My Amazon Trading Strategy
Here is a look at my trading approach as we deal with a difficult market.
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The market is acting poorly Tuesday morning with breadth running at fewer than 40% gainers. The Mag 7 and DJIA are leading to the downside with losses around 0.8%, as I write.
The strongest sector is oil, which is not good for anything else. The United States Oil Fund (USO) is hitting its highest level since May. Bonds are holding steady, but oil is going to influence the Fed’s interest-rate decision and not in a good way.
My current view of the stock market is that we are going to go through a rough patch as we deal with inflation, potential rate hikes, economic issues, seasonality, and a lack of positive catalysts.Â
As I wrote in my article this weekend this is just a normal market cycle and should be embraced rather than feared. This is when new opportunities develop, but it is essential that you have a clear strategy in mind.
Why Amazon
Amazon.com (AMZN) is one of the names I have on my shopping list for clients at Hammerhead Financial Strategies. My focus is generally on more volatile small stocks, but I view Amazon as a lower-risk opportunity that deserves an allocation. I see the recent weakness as a potential opportunity.
My thesis is that Amazon had one of the better second-quarter earnings reports of the season. The cloud business, Amazon Web Services, grew nearly 37%, its fifth straight quarter of accelerating growth, and its backlog of contracted future business climbed to nearly half a trillion dollars. That is the part of the company that justifies the valuation, and it is getting stronger, not weaker. The stock jumped from roughly $236 to $287, or 25%, on the earnings news.
Due to market conditions and some recent negative news, including the FTC lawsuit over its advertising business and this weekend’s cargo plane crash in Miami, it has dropped back to support at its 50-day simple moving average around $255. That is a drop of 11% from the highs, and it has come on lighter volume than the rally that preceded it. Sellers are not rushing for the exits. Buyers are doing some nibbling.
Wall Street Has Not Changed Its Mind
Roughly 60 analysts cover the stock and all but a couple rate it a buy. The average price target sits around $325 to $330, which is about 27% above the current price, with the high end at $400 or better. Wells Fargo raised its target to $338 last week, Evercore ISI is at $355 and Goldman Sachs is at $375.
I believe that once we move closer to the third-quarter report in October, investors will start to anticipate another good report. Last year the stock hit a low about a week before a strong report. The setup looks similar. The one caution is that management guided third-quarter revenue slightly below where the Street was, so the report itself carries a hurdle that the run-up into it does not.
Although there appears to be some support on the chart, there is a good chance the stock can trade lower from here, especially if there is weakness in the broad market. If the 50-day gives way, there is not much traded volume underneath it until the low $240s, where the stock sat before the report. That is the kind of air pocket that produces a fast drop and a good entry at the same time.
How I Am Trading It
My methodology is to establish a smaller core position and then trade around it depending on the level of volatility. I’ll try to catch some small bounces but will keep the position small enough to take advantage of pullbacks that may occur in the next few weeks. The goal is to start ramping up the position size as anticipation of the next report starts to build. I won’t necessarily carry a full position into the report, but I’m looking for positive anticipation to come into play.
This approach isn’t for everyone. It requires vigilance and more activity. The goal is to reduce risk by varying position size while waiting for better technical action to develop. No one can time the movement in a stock with a high level of precision, but what we can do is react quickly as conditions change. If the stock acts poorly I’ll keep my position small and wait for some support to develop. If it acts strongly I’ll average up.
I use this same approach with many other stocks. It works even better with highly volatile names, but you have to be prepared for surprises because the market beast will do its best to take your money.
At the time of publication, Rev Shark was long AMZN.
