The Good, Bad and Ugly news regarding market makers.
This is a post I have been dying to put up for a long time (on any number of stock clubs and sites I have visited) based upon MY OWN observations over 7 years, but more importanty the last 5 concerning MM (market maker) activities in small cap stocks. So if you all can bear with me through the tome, I'll try to make sense of it all to you in the end....I promise.
Most of my MM observations have been made on emerging biotech stocks in the past 5 years, but I see a similar pattern of activity in this stock.
With the crushing advent of un-bridled and mostly unregulated Hedge Funds in the past 5 years, the small cap stocks apparently have turned into the true "cash cow" market makers and brokerages have salivated for years to have, and they fall all over themselves to be in on the action...individually, but mostly collectively and conspiratorally. (If there is such a word.) Yes they conspire orally!
Hedge funds love trading channels...it is where they make their bread and butter...either to make a pure trading swing profit, or to increase their leverage net share holdings for ultimate profit backend should the company produce on promised fundamentals. What they live for is a company that PR's a "delay" in expectations. Can't tell you how many times that happens in Biotechs, BUT it has now happened here in GTE. The fuel that makes the channel a playground for the hedge funds is retail becomes apathetic. They stop buying en masse. Sure dribs and drabs and chartists who plunge and go stale, but mainly the field is their's to ravage. Particulalry, as in GTE, when there are no institutions of note supporting the stock through their house.
So the "boys" get together and set a channel, and swing trade the "piss" outta it until it's time to move it along on fundamental good or bad news to a New channel....cause there's always, more likely than not, another trading channel opportunity.
This drives the chartists nutso, particularly retail chartists. See I've learned that chart studies, while they have value at times in breakout moves, are really aftershocks telling you..OH! we had an earthquake...duh. And all of that you can pretty much toss in trash can when a stock is in a channel. Some of them are handy at confirming the channel limits..and that's what we are currently seeing. But I have found simply watching volume in the present at the channel extremes tell you the channel extremes....and thus the time to take action.
And here is why I think that is true:
Here is an example of what I think a hedge fund in GTE might be doing, and it's not all that different from what I have done.
Goal: Increase share holdings significantly at no additional cost. May explain some controversial posts here of differing opines as to whether there is accumulation or not. There is and here's how...although someone has also to be distibuting...lol.
I am a hedge fund and I own 200,000 shares at $3.15 (cost is immaterial). I know we have established an industry wide channel in GTE from $3.15 to $4.30 (outter limits). And we have safely been running this for the past 45 days or so. Here's what I have been doing with my goal in mind.
When the stock nears $4.15 I start to short box my own holdings and I am conservative (no naked stuff and I want a reserve in case of a happy out of the blue PR from GTE), so I net short box 150,000 shares. I would like to net up the box into the 4.15 to 4.30 area, so if the market stalls a tad, I'll buy in with others another goose 10K shares along with the expected retail plunge expecting a breakout, creating a volume spike and RSI spike into that 4.15-4.30 area. I dump the 10K near top at 4.30 and lock in my remaining 150K box hedge.
Now I wait for tepid volume day drops coupled with a few sell a few en masse hedges (sell again 10K with "others), a skittish market that helps, a flight to quality of big investors, more delay news or lack thereof, and the stock drifts down to 3.30.
Here's how to set the bottom channel to maximize return. Lacking any fundamental reason from the company, let's take advantage of two things..Retail and fear. Let's dump those 50K shares we had in reserve at 3.30 and call Crammer for some help (happens more than you can imagine) and let's squeeze this down to the last drop at $3.15. Oh, and retail and the ones who caught Crammer will help spike the volume on the downside end of channel. And RSI goes in the crapper as well.
Now we stealthly start closing our short box AND start rebuying shares in dribs and drabs...not to much volume...don't want to spook the stock. But we'd like to do it before it gets back to $3.30.
What's the math look like?
Simplified: (Started with 200,000 shares)
1). Bought 10K at $4.15 as a teaser. Spent $41,500.
2). Sold 10 K at $4.30. Returned $43,000.
3). Boxed short 150,000 shares at (let's say $4.25)
4). Sold 50K shares at $3.30 for a return of $165,000.
5). Closed out all 150,000 short box at (let's say $3.25.) Profit on closeout is $150,000. $1 a share.
So I now own 150,000 shares and have ($165,000 plus $150,000 = $315,000) in cash to spend.oh plus the $1,500 vig on the first 10 K shares popped.
So even if I end up paying an average price of 3.40 a share to rebuy and spend all that cash, I end up owning a net 95,000 shares or so with that cash.
95,000 new + 150,000 old = 245,000 total shares.
A whopping 22.5% increase in holdings at no added cost.
I have laid out a "conservative" hedge strategy. Imagine the more aggresive strategy return..Buy low, sell it all high, short naked, re-buy low and repeat.
Not a shabby return on a typical 3 round trips per channel.
That's how I see it.
M
PS...I still say a close under $3 sets a new channel lower...but me thinks the boys like this one, for now. And most of the fancy indicators say so as well...not surprising to me.
