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Put yourself on the other side of the trade

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What do I do now? This is perhaps the most often asked question I get from subscribers, but the question is often posed long after some type of substantial loss is built in a position. Before a bearish trader begins to snicker that its bulls that ask the question, wipe the smile off your face as I revisit a question from a bear in shares of Broadcom (NASDAQ:BRCM) $17.14 -1.32% that was short at $10 as the stock was breaking new ground at $14.00. For the bear that's keeping track, that was a 50% loss and a powerful "buy signal" had been given at $13.50 as the NASDAQ-100 Bullish % had reversed up from "oversold" territory.

However, such reviews are not meant to criticize, but to drive home the fact that markets, and sectors can be cyclical in nature as they can flow from oversold to overbought conditions. By reviewing, what happened and looking at things from both a bearish and bullish traders view, traders/investors can perhaps better understand what the market is thinking as it relates to a bullish and bearish trade.

Broadcom Corp. (BRCM) - $1 & $0.50 box

It was in late October, that I got an e-mail from a bearish trader that was close to margin call when shares of Broadcom (BRCM) was breaking out of a base. The only option was to either hedge the underlying stock with a protective call, or cut the loss as risk to trend of $17.50 and growing bullish count in a "bull alert" NASDAQ-100 market spelled trouble.

Well.... BRCM did pull back to support at $11.50, but a trader that put himself/herself in a bulls shoes on the pullback at $11.50 may well have been thinking..... "risk $0.50 to potentially make $6.00 to trend, or better yet $9.50 to bullish count?" and the race was on.

On the above chart, I did outline how a bullish trader might have legged into a bullish position in BRCM using the reversing higher NASDAQ-100 bullish % in October (red A on a p/f chart) to be thinking bullish thoughts at $13.50, stop $11.00, target $18.50 to trend or the eventual bullish vertical count, which eventually became $21.

Now what we see is the NASDAQ-100 Bullish % ($BPNDX) from www.stockcharts.com, which allows everyone to view FREE charts, is the NASDAQ-100 Bullish % having reached an 82% level of bullishness. With BRCM recently trading $18 yesterday, that generates a "sell signal" and has this NASDAQ-100 component taking away 1 stock from the bullish %.

Hmmmm.... stock reached some meaningful resistance below $22, bullish % is high and has bulls carrying bulk of risk, and stock is close to giving a sell signal at $18 after achieving a bullish vertical target. A bearish trader might be thinking.... "how much upside is left? Let's find out with a 1/4 or 1/2 bearish position on break of $18, stop $21,$22 based on risk tolerance, then see what the bearish vertical count grows to, to then better assess potential downside risk, but look for support near-term at $15, which was last buy signal stock gave.

The think I like about point and figure charts, is trader/investors can "look back" calculates some past bullish/bearish counts, put themselves on the other side of trades and get in the minds of bull or bears that they look to trade against.

One think I want to do today is also review the Wednesday- Wednesday weekly action. With the OEX Bullish % ($BPOEX) from www.stockcharts.com reversing into "bear alert" status, there are some observations that need to be made as market participants begin hedging some positions at higher levels of risk that now look to be in the early stages of internal weakness.

Weekly Index/Sector Changes

Again.... I was keeping tally on a Friday to Friday basis, but have since started tallying index/sector action on a Wednesday to Wednesday basis. As it stands, the major indexes have recorded a loss for the first time in roughly 7 weeks and may signal a correlative sign of weakness with yesterday's reversal in the narrow S&P 100 Bullish % ($BPOEX).

As it relates to weekly changes, I'm showing the September 30 closing values. This was used to give us a "So far Q4" percentage gain/loss" benchmark. This also gives traders/investors a pretty good benchmark from the major index lows dating back to the early part of October. If you were an institution that may have been turning your inventory positions from bearish to bullish with the lower bullish % readings, the current "So far Q4" may be thought of as gains in inventory that may now be at risk with the much higher bullish % levels.

I keep track of the Bullish % for the major indexes each day and have placed the September 30th bullish % reading on the above spreadsheet along with last night's bullish % readings. In late September, the bullish % charts were still in a column of O, all were below the 30% "oversold" level except for the S&P 500 Index. For the most part, bears still had the ball, but had scored a touchdown and were locking in some gains and pairing back on bearish positions. Meanwhile, bulls were putting together some bullish plays and looking for upside reversals in the bullish % charts to signal internal strength. As you can see, the bullish % are significantly higher, and bearish traders are starting to review their playbook, looking for stocks generating sell signals.

The main point of the spreadsheet is to show what some institutions may be looking to protect in their inventories. For those traders or investors that subscriber to Tom Dorsey's point and figure chart service at www.dorseywright.com, keep an eye on his Optionable Bullish %. He tracks this to keep an eye on stocks that most institutions will hold in inventory, that have option availability on, where institutions will use protective puts or covered calls to protect downside risk when the bullish % charts become more "overbought."

So what do I do now? My current thinking which I've been preparing subscribers for with the higher bullish % readings is to make sure some profits are locked in, or at least protected with a trailing stop to profitability in bullish trades.

Bearish traders can now begin looking to implement partial bearish positions with the OEX bullish % reversing into O's, and look for confirmation to come from the also narrow NASDAQ-100 Bullish % ($BPNDX). Then, should weakness build, look for that weakness to show in the broader yet S&P 500 Bullish % ($BPSPX) and then the VERY broad NASDAQ and NYSE composite bullish %.

Jeff Bailey

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