Technical Trading Ideas: SPY, VXX, GLD

by on November 18, 2010 | ETFs Mentioned:

Equity markets have been on a wild ride over the last several days, as mounting fears that China will soon move to reel in its red-hot economy and rumors of a bailout in Ireland spooked investors early in the week. Most markets rebounded sharply on Thursday, however, with the headline story being the “rebirth” of GM on the New York Stock Exchange and also a positive market reaction to a mixed jobless claims report. Investors looked past the fact that prime fixed-rate mortgages and new foreclosures climbed to new highs in the third quarter, snapping up risky assets. The sharp downward momentum early in the week provided buying opportunities to active traders, who were quick to recognize the markets holding at key levels yesterday, and coincidentally rebounding generously today. But the ship might not have sailed just yet, as longer term opportunities may still exist.

Technical Insights: SPY

One of the most popular tools for active traders is the SPDR S&P 500 Trust ETF (SPY), which declined about 2% during the storm of bad news earlier in the week–its largest correction since the start of September [see Closer Look at S&P 500 Options]. The recent correction in SPY proved to be a terrific entry point for momentum traders yesterday, but the opportunity to buy low and sell high has not evaporated entirely yet. Active traders can draw a Fibonacci Retracement starting at the last time SPY was oversold (based on Daily Stochastic Momentum Index) up until its recent peak on November 9th, and generate projections of the most likely price levels to which SPY may retrace. Tuesday and Wednesday of this week were pivotal days, as SPY struggled to keep its head above $118–which happens to be the first Fibonacci Retracement projection at 23.6%. On a more microscopic level, its evident that the SPY managed to hold key support on Wednesday, and those who were aggressive in trading the 1-hour Stochastic Momentum Index are surely smiling today, considering they had a buy signal a day before the bulls came back marching down Wall Street.

As mentioned earlier, those with a longer outlook may still take advantage of SPY’s correction and establish a position. This ETF has room to run up until it hits potential resistance right below $123. Drawing a reverse Fibonacci Retracement starting at the market peak of October 2008 down to the low in March of 2009 shows projected retracement levels for SPY. In fact, the monthly chart reveals that the reverse retracement actually outlined a relatively accurate trading range for the market during the later half of 2009 (when it broke through the 38.2% level) and 2010 (when it struggled to break above 61.8%). Keep an eye on SPY as it nears $122.95, recognizing the importance of its ability to close above the critical 61.8% level.

Investors are advised to be cautious and watch for the 1-hour Stochastic Momentum Index to retrace instead of being aggressive and chasing to buy the SPY as it inches higher. In addition to keeping an eye on volume, momentum, and price activity, prudent traders exercise caution by using stop-loss orders to manage capital exposure per trade and essentially determine how much downside they can tolerate.

Consider Volatility

When looking for trading opportunities in any asset class, it’s important to consider the market volatility, as it can often times provide insight as to the significance in price fluctuations. The iPath S&P 500 VIX Short-Term Futures ETF (VXX) consists of daily rolling long positions in VIX futures, essentially reflecting the implied volatility of the S&P 500 Index. VXX shot up more than 10% from its low of $45.6 on Monday afternoon up to its peak of $50.63 near the market close on Tuesday, as markets worldwide digested news of economic uncertainty. The sharp spike in the VXX correlated appropriately with the two day sell-off on Wall Street.

VXX is currently trading around $45.25, down 6% today alone, managing to quickly retrace downward as a result of the drastically lower volatility on Wednesday, coupled with today’s rally. Considering that VXX has been in a downtrend since July of 2010 (decreasing market volatility), it is no surprise that the drastic spike in volatility influenced some panic selling this week, further contributing to the scope of the market’s decline. The theoretically inverse relationship between the S&P 500 and the VIX  comes into play here. Considering the recent test of support levels in the SPY, coupled with a decreasing VXX, it appears that a cautiously bullish outlook may be justified going forward.

Revisiting GLD

If you bought SPDR Gold Shares (GLD) last week based on 1-hour Stochastic Momentum Index, and observed conservative profit taking techniques, you likely profited from its run up to $139.15 a share. On the contrary, if you were not actively monitoring GLD, or didn’t have stop-loss orders in place, then Tuesday of last week (November 9th) must have surely been painful as GLD managed to set a new high and still sell-off going into the close, shedding more than 2% for the day. Since last Friday GLD has been slipping further down each day, hitting a recent low of $129.83 a share on Tuesday this week [see Technical Trading Ideas: GLD]

Even more noteworthy is the fact GLD managed to hold support above the $130 level, while its daily Stochastic Momentum Index retraced nicely from overbought to currently oversold conditions. GLD was up about 1.4% today, and for those that are still bullish on gold, it seems that a decent entry point still exists. Investors and traders alike are encouraged to use stop-loss orders (as mentioned earlier) in order to protect themselves against unforeseen volatility and determine exactly how much capital they wish to risk per trade.

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Disclosure: Stoyan is long GLD.