AMAT Starting to Weaken in Extended Wave-3

2016 proved to be a strong year for semiconductor giant Applied Materials (NASDAQ: AMAT). The year started with the completion of Wave-2 on both the daily and weekly charts, and it's been a very strong extended Wave-3 right up through today's close. 

AMAT Daily Chart

This wave is a good example of an extended wave, and there's still life remaining in the stock as it nears the completion of sub-wave (v) near its 16-year split-adjusted high.  The rise has been slow and steady, rising in a relatively narrow channel at a comfortable slope throughout the 11-month pattern.

There are few warning signs on the daily chart that anything's about to change.  The RSI(9) oscillator hints at a bearish divergence, which makes sense if we're approaching the Wave-3 summit.  Volume, on the other hand, is still showing a decent amount of demand, and the stock continues to record both higher highs and higher lows.

The candlesticks themselves are undergoing a transformation, however, and that's the first possible clue that we're approaching the peak of Wave-3.  The long red candle on 1 December 2016 is the longest down day in well over a year, and that occurred on confirming volume.  We then have four consecutive down days from 28 December to 3 January, and in total those four red candles equaled the single day drop noted earlier.  Volume's tough to read in that time frame due to the slack holiday period, but the volume on 3 January as traders returned to their desks was notable.  So there's definitely some supply coming into play, here.

We've had three good days this week and volume was comparable to the candle lengths, so there's no sign yet of climactic activity.  It's worth noting, though, that we're starting to struggle to exceed the high of 22 December, and notice the candle on that day - an inverted hammer.  That's rarely a good sign at the top of an uptrend as it indicates potential price rejection.

Let's look at the weekly chart now and see if weakness is either confirmed or refuted.

AMAT Weekly Chart

Now we can see the entire three-wave pattern that's in flight. This impulse pattern dates back to November 2012, and we can see that Wave-1 lasted a full two-years.  (A check of the monthly chart - not shown here - confirms that this is, indeed, the start of the impulse pattern.)  Wave-2 was a deep correction, retracing almost to the 61.8% level, and it lasted about half as long as Wave-1. 

That's an important statistic to note since the alternation rule tells us Wave-4, whenever it occurs, must differ in either form or time (and usually both) from Wave-2.  We can therefore expect Wave-4 to be a shallow retracement - possibly to the 38.2% level - but relatively long.  That's fine with us since a long and shallow retracement will offer numerous swing-trade opportunities.

Anyway, look at the slope of Wave-3 on the weekly chart.  It's not quite as shallow as it looked on the daily, is it?  Certainly not as compared to the slope of Wave-1.  The duration is also much shorter, having already exceeded the distance traveled by Wave-1 but doing it in less than half the time.

The RSI(9) on the weekly chart confirms the bearish divergence, and it's much more pronounced than it is on the daily.  The divergence is evident when comparing the highs as well as the lows, so the evidence is mounting that our stock is weakening. 

Volume on the weekly is showing signs of fading as well. Again, we have to use caution when looking at the volume of the two weeks around the holidays, however even without those two weeks in the mix, the slope is definitely lower. 

Returning to the daily for our wrap-up, price right now is right in the middle of the channel that marks the entire uptrend.  This is not a position from which we would want to enter a trade to the long side since we're a pretty long distance from a viable support line.  Our reward to risk would be very poor in this situation.  Notice, though, that we are very close to a resistance line.  Given the relative weakness being demonstrated, I would be willing to enter short on a rejection of that resistance line.  There's a high probability that we'll pickup a couple of quick points on a retreat back to support, another possibility that we'll retreat all the way to the channel support, and it's also possible that we'll catch the start of Wave-4.  With a stop just above resistance, all of those possibilities become very attractive.  The key, however, is that we can't play it short unless there's a rejection of that resistance line.

The two key dates to remember for AMAT are both in February.  They report earnings after the close on 15 February, and they go ex-dividend (paying $0.10 per share) on 17 February.  We'll want to be out of any trades before those dates.  That shouldn't pose an issue, however, since Waves 4 and 5 should both run for a year or more (each) and offer numerous swing opportunities.  This stock is definitely one for the long-term watch list.

Happy Trading.