Managing Risk

The markets are now very highly correlated which is a condition we seek to avoid in choosing positions for our portfolio from a risk management perspective. In the past that would mean not buying GLD and a Goldminer or multiple stocks in the same sector unless they are treated as one position. However since the Fed has kept short term interest rates at record lows for an extended period of time, money is now taken at the very low rate of interest and invested in risk assets that have generated higher yields and why not? The CRB (commodities) Index has gone virtually straight up. The Fed's Permanent Open Market Operations (POMO) seemingly have a quid-pro-quo with the Primary Dealers that buy treasuries at auction and flip them to the Fed sometimes only two weeks later at a significant premium that puts billions of dollars at their disposal with virtually no risk. When this happens and the submitted:accepted ratio is favorable, the Primary Dealers drive the market higher which has been going on for a long time. Make no mistake, it is Federal Reserve initiated and sponsored market manipulation.

There's really very little perceived risk, thus all asset classes have moved up making the market of investible instruments highly correlated. While this can not and will not persist forever, it creates a danger that any down turn in any of the risk assets will affect nearly all risk assets similarly, especially as traders and hedge funds hit multi-year high levels of margin debt-again showing very little respect for risk which in the recent past has led to some of the legendary Wall Street firms going belly up. This also creates a very unstable condition in the market, especially when the market drops. The fact that the consistent melt-up in the market has created a scenario where there are very few shorts sellers in the market to provide a bid (when they cover to take profits in a falling market) when the market falls has created even more danger. As you can see in my recent videos on market risk, High Frequency Trading Firms of all types have undercut the role of the traditional market maker or specialist and have left the market in a situation where there is very little liquidity, especially in stocks. So imagine a black swan event when the market falls and you want to close out losing positions, it will be harder and take longer to find a bidder to relieve you of the losing position. Just today it was announced that the SEC is underfunded and can not (nor have they shown a willingness in the past) to rectify the structural problems inherent and increasing in the markets.

Thus being long risk assets, almost any kind, creates the same effect, they all rise and fall together which is exactly what we don't want in diversifying a portfolio. The fact that we may be at a market turn makes this problem of utmost concern now.

I'm not sure what you can invest in that is not highly correlated already, so my personal attempt to limit risk includes the following:

Reduce leverage, this can be done by getting off margin and taking on fewer shares of long positions. I would also raise my cash levels, each trader/investor will have to decide what is appropriate for themselves. I would have short positions in stocks that are trending lower that make sense as an investment anyway, but not too big of a position, not a majority portfolio position until the market confirms the downside reversal through price action. I would also have a heavier bias in real short positions rather then inverse ETFs, although I would hold inverse ETFs. The fact is you have advantages in a real short position that inverse ETFs (which is the equivalent of being long) do not have. Please see my article at Trade-Guild.net titled, “Making more then 100% in a short” and you will understand the mechanism. Any inverse ETFs should be probing positions until they breakout and start trending higher. ETFs are meant to approximate one day's gains not a month's. So when they are trading laterally, the leverage inherent in them creates compounding that is magnified by the leverage and in many cases that compounding can be dangerous. Thus I'd keep these positions as “toes in the water” and only add to them when they trend and consider using them as swing positions, meaning try to get out of them when they pullback.

This is a risk management problem that I have not had to face before and I don't think there are any great ways to deal with it, but it is still imperative that losing positions do not cause you to lose more then 1-2% maximum of portfolio and that's aggressive. My article on risk management here at WOWS will help you understand how to properly position size a trade so that you will not (except for gaps we can not account for) take losses larger then 1-2 % of portfolio value at maximum. Personally, I'd go even more moderate as the article will also explain. 

If you have questions or ideas, please email me as this is the most important aspect of trading and ultimately will determine your success in the markets through consistent risk management. It only takes one trade to lose 50% and you have to make 100% just to get back to breakeven, thus it is infinitely easier to keep your money then it is to make it back.

USO

While we can't say the pullback is over, we can say that the targets for USO's pullback have been spot on and it looks like a close above resistance,,

The close above resistance at the upper trendline may kick start some technical buying Monday.

Final SLV Update

 5 min chart of today-does this look like short covering to you? No, I don't think so either. A wedge?

And the 5 min 3C....

I think this battle between JPM and the silver bugs isn't over just yet.

DIA market update

 It's not often we get a 1 day correction, but sometimes when momentum is very strong and a trend has initially reversed, we will see such corrections. Dealing with the entry is a swing entry set up as I described earlier, you look for the candle that has made both the highest high and highest low and that is your signal candle, that would also, at this point be today's candle. The entry would be on a price move below the white line with a stop just above the red line. Note that the market did exactly what we expected with the bearish ascending wedge and broke out to the upside. Technical analysis books for a century have taught traders that the ascending wedge should break down without any upside movement like we saw. They also taught if there was an upside breakout it was a failed pattern and you go long the pattern. Wall Street knows that this is how technicians think as they have failed to adapt, Wall Street has adapted and by causing that upside false breakout they trapped longs in a bull trap, when prices fell, margin calls rolled in and the longs now at a loss closed their positions which creates more supply and pushes prices down lower. I'd say this now happens 85% of the time and technicians still fail to adapt. So we expected to see as much and did. However, the larger wedge pattern is still relevant.

 DIA 1 min chart has not confirmed price at all today which leads me to believe that it is being distributed to retail while institutions may be going short on the other side of the trade.

 Now we have a significant 5 min negative divergence. This doesn't mean the bounce is over, but it does mean it is highly likely that distribution has begun in full swing by institutional money.

And now we even see it on the 10 min chart which is significant. Be careful on any long market average ETF positions as they seems to be in a distribution mode. I'd guess the chances of seeing a resumption of the downtrend are at least 50/50 which says a lot in this market. Furthermore should that downside resume, we will likely break the S&P and other support trendlines which will cause more technical selling and margin calls/forced margin sell outs.

Be cautious.

EDZ Trade Alert (long)

EDZ has been a long time favorite as the emerging market trade I believe to be overdone-a bunch of sheep all heading to the slaughterhouse. It's a prime example of how bullish descending wedges have been behaving lately after their breakout of the wedge as they create a lateral base (lateral action is often where we see accumulation and distribution).

Here's the charts....

 EDZ's bullish descending wedge and subsequent base building, note MACD's positive profile and good volume in the lateral base.

 3c daily tracked the trend well as it fell, but then went to a huge daily leading positive divergence throughout the base. I like this chart a LOT!

And here's the Trend Channel setting for EDZ that has tracked the downtrend and should do well with the uptrend (note that only a close below the lower trend line is a stop out, not intraday action below it). Around the white box is where I prefer a stop to account for any market volatility.

There are many reasons I like Emerging Markets short. I said way back that they would fight the Fed's main export to their economies, inflation and they have fought back against the hot money flows. Many of what we may consider emerging markets are also going through social upheavals which will also close down long trades in those markets. In my opinion, the trade looks better and better.

Trade Alert A look at FAZ (long)

Of course this is an ETF, actually a 3X levergaed bear ETF on financials, an easy way to short the financial sector. Understand there are dangers to ETFS as they are meant to approximate 1-day's returns, however I have successfully traded them in trending situations. They can become dangerous in lateral situations because of the compounding of the extreme leverage. However, I still like FAZ as a part of a portfolio, I believe it can have it's place in a diversified portfolio.

Here are the charts

 This is early on the X-over screen, but I do think the 3 signals are headed toward a long signal. FAZ has pulled back close to the yellow 10-day moving average which is typical expected behavior.

 The daily shows a nice positive divergence on an important timeframe.

 Here the 10-min shows a recent positive divergence today that is in leading position.

 Same with the 5 min chart

The Trend Channel shows the downtrend broken at the red box. If I were to get my toes wet here, I'd place an initial stop a bit below the trend channel around the white arrow. The more room you can give the trade initially, the better the chance of succeeding and you do not have to encounter more risk if you adjust your position size down. You can always add to it later.

FAZ has definitely changed character recently and is looking interesting at these levels.

A Close Up of the SPY 1 min chart

We shift from confirmation to some distribution in the red arrow negative divergence as 3C refuses to confirm higher highs.

USO Update

USO is showing some surprising strength today.

 USO recovered very well from yesterday's ICE margin hike on Brent and WTI crude oil. In doing so it's created what looks like a Harami candlestick reversal, however I do not think there's enough of a tend there to consider it valid and is kind of like seeing animals in the clouds. Even if it were legitimate, the last preceding trend was down so it would be a bullish reversal. MACD hung in strong even yesterday and continues to today.

 The 1 min chart has gone from "Blah" to good upside confirmation.

 The 5 min chart is also in confirmation now as it moved up quickly in the green box, a sign that something bullish seems to be happening under the surface.

While we expected a dip in oil so institutional money could accumulate, there's a fine positive divergence into the February lows and today, amazingly, the 60 min chart has actually moved up into a leading positive divergence, the strongest divergence possible. I'm floored to see it move up so quickly on such a long and significant chart. Ultimately my feelings continue to be bullish for USO.

XLF Paints a Picture

XLF is an ETF for financials and the S&P has the heaviest exposure to financials at last check. Because we saw a positive divergence and estimated gains today, does not mean that we are forecasting further along then today. Today is Friday and many traders in this global upheaval will reduce risk over an unknown weekend, especially at the pace events are unfolding. So I looked at XLF to get a feel for the internals of the S&P, here's what I saw...

 XLF is up nicely today, over 1.5%. You can see as of yesterday on this 5 min chart we had a very strong positive divergence at 2 p.m., however the 1.5% limit seems to be a zone of resistance as XLF hasn't done much since this a.m. The red arrow shows a 5 min negative divergence so I expect we may lose some of that 1,5% gain later today.

The 1 min chart shows ZERO confirmation today in XLF and is in fact negatively divergent. considering the lateral movement in price, I assume that we are seeing some distribution into the day's gains.

This is but one aspect of the S&P, but it takes many pieces of the puzzle to put together a picture and this is certainly  key piece. I'l keep looking.

As a preview of tonight's risk management article, some of the recommendations I'd consider are de leveraging long positions, having cash on hand, get your toes wet in some high probability, low risk short set ups or at least have that exposure, you don't have to swing for the fences, but you want to be able to offset the high long side correlation. Personally I consider today an excellent day to add some short exposure on the cheap with less risk. Of course some of my favorites ETFs have been EDZ, FXP and SRS is showing a little spirit lately and FAZ. I also prefer to have straight line shorts like MCD, TGT, etc as there are risks and rewards to each, a blend and solid understanding of the risks of ETFs is crucial. Any questions can be emailed to me. There are plenty of ideas on the February list, not the Speculative list, the regular one.

Market Update

OK, in the last update I mentioned a likely scenario or at least a scenario is a new intraday high. Lets look at the charts...

 1 min chart making an intraday new high in the box


 The 1 min 3C has not confirmed any of the price strength, although yesterday the 5 min charts did suggest we'd see a higher market today (see yesterday afternoons market update just before 4 p.m.).


The 5 min chart above is what suggested to me that we would see higher prices today, the question remains "How long?" As a reminder, the market almost always goes further then you anticipate like a pendulum swinging too far one way and then too far the next. Right now the 5 min chart remains in confirmation as you see at the green arrow, the white arrow was the positive divergence suggesting a move higher today. Until we see a negative divergence here, I'll assume that the market will correct a bit higher or start to go lateral with a decent 1% gain. Most of the movement will not be seen until later this afternoon, so I don't expect too much now.

On another note, tonight I'm going to talk a little about modified risk management in an environment in which everything is highly correlated which is not good for risk management and some adjustments should be made. We'll talk about that after market.

TODAY'S BOUNCE MAY BE SHORT LIVED

You have to remember a significant portion of traders will take off risk before the weekend as news events are developing too rapidly. The small upside correction in the averages recently hasn't been met with any significant confirmation, so I'm expecting another leg down at some point today, probably not too far off, we may see a false breakout run for new highs before that happens (intraday).

I'll be out for 45 mins, I have to make a bank run , but I'll be checking my email and I'll have my computer with me.

Yesterday's FXEN long Trade Ideas

link 1


link 2

This was a trade idea from yesterday that also triggered later in the day-this is the importance of setting alerts, if you need help with that email me. So we've had a nice 15% rise thus far, if this one closes strong on volume as it appears to want to do, then look for some follow through buying Monday, but you may not want to hold over a volatile weekend. If you are in the trade, email me later to see where 3C is going.

BKMU 2

I wanted to get the alert out fast, but here are two other 3C charts. It seems the accumulation has been ongoing and the break out accumulation was set up yesterday.

 Hourly positive divergence suggests this could be a decent move.

Here's yesterday's accumulation to set up the breakout today on a 5 min 3C chart.

BKMU trade Alert

This is still a speculative trade so risk management should reflect that. BKMU (long) just triggered one of my alerts. Take a look, so long s you use risk management and keep your risk low (.5-1% of portfolio) I don't see why you couldn't take a shot. These are not trending trades so double digit gains are market gifts that should be taken in part or whole in my opinion.

Breakout of a trading range.

Just a Reminder

Keep your eye on the forrest not just the trees. I've suggested recently that you take the opportunities of good setups at low risk to get your toes wet in some shorts, usually I'd wait for strong confirmation, but the destruction of the market structure could make the first serious break, a very profitable one. Be sure to read the risk management link at the top right of the site. No one psoition that is stopped out should represent any more then 2% risk on your portfolio and that's at the most!

Here's the bigger picture.

 The long term QE trendline has been tested and broken once, we should expect volatility in the area, but a quick move down can not be ruled out as this market has been showing weakness for quite some time, this is not new.

 The daily 3C chart on the S&P-500 has shown the weakness in the market as have all of my breadth posts. This is not a healthy market seeing confirmation, but rather seeing distribution despite the Fed's/NY Fed's operations and manipulation.

MACD (I use a long version) has clearly identified the falling apart of the trend momentum and recent volume has been very serious in the context of this trend.

Trading bounces is fine, but also know when to use those bounces to establish low risk short positions and don't take your eye off the big picture.

Didn't find much

Rasmussen Finds consumer confidence drops to 2011 lows, and JPM starts to revise GDP forecasts, but nothing much more then that as far as I can tell scanning the news quickly.

The 1 min charts have taken on character.

Here's the SPY and DIA-Turn your head for a few minutes!

 DIA 1

SPY 1

Both are looking quite bad here. we'll see if they bleed over to the 5 min. I'm going to look for the catalyst.

AAPL/QQQQ

 We'll need to watch this AAPl 1 min negative divergence as it accounts for 20% of the QQQQ below-notice any similarities?

QQQQ 1 min

Chart Request-NKE Long Swing Trade

The target on the trade is $90, I think it's reasonable.

 This is the daily crossover screen I use, it has 3 long signals, but I removed the top yellow 10-day average signal as the average wasn't needed for the trade and just crowded the chart, but all 3 windows are long. You can see NKE has been pulling back to the blue 22 day moving average, that's a possible stop to look at.

 You can see the trends in the green and red arrows, but what is important is that this trade was entered as a swing trade and done so correctly. In a swing trade pullback (when you are looking for a long entry), you look at the candles that pullback with both the lowest high and lowest low and ignore the rest, that is your signal candle. Once price passes the high which is at the white trendline, that's your swing entry long. A stop goes at the low of that candle initially. On this chart, you can see two swing entries at the white trend lines with their respective stops at the red trendlines.

 Looking at the longer view, my Trend Channel has caught some decent up and down trends, the red and green arrows mark stop outs and the red square marks the current Trend Channel stop, but that is for a trending trade, this is a swing trade analysis. However, should a swing trade trend, take the trend.

Since we are looking at a swing trade, I'm using a faster 3C 5 min chart which shows the accumulation taking place before the move up. It's currently trading in line with price and the first major resistance is at $90 so the target was well chosen. So long as you use risk management, this was a well thought out, and realistic trade. This member has also been on a hot streak and has had both his best and second best tradng days this week in over a year. He's realistic trade here shows some of the maturity he's gained as a trader, not swinging for the fences, but when the opportunities have arose, he's managed the trades very well. Congrats Sam.

SLV / Silver Update

The question remains, has Blythe Masters been vanquished. I just can't imagine a JPM short squeeze the size of what it would be not creating price action that shows it. A short squeeze has virtually no pullbacks and looks like a computer trade buy program. As I wrote last night, the fall in silver and oil was on concerns over margin hikes as ICE hiked margins on Brent and WTI crude, this morning we see a recovery as the margin hikes have not materialized.

Here's the SLV charts...

 First here's yesterdays plunge which I explained above, today's action looks like a relief pop that is just discounting the fact that the hikes in margin didn't materialize, there's no new highs, no hint of a short squeeze.

 The hourly chart isn't telling us much, except that a short squeeze is likely not there as it would be powerful enough to move the 60 minute chart into a positive leading divergence.

The 30 minute chart suggests almost the opposite as if a bear raid (mini) has taken place to stem the upward momentum in silver.

 The 15 minute chart gave us warning of the pullback at the red arrow (negative divergence/distribution), and late yesterday after the margin hike didn't come into play we saw some late accumulation leading to this morning's pop.

 The 5 min chart again gave us warning of the pullback in SLV and has not strongly confirmed or even confirmed this morning's action. Now it is still early for the 1 min chart to bleed to the 5 min, but if there were exceptional accumulation, it could have made it there by now.

The 1 min chart in white shows the positive divergence at the lows late yesterday and the green arrow is simple confirmation, it's not leading, thus we don't see anything exceptional about the 5 min chart.

I'm not saying that this won't end badly for JPM, I'm just saying this has happened 3x before and JPM always beat out the viral silver bug campaign. I don't see evidence to suggest that JPM is covering their short right now. Furthermore, I don't see the silver bugs as having an exceptionally strong position either. We'll have to wait and se how it plays out, but there's a trade in it either way, we just need to be patient and wait for the setup. Let the silver bugs take the risk right now, the edge just isn't there yet.

USO Update

Meanwhile... lets take  look at the charts which have been spot on to the 3C forecast thus far.

 Here's the daily chart with our two initial support zones, remember we did have a deeper pullback as well beyond these zones as a target and we may reach that deeper pullback just before a lift higher as a sort of head fake, mini short squeeze.

 The red arrow told us there was a pullback in USO coming, right now we are in a flag-ish consolidation between our two primary support targets, but they are too obvious so I think we see them broken for at least a day before this is over.

 Here on the 15 min chart you get a better feel for the flag-like action in price and the continued leading negative divergence showing this hasn't seen the kind of accumulation yet that would suggest a turn around and a new leg higher. Remember we can consolidate through price and time (laterally).

The 60 min chart, more important then the others remains in confirmation which is to say bullish for USO to show further upside gains. The consolidation hasn't shown enough distribution to move the 60 min chart which falls in line with our premise of oils's behavior.