Swing Trading with PowerRatings: Model Trade of the Week in Homex Development
When a stock that has been trading in bear market territory for months begins to make a move higher, traders and active investors should be forgiven for being skeptical.
Short sharp rallies separating extended falling prices are the nature of stocks trading in bear market territory. These are the stocks that, by definition, are moving lower most of the time, certainly more often than they are moving higher. Traders looking for a consistent approach to dealing with stocks – and exchange-traded funds – like this are best off not fighting the pattern but trading with it: selling strength and buying back weakness.
This kind of approach helped traders take advantage of a rally in bear market territory in Homex Development Corporation (HXM), one of our lowest rated stocks of the past week. HXM was also an excellent example of how using a trading strategy of intraday entries helped traders and active investors take a short position in the stock near its short term high.
Shares of HXM began earning significant downgrades in the first half of October, and by the 12th had earned out lowest possible “1 out of 10” rating.
At this point, HXM becomes a potential trading target based on the tactic of intraday entry. Having earned a rating of 1, if HXM traded higher by 3% or more the following day, the intraday entry tactic calls for taking a short position at that level.
The tool to accomplish this kind of trade is a limit order that allows traders and active investors to establish the price they are willing to pay for a stock ahead of time.
If the stock does not continue higher the following day, or at least not high enough to trigger the limit order, then there is no trade. But if the stock does rally by 3% or more the following day, the trade is filled and a short position established.
In the case of HXM, it took two tries before the stock followed through by more than 3% after earning a rating of 1.
From here, all the trader need do is wait for the stock to sell-off, closing below its 5-day moving average. The 5-day moving average is a dynamic exit that helps trader capture as much of the stock’s move as possible, while still providing a clear and unequivocal exit signal.
This time, the sell-off in HXM came immediately, with the stock dropping sharply the day after the hypothetical short position was established. For traders who took advantage of the stock’s low rating and its follow-through to the upside the following day, gains of more than 6% were the reward.
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David Penn is Editor in Chief of TradingMarkets.com