Although we’ve not seen those developments yet, US Stocks (S&P 500) is back above its December lows and other foreign indexes have started to catch a bid in the near-term. This subtle improvement is suggesting some trade opportunities could develop on the long side for those who hold positions for a few days to a week or two.
First, let’s start with the Nifty 50. From any sort of intermediate/long-term perspective, we don’t want to be buying stocks until prices can get back above their 2015-2016 highs of 8,900. In the near-term, however, if prices can get back above their November-December 2016 lows of 7,900, a rally back towards that 8,900 could develop. Momentum has begun to diverge positively, but it’s only confirmed if prices can get above 7,900. Below that, the risk remains to the downside, targeting the 2016 closing lows of 6,950.
Click on chart to enlarge view.
From our perspective, the way we want to be playing this volatile environment is through names where our risk is extremely well-defined and the reward/risk is skewed very much in our favor. This is the same playbook we use in every environment, except now our threshold for accepting a trade is much higher because our probability of success is lower due to the volatility across the market.
The types of setups we’re outlining fall into two main categories:
- Stocks that have been showing relative strength and have pulled back toward support where we can once again define our risk
- Stocks that have been exceptionally weak, but are now showing characteristics that suggest a counter-trend rally could develop
Divi’s Labs falls into that first category. The stock has performed exceptionally well and is part of a Nifty Pharma sector that’s outperforming the broader market. Prices recently pulled back below support but were quickly able to regain it with momentum remaining in a bullish range. From our perspective, as long as prices are above 1,900 on a daily closing basis then the bias is higher in the stock with a long-term target of 2,755.
Moil Ltd. falls into the second category of trade ideas. The stock has fallen nearly 70% since late 2017 and has now undercut its 2015-2016 lows near 96. This sets up the potential for a failed breakdown and bullish momentum divergence to confirm and spark some mean reversion in the near-term. With that said, this thesis is only valid if prices can get above 96 and stay there, and would target 118 over the next few weeks.
There’s no doubt that this remains a trader’s market. Volatility is elevated and we’re not seeing the structural improvements needed to suggest a long-term bottom is in and that market participants with a multi-month/multi-year time horizon should be putting money to work just yet.
Cash and patience remain the best positions for them.
If you are trading actively though, these are the types of opportunities we’re looking for. If the market does stabilize in the near-term, it’s going to be stocks at the extremes…ones that have held up well during the carnage, and those that have been beaten up heavily, that move most aggressively.
Last but not least is a reminder that our main focus is on risk management. There will be large moves in a lot of stocks, but it’s important to focus on only those opportunities that fit your process, have well-defined risk, and offer a reward/risk potential that’s elevated enough to put capital at risk amidst the volatility.
The setups above are the types we like for a trade in this environment…but only with the clear understanding that if the Nifty 50 remains below 7,900, most are likely to fail or never trigger in the first place. We’ve side-stepped this market decline and now have the flexibility to test the waters and see how things develop. The market’s likely to give us our answer very quickly.