Monday, September 9, 2013

WLK: Chemical bull play

Update 9/11/2013: WLK has fallen through its initial stop/loss point after J/P. Morgan downgraded it. I held the position for only two days, for a 4.4% loss, or a ridiculous 806.2% annualized.

The decline stopped short of the lower boundary of the 10-day price channel. The closure was instead triggered by the initial stop/loss, amounting to double the two-day true range below the entry price.

In my initial analysis, below, I noted a major ambiguity in the Elliott wave count. As it turns out, today's downturn negates neither. A further rise would have favored the fifth wave (v) up hypotheses. A downward correction would favor the third wave (iii) hypotheses.

As it is, the decline is not yet of a magnitude to count as a downward correction, so the ambiguity stays in place.

Chart ambiguities aside, the only hint that things might have been amiss came from the stock price, which came off of its high after the first hour and 15 minutes of trading. It stayed below its high the rest of the day.

Westlake Chemical Corp. (WLK) is midway through a push up that began June 28. It broke above its 20-day price channel on Friday and confirmed the bull signal today by trading still higher.

The Elliott wave count as I see it completed a third wave up at $67.77 in April 2011, part of the great post-recession recovery that began from March 2009. WLK corrected in a sideways movement through June 2012, and then began the present fifth wave  (5) up that is still in progress.
WLK 3 years daily bars

By that count, my preferred, the lower magnitude wave count is a third wave (iii), suggesting a correction and then a further rise. Since the second wave (ii) correcton was a simple decline, the likelihood is that the fourth wave (iv) correction with be sideways.

Or maybe not. Under an alternative count, the fourth wave down (4) may well have ended in October 2011, where I've put the label "or 4?".  If that's the case, the present smaller magnitude wave must be labelled as a fifth wave (v), suggesting the end of the uptrend is nigh.

I chose that third wave (iii) scenario because the magnitude of the fourth wave (4) correction under the alternative count seems too short in time.

Also, the fourth wave (4) correction works well preferred count as a triangle, setting up a reasonable channel for the higher magnitude fifth wave (5).

The channel doesn't work well at all under the alternative setting, since the baseline would send upper boundary soaring well above the actual track of the price. It's possible, but inelegant.

WLK has experienced one prior bull signal since the present third wave (iii) began under the preferred count. It produced a 7.8% profit over 72 days.

The stock has completed five bull signals since the present fifth wave (5) began in 2012. Three were successful, producing an average 16% profit over 62 days. Two were unsuccessful, showing an average 9.2% loss over 18 days.

Westlake Chemical, headquartered in Houston, Texas, makes chemicals, vinyls, polymers and fabricated building products. It provides the back-end materials used in a lot of manufacturing sectors. with 2,000 employees, the company operates in 15 North American locations and one in China.

Analysts have a negative view of Westlake's prospects, collectively coming down at a negative 50% enthusiasm rating.

Certainly they can't be looking be looking at the financials. The company reports return on equity of 23%, with debt amounting to 36% of equity.

Earnings have been on the rise for the last two quarters, and looking at the last 12, the company has been profitable in each. It has produced upside earnings surprises in 10 quarters, including the last three, a downside surprise in one, back in 2011, and no surpise in one, the 3rd quarter of 2012.

Institutional ownership is quite low, at 31% of shares. The price has been bid up somewhat, to where it takes $2.05 in shares to control a dollar in sales.

WLK on average trades 314,000 shares a day, sufficient to support a good selection of option strike prices spaced $5 apart. Open interest runs as high as four figures.

However, the distribution of open interest is such that I can't construct a workable options spread. Also, the bid/ask spread on front-month at-the-money calls is awful, at 21%. I won't trade that broad a spread.

Implied volatility is running at 32%, in the bottom quarter of the six-month range. it has been zig-zagging higher since late August.

Options are pricing in confidence that 68.2% of trades will fall between $97.13 and $116.77 over the next month, for a potential gain or loss of 9.2%, and between $102.23 and $111.67 over the next week.

Trading in options is quite active today, at nearly three times the five-day average volume for calls and more than three times average for puts.

The fair-price zone on today's 30-minute chart runs from $105.94 to $106.99, encompassing 68.2% of transactions surrounding the most-traded price, $106.23. WLK opened near the zone floor this morning, rose to the ceiling in the first hour, fell to the floor, and then rose to the ceiling again.

Westlake Chemical next publishes earnings on Nov. 4. the stock goes ex-dividend in December for a quarterly payout yielding 0.84% annualized at today's prices.

Decision for my account: The chart is ambiguous, but having named one count as my preferred, I'll stick with my judgment. I've opened a bull position in WLK, structuring it as long shares.

My trading rules can be read here. And the classic Turtle Trading rules on which my rules are based can be read here.

At several points in my analysis I use the number 68.2%. This comes from statistics and refers to the one standard deviation boundaries, which are expected to contain 68.2% of whatever is being studied. Putting it another way, given an item (a trade or whatever), there is a 68.2% chance that it will appear within those boundaries.

Elliott wave analysis tracks patterns in price movements. StockCharts has a good explainer. The principal practioner of Elliott wave analysis is Robert Prechter at Elliott Wave International. His book, Elliott Wave Principle, is a must-read for people interested in this form of analysis, as is his most recent publication, Visual Guide to Elliott Wave Trading

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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