Mutual Funds
September 27, 2006
The Smart Profits Report: Issue #357
Wednesday, September 27, 2006
Mutual Funds: How To Interpret The Actions of Mutual Fund Managers
By D.R. Barton, Jr.
Advisory Panelist, Mt. Vernon Research
Imagine a beautiful late summer evening at the state fair. The sounds of children playing on the rides. The wonderful smell of food wafting from every direction. An idyllic scene by any measure.
But what would happen late in the evening if all of the fair-goers ran out of cash? Would any of the rides, or funnel cake stands stay open?
A funny thing happens when buyers run out of money: Commerce grinds to a halt. And after a rapid late summer run, a similar scene is happening in the equities markets right now. The biggest buyers of mutual funds are running critically low on cash. And when this happens, it affects regular traders and investors like us. So let’s see exactly why… and how we can combat it…
Consulting The Mutual Fund Managers Cash-To-Asset-Ratio For Clues
In my research, I’m always looking for “leading indicators” - that is, prominent characteristics that can act as predictors of the market’s long-term direction. And one of the best is the ratio of cash to total assets being held by mutual fund managers.
- If, as a broad group, mutual fund managers think the market is heading down, they would have less of their funds’ assets invested in the stock market.
- On the other hand, if they anticipate an uptrend, they would naturally invest more of their cash in the market to take advantage of that.
This is important, because as with most large groups of investors, when too many mutual fund managers start thinking the same way, it’s usually a sign that we’re ready to hit an extreme and head the other way.
So if you want to know how much cash the mutual funds are spending or keeping, one of the most useful ways is to compare their cash-to-asset ratio (simply the amount of cash that is not invested divided by the total assets of the fund) to the rate of a three-month Treasury Bill. This gives us a feel for how much cash fund managers are holding, relative to the opportunity cost of holding cash risk-free.
Simply put, when this ratio is low, managers are extremely bullish. When it’s high, they are very bearish (or cautious). And since the cash-to-asset ratio is a contrarian indicator, when too many mutual fund managers are bullish, there aren’t enough left to jump on the “bullish bandwagon.” The most likely market reaction is to turn toward the bearish side.
For example, in the spring of 2000, mutual fund managers were more heavily invested in the stock market than at any other time since the numbers have been compiled. But predictably, they soon became the least heavily invested in late 2002 to early 2003 - just as the market turned back to the upside.
Where Has All the Cash Gone?
So how do mutual fund managers have their assets deployed now?
- Answer: The amount of cash being held is approaching the all-time lows that were hit in the spring of 2000! (This is taking into account the interest rate of a three-month T-Bill). This is a very bearish long-term signal for the stock market.
But a word of caution: This is a long-term indicator. This extreme value may take months to play out in the markets. But it would also be a very rare occurrence for mutual fund cash to be so low and not result in the market making a significant correction.
Simply put, the stock market is like the funnel cake vendor at the fair: When the customers don’t have any cash to spend, you can’t sell any deep fried dough.
What To Do As Mutual Fund Cash Drains Away
- Bottom line: The stock market’s biggest customers, the equity managers, are almost out of cash. So it’s difficult to see where any new money will come from that could fund a sustained stock market rally from here.
But since this scenario takes a while to play out, it’s not quite time to jump ship just yet. However, it’s worth keeping your eyes on other warning signs, and checking to make sure you have a decent exit strategy. A market decline may not happen imminently, but with mutual fund cash levels nearing all-time lows, more caution than usual is called for.
Good Trading,
D.R. Barton, Jr.
|
Today’s Smart Profits Cribsheet
- If you’re looking for clues from the world’s best fund managers, you won’t do any better than PIMCO’s Bill Gross. Check out what Mt. Vernon Research Chairman Karim Rahemtulla had to say about this legendary investor in Smart Profits #201: What Does Bill Gross Know?
- Also, check out Smart Profits #343, Warren Buffett’s Investing Strategy: The Master of the “Buy and Hold”, in which Karim Rahemtulla talks about Warren Buffett’s investment strategy and what investors can learn from his intentions towards USG Corp.
Related Articles:
- A Bond Play: Now, Something Completely Different
- Trading With Confidence: How You Can Develop More Confidence In Your Trades
- Reducing Option Risk: Don’t Take Insane Risks When You Have Options
The Chart of the Week
As mutual fund cash levels fall toward all time lows, the Dow Jones Industrial Average advances toward its all time high! However, it’s doing so with slightly declining momentum. Remember, we came very close to making all-time highs in May, only to have the market fall sharply away. A very likely scenario from here is a “prairie dog” top where the Dow pops its head up just above the May highs and then pulls back due to lack of momentum.
Sphere: Related ContentCommodities Trading
September 22, 2006
The Smart Profits Report: Issue #356
Friday, September 22, 2006
Commodities Trading: Looking For Profits Amid the Commodities Collapse
By Karim Rahemtulla
Chairman, Mt. Vernon Research
Have you seen the commodities trading sector recently? It makes for some pretty ugly viewing.
In a sudden, rapid, and broad turnaround, several major commodities and other resources are now falling hard.
Most notably, crude oil has backed off its recent record high of $78.40 in July. And with the International Energy Agency lowering its global oil demand projection both this year and next, due to sluggish European economic growth and slowing conditions in parts of Asia, prices are headed down.
Commodities Trading Streak Falling Short
Despite ongoing military battles in Iraq, delicate talks continuing over Iran’s nuclear program, and attacks on Nigeria’s supplies, crude prices have slipped all the way back to the $61 level.
The gold, natural gas and uranium markets have all also dropped recently, with gold prices trading under $600 for the first time since June and natural gas at a two-and-a-half-year low. Steel prices are also falling.
As you can see from the Reuters CRB Commodities Index below, the huge plunge since August is an interesting development that’s well worth your attention. And you need to be prepared…
Looking For a “Bear Washout” In Gold and Natural Gas
As an example of how you could have cashed in on oil’s decline, my LEAPS Trader members last week pocketed quick 26.7% gains on Energy Select Sector SPDR (AMEX: XLE) put options in just one month, as the ETF tracked oil prices and fell heavily. With a current price of $51.55, the downside potential could be as low as $45.
With regard to gold and natural gas, recent broad declines could well be setting the stage for a “bear washout” of all the speculative money from both commodities in the near future. This should signal a short-term low for both, and could propel them higher again.
But don’t think that the story for gold is dependent entirely on the U.S. dollar - there is much more to it. Among the many factors that could see the metal dart higher again: Political uncertainty… economic uncertainty… another hike in interest rates… the upcoming demand from the Indian wedding season… more merger and acquisition activity… and of course the continued secular decline in the U.S. dollar as a fiat currency.
How a Double-Digit Dive Offers Clues to the Blowout
So how will we know when the speculative blowout is in full-force? Well, while there are no guarantees, a good indication will be a 10% plunge in the price of gold in one day. And if that might seem unlikely, it’s certainly happened before.
And, natural gas… well, that can move 20% in a day at any time for a weather-related reason. Just today, October natural gas futures hit $4.67 - the lowest level since February 2004, thanks to a warmer-than-usual winter last year, plus the lack of disruption from hurricanes this season. And that’s why companies like Chesapeake Energy (NYSE: CHK), for example, are in an excellent position. The firm currently sells its forward production for more than $9 per thousand cubic feet (mcf) - 93% higher than the current market price.
Great Trading,
Karim Rahemtulla
P.S. With commodities tanking, some pundits think this represents a good buying opportunity. However, one commodity is becoming the investment of choice among elite entrepreneurs like Bill Gates and Sir Richard Branson. So far, it’s drawn $14.3 billion in new money. And studies show that large production increases will provide an additional 300 million gallons of fuel per year, with production estimated to jump 90%. To find out more about the ethanol industry, check out our special free report.
|
Today’s Smart Profits Cribsheet
- Just last week, Smart Profits Report editor and technical analyst Jim Stanton wrote extensively on the prospects for the natural gas market. Find out why low prices today doesn’t necessarily mean you’ll be getting lower energy bills this winter in Smart Profits #354: Natural Gas Usage: What’s In Store For Natural Gas Prices This Year?
- Fellow contributor D.R. Barton also covered the crude oil market in more detail recently, and offered his technical take on why now could be a great time to go long on oil if you’re bullish. Find out the “how?” and “why?” in Smart Profits #351: Crude Oil Trading: A Red Flag for Oil Bears as Technicals Point to a Rebound.
Related Articles:
- Ethanol Investing: Part 1 of The Smart Profits Report Ethanol Forum
- Investing In The Water Market: Turn Water Investments Into Profits From This Looming Global Crisis
- Commodities: How to Create Your Own “Mini Hedge Fund”
Risk Management and Position Sizing
September 20, 2006
The Smart Profits Report: Issue #355
Wednesday, September 20, 2006
Risk Management and Position Sizing: Three Ways To Give Your Trades A Tune-Up
By D.R. Barton, Jr.
Advisory Panelist, Mt. Vernon Research
What could you buy if you had an extra $4.5 billion?
I did a little research, and have a few suggestions:
- You could but a brand new Porsche Boxter for every man, woman and child in New York’s capital city of Albany - and have $200,000,000 in change.
- You could fund the total economy of Martinique, Somalia or Barbados (by matching their GDP) and let everyone take the year off.
- You could buy the following companies for cash: Guess?, Inc., and Scotts Miracle Grow.
$4.5 Billion is a lot of cash. Almost unfathomable. But the Amaranth hedge fund lost that amount in just one week. The trader that lost all that dough was up $2 billion for the year, so I guess he got lost in all those zeroes. But he apparently absorbed that huge loss by ignoring the simple rules of proper risk management and position sizing.
Fortunately, you don’t have make the same mistake to learn about poor position sizing Let’s look at how the loss unfolded and, more importantly, how you can employ prudent risk control in your trading….
You Don’t Have To Be A Gunslinger To Be A Great Trader
Congressman Everett Dirksen is often credited with the phrase: “A billion here, a billion there, and pretty soon you’re talking real money.”
It sure seems like the trader at Amaranth prescribed to that theory.
He was known as a gunslinger, often taking huge positions, especially in futures contracts that had long-term delivery dates. Some also saw him as an innovator, adding liquidity to markets where none existed before.
But in this case, “innovation” was just a euphemism for poor position sizing.
According to the Wall Street Journal and other sources, Amaranth is not revealing the details of the series of trades that went badly awry. The best guess is that nobody wanted to take the contracts off of Amaranth’s hands in such large volumes and so far out.
And when the trouble came calling, the firm suffered the double-whammy of poor position sizing and lack of liquidity at the same time.
So what can you do to manage risk and protect your portfolio from a taking a similar hit? Here are three simple suggestions:
Risk Management 101: Know Your Risk On Every Trade
This might sound simple, but many people enter a trade without knowing the precise point where they’ll get out if the trade moves against them. This is typically called a stop loss.
If your strategy doesn’t include a protective stop loss, then drop everything right now and add this critical rule to your list.
Optimal Position Sizing: Risk A Small Amount On Any One Position
As a guideline, you should risk a maximum of 1-2% of your equity on any one position or idea. And there are several good reasons for risking this small amount on every trade or investment.
The first reason is that you can sustain many losses in a row without blowing out your trading account. The second is that if unexpected events occur that cause large fluctuations well beyond your intended exit point in your investment, you may lose two, three or four times your intended amount. But if that initial risk amount was only 1%, then it’s not catastrophic.
Seasoned investors and traders may go as high as 2% risk, but only then for proven strategies. In the classic book “Market Wizards,” many legendary investors state that risking more than 2% on a trade is just gunslinging.
Lacking Liquidity: Understand The Risks In Your Positions
Not many of us will trade natural gas contracts far into the future like the Amaranth trader, but there are other instruments that suffer from similar “lack of liquidity” problems.
If you trade penny stocks or options that are out of the mainstream, make sure you adjust your position size to account for increased “slippage” (the difference between where you want to execute your trade and where it actually happens).
Don’t wait for a costly lesson to come along and shock your system. Practice good position sizing techniques today for sustainable profits.
Good Trading,
D.R. Barton, Jr.
|
Today’s Smart Profits Cribsheet I’m not the only one who believes in the importance of position sizing. Mt. Vernon Research Chairman Karim Rahemtulla thinks this is actually “the most powerful investment concept.” Find out more in Smart Profits Report #193, Position Sizing: The Most Powerful Investment Concept. Related Articles:
- Position Sizing Safeguards: Prevent Corporate Lies From “Cooking” Your Portfolio
- Trailing Stops: How to Give Your Options Room to Grow
- Exit Strategies: Prenuptial Agreements for Options
The Chart of the Week
Yahoo! (NASDAQ:YHOO) took a major hit today (down $3.25, or 11.2%, to $25.75) after it warned of lower ad revenue growth. However, it could not break below its July lows of $24.91. Look for that level to hold and YHOO to rebound from here. If that level doesn’t hold, then look out below…
Sphere: Related ContentNatural Gas Usage
September 15, 2006
The Smart Profits Report: Issue #354
Friday, September 15, 2006
Natural Gas Usage: What’s In Store For Natural Gas Prices This Year?
By Jim Stanton
Advisory Panelist, Mt. Vernon Research
Ever since I was a kid, I’ve lived in the northeast United States. And looking at the miserable wet weather in Washington, D.C. today reminds me that colder temperatures are just around the corner.
Colder weather also reminds me that I’ll be firing up my gas furnace again soon - an event that always causes some concern for natural gas usage in today’s climate of rising energy and heating prices.
Of course, one look at what has unfolded in the natural gas trading pit since the beginning of the year has some pundits proclaiming, “The End of Sticker Shock for Natural Gas Prices.”
But don’t be fooled. A closer look at the charts tells a different story…
Why a 50% Plunge To 2-Year Low Could Be a False Dawn
Currently, the most actively traded natural gas contract is the October futures. As you can see from the daily chart below, this contract traded over $11.30 back in December 2005, but has plummeted by almost 50% since then. Prices today fell to $4.89 - the lowest since September 16, 2004.
Chart Courtesy of Trade Navigator Software
Okay, now for the good news: By making a new low, if the weather stays mild for the next couple of weeks, prices should drop down to my next support level at $4.85.
Now for the downside: While at first glance, this might suggest that we’ll see much lower gas bills this winter, if we dig a little deeper, the October Natural Gas chart could be misleading for three reasons.
Three Factors That Could Lead to Higher Natural Gas Prices
- Seasonal Low Followed by Higher Prices: Take a look at the two sets of red stars on the chart. They represent the price of natural gas in September 2004 and September 2005. As you can see, prices moved higher around this time of year as we head into the winter months. Looking at a longer-term chart, natural gas historically tends to put in a seasonal low around this time of year.
- Current Natural Gas Demand Is Low… For Now: One of the reasons why natural gas prices have sunk to current levels is because demand and usage at this time of year is low. But if you take a look at the natural gas contracts during the coldest months of the year (December-February), it paints a different picture. The current average price of those three monthly contracts is around $10 - a price that will fluctuate, depending on the longer-term weather forecast. Simply put, if we’re in store for a colder-than-expected winter, demand increases, and prices could take off again.
- Bullish Consolidation Pattern On AMEX Natural Gas Stock Index: The chart below shows the weekly performance of the AMEX Natural Gas Stock Index (AMEX: ^XNG). This index has soared steadily over the past few years, but has remained stuck in a consolidation pattern (trading range) since October 2005, and has held up well compared to the October Natural Gas contract. But just six weeks ago, ^XNG made new highs, which tells me that the pattern is probably a bullish consolidation pattern. That means we could be set for higher prices over the longer-term.
Chart Courtesy of Trade Navigator Software
If You’re Looking For Natural Gas Stocks, Watch These Levels First
Despite the change in seasons benefiting an outdoorsman like myself, and new seasonal lows for the October contract, I’m not counting on my gas bills being much cheaper in the colder months that lie ahead.
That’s why September is a pivotal month. Last week, the ^XNG put in a negative “outside” week (higher highs, lower lows, and a lower close than the previous week). This usually means further selling is in the cards, at least over the near-term.
The uptrend line on the chart comes in around 390. But the most bearish, near-term scenario could take the index down to test the June lows in the 370 area. The 200-day moving average comes in around 412.
With natural gas having hit its historical seasonal low, and some continued short-term weakness still probable, keep an eye on these levels in the weeks ahead if you’re looking to add some pure play natural gas stocks to your portfolio.
Good Trading,
Jim Stanton
|
Today’s Smart Profits Cribsheet
- Back on July 27, Mt. Vernon Research Chairman Karim Rahemtulla offered Smart Profits Report readers two ways to profit from the natural gas market. Find out what they are, and read the rest of his natural gas analysis in Smart Profits #336: Natural Gas Prices: The Natural Gas Market is Set to LEAP in the Months Ahead.
- Don’t forget to peruse our Smart Profits Glossary, chock full of over 175 option and stock terms for the savvy investors, like “bearish” and “trend” found in today’s article.
Related Articles:
- Commodities: How to Create Your Own “Mini Hedge Fund”
- Continuation Patterns: Cashing In On Technical Analysis
- Technical Indicators: How to Overcome the “Evil Twins of Trading”
Volatility Trading
September 13, 2006
The Smart Profits Report: Issue #353
Wednesday, September 13, 2006
Volatility Trading: Combat & Survive the Market’s Volatility Swings
By D.R. Barton, Jr.
Advisory Panelist, Mt. Vernon Research
Lately, the equities markets have offered something for everyone. Everyone, that is, except trend followers.
Since the S&P 500 set a high of 1,326.70 on May 8 and then quickly dropped to a low of 1,219.29 on June 14, it’s traded in the range defined by those two intermediate-term extremes. In an otherwise relatively sideways market, that represents a pretty wild swing in volatility trading.
How a Sideways Market Produces a Volatility Swing
Back in June, I wrote about how the volatility had exploded - a 50% jump in a very short time, to levels not seen since the spring of 2003.
But today, the opposite has happened. Volatility has disappeared and we are at the lowest levels since late 2004. Here it is in chart form on the S&P 500 Index:
As you can see, day traders feasted on the high volatility for most of the summer. Now, they’re pining for the big moves of a month or two ago. (Whatever happened to the good ol’ days when day traders basically took the summer off and volatility took a holiday?)
Swing traders have experienced the worse of both worlds: High volatility stopped them out of trades on both the long and short side, and now the lack of volatility is keeping many swing-based systems on the sidelines.
So while the market has gone nowhere, when you go from multiyear volatility highs to multiyear volatility lows, it’s natural that the swings have driven most traders and their systems crazy.
Fortunately, however, there are some common-sense ways you can avoid getting caught in the same trap and navigate this volatility minefield…
How to Survive Volatility Trading Swings
No matter what kind of investment strategy you have, there are a few key approaches you can take to protect yourself from a big shift in volatility.
First of all, keep an eye on market volatility indicators every day. I like to use the Average True Range (ATR) indicator as a proxy for volatility trading. It’s the best tool I know for keeping track of volatility in the markets, or individual instruments.
Here are three more solutions:
- If You’re A Long-Term Trader: Be aware that volatility contractions typically lead to subsequent breakouts. Many top traders use various forms of volatility contraction signals as entry points for trades.
- If You’re A Swing Trader: Many swing trading systems are well-served by including a volatility screen to make sure that the markets are not too overheated or contracted before you trade.
- If You’re A Day Trader: Make sure you understand the current volatility environment, and don’t try to demand more from the market than it’s willing to give you. If the average range of the market you’re trading in is only eight points, don’t stay in trades waiting for 20-point moves!
Volatility swings can cause problems in the best of systems used within volatility trading. But with a little preparation and diligent observation, you can turn this monster into an ally.
Good Trading,
D.R. Barton, Jr.
|
Today’s Smart Profits Cribsheet
- Learn how to be prepared for whatever the market throws at you by consulting the “VIX” on a regular basis. Mt. Vernon Research Chairman Karim Rahemtulla explains how this excellent volatility indicator works in Smart Profits #132, The VIX Index: Instant Access to the World’s ‘Best Contrarian Indicator.’
- Hefty market fluctuations can happen at any time - but it doesn’t mean you have to sit and watch as your portfolio turns red. Read Smart Profits #333, Options Strategies: The Perfect Options Strategies For A Seesaw Market.
Related Articles:
- Market Volatility: How to Pay $27 for a $50 Stock
- Position Sizing: The Most Powerful Investment Concept
- Exit Strategies: Prenuptial Agreements for Options
The Chart of the Week - Pat-On-The-Back Edition
How Derivatives Work
September 7, 2006
The Smart Profits Report: Issue #352
Thursday, September 7, 2006
How Derivatives Work: Use the Options Boom to Beef Up Your Leverage
By Karim Rahemtulla
Chairman, Mt. Vernon Research
This is the time of year when stock market volume picks up and the financial world becomes more active. Don’t get left trailing in the market’s wake, wondering how you’re going to grab your next piece of the pie. Simply plug yourself into the fastest-growing segment of the investment market: derivatives.
Simply put, a derivative is an investment vehicle that derives its value from an underlying asset. Derivatives are available for many products in the investment world - all you need is an underlying market and you can construct derivatives from it. Specifically, they include commodities and interest rates. But the most commonly-used derivatives for regular investors are options.
Many investors end up confused because they don’t know how derivatives work, and find the terminology tricky-sounding. Don’t join them. These investments are powerful and profitable…
Two Men… One Model… and the Best Way of Pricing Options
Derivatives are actually easy to understand and use, thanks to two men: Fischer Black and Myron Scholes.
Together, these two developed the Black-Scholes Model back in 1973 - a mathematical model that allows investors to determine derivatives prices.
With regard to options, the Black-Scholes Model allows you to determine how much an option is worth by plugging numbers into a formula that asks for specific inputs common to all derivatives. Among these factors are:
- The price of the underlying asset - i.e. the stock price
- The amount of time until expiration
- The strike price of the option
- The volatility of the underlying asset (how much it moves up or down in a given period)
- The risk-free rate of return. This is usually the interest rate paid by the government or a bank on guaranteed investments like Treasury notes.
Once these factors are entered into the model, it spits out a price that gives you the fair value of the derivative. Black and Scholes won the Noble Prize for developing this model, and it’s still widely used today as the guide by which options are priced.
Beef Up Your Leverage Through Derivatives
Since derivatives allow you to control the underlying asset - either with the right to buy or sell it - you’re implying that you can fulfill the transaction in the event that you have to buy or sell the asset. That means that with trillions of dollars worth of assets changing hands in today’s marketplace, traders can get into trouble if they don’t know what they’re doing.
In most cases, however, investors use derivatives as a trading vehicle to capture the profits from the movement of the underlying investment. Because of this, derivatives are often referred to as leveraged investment. And, whenever leverage is employed, the results can be magnified - both up and down.
If an investor decides not close the trade and instead keeps the derivative until expiration, there can be two outcomes:
- If the underlying investment doesn’t meet the parameters set for the derivative, then the option is worthless at expiration. For example: If you buy an option allowing you to purchase underlying shares at $25, but the shares close at $24. In this case, you’d let the option expire - you wouldn’t exercise your right to buy a stock at $25 if you could buy it on the open market for $24.
- Alternatively, you may actually be obligated to buy or sell the underlying security based on the position you’ve taken. For example: If you sold an option that obligated you to buy shares at $25, but by expiration, shares are trading at $23, then you are obligated to buy the shares at $25 and deliver them to whomever bought the option from you.
The Investor’s Utopia: More Control for Less Money
There are numerous derivatives strategies, but the common thread is that they all allow you to either buy or sell an investment without actually taking possession of it, with the ultimate goal of allowing you to profit from a move in the underlying asset in a specified amount of time.
And because derivatives trade for a fraction of the price of the underlying asset, you have the opportunity to spend less money to control more of the asset - a powerful benefit.
Good Trading,
Karim Rahemtulla
|
Today’s Smart Profits Cribsheet Get acquainted with Fischer Black and Myron Scholes. These two men are credited with developing the Black-Scholes Model for evaluating the fair value of derivatives such as options. Find out more about them - and how to calculate your options prices, independent of the market makers - in Smart Profits #149: Black-Scholes Model: Finding Fair Value And 30% Returns in Two Days.
Get precise definitions of all of today’s key terms - including “derivative,” “Black-Scholes Model” and “volatility” in the Smart Profits Glossary.
Related Articles:
- Derivatives: Take the Big Guys’ Money With Their Own Weapons
- Option Investing: The Hottest Ticket On Wall Street
- Understanding Options Risk: How to Beat the “Volatility Premium” on Options
Crude Oil Trading
September 7, 2006
The Smart Profits Report: Issue #351
Thursday, September 7, 2006
Crude Oil Trading: A Red Flag for Oil Bears as Technicals Point to a Rebound
By D.R. Barton, Jr.
Advisory Panelist, Mt. Vernon Research
It’s the best indicator around…
When everyone expects the market to do one thing and it does the opposite, that’s a powerful signal. And this signal may be even more useful when it is subtly disguised.
This powerful indicator is showing that oil and crude oil trading will most likely turn back to the upside.
Let’s take a look at why this may be the best time for a short or intermediate buy in oil since the beginning of the summer…
3 to 15 Billion More Barrels Awakens the Bears
A front-page article in the Wall Street Journal today said that Chevron and a host of support companies are poised to announce that they have a way to extract oil from previously unreachable parts of the Gulf of Mexico. This new technology could unlock 3 to 15 BILLION barrels of crude oil. That’s a huge amount - big enough to be bearish for the crude oil market.
Indeed, the market did react in a negative fashion, opening down strongly. At that point, everything was going as expected: potential supply increase = prices going down.
Oil rallied for most of the day and actually finished with a small gain. All the major business networks were covering this big news - but the market didn’t buy it.
This alone would usually not be enough to push me to make a market call. But when it lines up with some of my favorite technical indicators, I have to take notice. So let’s look at some typical bands and near-term technical support levels…
Technicals Signal a Buying Opportunity in Crude Oil Trading
Take a look at the crude oil chart below. Notice that prices just tested the key support level established by the lows from May and again in June of this year. Crude prices have also been flirting with the lower Bollinger Band during the recent drop - just like it did at the May and June lows, as well as the yearly low back in February.
But while that’s all very interesting from a technical analysis perspective, what can you do with this information?
Well, simply put… if you’re bullish on crude oil or stocks driven by crude oil prices, and you’ve been waiting patiently on the sidelines for a place to get into the market on the long side, now is a good time to buy.
As always, any crucial geopolitical news could drastically affect oil prices. So if Iran denounces its nuclear program, or Hezbollah unilaterally lays down its weapons, then all bets are off.
But in the absence of any drastic news, the technicals have aligned to show that crude oil trading is poised for a short- to- intermediate-term rebound.
Great Trading,
D.R. Barton, Jr.
|
Today’s Smart Profits Cribsheet
- While many financial pundits and giddy investors sometimes believe that just one piece of upbeat news will be enough to send the markets soaring, history has proven that this isn’t always the case. The oil market demonstrated that again today, grabbing the Chevron news and sending the index down. Find out why it’s often best to “sell at the sound of trumpets” in Smart Profits #335, The Stock Market’s Reaction to Good News: Why It’s Best to Sell at the Sound of the Trumpets. 072506
- Make sure you check out the Smart Profits Oil Forum that we held here back in May. You’ll discover some of the key factors contributing to the movements in today’s market and pick up tips on where this volatile sector could be headed next. Get all the details in Smart Profits #310, The Price of Oil: “There Is No Oil Shortage”.
Related Articles:
- The Best Commodities Website on the Internet
- The Future of Crude Oil Prices: How a New Saudi Development is Bearish for Oil Prices
- Technical Indicators: How to Overcome the “Evil Twins of Trading”
The Chart of the Week
Buying strong stocks on pullbacks is a great way to build a portfolio, and if you take a look at the Suncor (NYSE: SU) chart below, you can see that the stock has pulled back to and tested its lower Bollinger Band. From a technical perspective, this means it could be poised for a rebound.
Sphere: Related ContentForecasting The Market’s Behavior
September 1, 2006
The Smart Profits Report: Issue #350
Friday, September 1, 2006
Forecasting The Market’s Behavior: The “One-Stop” Website For Identifying Sector Trends
By Jim Stanton
Advisory Panelist, Mt. Vernon Research
While there are no absolutes when it comes to forecasting the markets’ behavior, one thing is clear: The downward trend during the mid-term election cycle has proven to be accurate for decades. Here’s the deal…
History Repeating: A Trend of Mid-Term Election Year Lows
The performance of the Dow Industrials this year is treading a familiar mid-term election year path. The year begins strongly, with the index rallying until May. Then it slumps until mid-summer. After picking up again briefly, it then falls back down again at some point during the September-November mid-term election cycle, before embarking on a year-end rally.
A couple of striking statistics for you:
Ned Davis Research states that since 1950, the market has lost 3.5% from April 30 to September 30 during mid-term election years, versus a gain of 0.9% over that period in all years, and a gain of 5.6% in the other half of the year - September 30 to April 30.
Since 1990, the market has established a significant low at some point during the four three-month periods leading into the mid-term elections, before the traditional year-end rally begins. The earliest date on which this low occurred was during the week of September 4, 1998. The latest time of year the low happened was during the week of November 25, 1994.
And if history repeats itself this year, knowing which sectors could be affected the most can enhance your gains when playing the short side of the market. Let’s find out how you do that.
Ten Charts… One Website: The “One-Stop Shop” For Identifying Sector Trends
Personally, I find it invaluable to take some time each weekend to look at about two dozen sector charts. This is crucial in helping me see the “big picture” and identify subtle changes taking place in different areas of the market, and analyze which sectors are driving the current trends and which sectors are underperforming. And one of my favorite sites for sector research is Stockcharts.com
It’s an extremely useful website for technical traders, as it allows you to set up groups of 10 charts on one page. It’s a very handy “one-stop” look at all the sectors, and it immediately focuses my attention on the more interesting ones. Check it out at: www.stockcharts.com/charts/indices.
My technical analysis focuses mainly on a concept called pattern recognition, so the first thing I do is to check out the chart patterns on the daily sector charts. I use my proprietary trading model to scan for these patterns, and use it in tandem with a sector’s recent performance.
So let’s see what the patterns tell us about the mid-term election selloff…
Picking Out Two Patterns to Find Mid-Term Election Year Profits
The major indexes bottomed out in June and July, so if we’re going to get another mid-term election selloff, the key is to look for sectors or indexes that have underperformed the rest of the market over the last couple of months. There are two ways to play it…
- Stock Indexes: The Dow Transportation Index and the various small-cap indexes have not fared as well as the larger-cap indexes, so if you are looking for individual stocks to short or buy put options on, I would look in those areas.
- Sector Indexes: One chart that has caught my eye is the AMEX Securities and Broker Dealer Index (^XBD). As you can see from the chart below, ^XBD has underperformed most of the large-cap indexes, as well as many of the other individual sector charts since June.
Chart Courtesy of Trade Navigator Software
As you can see, the chart pattern since June has an upward bias, but now appears to be in a bearish flag or pennant formation. In contrast to most of the large-cap indexes, which have made new recovery highs, ^XBD has been edging lower since mid-August.
Although there is a high probability that we will see another selloff in the September-November timeframe, a close below the trendline at 203.50 is necessary in order to negate the current uptrend. A break below the June low should take ^XBD down to at least the 179.30 area. So pay close attention, as that could present a put-buying opportunity.
Great trading,
Jim Stanton
P.S. Ethanol, which is becoming the investment of choice among elite entrepreneurs like Bill Gates and Sir Richard Branson, has drawn $14.3 billion in new money. Studies show that large production increases will provide an additional 300 million gallons of ethanol fuel per year, with production estimated to jump 90%. To find out more about the ethanol industry, check out our special free report.
|
Today’s Smart Profits Cribsheet
- Not sure which way a stock is going to break next? Simply remember the old investment adage that “the trend is your friend,” and then read Smart Profits #317: Continuation Patterns: Cashing In On Technical Analysis for some key tips.
Related Articles:
- Breakout Trading: The “Stanton Gap Rule” For Next-Day Profits
- Trading Index Options: Two Ways To Profit
- Technical Analysis: Two Simple Tools for Spotting a Technical Trend
Hear It From Our Premium Members...
~Dexter L., Jonesboro, GA
-
Recent Articles
The Pros Are Preparing For A Drawn-Out Bear Market
You Don’t Have To Go To Tunisia To Find Solid Stocks… They’re Right Here In The U.S.
Amid The Gloom, These Commodities Could Offer Some Great Buying Opportunities
The Best Investment Strategy For A Market Like This… The Truth About Covered Call Investing
Recent Smart Profits Blog Posts
What Others Have To Say...
Just wish that I would have put more $$$ on it oh well.
Thanks"
~Paul K.
