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Silver Standard Resources Has Short-Term Setup Based On Long-Term Cycle

01/12/09 09:08:56 AM
by Donald W. Pendergast, Jr.

Gold and silver stocks have rebounded strongly since making a major low in October 2008. Here's a look at a fundamentally intriguing stock that's currently offering a fairly low-risk trade setup.

Security:   SSRI
Position:   Buy

Many longer-term and investors seem to dislike volatility after all. Isn't volatility the reason many of their 401(K) plans have been reduced to 101(K) plans over the past year or so? On the other hand, traders in stocks of precious metals love volatility -- it's the lifeblood of successful trade setups in this emotionally charged industry group.

Silver Standard Resources Inc. (SSRI), a Canadian firm involved in the acquisition and development of mineral resource properties, has seen its common stock rise by more than 240% since bottoming at $5.35 last October. Even better, the alignment of SSRI's monthly cycle offers the potential for daily traders to capitalize on an in-quick, out-quick trade setup that will terminate by January 16, 2008.

FIGURE 1: SSRI, MONTHLY. With an average of 14.33 months between major cycle lows, SSRI has been fairly predictable in both bull and bear phases. Based on past cyclical gains in bull phases, a move up toward the green resistance zone would be well within statistical limits.
Graphic provided by: MetaStock.
Before going further, this trade setup, although fairly low risk, is more appropriate for those who subscribe to a long-term bull market in silver; in other words, they'd be willing to hold on to the stock for a few months at minimum.

The monthly chart in Figure 1 makes a convincing case that SSRI has indeed risen from a major, cyclically significant low. Note that how since 2001, the average monthly cycle (significant low to significant low) comes in at 14.33 months. It's a remarkably consistent pattern, one equally at home in both bullish and bearish market phases. Given the apparent reliability of this cycle, our next step is to determine how far each up cycle travels (in percentage terms) before peaking. Since 2001 this figure has averaged about 225%, with the individual totals coming in at 430%, 439%, 92%, 148%, 156%, and 87%, respectively. Obviously, with a 255% gain since the October cycle low, SSRI is currently beyond its average cyclical range, but given the overall relative strength of the precious metals industry group, the trade setup I'm about to describe is about as low-risk as it gets, especially for committed silver bulls. In addition, SSRI won't encounter significant monthly resistance until $21 (the Fibonacci 38.2% retracement) and then about $22-23 (the 50-month exponential moving average (EMA), an added kicker that lends even more of a bullish air to this setup.

Right now, option volatility in SSRI is still high, with current implied volatility readings in the upper 90% of all readings in the past two years. Selling a very short-term covered call could be a way to generate a high return in this rapidly rising PM (precious metals) equity. January $17.50 calls are going for about $1.50, maybe $1.55. With SSRI at $18.32 and being propelled higher by a very strong monthly cycle, the idea is to sell this in-the-money call with the intention of having the stock called away after next Friday's options expiration. If called, the trade will generate approximately $72 in profits on a cash outlay of about $1,683 -- in only five trading sessions. That's a 222% annual rate of return in about a week, assuming SSRI at $18.32 and a call sale at $1.50.

Using SSRI's current historical volatility of 46%, the stock has a 68% probability of being called away at January option expiration.

If SSRI stalls and pulls back, dropping below $17.50 at expiration, the short $17.50 call will expire worthless and the trader would still be long 100 shares of SSRI. For hard-core silver bulls, this shouldn't be a big deal; in fact, they could go ahead and sell another call against the shares if so desired. For example, as of January 8, 2009, an SSRI January 2010 $20 call could be sold for about $6.10 -- that's more than $600 in cash, up front, no questions asked for those willing to offer up their shares at $20 next January. It's another way that those with a market scenario belief can get paid up front on their favorite stocks.

There's always a trade setup somewhere, even when a stock has already had a good run. Depending on a trader's bias, risk tolerance, and account size, selling calls against long stock positions can be a reliable way to extract cash from the markets on a regular basis.

Donald W. Pendergast, Jr.

Donald W. Pendergast is a financial markets consultant who offers specialized services to stock brokers and high net worth individuals who seek a better bottom line for their portfolios.

Title: Writer, market consultant
Company: Linear Trading Systems LLC
Jacksonville, FL 32217
Phone # for sales: 904-239-9564
E-mail address:

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Date: 01/13/09Rank: 3Comment: 

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