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Using a Long-Term Chart to Make a Short-Term Trade
08/05/2010 12:01 am EST
It’s very rare to see such a powerful move as the recent rally phase in Cognizant Technology Solutions (CTSH) as we see off the late-2008 lows, but it’s more than that.
CTSH rallied from a $5.00-per-share low in mid 2003 to peak just shy of $50 per share—a ten-bagger stock—in early 2007, and then moved sharply from $15 per share at the late-2008 low to the current level that broke above $60 on this morning’s gap.
Before rushing to buy this stock, it could be worth it to take a look at the monthly chart and the classic “measured move” pattern—also known as a long-term bull flag.
Let’s see it in its purest form, CTSH monthly:
CTSH shows us a great example of a flag on a very high time frame—one that lasted almost a decade.
To refresh, the rally from “A” to “B” is the “pole” of the flag, while the decline from “B” to “C” is the “flag” of the flag.
Traders look to play the expected “measured move” portion either once they feel price has found support at the bottom of the flag (very aggressive), or when price confirms the upward move by breaking above the higher declining trend line, in this case at the $25.00 area (a more conservative tactic).
CTSH has now achieved—and slightly exceeded with the gap—the full measured move of the bull flag pattern on the monthly time frame. For reference, traders may also call this pattern an “AB=CD” pattern.
The main idea is that price has achieved its upside price pattern projection today, so we need to see if sellers step in to drive price lower, or if buyers step out to take their profits.
If you’re just looking at the daily or even the weekly chart, you won’t see this pattern. That’s not to say that price is required to stop cold in its upward move when it hits the target, but that is a possibility that we need to monitor.
Otherwise, a continued move above $60 and today’s spike high of $64 breaks the pattern target, but if we start to see price tick lower under $60, do be careful with your long positions.
Watch price—and not your emotions (as in “Oh, I have to get long because price just gapped high”)—in deciding when to enter, where to place stops, and how high to hold for a price target.
Here is a quick glance at the monthly chart with a few other indicators overlaid beyond the pure pattern:
I cheated by adding back in the flag illustration, but I did want to call your attention to a few other chart points. First, price is extended roughly $15 (a full 25%) above the 20-month EMA. That is very rare when a stock can stay that far above the monthly average.
Volume has been declining as the rally continued, but that is likely in large part to participants buying fewer shares for their trading and investment decisions as the price has quadrupled from its late-2008 low. Higher prices mean investors can buy fewer shares for the same dollar amount in a position.
I’m also showing what I think to be a neat Elliott Wave count from the 2003 bull market rise to the “ABC” correction phase (flag) that ended at the late-2008 lows of $15 per share.
It looks like the move from $15 to $60 has been a single swing, or a single “wave”—at least on the monthly charts—but that’s just for trivia’s sake.
The monthly price chart of CTSH is very interesting and holds some valuable lessons. For now, let’s see what happens here at the price projection target completion (a fancy way of saying “Bulls may be looking to sell shares to take profits”) at the $60.00-per-share level.By Corey Rosenbloom, trader and blogger, AfraidToTrade.com
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