Author: Ivanhoff

Reasons to be bullish, Reasons to be cautious

Yesterday I had an opportunity to discuss StockTwits 50 and Momentum with Howard Lindzon. In the end of the conversation, I let myself to be lured in the intellectual sophistication of macro and outlined the galloping commodity futures as a reason for a potential market selloff. Honestly, this was a dumb thesis. The market could decline for many reasons, but macro themes should be the last thing in the decision making process of the momentum investor. Price action and intermediate catalysts are what matter. Short-term price trends are fueled by momentum, medium-term price trends are fed by earnings related catalysts, long-term price trends are sustained by social and business trends.

Where the stock market is going is anyone’s guess. I am not in the forecasting business. Let’s objectively take a look at some reasons to be still bullish and reasons to be extremely cautious:

Reasons to be bullish:

– The breadth is great; There is a large number of stocks from different industries making new 52-week highs;

– Sector Rotation from Technology to Basic Materials, which could keep this market going for awhile;

– Many new stocks are setting up good risk/reward opportunities;

Reasons to be cautious:

– It is still a renters’ market. Even the slightest wrong step is severely punished. (refer to $EQIX and the cloud computing space from last week);

– Junkie, high beta, Chinese burritos are making 30-40% runs in a week;

– The market laws require a massive short squeeze, just before the next leg down.

“Good judgement comes from experience and experience comes from bad judgement” – Barry Le Platner

Liquidity Follows Price

Today one of the suggested traders on StockTwits – @johnsontrading made a very good comment on the price/volume action in $MOTR:

$MOTR – it can pay to not be too strict with volume criteria as often vol shows up when you need it – 61k shares trade yest and 820k today, Oct. 12 at 2:45 PM

Most of us are applying a minimum average daily volume filter in our screens and are missing on some the most furious, short-term moves. When we created StockTwits 50, liquidity was an important criteria and it still is. The reasoning beside that decision is very simple – low liquidity creates higher volatility, it makes accumulation difficult and flawless exits close to impossible. In the same time, we understand the impact that a new catalyst could cause to a stock’s average daily traded volume and this is reflected in the ST50 algorithm.

Let’s go back in time and take a look at the price/volume action in $OPEN. On February 9th, Open Table Inc. reported a quarterly EPS of $0.14 vs consensus estimate of $0.07. The Y/Y revenue growth was 32%.

Before the report, the average daily volume in $OPEN was about 100k

A month after the report, the averege volume increased to 200k

Today, 9 months later, the average daily volume is 400k

Liquidity tends to follow price, when there is a sustainable catalyst behind the move.


From Failed Moves Come Fast Moves – $LFL

There is an Irish proverb that applies very well to capital markets: The obvious rarely happens, the unexpected constantly occurs.

The Chilean Airlines $LFL was listed in the last three editions of StockTwits 50. The company has been growing earnings and sales in an impressive manner. The declining US Dollar has been beneficial to foreign ADRs that derive most of their income in non-US currencies.The rising middle class in South America is spending more and it has access to more credit.

$LFL had a huge run during the summer, followed by ever tightening sideways consolidation above its rising 20-day MA. On Friday afternoon, Lan Airlines reported a 14% increase in the passengers traffic for September on year/year basis. $LFL looked poised on explode to the upside, given its enormous short interest ratio of 8.3 days. The stock broke out to new all time highs during the first hour of trading on Monday, only to reverse later and to close down 0.5% for the day. There are no perfect setups in the market. It tends to go in the direction that will surprise the most market participants.

$LFL reminds me a bit of $NXTM, which chart looked perfect  and poised to break out in August. It did, only to quickly reverse lower, where it found support above its rising 50-day MA.

Such failed breakout followed by a breakdown could be actually bullish if the stock manages to set up again. Why? Because, the decline shakes out the weak hands, who are likely to sell very quickly after a breakout. They tend to be very impatient, have a shorter horizon, cut losses slowly and take profits quickly. Next time when the stock sets up, more and more people will be afraid to get involved, because they have recently been burned by it. Such market participants will only enter again after the stock has made a good portion of its run and they will actually provide the liquidity for the breakout buyers to exit.