Many traders now understand that
buy-and-hold
strategies can suffer from steep losses for years at a time. This
knowledge was probably acquired from expensive first-hand experience. In
a strong
bull market that lasts for decades,
buy and hold is a sound
investment strategy. But in a long-term
bear market
like the one that has provided the backdrop for stocks since 2000, it
is usually better to take profits when long-term sell signals develop.
Major stock
market
averages, like the S&P 500, have recently fallen below their
200-day moving averages (MA). Some have rebounded above the average, but
throwbacks after a trading signal are common. A throwback occurs when
the price is "thrown back" through the signal and generates short-term
trades while the direction of the long-term trend is resolved.
Breaks
of the 200-day MA, even with throwbacks, are often a sign that the
long-term trend is changing. In this case, we could see a large price
decline develop over the next several months. In an environment like
this, it is important to take profits when the chart gives a sell signal
like it is in
The Coca-Cola Company (NYSE: KO).
KO is one of the classic examples of a
buy-and-hold stock. It is one of the largest companies in the world with
steady sales from a product that is among the most recognized brand
names in the world. Its
dividend
is considered to be safe and the stock is a favorite of income
investors, while long-term investors have been well rewarded by the
company. In the bull market that started in 1982, KO gained more than
5,500%, plus dividends, but since reaching its all-time high in 1998, it
is down about 16%.
Now, KO has formed a head-and-shoulders (H&S) pattern and fallen below its
200-day moving average (MA). In the chart below, the 40-week MA is shown because the pattern is easier to
spot on the weekly chart. The trade strategy is the same whether a weekly or daily chart is used.
In
a H&S pattern, three peaks are seen at the end of an uptrend. The
head of the pattern is more than 115% above the lowest price KO reached
in 2009. The pattern suggests the end of the trend in KO is coming at
the same time the general trend in the stock market is turning down.
It is also possible that KO, and other stocks favored by buy-and-hold investors, could come under pressure from
tax selling. As a classic buy-and-hold stock, many shareholders in KO have probably held their positions for years.
Taxes
on long-term capital gains are slated to rise next year no matter how
the current negotiations over the fiscal cliff end. Because of the
higher tax rates to come, some long-term investors may decide to take
gains this year and free up capital to put into faster growing
investment options.
Even without tax selling, KO seems destined to
fall at least 10% based on the chart pattern and should reach $32 a
share. That target is obtained by finding the distance from the top of
the head to the neckline in the pattern and subtracting that from the
neckline.
In a larger stock market sell-off, the price could go
even lower. KO seems like a short trade candidate, but the dividend
makes shorting the stock expensive. When you short a stock, you borrow
the
shares that you sell from your
broker and are liable for the dividend payments in addition to other costs related to borrowing the stock. Given the high costs, a
put option strategy could be more profitable.
February
$35 puts are priced at about $0.43 and would be profitable if KO falls
below $34.57, about 7% below the recent price. At the target price of
$32, the puts would be worth $3. This is a low-priced way to
profit from the H&S pattern in KO and a possible market decline.
Recommended Trade Setup:
-- Buy KO Feb 35 Puts at $1 or less
-- Set stop-loss at $0.25
-- Set initial
price target at $3 for a potential 200% gain in three months
Today
54-year market veteran and analyst Ron Rosen sent King World News
exclusively some outstanding charts and commentary for our global
readers. This will give KWN readers an important snapshot of of the
extraordinary roadmap he sees going forward for gold, silver and the
HUI.
