Here’s how you can use Linear Regression to clarify a pattern. Check out this throwback on JD.com (JD) (December 20, 2017)
JD NVDA JD
This is a linear regression line and it actually works pretty perfectly for JD ( NASDAQ: JD ) and this is why: This is kind of a classic head and shoulder reversal pattern. Let me just draw it out for you. First, there has to be something to reverse. Here there is a big move higher. Again, there has to be something to reverse otherwise it is not a head and shoulder pattern. We have got highs, we’ve got higher highs; all you know at this point is this isn’t a left shoulder, this isn’t a head this is just higher highs.
Only when you see this lower high do you say, “Well maybe this is a head and shoulder pattern.” And then if that is the case you draw a line between this low here and this low here, which connects the peaks there. So this is the neckline right here and then you extend that. And then if the stock breaks down below that then it is a completed head and shoulder pattern.
This is the rest of the story: The stock will pull back and then often times, though not always, you get what is called a throwback. I don’t know why they call it a throwback but they do. I don’t even know who THEY are but that is what they call it. It is a rebound, a bounce back to the neckline. Simple, prior support becomes new resistance if the stock retraces to it; no real mystery there. But they call it a throwback. So this comes here and then you are waiting for the sell-off and then it happens.
This is a little kind of a complex one because this has happened several times, so this is not your garden-variety head and shoulder. Breakdown, throwback, next move down. This is a little more complex. I drew this linear regression line, which is the average price over the distance between this point, the starting point, and this point which is the current point; the linear regression line is the average of those prices.
For example, there is a reason why this, NVIDIA ( NASDAQ: NVDA ), is curved. Because there has been that much of a move in the stock one way or another. When the price moves from here all the way up to here, it is a 60 percent increase, that is going to pull this linear regression line like a rubber band.
With JD ( NASDAQ: JD ) we don’t have that. So I draw this 200-day linear regression line and sure enough, it is right in sync with the neckline. Here if I take that away, just draw the line between this point and this point it is right there. Now we add the linear regression, Boom! there it is. It is pretty close.
So my point is, this stock, in my view, is done. It has tried to push above this line on one, two, and three different occasions yesterday and now this is pulling back. This is a classic reversal pattern. Again, it is a head and shoulder pattern. I think you have got to stay away from this. I am not really sure that I would short this stock. I would rather see a stock actually break down and then rally up and short it there. But that technique wouldn’t have worked here.
The stock breaks down, rallies back, “Okay, I am going to short this stock right here.” That would have been the short, somewhere around in here; well okay the stock moves down a few points but then there is no continuation. It moves up and does it again and again. There is clearly buying interest in this stock, I just don’t think it is enough to perpetuate this uptrend. So if you are long JD ( NASDAQ: JD ) don’t be looking for $48.00. It could happen, nothing is guaranteed but I sure wouldn’t be looking for it. I would pay attention to this linear regression line and use this as a really good excuse to be selling.
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