A Trading Technique for High Volatility Markets and Entered Orbitz Short

Needless to say, the market is not for the timid right now. I am about 35% invested right now with all of it short. I haven't been able to be confident in entering any long positions recently. However, there are ways that you can capitalize significantly in these markets that run in certain directions very quickly if you are willing to absorb the risk of being whipsawed around.

I've used the technique that follows a number of times in the past, and it really can pay off with some huge gains rather quickly and really isn't as risky as it may sound initially. The basic principle is to find a stock that has run like crazy, is way out of whack with its moving averages, and that is showing divergence on its RSI. Take Cirrus Logic, Inc. (CRUS). Last week Jim Cramer recommended it, and it shot up like a bat out of Hell. It gained about 35% in a week, and even with that, the RSI barely managed to break 70 because the prior peak was so agressive in the first place. I waited for the price to break the prior high. Once that rule was achieved, I waited for the RSI to break 70. At that point, I did the following:

• Put a short stop limit order on with the activation price the low of the prior day, which, when filled, activated


• A stop market order of the high of the prior day

When something is over 100% above its 200-day moving average and has already been in overbought territory only to get in there again and diverge, the euphoria is usually in. Everyone is blindly buying thinking that this is the new Yahoo! of 10 years ago. The stock is going to grind higher day after day after day indiscriminately and show sizable gains until a hiccup happens.

What you are trying to do here is not pick a top exactly, but rather to engage as early as possible in a pullback, which with a stock that behaves like this could be 20 or 30% in a matter of days! So when is it quite probable that the stock is going to break trend? Well, when a stock like this, that goes up 7 or 8% a day's intraday price breaks below the low of the previous day, all the euphoric margined up Coolaide drinkers are going to get spooked pretty quickly. To boot, there's a lot of attention on these stocks and the algorithms are programmed to retreat on the slightest smell of something afoul. The first waft of foulness will happen when the price breaks the low of the previous day.

So let's look at CRUS here. I happened to catch this one on the first day I put the stop limit order on. It gapped down at the open, and there was no turning back. Now the one thing you have to stomach is the risk here. Once I'm in the position, I have a basis of the gap between the price of entry for the position (in this case about $14.30) and the high from the previous day ($15.74). That's sizable (9%), and you have to be willing to risk it. You usually are OK to because as I said, 9 times out of 10, once people start seeing this stock breaking down like this after the run it's had, it's difficult for them to pony up and try to push it up higher.

Another tell for this stock was that a couple of days earlier, it had had the highest volume day in 3 years. That's a lot of buyers that burned through the stock. Really, who is left to buy? But this is an added benefit. It's not a requirement for me to get involved here.

So what do you do after you're in the position? Every night, you reset your stop loss order to be the high of the previous day. For example, tomorrow, my stop loss will be adjusted to $14.46. So the exact same price action that got you into the position gets you out, but in reverse.

You can do all of this on the long side, too. Just take everything I said above, and do it just the opposite. I'm up 3% on this in 2 days. Once this decline ends and the stock resumes its trend, which it will do (you can see by the declining volume on the two recent down days I've held it), hopefully my gain will be sizeable.

This is a side trade from my usual style. I did make my usual weekly trade. As I mentioned, I entered OWW this morning. No other trades this past week to speak of.

As usual, thanks for reading!

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All opinions expressed by the Author are solely his current opinions and do not reflect the opinions of the companies with which the Author is affiliated and may have been previously disseminated by him. The author’s opinions are based upon information he considers reliable, but the companies with which he is affiliated do not warrant its completeness or accuracy, and it should not be relied upon as such. No part of any compensation the Author may derive from this blog is related to the specific opinions he expresses.

Past performance is not indicative of future results. Neither the Author nor his affiliated companies guarantee any specific outcome or profit. You should be aware o the real risk of loss in following any strategy or investment discussed in this blog. Strategies or investments discussed may fluctuate in price or value.

Investments or strategies mentioned in this blog may not be suitable for you, and you should make our own independent decision regarding them. This material does not take into account your particular investment objectives, financial situation or needs and is not intended as recommendations appropriate for you. You should strongly consider seeking advice from your own investment adviser.

How to Protect Yourself From What Happened on Wednesday and Other Musings

Wednesday, Wednesday. All I hear everyone talk about is what happened Wednesday. Don't get me wrong. I lost some money exiting a stop loss that I might not have otherwise, but I probably would have gotten knocked out of them the next day, anyway. However, if you listen to these pundits on TV, because of a "once in a lifetime" event, now the market is no longer safe for your average Joe, and God forbid anyone should ever use a stop loss order again!

I was originally envisioning retirees who had stuck out the market through thick-and-thin for the last 2 years only to see prints of $.01 on stocks like Accenture. That frightened me lots. Then I thought about it. What the media out there terrorizing you isn't telling you is that the prints on these stocks at these low levels lasted milliseconds. By the time the little guy's stop loss order got filled, things were almost back to normal again. I'm sure people got hurt. I got banged up a little. But if you are going to adjust your trading style for a once in a lifetime event, I don't think you have the mentality to trade or invest in the first place!

The solution to this dilemma is to maintain a basket of stocks long and short, use stop losses at key levels (my favorite being 4% below the 200-day moving average), and never invest more than 75% of your assets in any one direction (long or short). When all was said and done, I got knocked out of two positions Wednesday, but when all was said and done, at the end of the day my account was up .5%. That's because after my longs got knocked out, my shorts were there to keep working for me.

So if you stay long-short, it's true that over time you might not have crazy 7% up days because you are not wholly invested one way or another. You will have fewer proud days and fewer somber days. Things will smooth out over time with less fluctuation. Not as thrilling. But with thrills come anxiety, and you will likely have the same type of return at the end of the year without all the discouraging whipsaws, especially since the beginning of '08. So invest long/short. It's the only way to fly.

I understand why markets went up quite a bit today. People were just starting to get comfortable with going short the market. Then, the EU cracks out the bazooka and shows everyone who's really boss. So a lot of people covered today. Volume was weaker than on the last two down days. It's only logical the market has to go up now. I mean, everyone thinks our bailout is working (at least on Wall Street), and it's now a foregone conclusion that the European bailout is going to work. Not so fast.

Let me ask you a question. If your neighbor's credit rating was dropping like a rock, was getting letters from the bank, and he found some poor souls to lend him almost twice as much money as the amount he was at risk of defaulting, would you be more or less confident in his financial future? Right. The markets have the warm fuzzies right now, and the up-trend in the broad market is actually still in-tact on a closing basis despite everything that happened last week. Also, we had huge volume last week, and I got completely knocked out of my remaining long positions. I can't think that I am that unique. All I have is short positions now, and I would be pretty reluctant to go out shorting more unless the market gave me some darn good reasons. A break in that uptrend would be a good start, but until then, it seems to make sense that we would resume the uptrend now. I trade the market I have, not the one I wish I had.

Another thing to point out is that the Chinese and European markets have been downtrending for months now. I don't think we can be exempt from that much longer. We are all kicking the can down the road on the credit problems and we are all still joined at the hip.

How's that for a rosey picture. Speaking of not so rosey pictures, I had quite a few remaining long positions out there that got knocked out over the past 2 weeks since my last writing. Sorry. My day job has just been hectic as all get-out.

Activity Since Last Writing

• 4/30 - PDL BioPharma - Sold 12% loss due to hitting stop loss 4% below 200-day moving average


• 5/4 - Georgia Gulf Corp - Sold 3% loss due to hitting stop loss 4% below 200-day moving average


• 5/5 - Lender Processing Services - Sold 8% loss due to hitting stop loss 4% below 200-day moving average


• 5/6 - Hudson City Bancorp Inc - Sold 5% loss due to hitting stop loss 4% below 200-day moving average

Sniffle, sniffle, tear, tear. I became short of Motorola last week and this week became short of Verizon. Analysis of the Verizon follows.

Fundamentals

A quick rundown shows this one stinks quite a bit:

• Operating margins of 18% are below the industry average of 19%


• The price/earnings ratio of 34 is over 1.5 times the industry average of 19


• The price-earnings-growth ratio still has it fairly priced compared to its competitors

The biggest fundamental drag on this stock is that it's payout ratio (the % of earnings it is paying out in dividends is 220%, and that, my friends, is wholly unsustainable. There are a lot of retirement accounts and pension funds that are invested in this stock because of its rich 7% yield. It will become drastically unattractive when they cut the dividend. By the way, I have to be out of this by the ex-dividend date of July 7, or I will have to pay out 7%. Not me!

Technicals - Weekly

On a weekly chart, this stock has broken a major trend line. It has been drastically underperforming the market since March of 09, which is when the market bottomed. And look at that horrid accumulation/distribution line! People have been dumping this stock hand over fist! So this looks like a great short on the weekly chart.

Technicals - Daily

The daily chart unfortunately shows the stock to be almost oversold. You can see the RSI is not far from the lower boundary. There is divergence in the RSI, but that's OK because the divergence hasn't happened below the lower oversold boundary (30). The stock probably needs to claw back to the 200-day moving average or so to reset for its next leg down (should that hopefully occur). It has outperformed the market recently, and the accumulation/distribution line was showing people coming in to save the stock recently, but then it rolled over again and hasn't recovered.

As usual, thanks for reading!

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All opinions expressed by the Author are solely his current opinions and do not reflect the opinions of the companies with which the Author is affiliated and may have been previously disseminated by him. The author’s opinions are based upon information he considers reliable, but the companies with which he is affiliated do not warrant its completeness or accuracy, and it should not be relied upon as such. No part of any compensation the Author may derive from this blog is related to the specific opinions he expresses.

Past performance is not indicative of future results. Neither the Author nor his affiliated companies guarantee any specific outcome or profit. You should be aware o the real risk of loss in following any strategy or investment discussed in this blog. Strategies or investments discussed may fluctuate in price or value.

Investments or strategies mentioned in this blog may not be suitable for you, and you should make our own independent decision regarding them. This material does not take into account your particular investment objectives, financial situation or needs and is not intended as recommendations appropriate for you. You should strongly consider seeking advice from your own investment adviser.