Fact is, GE's fundamentals and technicals argue against holding a bullish position. It really belongs on my Wounded Birds list of flawed stocks that are still interesting.
But, I mean, it's GE. A gigantic transnat.
As birds go, GE makes Big Bird look like a canary.
| pps | pfe trend | pfe loc | |
|---|---|---|---|
| GE |
So what do I do about GE? Keep the wounded bird in my portfolio, hoping for a recovery? Nuture it gently back to health by mitigating the possible damange? Or toss it out the door, to face the hawks on its own?
A tough decision, but of the sort that traders thrive on.
GE's flaws are readily apparent from its balance and income statements. The company was hit hard by the 2007/2008 collapse of a capitalist finance. While it is making a valiant recovery, it is not exactly at the peak of health yet.
Far from it: The return on equity is under 10%, and debt is more than four times equity.
While the daily-chart technicals, above, are excellent, the long-term monthly chart paints an ambiguous picture. The confirmation line has stair-stepped down in a series of lower highs and lower lows since last June, dropping from above the +50 line to below zero.
Monthly chart:
| pps | pfe trend | pfe loc | |
|---|---|---|---|
| GE |
Looking at the monthly-chart price levels -- it's a slow-trade position, after all -- the price hit a low in March 2009, recovered to a swing high last April, retrenched a bit in the summer (June through September) and is now re-testing that swing high.
Monthly-chart Reversal Levels
- $19.70, +6.0% (April swing high)
- $18.59 --- You are here.
- $16.62, -10.6% (12-month moving average)
- $13.75, -26.0% (Summer swing low)
- $5.73, -69.2% (March swing low)
A breakout above the $19.70 level would be an entry signal in my book. Without a breakout, it's a very speculative bull play.
So back to the original questions: Hold the position and do nothing? Hold and mitigate? Exit now?
I'll reject exiting now immediately. Both the daily and the monthly charts are in bull phase, and when I entered the position the monthly bull-phase was confirmed, although it has since been de-confirmed.
However, the daily-chart bull phase is aggressive: A confirmation line at the +100 mark, and a bull phase that has held without whipsawing since Dec. 1.
Hold and do nothing, with the intention of exiting if the monthly-chart turns to bear phase, is a viable strategy. However, I'm still pretty close to my basis, and waiting for a phase change might in fact lead me into a loss.
So I think mitigating the risk while continuing to hold the position is the better choice.
Here's how it would work.
My position is in the form of LEAPS -- stock options that expire a year or more away. In the case of GE, I hold calls that expire in January 2013. The position has a stock-price basis of $18.35.
Why LEAPS? For the leverage. It would have cost me $1,835 to buy 100 shares of GE. A leaps contract, controlling 100 shares, cost $197. So, with LEAPS, I can control and profit from 900 shares of GE for less money that it costs for 100 actual shares. That's good leverage!
To mitigate the risk of the position means lowering my basis. One way of doing that is to sell a GE call with a higher strike price. This sort of position -- buying a long-term option and selling a short-term option at a different strike price -- is called a diagonal.
In this case, I would be looking at the $19 February calls, which I can sell for $41 per contract. So, immediately, I've lowered the cost of the position to $156 per contract, increasing my chances of a profit by 21%.
With this play, if GE trades above the strike price, $19, then my LEAPS will be called away. I lose out on the opportunity to profit from the rise, but I get to keep the $41 per contract that I received when I sold the call. However, my profits from the forced sale are short-term, which means I pay a higher capital-gains tax rate.
Of course, $19 is below the upside resistance level, which increases the odds that my LEAPS will be called away.
If I sell a $20-strike call, expiring in February, then I get only $14 per contract, which is much less attractive.
At this point, given the attractiveness of the daily chart, I intend to wait before opening a diagonal position.
If the price stalls around the $19.70 level, then I'll sell a $20 call (for much more than $14, since a price rise in the stock means I can sell the call for more). Alternatively, I'll sell the lower-strike call, $19 or $18 strike, upon a reversal of the daily-chart signal to bear phase, on the expectation that the phase change throws more weight to the downside.
And of course, if the stock breaks through the $19.70 level without stalling, then I won't sell any calls and will instead hang on to my GE LEAPS in the expectation of long-term profits.
One note about LEAPS: If GE continues on an upward path for years, then a stock position requires no action of the trader. However, LEAPS are different. I buy two years out so I can be assured that I can hold for at least a year and get the tax break. After a year, I shall roll these leaps over to new ones, again two years out.
Abbreviations:
- pps - Person's Proprietary Signal.
- pfe trend - Trend of the polarized fractal efficiency line.
- pfe loc - Location of the polarized fractal efficiency line.
Key to the PPS/PFE tables
| column | color | meaning |
|---|---|---|
| pps | bull phase | |
| bear phase | ||
| pfe trend | uptrend | |
| no trend | ||
| downtrend | ||
| pfe loc | +100 and above | |
| +50 to below 100 | ||
| 0 to below +50 | ||
| below 0 to above -50 | ||
| -50 to above -100 | ||
| below -100 |
PPS/PFE Analytical Tools
The analysis uses the daily Person's Proprietary Signal (pps), developed by John Person.
This is a black box signals -- the "proprietary" means that Mr. Person knows how it works under the hood, and I don't. But it has shown a fair degree of success in identifying good entry and exit points, and I find it useful.
For confirmation, the analysis uses an indicator called the polarized fractal efficiency (pfe) technical tool. It uses the fractal math of Benoit Mandelbrot to measure how efficiently move between levels. The higher the efficiency, the more directional the price trend.
The math for the pfe is public knowledge, but it is well above my math knowledge, and so to me is also a black-box signal.
This is a relatively new technical tool, based on fractal math. Investopedia has only a cursory explanation. Wikipedia is silent on the subject. ThinkOrSwim has a fuller explanation.
PPS/PFE Trading Rules
These rules are very preliminary. I’m still trying to figure out how the polarized fractal efficiency signal works.
When Person’s Proprietary Signal (pps) is in bull phase, enter when the polarized fractal efficiency (pfe) line crosses the zero line in an uptrend trend) A pps signal and pfe uptrend have less strength but greater upside potential when the pfe location (pfe loc) is below +50, and greater strength but less upside potential when the pfe location is at or above +50.
When the pps in in bear phase, enter when the pfe trend crosses the zero line in a downtrend. The set up has less strength but greater downside potential when the pfe loc is above -50, and greater strength but less downside potential when the pfe loc is at or below -50.
How should the pfe line be treated when it has flatlined at either end of its range, around +100 or -100. My preliminary observations are that the price by then has had a large run and tends to present a picture of exhaustion. However, by the description of the pfe, a high level should indicate a continued strong trend.
This is something that I’ll figure out as I go along.
Disclaimer
Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decision decisions for his or her own account, and take responsibility for the consequences.
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