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Trader's Corner

Bottoming Out

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OIN SUBSCRIBER QUESTION:
"Are you still thinking that we could have reached a bottom for now? I bot NDX calls when the index got down to 1200 again today. you wrote this weekend about support in this area. It was nerve racking when the market looked like it was going to break down again and I usually dont go in like that, but some of the other averages were holding above there lows I saw and figured I'd get out if it fell much under 1200. What do you think from here?"

RESPONSE:
It looks to me like the major indexes are bottoming for now and that's a process. In a market like this I would expect to see a kind of rolling bottom and not a "V" type bottom more characteristic of trading range markets or markets that are either in a predominately bullish trend or having a wide-swinging range without being clearly in bear market like this.

Definitely in this type market you have to pick your spots, such as what you (me too) did in buying in a prior area of support that looked like it was going to hold. Then if you're right, you have to set some reasonable target on the trade and not overstay. It's best to just look at the charts in this kind of situation. I know if I start following the financial media in this kind of market where, as soon, as we see a bottom re-test or another break, there's immediately a lot of bearish chatter again.

On buying what I think may be a short or other-term bottom, I LIKE to see bearish sentiment and go against that if I'm also in a situation where:
-the market is very oversold on the RSI indicator on both daily AND weekly charts
-I have a prior low that looks it can or will hold, giving me an exit point not far under that low

Seeing this 'set up' on my charts, including following the call to put options ratio confirming still heavy put activity in stocks, is one thing. But LISTENING to this on CNBC like I used to is too much for me, as I tend to lose my conviction and a more pure 'technical' approach I get too influenced by others. It's hard enough to see that we're down 500 points and think that a bottom is forming nevertheless.

I emphasize the psychological and 'sentiment' aspect because I know how much that goes against my making outstanding trades and because of some great traders I've known who traded off the floor and took positions other than day-trading and who just didn't watch all that stuff. Before CNBC and that media it was watching the tape, listening to rumors, following the news ticker, etc.

This thing of not wanting to be influenced by the 'mob' so to speak (the herd?) and being pushed back and forth in your option of the market by one's own very changeable INTERNAL thoughts, opinions and feelings about where prices are headed is one reason why there are a sizable number of 'systems' traders, who try to take the emotional aspect out of trading decisions and go with the buy and sell indications of a mechanical trading system or one run by computer or computer algorithms. I don't rely on this approach either.

Anyway, I'm speaking to the point you make about it being "nerve racking" to buy into a decline like today. This approach can work very well in a decline IF the conditions I mention above about price (test of a prior low), a a very oversold market and bearish sentiment COUPLED with strict adherence to an exit point that is not far below a double bottom or prior important low. You can even 'ASSUME' a double bottom will develop and have an idea where the calls I want to buy should get to at the prior low. Assume moreover that you won't get the best price. I'm willing to buy a little higher on a limit order than my estimate of a possible low for a particular call based on where I think the underlying index will get to.

I find that in fast moving and volatile conditions if I'm watching the market trade, especially in an oversold condition and down near a prior low that's shown itself as an area of buying interest, I do less well in going in on market orders once I see a turnaround develop and buying come in. With market orders in some situations I feel like I'm offering a 'license to steal' or an opportunity to get whatever inflated price I'm given.

Let me get to a couple of charts and where I think we could from here after another fairly dramatic turnaround today.

Looking at the Nasdaq 100 Index (NDX) daily chart, it's obvious that today's low formed a minor double bottom relative to this past Friday, which is why I say 'minor' double bottom. Assume that NDX rallied from its recent 1200 low and didn't work back to that level for 1-3 months, but it rallied again strongly from that area after several weeks/months of trading; this pattern would make for a more significant double bottom in terms of its chart. Nevertheless, given the second low at the same level makes for successful re-test of this low for now and a worthwhile trade potentially.

We still see a quite oversold condition in terms of the RSI. In terms of an objective, a 'safe' bet might be a trade objective back to the low-1400 area. Resistance was already seen technically as soon as NDX 'filled in' its recent downside price 'gap'. The 1550-1600 area should offer a strong zone of resistance. Meanwhile, adhere to an exit on NDX calls if NDX breaks more than 15-20 point under 1200.

Speaking of NOT looking for a "V" type bottom in such a market as this, as the economy heads into a likely deep recession, is the action of the S&P 100 (OEX) per my next chart, looking initially like a V-bottom formation. Well, for now anyway, as highlighted on the OEX chart below. Giving me some added confidence in holding index calls, especially bought around today's lows, is 'sentiment' considerations.

SENTIMENT CONSIDERATIONS

As also highlighted above is the most bullish of the indicators I rely in going against the flow so to speak, which is to look at how much trading in equities put options resumed in the past two days. The LOW reading today, given the strong rebound off intraday lows, suggests to me a bit of comfort in playing the upside in this market for now. Stay tuned for the next few days bring, as we're still in a very fluid and volatile situation!

GOOD TRADING SUCCESS!

Please send any technical and Index-related questions for possible use in my next Trader's Corner article to Click here to email Leigh Stevens support@optioninvestor.com with 'Leigh Stevens' in the Subject line.
 

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