Thursday, May 17, 2007

Update MVIS - Long Term Trend Evaluation

For day and swing traders, chart analysis is primarily concerned with short term time frames such as the 30 minute and daily chart. The anticipated holding period dictates the various time frames required for proper analysis. With these shorter time frames, indicators will expediently signal impending trend changes. However, using these durations are much more prone to inaccuracies such as noise and whipsaws, when compared to longer durations. Essentially, we substitute accuracy for speed with sequentially smaller time frames.

For my long term holdings I use the more accurate and smooth weekly time frame for trend analysis. A great example (one which I failed to capitalize on) was appreciated during Hansen Natural Corp's(HANS) +1000% rally. Utilizing the weekly time frame and holding the stock instead of buying and selling through this multi-year rally would have resulted in monumental gains. From July of 2004 to July of 2006, HANS only once broke below the established weekly bottom trendline. Even during the November 2005 breakdown, the stock quickly regained its composure and resumed its nearly vertical climb. It was not until August of 2006 that HANS actually broke down, indicating the changeing of underlining market sentiment. It would have been at this point that longs should have exited positions and booked profits.

Aside from trendlines, there are several important indicators which work well with the weekly charting landscape. These are the Average Directional Index (ADX), Chaikin Money Flow (CMF) and moving averages (MA). These three are important because they dictate trend strength, locate accumulation vs. distribution and trend identification.

For the purposed of this analysis I will one of my long term holdings, Microvision, Inc. (MVIS) as an example. MVIS is a development stage company attempting to commercialize a miniature display and imaging engine based on its patented integrated photonics module (IPM). Observing the weekly chart, MVIS has printed a transparent up trend since August of 2006. During this uptrend the indicators(listed above) not only cross verified the trend but also strengthened during the subsequent rally.

Average Directional Index

ADX is a simple indicator which gages the strength of the underlining trend. The indicator ranges from 100 to 0, although readings above 60 and below 10 are exceedingly rare. Readings above 40 indicate a strong trend and readings below 20 indicate a weak trend(sideways trading). It is important to realize that this indicator doesn't define the trend as bullish or bearish it only dictates trend strength. According to the ADX indicator, MVIS's trend has been strengthening since October of 2006. Currently, the ADX reading is at 44, indicating an incredibly strong trend. For longs this is important since MVIS is in a clearly visualized uptrend.

Chaikin Money Flow

CMF gages the amount of buying and selling pressure by determining the daily average close relative to the high and low for a given period. For my charts I use a 20 day period. To determine accumulation and distribution, three basic observations should be noted. First, what is the value of the oscillator? With MVIS's chart, the indicator is clearly above zero and has been so since the start of the uptrend in October of 2006. Any readings above zero indicate accumulation. Second, what is the amplitude of the oscillator? The higher the reading moves above zero the higher the amplitude of the oscillator. For MVIS, CMF has been gaining in amplitude and is currently sitting at reading of positive .11. It should be noted that readings above .25 indicate strong accumulation. Finally, the duration the oscillator remains above or below zero identifies how strongly the equity is being accumulated or distributed. Aside from a minor dip below zero in early November of 2006, MVIS's CMF has remained above zero, indicating sustained accumulation.

CMF is also important when determining trend support. An uptrend is not sustainable if the stock is under heavy distribution. During instances such as this a divergence forms. The stock move higher while the indicator continues lower. Ultimately, a correction will be required. Either the share prices will have to move lower or the indicator will have to turn positive. For MVIS however, this is a non-issue. During MVIS's ascent the CMF indicator has remained positive giving the current uptrend sustainability.

Moving Averages

MAs can come in all different durations and types. Without getting too specific, MAs smooth the price action out over a specific duration. The longer the MA duration the more smooth the reading. With the weekly chart this smoothing effect is all the more pronounced. For example, the 50 and 200 weekly moving averages print the average share price over 50 and 200 weeks respectively. Since the 200 WMA gages the average share price over an extensive duration it is viewed as the most accurate determinate of long term market sentiment. Essentially, a stock trading under its 200 WMA is generally considered bearish and a stock trading above their 200 WMA is considered bullish. MVIS is in fact trading well below its 200 WMA of $5.30. A break out above this level should be viewed as very bullish and thus beneficial for longs. Another important technical alarm to hed is the golden cross, or the instance where the 50 WMA crosses above the 200 WMA. For a previous post on the golden cross click here.

Despite the simplicity of moving averages, they are important during trend evaluation. During an uptrend, moving averages will gradually move higher starting first with the shorter durations first i.e. the 10 and 20 WMA. Once the 50 and 200 WMA start to move higher, the uptrend finally obtains long term creditability. MVIS for example has made a phenomenal move since its low during August of 2006, however the 50 WMA has only recently started to move higher. If MVIS's share prices continues to move higher so to will this longer MA, further strengthening the trend.

While technical analysis is viewed by some as tea leaf reading, charts hold much truth and knowledge as they map out battles held between buyers and sellers. For a truly holistic approach to investing one should combine sound technical analysis with sufficient due diligence.