Following the election, the retail sector has been underperforming on a relative basis compared to the S&P 500.
One stock that has been struggling to break out to new highs is Home Depot Inc (NYSE:HD). The level of $137.50 has proven to be hard to crack for the home improvement retailer.
Stalling at resistance is generally not a good sign for a stock and if it fails to break out, it can often fall back sharply.
The last few times the stock exhibited a pattern such as this, it went on to fall quite sharply a few weeks later.
On the chart below, each time Home Depot Inc (NYSE:HD) had a nice run higher before consolidating, it then pulled back quite sharply. There’s no guarantee that will happen again this time, but the pattern is similar and there is also a clear MACD sell signal.
Michael Kahn, a noted Charted Market Technican, recently placed an initial target for a short sale of $120.
“The rationale for the short sale is that “Indicators such as on-balance volume and accumulation/distribution have both been falling since the middle of the year and barely moved higher when prices jumped during the post-election rally. These indicators take a slightly different approach, but both add volume when prices move up and subtract it when prices move down, and serve as proxies for supply and demand. Right now, HD exhibits excess supply, which isn’t a good sign.”
Rather than contemplate a risky short sale, traders could purchase a put option. With this type of trade, the potential loss is limited to the amount of premium paid. Short sellers have theoretically unlimited risk if the stock rallies.
Currently the March 17, 2017 $130 puts are trading at $3.20, so the initial outlay would be $320 for 1 contract.
Traders purchasing this put would be profitable if HD moves below $126.80 at expiry.
If HD did end up hitting Michael’s target of $120, the profit would be $680.
Buying a put with defined risk limits the trader’s downside if the stock does not make the expected move.
Home Depot Inc (NYSE:HD) reports earnings on Feb 21, so that could potentially be a catalyst for a big move in the stock.
Options trading involves risk and is not suitable for some investors. Check with your financial advisor before making any investment decisions.
Disclosure: I have no positions in HD
Note: Gavin has a Masters in Applied Finance and Investment. He specializes in income trading using options, is very conservative in his style and believes patience in waiting for the best setups is the key to successful trading. He likes to focus on short volatility strategies. Gavin has written 5 books on options trading, 3 of which were bestsellers. You can read more from Gavin at Options Trading IQ.