Trade Idea: exploit bullish breakouts and buy protection with an Index short trade
Bad news coming from Europe with the altogether disappointing outcome of our elections did not divert the uptrend of the US indices. The Dow Jones surged close to the key 14,082 resistance. As it is usually observed historically, a breakout over this level can be achieved exclusively with a large aggressive move. We do not see room for such a quick bounce in the short term. Bullish investors have to defeat much volume built up in the 14,090 area in the form of supply due to fear of headwinds such as the sequester looming over the US economy with 82 billion spending cuts due to kick in. On the contrary, we see much volume on the bottom of the consolidation area, and less volume on the top, which this shows how bullish investors are reluctant to bid up the stocks.
However, termination of an uptrend does not imply an immediate downtrend. The index has been consolidating for a while, but the consolidation is enduring a higher volatility, which leaves room to the speculative investor.
There are other reasons to believe the index is poised to a prolonged downturn; the American Association of Individual Investors index – which provides a good measure of the market mood – turned down, with less fund managers convinced that bulls are capable of defending their status (for informative purposes: http://www.aaii.com).
Shorting the index is a way to take advantage of this argument. Given the delicate situation, though, it is imperative to manage the portfolio with caution. In order to seek protection and reduce the overall risk while maintaining an adequate exposure to short-term profits, we recommend exploiting breakouts happening across a number of stocks making up the S&P 500. When the market reaches a new high, a growing number of stocks start to break resistance levels, while others hold back, averaging down the index level.
In particular, OpenTable came to our attention. The stock, that offers online restaurant reservation, broke the $56 level and it is not set to move higher.
The spread OpenTable – Dow Jones should offer an appealing potential by taking advantage of the limited upside potential of the index while protecting from a spike which would trigger a breakout above 14,100 level; in that case, indeed, OpenTable would outperform the index.