Whitecaps on the Lake as Summer Draws to a Close

Gordon Scott  |

This week brought evidence that the market is likely to become a bit choppier as we move into the fourth-quarter earnings season. The glassy smooth waters of August’s low-volatility, bullish market made for some simple-to-trade sessions. Investors simply held on and skimmed along a steady upward tilt.

However, as any experienced wake boarder knows when the wind picks up and the waves show their tips, it takes skill and experience to keep from getting knocked off along the way. Traders and investors would do well to prepare for a bumpier market as the summer solstice approaches—beginning with Monday.

Gnarly rides ahead

The market is poised to take some profits early in the coming week. A late session selloff left the S&P 500 with a tell-tale candle shape for the day. The resistance implied by this pattern means the market may struggle to go higher. This pattern sets up the possibility that when the market opens on Monday, prices may break below Friday’s low. If they do, the price of the index could continue lower to fill the gap, and then continue lower in subsequent sessions.

Friday’s candle is not the only evidence for price fluctuation; the option markets are showing a subtle signal of growing investor nervousness. The VIX has begun to fluctuate with greater intensity, even though it is near multi-year lows. This is a subtle indication that investor nervousness is beginning to roil.

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You can see this by looking at the Rate of Change. As it rises (even if the VIX falls) it signifies that investors are buying more put options and becoming more nervous. The effect will likely continue to grow as uncertainty increases heading into earnings.

Dude, you seen a party around here?

Professional investors know they ought to chow down on free hors d’oeuvres while the party is still in its early stages. If the markets are going up, they have to participate and grab some gains. Little doubt remains that the US Dollar is about to undergo a slow and steady devaluation. The natural result will be higher commodity and stock prices, so the institutional money manager doesn’t dare miss out on the frolic.

Combine these two ideas—growing investor nervousness, and an investors’ Oktoberfest with the Fed picking up the tab—and you’ve got a recipe for a choppy upward move over the next six weeks. How can it be traded? By taking quick profits and expecting multiple shots at doing so over the next few weeks.

To accomplish this you can simply use a fast moving oscillator. Here’s one example of such an idea. Use the 3-day Momentum study. Stocks in a mild uptrend make exceptionally good candidates for making a number of short-term trades in which you would take profit after a mere 2-3% rise in the price. In a choppy market such as the one we are about to encounter, this tactic would likely have a high winning percentage. Consider this chart of PFE where 5 such winning signals are evident over the past two months.

I’ve done some careful research to identify an exit strategy that will yield better than 65% wins with this entry signal and seven others like it. Click here if you are interested to find out more about it.

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