Tesla shares are falling. Hard.
The obvious reason is that the market is undergoing a cyclical rotation, shifting from growth to value stocks, which are seen to do better during an economic recovery, something vaccines and stimulus are expected to foster. Electric vehicle manufacturer Tesla (NASDAQ:TSLA) could be regarded as the mother of all large cap growth stocks. During 2020, shares of the Palo Alto-based company rose by 720%.
But this year so far has been very different. Over the past three months the stock has been on a wild ride. It's currently down almost 11% for the year, versus the tech-heavy NASDAQ 100 index, which is down just 0.09% as of yesterday's close.
There, however, could be a secondary reason electric car investors might be selling out of Tesla in favor of spreading their risk. Analysts at Morgan Stanley made the call earlier this year that General Motors (NYSE:GM)—which has been restructuring, with a view toward aggressively ramping up EV efforts—will be the auto industry story of the year, likely to gain market share at the expense of Tesla.
Tesla’s stock is down for the fourth week in a row, its longest losing streak since May 2019, when it was selling for $37 per share. But that was then. Here's what's going on now:
Tesla just completed a pennant, bearish after completing a H&S top. While the latter is a reversal pattern, as the price fails to continually register ascending peaks and troughs, the former is a continuation pattern: fueled by short-covering amid profit taking while new short sellers enter the fray.
When the newcomers drown out all demand within the pattern—either because whoever wanted to exit their shorts has already done so, or because of existing long positions—their standing sell orders fail to meet buy orders at lower levels, outside the pattern.
This sets in place a rinse-and-repeat chain reaction, as short sellers raise their price by covering, providing other investors the opportunity to sell at those higher prices, pushing prices down again. The same short sellers can be moving in and out, either as a premeditated strategy or as news develops and they get a grip and return for a risky profit.
Note, the pennant developed right after completing the H&S top, supporting the dynamics in which short sellers may take profit, while dip-buyers think they found an opportunity to buy the most popular stock on the planet at a discount. However, sometimes there’s a reason there’s a discount. In other words, it really isn’t a discount.
The pennant developed precisely within the 50 and 100 DMA, with the 200 DMA an equal distance to the downside. It also just happens to meet up with the uptrend line since the March bottom, suggesting the next range will be between the 200 and 100 DMAs.
However, the RSI—which in the past year was never in oversold territory—is now at its lowest for that period, suggesting a potential bounce. Moreover, the volume on the pennant downside breakout was flat.
Lack of participation allows for the possibility that the move was not necessarily representative of market sentiment, as the market didn’t participate. Presumably, maybe as early as today, investors will make their voices heard via their orders in response to yesterday’s extended selloff, confirming or denying a continued downtrend.
Trading Strategies – Short Position Setup
Conservative traders should wait for the price to register a new low, accompanied by spiking volume, then await a rebound amid diminishing volume that meets resistance, before committing to a short.
Moderate traders would wait for the same new low, then may wait for a return move higher, for a better entry, if not for further confirmation.
Aggressive traders could short at will, provided they understand and accept the risk of a losing trade amid the heightened risk due to decreased confirmation. Money management is key.
Here’s an example:
Trade Sample
- Entry: $650
- Stop-Loss: $700
- Risk: $50
- Target: $500
- Reward: $150
- Risk:Reward Ratio: 1:3
Author's Note: This is just a trade sample, for our interpretation, that projects the likely trajectory based on historical patterns. We don’t know that this will happen. No one does. Trading is not about knowing the future but about limiting your losses while allowing the potential for higher wins, in an effort to statistically make money in the long run. Your budget, timing and temperament will have an impact on your results. Until you learn how to customize a plan for yourself, take small risks for the purposes of learning, not for making money. If you try to make money, you are guaranteed to lose it. Happy trading!