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Short Term Market Analysis - Things To Consider.

Posted by Pete Stolcers on February 13, 2009

In today’s option trading blog I pulled an article that is more than two years old. I’m happy to say my short term market analysis has not changed. I consider a one month perspective to be short term. Having a market opinion is critical to my trading success since 75% of all stocks follow the market. Let me nail that point home. If you are on the wrong side of the market, it is likely that you will lose money on 3 out of 4 trades. It is the daily starting point for my analysis and I won’t run my proprietary searches until I’m done. During the day I continually look at the intraday SPY chart in the center of my screen – it’s my gyroscope.

I could write a series of books on market analysis and still not do the topic justice. In general, I’m trying to evaluate which influences might have the greatest impact. Here are some things I consider”

Horizontal Support and Resistance – On a day-to-day basis I identify 5-Day and 10-Day horizontal support and resistance levels feeling that a breakout/breakdown will signify a move that might have “legs” for at least a day or two. As the time frame lengthens, so does the significance of the breakout/breakdown. I have found that these price levels work better than trend lines drawn within a short-term period.

Intraday Price Patterns – I watch price behavior on a daily basis and I try to identify patterns. For instance, last month the market would start the day on a positive note and once the buying subsided, it would reverse and slide in the afternoon. Currently, if the market makes a move (after the first 90 minutes) and sustains it going into the afternoon, there is a good chance it will continue into the close.

Key Influences – It is critical to know the driving forces and to be aware of any related news that might hit. Interest rates, inflation and the Fed. are the “hot buttons” right now. The key news events are FOMC meetings, statements by Fed officials, CPI/PPI and the wage inflation component of the Unemployment Report. The recent FOMC meeting did not provide any new information. The “dovish” interpretation created a bounce and it was just a matter of time berore the market reversed those knee-jerk gains. These “hot points” change over time and we are currently seeing that global political instability is carrying more weight. At other times it might be the strength of the US dollar.

Sectors – I always want to know which sectors are leading the market and I want to know the macro events that are contributing to the strength in those stocks. Currently, it concerns me that energy and defense contractors are two of the strongest groups. They are tied to inflation and war – neither is bullish for the market. Conversely, technology is one of the weakest sectors right now. Corporations are using cash flow to re-purchase shares and they are not reinvesting. Low cap ex spending is taking its toll on the tech stocks and there does not seem to be a catalyst to turn that around. My short-term conclusion is that a meaningful rally will not take place until this mix “flip-flops”. Each day before the market opens I check to see which sectors will be on the move and why. I make this tool available for everyone. Take a look at today’s Pre-Open Movers.

A/D Ratio – After the first hour of trading I want to know the breath of the move and the A/D ratio lets me gauge that. I also monitor the indicator over the last few weeks to see if a trend if forming.

Expiration Week – Option expiration can have a very meaningful impact on short-term prices. I look for a material market move that has happened prior to expiration week and I look at the open interest of in-the-money (ITM) index options. A program related move will be biased toward the current trend. For instance, prior to March expiration the market had moved higher and it created a large open interest for in-the-money calls. If the trading during expiration week yielded a day where there was nice steady price action higher, arbitrage related programs would “goose” the market and it would close near the high that day. We actually saw two such days and the market made a multi-year high as a result. I believe in 1996 the market was up over 15% for the year. If you excluded expiration week, it was actually down for the year. This influence can be very powerful. Expiration week will also contain one day with a big move. It is usually Tuesday or Wednesday.

End-of-month Buying – This is one of the strongest market anomalies I know of and it happens every month. During the last two days of the current month and the first two days of the next month the market has a tendency to rally. Most analysts believe it is because pension fund money “comes to market” and needs to be placed. Managers are putting the funds to work in anticipation of the actual deposits. As I recall, there was a study that determined that if you had bought the DOW stocks the last two trading days of the month and held them the first two days of the next month, you would have made more money over the last 70 years than just being long the index the whole time (buy and hold). That’s powerful. Imagine, you only have 4 days of market risk each month and you outperform.

Seasonality – When I look at the market I need to know the seasonal trends that are in play. “Sell in May and go away” is one seasonal pattern that has worked well this year. September/October can be very weak and November/December are traditionally the strongest months of the year. Earnings season also has an impact as it increases market volatility.

Options – I look at the VIX (option implied volatility indicator) to gauge the amount of fear in the market place. I use it as a contrary indicator once the extremes are reached and they start to reverse. For instance, in April the VIX was at historic lows and it had been for months. Once it started to move higher in May, it was apparent the the market environment might be changing and uncertainty was creeping in. I also use put/call ratios in the same manner. My friend Larry McMillan has taught me all I know in this area.

There are many influences and the relevance of each changes continually. Market forecasts are a multidimensional undertaking. Mind you, my trading style is not completely dependent on my ability to predict market movements. I trade relative strength and weakness within the market – that is my edge. If you want to see my market analysis in action, attend the Live Event.

If you have an indicator that “works” share your thoughts.

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Posted in Analysis - Technical, Fundamental, Market

Option Trading Comments

  • On 07/19, Tom said:

    Interesting topic.  I have all but given up trying to dissect the news.  And I have erased most of my indicators and whatnot. I have been looking a 60 minute candle charts with absolutely nothing else to distract me.  As I go farther into the trading I am finding that less is more. I still like a few moving averages and maybe RSI, but the plain charts with just price action are looking better and better. I agree, horizontal price support/resistence can be useful.  However, looking at only charts with price candles can be illuminating, as I have discovered. I usually confine my options trading to about 50 or 60 stocks, which are mostly higher priced and more volitile.  Without all the distractions, I made a discovery that I am testing in real time.  When I looked at plain charts, I found a tradable price pattern that is quite regular in the OIH ETF.  I cannot find these occurances to be so consistent on any other charts. <br> Anyway, even if I have all the major news and indices and sentiment at hand, it is still difficult to make sense of it all as to how the trading world will react to any specific event.  Take today’s huge up move...was it because that traders think there will be no more rate hikes?? I don’t know.  I think it was an orchestrated bounce off of support fueled by short covering.  I expect prices to trade lower and make new lows over the next few months.  It doesn’t matter to me because I can trade in either direction; afterall look on any price chart and you see movement in both directions...and there in lies opportunity.  Tom

  • On 07/20, Pete Stolcers said:

    Hi Tom,<br><br>When it comes to charting I agree, less is better. In fact, I use a line chart in my initial analysis. It isn’t until I have a solid candidate that I look at the candlestick charts. As for news, if it is coming from the firm, I find it very useful. If it is from a thrid party I ignore it. Where patterns are concerned, trade them while they last… but know that they won’t. <br><br>

  • On 05/03, PIERRE PICARD said:


    Thank you so much for your web site !! I learned so much and my life is being change since i know details for timing my option.

    I have a question:

    When you talk about seasonality, you mentioned that earnings season can increase price volatility. Is it a particular month or is it earnings season of a specific stock ? So what will you suggest if you want to buy a option during earnings season ? Whats the best timing to buy a option during earning season ?

    Thank again and I apologyse the way i express myself in this text since I have a french backgroung.

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