Monday, March 20, 2006

Down Action

As non-exciting as the indices look, the underlying picture is quite telling. A few things worth noting:
  1. OEX is printing a classic range-bound, "run-the-stops-and-turn-around" type of action. I see traders religiously dedicating themselves to selling at the low end of the range and buying back at the higher band. And then they reverse and do the opposite. While this is clearly observable and often downright funny (another proof that people, as an aggregate complex, never learn), the useful corollary is that once the breakout does occur, the fade is where the actual money will be made. I prefer OEX to break higher for a few points to re-initiate our long put position (we've covered our OEX 90 puts until a better trade signal is generated). A break lower will work as well, but I don't like going long in this market and thus will have to commit less money than usual to this scenario.
  2. Metal Miners, Oil and Housing are all selling off rather hard. Surprising to see this underlying current with SPX behaving so mildly. I am especially interested in Oil as it is presenting an amazing short oppotunity. BTW, if you'd rather not play direction here, getting long vol is nearly as enticing. Oil looks so bad that I am contemplating selling April futures instead of employing any other instrument. As far as this commodity is concerned, I specifically like the spot itself. Oil equities are fine but I'd rather sell verticals on them then get short outright.
  3. Housing started a new leg down and we're short a set of calls here. I do feel that the sector may lead a bit higher before selling further. So, while we are net sellers, I am not deploying full trade size at this juncture. Up-averaging our call sales seems to make sense here.
  4. PD and CLF are our Metal Miners favorites for long puts. We have about 30% of our trade size deployed now and we are looking to buy some more. I am not an outright bear on these as I am on Oil or Housing. I simply think the sector is overbought and needs to bleed off a bit. It is also likely to be entering a trading range and I think it is currently at its upper band.
Now, on another note, do I still feel that QQQQ's will break below 40 in the near term as I suggested last week (I stated that QQQQ was going to break 40 with 80% probability within the next few days)?

Answer: I no longer have a view. My reasoning behind the original opinion was that the well-known head and shoulders pattern on NDX was NOT going to work, but in order for it to fail, it had to break its neckline and then produce a rally from there. Ironically (how else?), that's exactly what happened, except that the neckline break was much less prominent than I expected. So, basically I was right, but to no use because being right in this case made us no money. I suppose more people were watching the pattern unfold than I expected.

That's one of the reasons I rarely trade patterns. Another reason is more fundamental: random events tend to cluster and create observable patterns. Thus, patterns invariably accompany randomness. And, as far as I know, randomness is a tough vehicle for generation of money.



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