Stalking A Trade: Patience Is a Virtue

Almost two weeks ago, we discussed a bull pennant pattern setup drawn by General Electric (NYSE: GE).  A pennant breakout occurred twice in the last two weeks, however neither of them were solid trade setups.  Let's take a look at the chart as of this morning and review why we are still stalking this trade as opposed to holding on to an open position.

GE Daily Chart

The initial post called attention to the bull pennant following the close above that pennant on 22 November 2016.  Notice the caution flag, though.  I pointed out that the breakout occurred on low volume.  When trading any breakout, it's important to confirm that there's true conviction behind the move.  Flag and Pennant breakouts have been popularized in numerous publications, and as a result, market makers will often take advantage of the pattern by targeting the entry stops that they know will exist in large numbers.  What you see in that case are a lot of traders getting trapped by an entry at the right spot at the wrong time, only to have the stock pull back into the original pattern.

The sign to watch is volume.  A breakout on low volume significantly reduces the probability of a successful trade and is a warning sign that you're falling into either a bull or bear trap depending on the breakout direction.  We see that clearly in the week following 22 November.  A couple of lackluster narrow range days on equally low volume followed, and the stock then dropped back into the bottom of the pattern.

But what about that second breakout on 1 December?  That was a nice, strong move to the upside, and look at the volume!  Sure that confirms the move, right?  Well, not so fast.  There was, indeed, high volume that should be the confirmation we're awaiting, however two warning flags kept us out of this move, as well.  The first warning flag was the rising volume on the two days preceding this breakout.  Both of those were down moves with confirming volume.  Why is supply coming into this stock, now? The second warning flag is that horizontal resistance level at 31.50.  Not only did it form an extremely strong and persistent level of resistance in that tight horizontal move from 5 August to 2 September, but the level held firm again when tested four times between 25 November and 5 December. 

That the resistance level sits close to the 61.8% retracement level of the overall pattern is a bit of a warning sign in and of itself.  That it has held firm now for four months is a major warning sign.  It will take some conviction to break through that barrier, and thus far we haven't seen it.

This is why we stalk a trade and seek multiple confirming signals before committing capital to a position.  As swing traders, we know that we're not going to catch the precise top or precise bottom of a move.  Many novice swing traders attempt to do just that, but in reality, it's the quickest path to draining an account that you can find.  Well, maybe the second quickest.  Not having a solid risk management plan with a well-documented exit strategy for a trade is likely quicker.  Either way, we know we're trading the middle of moves, not the full range.  So, in reality, when you factor in slippage, commissions, and actual entry and exit points, there has not been much profit potential for the retail swing trader between the top of that pennant and that overhead resistance line.  Before we commit capital, we need more confirming data points that a move is genuine.

So what are we waiting for here?  Well, a volume-confirmed break of that resistance line would be good.  From a Wyckoffian cause and effect perspective, that resistance line has build up a significant amount of cause.  The move off that line, therefore, can reasonably be expected to produce significant effect.  In fact, point and figure charts (not shown here) point to potential upside targets in the 34 to 38 range.  The time period for such a move would be well outside our swing-trade time horizon, of course, but you see the point.  A significant amount of cause is being built, and that normally results in a significant effect (i.e. price move.)

The point of all this is that we need to seek multiple confirming signals to increase the probabilities of a successful trade.  Pattern breakouts are but one signal.  Volume patterns are a second.  Support and Resistance Lines are a third.  Fibonacci retracement levels are a fourth.  Any combination of those converging in the next greater or next lower time period (e.g. a weekly or hourly chart if we're trading off the daily) would add a fifth.  The more confirming signals we have, the higher the probability of success.  At a minimum, we would like to see two signals, but if we're going to commit to a full position size, we would prefer to see three or four confirming signals.

Such a conservative strategy means missing some opportunities, of course.  Our objective, however, is not to capture every opportunity.  Rather, our objective is first and foremost to protect our capital.  That means managing risk properly, and only committing that capital when the probabilities strongly favor a successful outcome.  Stalk your trade, and display patience before committing capital to a position.  Leave it to others to fall victim to bear and bull traps by attempting to capture every move out of a widely known and well publicized pattern.  Instead, patiently enter after the weak hands have been shaken out of the market, and ride the wave generated by the market makers taking their own positions to the target profit level.  Trade with the market makers, not against them.

Happy Trading.

GE Posts Bullish Pennant Break

Disclaimer: This article is not a buy or sell recommendation.  You must do your own analysis and consider your own risk, money management, and trading strategy before placing any trades.
 
GE showed up on my radar a bit late, so a potential good trade opportunity was missed.  Despite that, it still provides a good lesson in items to watch when analyzing a chart for a short term swing trade.

GE Daily Chart

The trading opportunity came about as GE broke out from a bull pennant pattern on Tuesday.  The flagpole was well defined although the pennant waved in the direction of pole, which is less than desirable.  The breakout occurred Tuesday, and using 76.4% of the height of the flag as our target, we come up with a potential price target of 32.88.  But let's examine the rest of the story.

For openers, we can see that there has been a considerable amount of overlap in trend patterns on this chart going back to the beginning of the year.  By definition, when there's overlap of multiple waves, then we are in a consolidation pattern, not an impulse pattern.  So let's keep that in mind.

We can see that the pattern leading down to the flagpole was a 5-wave pattern. Now, a case could certainly be argued that the two waves prior to that could have been an "A" and "B" wave, which would make the prior wave a "C".  This means we are now in one of three possible waves - an "X", a new "A", or the start of a new impulse wave, making this Wave (1).  For the moment, it's irrelevant since all three of those tend to be 5-subwave patterns.  For the purposes of this analysis, we can treat them equally.

An area of concern on the chart coincides with where our stock is trading right now.  Look at that month-long consolidation period, and look at the strength of the Volume at Price indicator at that level.  We can anticipate a period of consolidation here before the stock decides to either continue its upward climb or retrace back to the start of the flagpole.

Another warning sign comes on the breakout itself.  Volume was extremely light, so there wasn't a lot of enthusiasm for the upward push.  The day after the breakout, there was a very narrow bar, again on light volume.  I'm not seeing a lot of demand driving the price upward.

Thus far, GE has retraced 61.8% of the prior wave, which again forms a natural resistance zone, and there is also horizontal resistance waiting for us at the 76.4% level.  That level corresponds to a failed retest of the prior day's high on April 1, 2016.

Our price target lines up very well with the 52-week high that actually precipitated the stock's decline on July 20th.  That increases our confidence that our target is a good level to either exit the stock completely, or to at least take partial profits and tighten the stops.

So here's how we're watching this stock and potentially playing it.  Today is an early close, and volume will be extremely light.  I won't be entering any position today.  My normal trading window is from about 10:15 to 15:30 Eastern Time.  This avoids the extreme volatility of the open and the close and helps prevent entry at a time where market makers are gunning for stops and limits.  It also allows us to see where the market makers are positioning themselves since we want to be on the same side of the trade as they are.  So with a 13:00 close today, I'm sitting this one out.

I'll be watching that resistance line carefully.  If we see penetration of that line with some gusto, then we'll hop into a long position.  Stops, however, will be extremely tight since I expect at least one more retest of that resistance line before we head north towards the price target. 

A play to watch is for consolidation at the 76.4% level followed by a retest of the resistance line.  If the stock shows a bullish candle pattern on that retest, then that would be the perfect opportunity to jump in, setting a stop just below the low of that resistance pattern.  But we need a bit of patience, since it may take another week or so for that pattern to play out.

The dotted horizontal lines are the Fibonacci Time Zones.  Zone 0-1 marks the time it took for the flagpole to complete.  We're using that as a reference to see just how much enthusiasm there is for an upward thrust, and we're also using it to gauge the width of any subsequent consolidation periods.

There are no earnings announcements on the horizon, nor is a dividend imminent.  We have time to watch this stock play out and to see which pattern ultimately comes into focus.  For now, the play is long, however a failure to break through that resistance line could rapidly change that perspective.  Keep an eye on this one and see which way it breaks.

Happy Trading.

GE Offers Promising Outlook for Aviation

General Electric (NYSE:GE) released earnings on Friday, beating EPS forecasts by $0.05 and revenue by $1.74 Billion.  That didn't prevent their stock from taking a 1.8% hit pre-market, however, due primarily to a 2% decline in orders and what they described as a "volatile and slow-growth economy."

The news, however, appears rather bright for the Aviation industries.  GE reported a strong first half of the year in that industry, and is forecasting the remainder of 2016 to remain strong as well.  There were a couple of items that bode well for the airlines, at least according to GE.  They saw commercial traffic growth of over 6% this year, down a bit from last year, but still experiencing a healthy growth pattern.  Additionally, the airplane load factor remains at 80% for the second year in a row, and GE reports over 2 million departures added in the past year.

GE reports, not surprisingly, that jet fuel continues to be deflationary, and is down over 50% over a three-year period.  When you combine the lower fuel costs, increased passenger demand, and a very strong load factor, it's reasonable to expect a healthy year for what has been an oddly depressed airline industry that has been in an Elliott Wave zig-zag and flat pair of corrective patterns for the past 18-months.  (Do keep in mind the Schlumberger warnings of an impending oil supply deficit, however.  If that manifests, it will put an end to depressed jet fuel costs.)

You can see the overall pattern for the airline index in this weekly chart:

Airline Index Weekly Chart

We can see on the chart that the index started a steep uptrend in October, 2011.  It then traced out a very distinctive 5-wave impulse pattern that completed in January, 2015.  Since then, however, it completed a classic A-B-C Zig-Zag pattern, retracing almost 50% of the prior impulse pattern, and it looks like it's starting a possible flat correction now.  This overall pattern appears to be Wave 2 of a larger overall 5-wave Impulse, so once this corrective pattern completes, we can look forward to a very healthy third wave impulse.  Long-term traders should enjoy a very nice 3 or 4 year bull trend in airlines once that wave kicks off.  The way this pattern is trending, though, that may not happen until 2017.

Returning to GE, there were some additional interesting comments related to defense spending.  They forecast it to be flat in 2017 here in the US.  Given the number of industries here dependent upon defense spending, that's a cautionary note that we'll have to carefully watch.  Now, this flat projection may well be due to the number of sizeable contracts that were awarded in 2015 and early '16, so a pause in new contracts is to be expected, but it will be important to watch other companies in the industry to see how this matches their own forecasts and revenue plans.

Interestingly, GE forecasts international defense spending to be up 4% globally (excluding the US.)  That comes at a time when Europe is teetering on recession and facing the unknown threat of Brexit, so that 4% value is likely depressed due to the state of the global economy.  Should the economy heat up, it's reasonable to expect a similar increase in global defense spending, especially at a time when the terror threat appears to be spreading to parts of Western Europe.

With US defense spending flat but international defense spending up, we'll need to watch for companies that have a strong global stake.  These would include Lockheed Martin (NYSE:LMT), Boeing (NYSE:BA), and Raytheon (NYSE:RTN).  Fire Support, a defense marketing website includes an excellent list of the top 100 global defense companies for 2015.  While the list is a year old, the major players in this space have not changed.  If you're looking for companies that will benefit from growth in international defense spending, this is an excellent place to start.

From a trading perspective, it looks like there will be some short-term potential plays in the airlines, but be aware that there should be at least one more downward wave in the correction.  Longer term players can look forward to growth of a bit over 200% in the airline index from 2017 to 2021 if the Elliott Wave pattern holds true. For defense contractors, look more for trades in companies servicing overseas orders.  Just be aware of the impact the strong US dollar will have on their exchange rate and earnings forecasts. 

Happy Trading.

Are the Airlines a Value Play? Alcoa Suggest They Are

Parsing through Alcoa's (NYSE:AA) earnings call, several items caught my attention as being inconsistent with what we're seeing in the charts.  For longer term investors, the clues provided by AA suggest that the airlines industry may be a hidden value gem with serious growth potential over the next 18-months.  Take a quick look at the Airlines Industry Index weekly chart (XAL) and you'll see that, after a very nice run that started in early October, 2011, the entire industry entered a correction in January 2015 and that correction has been in progress ever since. 

XAL Weekly Chart

The industry did find support at its 200-period moving average.  That's especially significant because it is a long-term level that large institutions and mutual funds track.  They not only use it to determine if a long-term investment is in an uptrend (above its 200-period) or downtrend (below the 200-period) but they will also use that level to place automated buy or sell orders.  Remember, only the large players have sufficient capital to move the price, so when you see an industry like this bouncing off its 200-period average not once but three times, you can be sure that the major investment firms are buying at that level.

In their earnings call yesterday, Alcoa told us that large commercial aircraft deliveries were down in the first half of 2016.  While that sounds like a negative, it really isn't.  There's an oversupply in the market right now, with Airbus reporting that they have 36 wide-bodies sitting idle just waiting for engines.  This is also a transitional period within several of the major providers as airlines are adjusting their fleets between narrow and wide-body aircraft.  Read some of the trade press exchanges between Airbus and Boeing for more insight into that tug-of-war.

Alcoa also referenced a "careful ramp up of new models" and lower orders for legacy technology.  This is due to a shift within the industry to new jet engine technologies that experienced some significant technical problems in the first half of the year.  Those problems at this point have been overcome, however, and the forecast through 2017 is for double digit growth.

Most telling of all is a single line in the Alcoa slide presentation that accompanied their earnings call.  They said, "Airline profitability is at an all-time high."  Now, as a major supplier of product within that industry, Alcoa would be in a great position to know the inside scoop.  The charts for the airlines are all in correction mode, oil and fuel prices remain depressed, and the International Air Transportation Association (IATA) continues to report strong passenger demand into 2016.

This divergence between the stock trends and the underlying industry data suggest that the airline industry as a whole may be undervalued.  Delta Airlines (NYSE:DAL) reports earnings before the open this Thursday (July 14) and we will be closely monitoring their earnings call for confirmation of Alcoa's assessment.

The other major players that we'll want to watch are General Electric (NYSE:GE) reporting July 22nd, and Boeing (NYSE:BA) reporting July 27th.  GE is a major jet engine supplier and Boeing, obviously, is one of the major aircraft manufacturers.  Remember, it's not their earnings that we're interested in, per se, but rather their assessments of the overall industry. 

By the end of July, we should have a very good idea as to where the airline industry is headed in 2016 and the first half of 2017.  If Alcoa's assessment is accurate, however, it would appear the industry is number one on the runway and ready for takeoff.