Alon Energy USA Divergence Signal Near Major High

02/08/13 09:41:10 AM

by Donald W. Pendergast, Jr.

Shares of ALJ have had a strong bullish run since June 2012 but may be due for a proportional pullback to support soon.

Security: ALJ
Position: N/A

Energy sector stock can sometimes make sharp, sustained swing and/or trending moves, and few liquid stocks in the oil/gas production industry group have moved as far and as fast as Alon Energy USA (ALJ) over the past eight months. Since making a major multicycle low in on June 5, 2012, the stock managed to rise as high as 176% by early February 2013 and is still trading very close to its recent five-year high price of $20.74 as this is written.

There are, however, technical warning signs of an impending near-term pullback and/or trend reversal, one that might already be under way now. Here's a closer look at ALJ's daily chart (Figure 1).

FIGURE 1: ALJ, DAILY. Extended moves above the top Keltner band are a rarity in most stocks, and ALJ is no exception. Note how the previous bearish money flow divergence pattern accurately warned that a near-term top had already been achieved by the stock. A similar pattern may be playing out right now.

Graphic provided by: TradeStation.

Since ALJ began trading back in the summer of 2005, the stock has only managed to achieve four episodes of trading activity above the upper Keltner band. Three of these were very short-lived events lasting only a bar or two, while one of them was actually able to stay above it for nearly three weeks in February 2011.

As in the case of most liquid stocks, a touch of the extreme upper band usually means that you are close to the end of a major swing or trending move and need to aggressively protect open long trades and/or prepare to go short once certain technicals line up.

ALJ hasn't yet touched the top band, but it has made two valiant attempts to do so over the past six weeks, failing on both tries. And with a decisively bearish price/money flow divergence now suggesting that a major top is already in place, savvy energy stock traders need to be investigating their various options for trading ALJ on the short side.

FIGURE 2: ALJ VS ENERGY PRODUCTION STOCKS. ALJ has been performing very well over the past year, easily beating out the other eight oil/gas production stocks shown.

Graphic provided by: TradeStation.

Graphic provided by: TradeStation Radar Screen.

One of the simplest short entry triggers is to use the break of a near-term chart support level as a short signal. In ALJ's case, the February 5, 2013, low of $19.08 is the support level that will most likely be a highly watched area by technicians. If ALJ drops below $19.08, consider the purchase of the June '13 ALJ $20.00 put(s), using the next lower support area at $17.25 as your rational profit target zone (pink shaded area). This is where the January swing low of $17.25 and the Keltner band mid-line at $17.19 are in close agreement as to where the next meaningful support level is once 19.08 gets taken out. See Figure 2.

The June $20 put bid-ask spread is fairly wide, so plan to work your order to get the best possible price and make sure to close out the trade (if filled on the break of support) if the option doubles in price or if $17.25 to $17.50 is reached first. If the put declines in value by 50%, just close it out and wait for a more promising setup. As always, never risk more than 1% to 2% of your account value on any particular trade, no matter how promising its setup looks on the chart.

Many stocks in the oil/gas production and oil services industry groups have also enjoyed large gains over the past two to three months, with quite a few also manifesting bearish money flow divergences with the price action on their own charts, so it shouldn't take too long to identify plenty of suitable short stock and long put trade setups. Trade wisely until we meet here again.

Donald W. Pendergast, Jr.

Freelance financial markets writer and online publisher of the Trendzetterz.com S&P 500 Weekly Forecast service.

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Alon Energy USA Divergence Signal Near Major High

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