This “Red-Hot” Stock is Ending 2016 on a Cliffhanger

December 29, 2016
By

It seems fitting to round up the year in my Beat the Bell column with one of the hottest stocks of 2016. The stock is none other than Nvidia Corporation (NASDAQ:NVDA). And while I think NVDA stock should continue to act well through a longer-term lens, it likely has gotten ahead of itself in the short-term.

On Wednesday, Dec. 28, equity research firm Citron Research tweeted a cautious tone regarding Nvidia stock. Among other things, they see shares — which traded around $117 at the time of the tweet — heading back toward $90 in 2017.

Given the research firm’s good reputation, investors were quick to hit the sell button, leaving the stock lower by close to 7% on the day after briefly trading higher in the first few minutes of the trading session.

Wednesday’s price action in NVDA stock was ugly. It was a classic bearish reversal, and one that’s worth respecting.

Last time I discussed Nvidia on Dec. 15, I offered that although I felt the stock was overvalued, it seemed to have one last push higher because underperforming fund managers likely would force shares upward.

A few days later, NVDA had rallied 8% and reached my $103-$104 price range.

One of the most important lessons I have learned over the years as a trader is not to chase steep slopes higher. NVDA stock had one heck of a run this year, but the rate of change (slope) got unsustainably steep in the second half of 2016. Ultimately, that left it open for a meaningful pullback.

NVDA Stock Charts
Looking at the weekly chart below, we see how far Nvidia stock currently trades above its 50-, 100- and 200-week simple moving averages. This also is reflected by record overbought readings in the MACD oscillator at the bottom of the chart.

While the week is not yet over, yesterday’s bearish reversal on the daily chart also left a curiously bearish exhaustion candle behind on the weekly chart.

Traders long NVDA stock would be wise to respect this development from a near- to intermediate-term perspective.

On the daily chart, we see that after briefly trading higher Dec. 28, Nvidia shares quickly turned south, closing the day meaningfully lower and at the lows of the day, resulting in what we refer to as a bearish engulfing day. This bearish price action came on the back of new record highs just the day prior, as well as on a record spike in volume.

It is easy to call a stock overbought or overvalued, but until price action confirms a bearish reversal — such as what we saw in NVDA stock on Wednesday — it usually is too early to act upon it.

Bottom Line
Now that Nvidia looks to have exhausted the buyers for the time being, we could see a mean-reversion move lower that could send shares into the low $90s. However, we also can’t rule out a deeper mean-reversion move into the mid- to high $80s.

Over time, most stocks tend to mean-revert back to their 50- and 100-day simple moving averages (yellow and blue lines, respectively). Active traders could look to cautiously sell NVDA stock short against the $120 area as a stop-loss. Alternatively, options players could consider selling out of the money call spreads for income, using options with at least two months left to expiration.

– Serge Berger

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Source: Investor Place



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