Here is the original chart for SPX from two weeks ago. Our trading group pulled our calculators out and matched up similar VIX patterns to those we found in other "bear market" starts and proposed a very technical trading path for the SPX, which as the MS Paint chart shows (all the way down to these last two red bar days) is 100% spot on. Lucky us...or is it? Technical Analysis allowed us to call a 1935 turnaround two weeks in advance, and what happened on Wednesday... 1930 and turned around. Accurate and to the day. There is no black magic here, it's just trading very predictably.
This usually happens when fear is high and a lot of people are sitting back and waiting for someone else to make the next move. In light of no really big news to cause a liquidity event computers who maintain the liquidity of the markets (and 90%+ of all trades made) are moving from buy to sell modes to constantly sniff out the lowest risk, equilibrium point to trade at. Seriously, think about it, anything big happen in the news since Janet Yellen last spoke? No. But the markets are moving up and down pretty drastically. 5% here up, 10% up, 5% down. Especially with oil...
However volatile this is, things are trading in patterns...again when news is sort of still and the VIX and OVX are both high. It indicates that there are a lot of people with near term short bets. But what happens if you were short and you are way up on your profit and things stop falling? You cover. And a lot of people do that. And it starts a rally. That's what happens... and say with oil the OVX is in the 70's. That is implied volatility of nearly 5-6%, and that's what you are seeing! 5% up, 10% up, 5% down.
Let me guess, every trade you tried to chase after these last two weeks pretty much burned you. You were short, but you flipped long to ride an up trend, and then it reversed and burned you too? Trust me, you and everyone else. We call this time period of high volatility and no clear trend "no man's land." We have a strategy in no man's land which is basically you buy on the red days, and you sell on the green days. High volatility and a tightly bound range with no clear trend. I am buying every dip on a red day and shorting every high on a green day. Flip flopping daily. At the dip this morning, I went very long in GUSH expecting at least a tap to resistance @ $3.18. I'm expecting a 20% return on my trade and it's supported by the fact that the SPX is not falling, and neither is oil (yet). Again it's the no man's land trade, to be contrarian and buy on the bad days. And when it's rallying Monday/Tuesday, I'm the first to sell right at that spot. I was so confident in my trade I bought more near the close, and it even went up $0.10 in the last 5 minutes of trading.
But wait. Oil fundamentals are terrible, and you are BUYING oil stuff? Oh yeah. This is the first lesson in trading most don't get. Most people think fundamentals are bad/good so something should happen. However, people need to move money in and out of things for these things that should happen, to actually happen. If the earnings report was awesome but the stock doesn't go up and you are long, it should have gone up right? Well if it doesn't go up, then nobody wants to buy it. Price moving has nothing to do with fundamentals and everything to do with supply and demand imbalances. Now the supply and demand can imbalance because of fundamentals... or maybe just because some billionaire takes all his money out to buy a yacht. That too can change the price and have nothing to do with fundamentals. Price change is only people disagreeing on the price that it is currently trading at. If the price is not moving then people agree on what the price is... said earnings report wasn't awesome or terrible enough for anyone to care but you. So when trading you have to look at fundamentals to know what should happen, then look at what's actually happening in the buying and selling to get the overall picture.
So with oil fundamentals bad, and the OVX in the 70's this last week, it's in an oversold state. Further more we rolled over into a new contract which had over $1.00 of contango built into it (more on this later). I sold at Thursday's open, shorted, profited, and oil immediately traded down and I closed yesterday mid-day. Today I'm long again to capitalize on this volatility like I explained above. Price will most certainly move through my entry as I'm designing my trade to do so at worst if I'm wrong I stop out pretty much at little loss.
So where is my confidence to set up for a long trade and hold over the weekend? I'm crazy? Maybe. But also because I understand oil trading. There are three types of people who buy and sell oil. One is the speculators and hedge funds who buy/short crude contracts for numerous financial reasons. Most amateur traders think this is all that exists in the world... so when bad news comes out (like a "bearish report") crude dips but immediately trades up and people are left scratching their heads. "Why is oil going up, derp derp?! WHY IS MY DWTI GOING DOWN ON A BEARISH REPORT?"
I hear it all the time. Enter the second category of big money oil interest--the commercial producers (Shell and Exxon) who have to actually buy oil. You know... the black stuff? They have to buy a whole lot of contracts and let them expire so oil is delivered to their facilities. They have entire business units stocked with traders who buy and sell contracts just like you and I do. And they are locking in a delivery for a certain month. They will be buying contracts when they are cheap, shorting them to hedge against prices falling further, etc... and they change their strategy month to month per contract, and also with the shifts in seasonal demand. It's a very complicated trade that goes well beyond these weekly EIA reports. It's a big game of chicken between the speculators who are shorting and betting on covering before the commercial producers go on a February buying spree to stock up on crude for the summer (which always has a higher demand than winter) which is why you almost always see a rally in January-March. Even in the most bearish markets.
Now there is a third group trading oil that's rarely talked about, and that would be the sellers of physical oil, like the Saudi's, who can spin news while simultaneously riding a short/long position in contracts to profit off of their own evil doings... jerks. It's hard to predict this other than knowing they will be aligned with the own stuff they spin. So never fight what anyone Saudi-oil says about oil, join them. Oil is not an easy thing to figure out, so you have to know timing of all three of these things and be ready to jump ship in your trades for multitudes of reasons that are not just fundamentals of "oil is oversupplied, it must go down forever!" That will never be the case. With that said, this is not a rally. A rally requires fundamental shift I believe for speculators to start making long bets, to go along side the producers needing to buy, which is in fact the recipe for a rally. But it still doesn't mean you can't have fun for a week or so here and there being long.
So away from oil for a bit. With all that said the SPX price targets have been slightly modified from 2035 to around 2025, which as you approach you can try to be a little more accurate. This is rallying only because after all the bad news Yellen, banks, Japan, China, whatever and those short are holding on to massive profits have had two weeks of silence, so profit taking happens especially when the index bounces off of a key support level. And from here it just goes up. But to where? Well again, that upper resistance line I drew is the obvious maximum target a bear case would see. Chances to rally beyond that are slim, and chances those currently short everything who just covered will re-enter there are high.
So my bet is there, I have some SPXL I got this morning just like I did with GUSH. Because when the SPX goes up, and oil isn't flat out tanking, E&P's trade up two. Which if SPX defeats this 1920 resistance level on Monday, the upper target will certainly be 2025, give or take, because it's the path of least resistance. Even if the fundamentals are shit. Don't worry, you'll probably see 1600's SPX by next year because of these shit fundamentals. But there is a computerized process to get there. So trade what's going on now instead of wishing that will happen now. The trade has been up until this support breaks, and until then just ride what's here until the market tells you otherwise.
And to justify my craziness on a short term oil long trade, it's always like this. OVX > 60, and the SPX bouncing off of crucial supports, oil will trade up just because everything trades up. Money leaves bonds and goes into equities--as CNBC says. But mostly it's because the market making algo's were mostly programmed by the same 2 or 3 companies, they all think alike and are synced up to watch and react to each other. So with the SPX going up, if no in your face oil news comes out to make things even more bearish, path of least resistance is also up. I'm honing in on a price target there as well, here. About 33.25 and a breakout to 33.16 before anything violent happens on the short side. The OVX dropping from the low 80's to the low 60's in two days tells me that people are changing their minds about shorting from here... so they are likely waiting for a bump up to try again. The OVX can tell you so many things about oil, so anyone who is trading oil and not looking at this is probably not making much money trading oil.
Just food for thought. Happy weekend everyone and happy trading!
