Friday, November 29, 2013

Hey, AAPL, go bump your head!

Update 12/18/2013: As the title of this analysis suggested, AAPL bumped its head, sooner rather than later.

AAPL's wave A to the upside, a correction within a second wave in the decline from its peak of $705.07 on Sept. 21, 2012, ended Dec. 5, 2013 at $575.14, marking the start of wave B to the downside under my Elliott wave analysis. 

The price fell below the 10-day price channel today, sending a signal, and I've closed the position based on my assessment of the chart.

Wave B at this degree can be expected to produce a significant decline.

The higher degree wave 2 {+1}, which contains the present wave B, began April 19 from $385.10. If wave B is proportional, it could well take eight months to complete. However, there is no rule that requires proportionality. (See the left-hand chart in the Dec. 3 update, below.)

Under the Elliott wave rules, wave B can be expected to show a three wave structure at one degree lower and can't move below the start of the preceding wave A, $385.10. It need not go down that far, it just can go no further. If the price falls below that level, then my count was wrong and will require reassessment.

AAPL's share price declined by 3.2% over the 15-day life of the position, or down by 77.9% annualized.

The options spreads had a negative yield on risk of 11.2%, or 272.6% annualized.

Update 12/3/2013; I've opened bull position in AAPL. The stock sent a bull signal last week but lost momentum. It regained its upward course today, again break free of the price channel.

Also, the prior chart had a degree of ambiguity: Is the present rise a third wave, wave 3 {-2} or wave 5 {-2} in the chart below? 

Monday's peak and decline followed by today's higher high resolves the question in my mind. I've labeled the new chart accordingly.

AAPL 2 years daily bars (left), 5 days 10-minute bars (right)

I structured the trade as a bull put options spread, sold for credit and expiring Jan. 17. The short puts have a 52% chance of expiring out of the money, so in terms of options modeling, the position is an even bet.

I was willing to reduce the odds in exchange for a higher yield because the January expiration date is relatively distant; there's time for random jitterbugging to right itself before the position ends.

The position has 3:1 leverage with a maximum potential yield on risk at expiration of 30.4%. There's a 1.6% hedge of profitability at expiration beneath the entry price.

Apple Inc. (AAPL) broke above its 20-day price channel on Wednesday, the day before Thanksgiving.

The appropriateness of analyzing the maker of iPhones and iPads and so many other goodies on America's premier shopping day, Black Friday, was so great, that when the bull signal was confirmed, I immediately tossed out my other prospects and resolved that this would be an AAPLish day.

Not that I'll be trading. The markets close early at 2 p.m. New York time, and volume will be low, as many traders take the day off. Days like this tend to be quirky, as though the interns were in charge, sailing pizza pans down the aisles as make-shift frisbees and placing trades between throws.

I'll also take a look over the weekend at the other signals for the day and if any seem worth the exercise, shall file an analysis. (See "Friday's Prospects".)

As has been endlessly reported, AAPL peaked on Sept. 21, 2012 at $705.07 and has not seen that level since. By my long term Elliott wave count, that peak ended an uptrend that began at $3.19 on July 10, 1997.

AAPL 20 years monthly bars (left), 2 years daily bars (right)
In talking about AAPL, it is important to keep the perspective straight. The uptrend lasted 15 years and two months, and in its lifespan had a net rise of 22,002.51% (left chart). A trend of that magnitude takes a long time to unravel, and indeed, a long time to successfully apply the brakes.

It is very well possible that the 15-year wave V to the upside is still completing its course.

Or not.

Since the peak, AAPL, has fallen in the Elliott wave manner of a dominant trend. That's a long way of saying that AAPL was in a downtrend for eight months ending last June and declining by 44.8%.

I think this chart makes a good case that wave I of the new downtrend is fact complete, and in record time. It has covered 50% of the rise from 2009, and about 40% of the rise from 1997. I tried hard to count it as waves of still lower magnitude because the decline has taken less than a year, whereas the final wave up in the prior uptrend took nearly four years. I'm seeking balance, but the markets are under no obligation to provide it.

If my count is complete, then AAPL's future looks looks like this: The present uptrend, wave A of II, continues to rise, but stops short of $705.07. It has already retraced 50% of the decline from June. The next stopping place, a common retracement level, is 61.8%, at $582.84. That provides 4.5% of headroom, not awful but not great, either.

If the pattern is a rising zig-zag scenario, then wave A will be followed by wave B to the downside, which will stop short of $388.87, and B in turn will be followed by a wave C rise that will make everyone jump up and throw confetti to celebrate the presumed start of an explosive rise in AAPL. The Elliott wave count suggests that they'll be seriously disappointed.

If it is a flat, then wave A will approach closer to $705.07 and will trace out a series of waves with roughly equivalent tops and bottoms -- a sideways trend -- to be followed, as above, by a wave B decline below the sideways trend's floor, and then a wave C rise.

Of course, if I've entered a bull position, I'll be cheering for the flat scenario. I'll want AAPL to jump up and bump its head smartly against the $705.07 ceiling, thank you very much. That would give 27% headroom, a very nice gain indeed.

So there is room to profit from AAPL, from the small to the awesomely large, within this scenario, despite my conclusion that the dominant long-term trend is down.

In my experience, second waves tend to come in as zig-zags more often than not, so I think the lower ceiling and smaller profit are more likely. But the markets never lose their capacity to surprise.

The decline, under the Elliott wave scenario, resumes from the end of wave C, as a third-wave decline to new lows.

Elliott wave counts are notoriously subjective, because it is impossible for the analyst to know for certain which magnitude a wave belongs to. Truly, there are no markers. With Elliott, as with any analytical tool, a trader trusts the results until they the model breaks, and then goes back and analyzes again with new data.

If the present wave A uptrend breaks above $705.07, that would break the model and the whole scenario that I've constructed above would collapse into ruins.

Brokerages have high hopes for Apple's prospects, collectively coming down with a 57% enthusiasm rating.

The company reports return on equity of 29% -- excellent by any standards -- and with low debt amounting to 14% of equity.

Apple's earnings peak in the quarter covering  the winter holiday shopping season, The 2012 season beat that of 2011, which in turn beat 2010's. The interim quarters in 2013 have been below their year-ago counterpart's, and analysts will be watching closely to see whether the Black Friday and subsequent weekend shopping will turn that around.

Institutions own 56% of shares, which are priced at a premium to sales. It takes $2.87 in shares to control a dollar in sales.

AAPL on average trades 9.5 million shares a day and supports and awesome selection of option strike prices, with open interest near the money running to four and five figures. The front-month at-the-money bid/ask spread on calls is narrow, at 1.1%.

Implied volatility stands at 24%, which is in the 53rd percentile of the one-month range, a neutral level. It began rising from a 21% interim low on Nov. 27.

Options are pricing in confidence that 68.2% of trades will fall between $517.83 and $596.17 over the next month, for a potential gain or loss of 7%, and between $538.18 and $575.82 over the next week.

Contracts are trading heavily today, with calls running at four times their five-day average volume and puts at three times average.

Apple next publishes earnings on Jan. 23. The stock goes ex-dividend in February for a quarterly payout yielding 2.19% at today's prices.

Decision for my account: I'm not trading today because it is the day after a holiday. I'll add AAPL to the Watchlist and give it another look on Monday. In general, I see it as a reasonable bull play. Under Elliott wave doctrine, there's room to the upside for wave II.


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

I use the number 68.2% in using applied volatility to calculate the expected trading range. 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

Several web sites summarize Elliott wave theory, among them, Investopedia, StockCharts and Wikipedia

By preference I place my trades in the last half hour before the closing bell in New York. See my essay "When is the best time to trade" for a discussion of the practice.

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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