Melf's Workshop

[Melf Elf]

Topic: It isn't the fundamentals that matter.  It's the market's reaction  to the fundamentals that matters.

Case Study: CRAY

#1: August 11, 2006 - CRAY won a $52 million supercomputer contract.  Good news, right?  What was the reaction to that good news?

CRAY put in a high of 14.12 right there, broke below a Symmetrical Triangle near $12 on September 11, 2006, MADE the 9.01 target IN PLAY, and finally bottomed at 8.36, for a loss of 40% on that "good news."

UGH. 

#2: November 21, 2006 - a $250 million agreement with DARPA.  Five times the good news of August 11, 2006 in terms of dollars.  What was the reaction to that good news?

CRAY had a "Gap To Crap" the next day, rallied almost 35% intraday, then plunged, and gave it all back, and a little more, at the 9.75 low in December, 2006.



What a nice buy the gap fill of 9.99 turned out to be though, huh?   

#3 - February 15, 2007 - CRAY reported earnings of a $0.33 profit vs. a loss of $0.42 in the prior year.  Additionally, CRAY won an $85 million British supercomputer contract.  What was the reaction to that good news?

CRAY broke out above a Symmetical Triangle, crossing 13.23, putting 16.94 IN PLAY, took out both highs of the pattern (13.45 and 13.32), and closed near the high of the day.

Big difference between Friday's reaction to good news , and the prior two reactions to good news.

Friday's (February 16) response was a tempered, bullish response (Symmetrical Triangle breakout) that held up into the close.  No huge "Gap To Crap" over-reaction to the good news.

If we were watching CRAY prior to, or on Friday morning (unfortunately, I wasn't), we can structure a nice risk: reward trade:

Breakout at 13.23.  Target IN PLAY is 16.94.  Reward if it gets MADE: 28% gain.

Stop loss: Below the 12.00 low, prior to the breakout (so, 11.99): Risk: 9.4%

Risk: Reward on the trade: 1:3.

Stop loss also could be 12.78, below Friday's 12.79 low.  Risk: only 3.4%.  That would improve the risk: reward to 1:8.

Fundamentally, CRAY is a turnaround story.  This Fiscal Year's estimate is a loss of $0.58.  The prior Fiscal Year was a loss of $2.92.



Next Fiscal Year estimate is a gain of $0.48, so things are on the mend. 

Summary comment:

Watch the market's reaction to the fundamentals.  Markets don't always trade in tandem with the fundamentals, be they good or bad, and the chart/technicals can be of great assistance in helping us to determine how a stock is trading, vis a vis the fundamentals.

Do the fundamentals and technicals agree, or disagree?

My opinion is that "When the fundamentals and the technicals disagree, defer to the technicals, or at least give them strong consideration."