Trading The Overreactions Remains The Current Best Daytrading Strategy

The week started with a gap up opening on Monday preceded by earnings and economic hype. The SPX ($SPX.X | Quote | Chart | News | PowerRating) closed last Friday at 998.32 and by 11:00 a.m. ET Monday morning hit a 1015.41 intraday high, just ticking above the 1015.33 previous rally high. Funny how that just seems to happen...like, most of the time. The major indices have gone south since 11:00 a.m. Monday, hitting an intraday low of 989.30 yesterday, closing at 994.09, or -0.6%. 

Major banks were all up on Monday based on earnings news, but as of yesterday's close, (C | Quote | Chart | News | PowerRating), (BAC | Quote | Chart | News | PowerRating), (WFC | Quote | Chart | News | PowerRating), (FBF | Quote | Chart | News | PowerRating) and (FITB | Quote | Chart | News | PowerRating), all reporting this week, were net minus for the three-day period. On the positive side, (INTC | Quote | Chart | News | PowerRating) was +8.1%, while the semi equipment stocks also had a good three days, with (AMAT | Quote | Chart | News | PowerRating) +10.5%, (KLAC | Quote | Chart | News | PowerRating) +8.0%, with (NVLS | Quote | Chart | News | PowerRating) bringing up the rear at +3.8%, while the (SMH | Quote | Chart | News | PowerRating)s were +4.2%, closing yesterday at 32.50, +0.8% on the day. (MER | Quote | Chart | News | PowerRating) is +8.5% for the three days based on its earnings. 

Going into this week, I said that trading would be erratic and that news would overshadow technicals, and the best trading opportunities would be on overreactions due to the earnings and economic hype, and that's exactly what we have gotten so far. NYSE volume picked up yesterday to 1.65 billion with declining prices, as opposed to the rising prices and declining volume mentioned last week, which is always the red alert. The volume ratio was 30, and breadth was negative at -1226. All of the major sectors finished red. 

Yesterday's SPX close of 994.09 once again held the 20-day EMA which is now 991.74, and this is the fifth time since July 2 it has done that, but it is also the current downside pivot level for daytraders. The (QQQ | Quote | Chart | News | PowerRating) and SMH both closed and are trading above their rising 8-, 20-, 50- and 200-day EMAs, as is the Nasdaq Composite ($COMPQ | Quote | Chart | News | PowerRating), so certainly there is nothing to do there until that changes and they reverse a few previous closes and lows. The Nasdaq Composite's 20-day EMA is down at 1691, just above the recent breakout level of 1687. It closed at 1748, -0.3% on the day.

For Active Traders

From a trading standpoint, you have had to pull the trigger during that opening-hour period on gap opening Trap Doors and then the move back in the direction of the open. The semiconductors, which I said would be a primary focus this week, have provided excellent daytrading opportunities, but there are lots of games being played, as hedge funds are very aggressive because the Generals are also involved in a big way with the order flow. For example, KLAC yesterday gapped open, trading up to 52, just taking the previous day's high of 51.90, but quickly reversed, then traded down to an intraday low of 50.45, just taking out the previous day's low of 50.48 before reversing that low to the upside, closing at 51.76. Reversals of previous day's highs and lows often provide excellent risk/reward trades for the daytrader. 

Today's Plan

Starting out today, it looks like Trap Doors and volatility bands will be the initial trading opportunities, and then maybe some gap pullback setups that resume the direction of the open if it is to be a trend down day. As I do this, the Dow futures are -87, S&Ps -10, and Nasdaq futures -24, so If that holds, the market makers and specialists will take full advantage of it, and those discounts in price they influence are most often assets for the good daytrader.

In spite of all the daily noise in the market, the SPX has essentially traded sideways for the past month in a 5.5% trading range, with the 962.10 low a one-day event and two trips to 1015. It is easy for the investor that is in either money market or mutual funds to get influenced by the pure unadulterated garbage put out daily by the TV media and the price noise it creates, so you have to be in tune with the longer-term moving averages and trend. A good way to do this is to use the 12-month moving average as a scorecard. I have included two charts today, which show the bull market run after the breakout in 1995, and the bear market decline, which hit a low of 769, but is now rising.

If you are a passive investor and don't play intermediate moves after retracements to the longer-term moving average or contra plays from extended levels beyond the longer-term moving average, which also coincide with extended volatility bands, then you have to establish some criteria where you exit or put more money to work in the case of a retracement to a longer-term moving average. As you see on both charts, the 12-month EMA is an excellent tool to assist in this decision. (You can use either an EMA or an SMA. It doesn't really matter.) 

Right now, the 12-month EMA has turned under and is rising for the first time since the bear market began and is currently 945, which happens to also be the September 2001 low. As long as price remains above that level and the moving average is rising, you're in your mutual fund and not the money market. 

Have a good trading day.

Kevin Haggerty