Evening Star Signals End of Wave 3 in BOFI

An evening star candle pattern developed over the last three days in BOFI Holdings, Inc. (Nasdaq: BOFI).  The highs of the pattern form a consistent resistance line, and the long wick in yesterday's candle signals short-term trouble ahead on the long side.

BOFI Daily Chart

The stock has been in a flat correction since it's 25 November 2015 4:1 stock split.  As with other financials, signs of life manifested in the post-election exuberance rally starting 9 November 2016, and a short 5-wave impulse appears to be underway.  This wave has taken out the highs of the post-split pattern, however it remains to be seen if this is a longer extended Wave 1 or if it will culminate in a Wave A top.  For the purposes of the swing trader, however, that's largely irrelevant in the short-term.

At least two classic Elliott Wave patterns have completed.  Wave 2 was a well-defined A-B-C flat correction, and from there we're either in the early stages of a Wave 3 or we've just completed Wave 3.  We don't yet know, although other indicators on the chart suggest Wave 3 is over and we're into Wave 4.

Resistance at the high of yesterday's candle appears significant, as does the higher than average volume we recorded on the long red candle that developed.  That pattern increases the significance of the doji star that completed the day before, and is a decidedly strong bearish reversal pattern.

The stock is currently trading at an extreme level above its 10, 20, and 30-day moving averages.  In fact, it's the furthest the stock has ventured from its moving averages on this entire chart. Reversion to the mean implies a retreat is imminent, at least back to the 10-day, although a retreat to the 20-day is more common.

The RSI(9) oscillator is drawing a bearish divergence, not only on the highs, but also on the lows.  While the stock was recording higher lows, the RSI was drawing lower lows.  Now, you'll find some traders that would also place credence in the double top pattern on the RSI.  Personally, I ignore chart patterns like that in the oscillators.  Patterns such as double tops, head and shoulders, trend-line breaks, etc. work on the price charts simply because traders set open and close orders at those levels and they become self-fulfilling prophecies.  That type of stop and limit order potential isn't present with the oscillators to any great degree - at least, not in an automated fashion - so, in my view, the appearance of patterns in oscillators is an interesting trick of the mind, but it's not a trade setup.

The exception to that is the concept of divergence.  The oscillators we use are showing the strength or weakness of trading behavior, so it is certainly significant when an oscillator is not matching the highs and lows being drawn by the stock price.  Divergence doesn't immediately result in a buy or sell order, but it does provide warning signs that a change in trend may be in the offing.

You'll notice that I'm also showing the Slow Stochastic (14,3) oscillator on this chart.  Again, the Slow Stochastic is showing us trend strength or weakness based on the theory that stocks tend to close near their daily highs in an uptrend and near their daily lows in a downtrend.  In this case, we see that the oscillator just crossed its signal line to the bearish side, and did so above the so-called "overbought" line of 80.  The concept of overbought and oversold in these oscillators is an unfortunate misnomer, but since that's the common term for the lines, I use them here.  What's important in this case, is that the crossover signals short-term weakness.  Nothing more.  In fact, you can see that the other two most recent crossovers above 80 were only one or two day moves.  I don't trade on oscillator signals alone, and I don't recommend anyone else do so, either.  They are simply additional data points in our overall analysis arsenal.

Returning to the chart, the key here is the evening star (bearish reversal) and the Elliott Wave count (signalling a potential Wave 4 correction.)  The probability here is a move to the downside.  I've highlighted the target area in green, and that's our short-term play.  Wave 4 should not penetrate the top of Wave 1, so once we hit that area we'll be looking for a bullish reversal and will attempt to play that move as well. Now, Wave 3 is shorter than Wave 1, so we know Wave 5 will be shorter than Wave 3.  (Wave 3 can't be the shortest of 1, 3, and 5.)

Be aware of external events that can impact the market, this week.  The December FOMC meeting is tomorrow, and the market widely expects the Fed to increase interest rates in their 14:00 EST announcement.  That's factored in, and it's part of the reason financial stocks have done so well for the last month.  Pay extremely close attention to both the announcement letter and Fed Chair Janet Yellen's post-announcement press conference, however.  The market, tomorrow, will move based on the forward guidance she sets.  We will be listening for any signal as to the number of rate hikes anticipated in 2017 as well as any statements around anticipated inflation levels and economic growth under the new Administration.  Tomorrow's is a press conference we as traders cannot ignore.  Be prepared for volatility in the closing hours, tomorrow.

Happy Trading.

MSI Showing Weakness On 52-Week High

Motorola Solutions, Inc. (NYSE: MSI) reached a 52-week high in trading on Thursday, 8 December 2016.  The pattern leading to the high coupled with the reversal on Friday, however, signals potential short-term weakness that may well be tradeable.

MSI Daily Chart

The candle drawn on Thursday's high was a doji, and it did so on extremely weak volume.  A doji of this shape - only a two cent difference between open and close, with a long tail and short wick - is, in and of itself, and extremely unreliable signal.  The pattern represents indecision.  It's a day where neither the bulls nor the bears were able to take control.  The long lower shadow tells us that there was an attempt by the bears to take the market lower, however that was beaten back and the stock closed essentially right where it opened.  The extremely low volume also tells us there was very little interest in the stock, either way.  There was neither demand nor supply, indicating that the smart money was sitting in "wait and see" mode.

The next day - Friday - drew a long bearish candle.  We now have a multi-day pattern to analyze.  The short uptrend from last week ended with a strong bullish candle on Wednesday.  Thursday's doji gapped up at the open and left a long shadow.  Friday resulted in a long bearish candle that retraced most of Wednesdays white candle.  That pattern is known as an Evening Star Doji and is one of the stronger short-term bearish reversal patterns we follow.  The key, here, is short-term. 

Let's now turn our attention away from the candle pattern and see what other information we can glean from the chart.

First, let's look at the RSI(9) oscillator.  The peak of this oscillator in the short-term pattern we're studying occurred, not on a high, but on a strong bullish candle the day before a high on 15 November.  The next day traced what was then a 52-week high, but the RSI retreated slightly.  Our most recent 52-week high this past Thursday drew an even lower RSI peak.  What we're seeing is a bearish divergence in the RSI.  The stock has traced higher highs but the RSI has traced lower highs.  It's a signal of impending short-term weakness.

Next, notice the upper green dashed line.  This was drawn from a high on 6 September through the high on 16 November.  Notice that it also formed resistance in the 3-day Evening Star Doji pattern that ended trading this week.  We now have two forms of resistance that are impeding upward progress - this upward diagonal resistance line and the 52-week high horizontal resistance line.

Let's now consider what volume is telling us.  I always include two moving averages on volume: A 200-day simple moving average line that is very smooth, and sets a baseline for long-term volume patterns, and a 50-day exponential moving average that gives us a measure of how volume has behaved in the last quarter.

The stock's rise started on 4 November 2016, and did so on volume significantly above the 200-day moving average.  That was a confirmed bullish move.  Volume, however, has been average at best since then, and only once touched that 200-day average in the current upward move.  The 52-week high and the day following that high were well below even the 50-day average.  Interest in moving this stock has waned.  Volume is currently not confirming any move, which is a major caution sign for continued upward movement.  There must be demand in order to move a stock higher.  Conversely, stocks can decline - and decline rapidly - on either high supply or lack of demand.  What we're seeing at the moment may be an indication that demand has, at least for the moment, dried up.

So where does that leave us?  Well, for the moment, this is not a stock that I would play to the upside.  Not, at least, until we see some signal that demand has re-materialized and the Evening Star Doji is violated.  Notice the short-term Fibonacci Retracement drawn from the 2 December low to the 52-week high.  (The numbers are to the left of the pattern.)  A violation of the 23.8% retracement level would be a short entry I'll consider.  A price target range in such an entry is highlighted in green, ranging from the 76.4% to 100% retracement levels of the pattern.  A protective stop would be just above the high of Friday's candle.

There are several areas between entry and target that could require a quick exit.  As in most patterns, the 50% and 61.8% retracement levels can form support.  Any pause at those levels would require an exit.  There is also that diagonal dashed red support to consider.  That line proved to be major support during the prior short-term pullback, so we need to be aware of it as our trade develops.

Notice, too, that before we get to our price target region, we must also traverse the 10-day and 20-day moving averages.  Now, a reversion to the mean theory would favor a return to at least the 20-day.  Be aware, though, that either of them could provide support, causing a decline to stall at that level.  Again, if the trade weakens, then it's time to exit.

The final major point of concern is at 14:00 EST on Wednesday, 14 December.  The US Federal Open Markets Committee (FOMC) is widely expected to announce an increase of 0.25 points to short-term Fed interest rates.  That increase is already factored into the market, however that announcement will also include forward guidance and a general assessment of the US and world economy.  Predicting how the market as a whole, never mind individual stocks, will react to a FOMC announcement is a task best left to players of Three Card Monte.  Personally, I plan on extreme volatility on the afternoon of the announcement, and I assess the status of any open positions heading into the 14:00 announcement to determine if I'll close them or ride either the wave or the rip tide.  More often than not, I'll close the position.  I can always reopen it if conditions warrant after the announcement.

Bear in mind that the current signal is a short-term trade.  If it manifests, we expect to be out of the trade in one to three days.  The overall stock does not suggest long-term weakness, and neither does the overall market.  Plan your position sizing and your risk management strategy accordingly.

Happy Trading.