where we broke down! That gap has now been filled and retested. The market indeed has a memory.

Finally, let's go the other direction and zoom in on this chart. Not a pretty week to be trading. Following Monday's move, we have seen a tight, sideways market with one spike higher (DOE data on Wednesday) followed by more sideways action. A trend trader's nightmare. The trend is up, but buying in the middle of this range would be ill-advised.

We will only look briefly at ES. No need to look at a daily, because everyone knows exactly what that looks like. The hourly is a little more interesting, with a potential double-top being confirmed this week. This followed a fresh all-time high of course. Today's trading shows us continuing to hold below where the double-top was confirmed. Yesterday, Thursday, we had broken down to test and hold last week's low. A rally back up to 2585 followed, and then today's decline takes us back to a range just below the double-top confirmation level, as aforementioned. That level is one to watch. As long as we are below that, being short is an option.



We are also not going to dive into corn too deeply. No need to look at the daily. If you remember last week there was a clear pennant forming. This pattern continued to develop this week as we fell and tested the lower end of it.








And finally, let's take a look at $ECYT again. If you recall from last week, we were looking at a possible "W" pattern forming. We did not follow through fast enough, so that pattern has been invalidated. I guess it could be sort of a "W" plus a "V" when all is said and done, but we'll see. This week we saw continued buying in the stock and we are aiming at a potentially important resistance zone at $5.62.

OK one last chart. Natural gas. This market has been stuck in a tight range since May. Obviously this is a very seasonal market, and this is its season. We broke out decisively this past week, gapping higher and then closing at highs. Does this mean higher prices to come? A fakeout followed by a fall back into the range? It is too early to tell, but this was a nice example of a breakaway gap, and so far there has been strong follow-through. Take a look at the weekly and 4h chart below.

Yen Breaking Down

The Japanese Yen broke to its lowest level since March when BoJ's Kuroda began speaking tonight. Additional data was also released from Japan shortly after. The level we are breaching (.8750) was tested in May and in July of this year. The decline to this support area this most recent time was more gradual. We also spent more time consolidating right above it. I notice that when markets reject a level, it is often done quickly. When markets pause and consolidate, I think the chances of big levels being breached are increased. So, let's first look at how the Yen acted the first two times we tested this support level versus how it acted this most recent time, and then we will talk about the outlook.

First, here is the daily chart. The supportive area is marked with a few lines. I don't like to mark exact levels as support or resistance because I think markets can be a little too noisy for that much accuracy.



Let's also look at the Nikkei 225 futures. They have staged a massive rally since August. This is around the time that the Yen began its recent descent, albeit at a much more moderate pace than the rally in the Nikkei. Technically, the Nikkei ripped through resistance and never looked back. Fundamentally, this rally, and the decline in the Yen, is on the back of ultra-loose monetary policy in Japan.

That is the theme in Japan right now. Weak currency, strong stock market. Now let's zoom in on the last two tests of the support level that we broke tonight. The first, in May, followed a gradual decline off of the most recent major swing high. .8758 was tested the 9th. We pushed higher, and then over the next 2 days we attempted to get through again. This time we did trade a touch lower to .8752, but rejected it, confirmed a double bottom, and then rallied. The double-bottom confirmation is indicated by the arrow.

A rally almost took us back up to .9200, lower than the previous peak, before turning lower to test support for the second time. Zooming in on this test in July, we can see that this was an even faster rejection. We tapped .8760 twice, then promptly turned around and rallied again. This time we put in a new high above .9300 (again, refer to the daily chart above)




And now, let's look at the most recent test of this level. We have spent considerably more time trading in this area. In May, we were here for 2.5 days, testing the level twice. In July we were here for only 1 day, and tested it twice. This time, we have been sitting here for 2 weeks, and you can count 5-10 tests, depending on how you qualify them. The point is, the market stayed here and seemed to accept these new prices instead of rejecting them right away. I believe that this generally bodes well for a breakout (or breakdown, in this case).



So what now? Since I started writing this tonight, the Yen has rallied, almost pulling back into its old consolidation area. For now, this appears to be a rejection of those lower levels. I think it is too early to call it a final rejection, and there will be some testing of support-turned-resistance. Was this move new shorts coming in? Was it just the big guys 'banging the hive,' trying to shake out weak longs? We will see how trade develops this week and then check back in. My bias remains short.

Week Ending 11/3

Another week, another all-time high in the stock market. ES has been up for 8 weeks in a row now. 7 of those 8 weeks closed at a new all-time high. Tech stocks are on a similar trajectory, with the last 6 weeks closing at all-time highs. Small caps are lagging. This first chart shows $IWM versus $SPY (as this chart moves lower, it indicates $IWM is falling relative to $SPY).




It seems like any economic data that comes out these days is automatically interpreted as bullish by the stock market. There was plenty to go around this week. Inflation data came in as expected, with PCE Core registering a 1.3% gain YoY. US Consumer Confidence surged to highs, coming in at 125.9, beating the 121 expectation. ISM Manufacturing was a miss on Wednesday. In the minutes prior to that reading, ES had put in what would be its high for the week (until today, when we tied it in the last 2 hours of trading). The FOMC also came out and kept rates on hold, as widely expected. Thursday, Trump named Powell as the new Fed Chair, and finally today, we had employment data and ISM Non-Manufacturing. Change in non-farm came in at 261k, and the unemployment rate dropped to 4.1%. ISM was a beat, coming in at 60.1. So overall, the data this week actually was quite positive.

To the right is a 30m ES chart. We came into the week right off of fresh all-time highs. Monday afternoon, we fell into a range and closed there. The overnight session saw a rally leading up into the US session where we continued to push higher. Wednesday we went straight up to a new high, then pulled back on the close. Thursday we tested lower twice. Should the market turn back, this would be an area to watch as potential support. There are a few lines drawn down there (2565-2566.76); I think the market is a little too random to label just one point as support or resistance. There are also 2 potential trendlines in play. A high-volume area worth keeping an eye on is between 2571.75 and 2573.25. That could act as a sticky area if we retrace back to it. The situation here seems pretty simple. We are at all-time highs and there is no reason to short. If we closed below Thursday's low (red line) I might start looking, but for now, the plan is to buy strength and buy pullbacks.

The bullishness in crude oil continued this week. We closed at the highest level since July of 2015. Looking at the weekly, there is some empty space above the market now. Back in 2015, we gapped lower from the rectangle and then had the big decline into the $20 handle. The specific rectangle/range I am talking about is circled. You can see that there is a gap from where we broke down. If we fill that, I think that we will test the upper end of that range ($62). I also think that it is possible that this current move higher turns out to be a fakeout, and we fall back and form a range between $51 and $55. However with 4 positive weeks in a row, I think the safer bet is to the upside. It is worth noting that hedgers are net short and small speculators are net long.

One market that I have found particularly interesting as of late is the yen. We have declined to a major support level that has been tested in the past, and now we are just hovering here (if you're looking at the spot pair, USD/JPY, the opposite applies). Big data from Japan on Monday failed to propel the market in either direction. Their policy rate remains negative. On the first chart below, the general area that is acting supportive is clear. It is roughly .8750 and was tested in April and July. The fact that we are spending much more time just above this level this time around tells me that the market is accepting this current price, so more testing to the downside is likely. .8690-.8715 will likely act as support should we break lower.

Zooming in a bit, let's look at how we have been testing this .8750 level. We came into the week at .8870 and steadily declined to .8770 following the BOJ announcement and outlook report. Thursday we retested this area, and rejected it quickly, shooting up to .8823. This same sort of rejection took place again today, when we quickly shot up to .8820 after failing to move lower. This second rejection was actually a result of the unemployment data, which caused initial dollar weakness. That was quickly reversed following the ISM data, and we got as low as .8752, which was the lowest level on the week. It seems like there is some perception of value down here, and like I said, I think further downside testing is very possible.

Corn has been EXTREMELY boring, but it might be gearing up for a move. On the daily, there is a pretty clear pennant forming. This kind of sideways behavior has been pretty typical of corn for the past year. Small speculators are net long and hedgers are net short. Could that mean a squeeze of the small specs is in order?

Looking a bit closer at corn, it is easy to see that the market is forming smaller and smaller ranges. Indeed, ATR confirms this. Being in the middle of the pennant like this doesn't provide any good risk/reward trading set-ups in my opinion. I think you need to wait and see if there is a decisive move in either direction, and go with it.

One last thing I find interesting is $ECYT. I don't really look at individual stocks, but this rallied hard at the beginning of October, topped out, fell back to support and held it, then began rallying again. There is a potential free-fall zone beneath the support level of 4.15. We tested this area between October 12th and October 17th, and then again on the 25th and 26th. This formation following the rally is starting to look like a W, so we will see if there is more upside to come.