Hedging in the share market

A share market chart isn’t always the clearest roadmap, and sometimes it may be difficult to determine in advance which direction an expected breakout may take. In this situation, hedging may be the most appropriate trade management technique.

The strategy is simple, and more a matter of understanding the intricacies of the online trading platform or brokerage rather than some arcana of technical analysis. To hedge a trade, simply place a limit order at the most attractive price level above the expected breakout point, to be triggered and filled should the price rise to that level. Place another limit order below. Stop loss and take profit targets should be entered at the same time.

In this manner, no matter which direction the price action jumps, there’s an order in place to catch it, ensuring the trader is aboard for the ensuing ride.

Many online trading platforms and brokerages now offer what’s known as an order cancels order contingency, meaning that the program will automatically cancel the inappropriate order when the other one is filled. For example, if the stock price goes up and the long entry order is filled, the pending order for short selling would be cancelled. This is an excellent contingency, as it prevents random orders from floating about due to memory lapses. It’s not unknown for the price to return to its previous level and trigger such orders, generally at the worst possible time.

When last analysed, Monadelphous Group Limited (MND) was consolidating in an ascending triangle between support at 12.00 and strong resistance at 14.00. Since that date, the price action filled the triangle’s apex and surged above the resistance level, and now appears to be forming the right shoulder of yet another head and shoulders formation, as shown on the chart, below:

Note that the gap between 14.95 and 14.50 has been filled by the stock’s pop higher. After filling the gap, the price returned to test the short-term bullish trendline and resistance-turned-support at 14.00, before rising to a new swing high at 14.98.

Volume has increased slightly since July’s doldrums, and while the MACD remains bullish, the slow stochastic doesn’t agree, which may indicate a return to support at 14.00 or the head and shoulder’s neckline at 12.00, a move which would normally be expected at this point in the chart pattern’s formation, in any case. However, traders are reminded that no pattern should be taken for granted until its formation is complete, and this one is not.

In truth, support at 14.00 gave way when re-tested, and it was the bullish trendline which sent the price higher this last rally, rather than the head and shoulders, which may prove moot rather than a reversal pattern. The return to 14.00 or the trendline that is currently awaited may be a good place for a long entry order rather than a hedge, particularly if the price action returns to the head’s level near 16.00.

technical analysis by Craig Liles