Jazz Pharmaceuticals, Inc. ("JAZZ") has been working on a drug for fibromyalgia, a hard to treat disease, using a drug commonly prescribed for a different purpose. They recently completed a 3rd phase study. Clinical trials proceed in three levels: 1, 2, and 3, which are roughly speaking, 1=safety, 2=dosage and toxicity, and 3=efficacy. Getting to phase 3 is itself a good sign – it means that the treatment doesn’t kill too many patients, and shows at least some amount of usefulness. After completing their 3rd phase, on June 10th JAZZ announced that they would be presenting the results at a conference. The stock has been a dollar stock all year. But on the day of the announcement, even though supposedly no information had been made public, the stock began to move. See below.
Immediately, the stock’s volume went far above normal. It moved up quickly at market open, after a premarket session in which the stock also had unusual volume (any volume for this stock is unusual in the premarket). At $2.40 it peaked, fell back, then regrouped to trade solidly at $2.45 a while. Then the real fireworks began. At 12:20, "lunch hour madness" ensued and the stock flew up to $5.10 on enormous volume, only to sink once again to $4, hold, then sell off gradually to the end of the day ending just under $3.50. I had bought in at about $3.86, despite knowing that this was a classic case of "climax syndrome".
Climax Syndrome is the term I use (or coined, or stole from someone else long ago and forgot, most likely) for a certain collection of behaviors of a stock which is undergoing a traumatic reaction to a news event. The behavior follows a pattern: 1. A slow trend (up or down) after a news item to reach a critical level on very high relative volume, 2. An explosive, accelerating price trend (in the same direction) to an extreme price which causes a reversal of trend on even higher volume, 3. A cooling off in which price settles to a value midway between the start price and the extreme price. Trading a case of Climax Syndrome can make you an enormous amount of money in seconds. It can also wipe you out faster than you would think possible, especially if you allow yourself to become emotional about the trade.
It helps, I think, to visualize how the market is absorbing the news. On first announcement, mild interest was generated in JAZZ. It was easy to rationalize buying the stock, because its price had for months settled to a bottom which was stable, and therefore there was little downside risk. You know that virtually any news is going to move the stock, so its movement does not surprise you. But this time, the market was thinking, "Insiders know what the announcement will be. Are they buying?" Though this would be strictly illegal, the market assumes it is happening anyway. The rise in the price makes it a seemingly self-fulfilling prophecy, easily interpreted as confirmation, and therefore additional buyers arrive. This leads to a second news item – in today’s stock market, high volume or new highs are news in themselves. Some traders will put dollars on any dollar stock making a new high, because the odds favor it rising further. Now we have a new wave of buyers, in addition to the first wave fueled by the announcement. This causes acceleration in the price movement. Acceleration is the key property of Climax Syndrome. It can only occur when one news item spurs a second news item, which may go on and on. Buyers are now racing to be first to get in on the stock before it rises too high. How high is that? No one knows. Profiting from Climax Syndrome takes practice. Fortunately, in the case of JAZZ, it was such a low priced stock that you could have risked just $200 or so to buy a ticket for this ride.
Looking at the chart, you can see an unbroken succession of green bars on the 10 minute scale. Eight in a row, in fact, ending at the peak of $5.10. (This also often works on the 5 minute scale.) The unbroken sequence means that the price was rising too fast for any buyers to see a downtick in price. Only when sellers have a chance to lower a stock’s price and be met by a buying reaction is there any hope for creating a consensus in price — a general agreement that a certain range of price is reasonable, that prices outside this range are too high leading to selling, or too low leading to buying. You can use the unbroken sequence of bars, especially when price acceleration is obvious, as your indication of Climax Syndrome, and then to trigger your trade tactic.
Tactic 1: Watch for a percentage fallback. This method as applied to JAZZ would require you to go long during the explosive rise, preferably at the first big bar at 12:20. At this point, virtually every tick is an uptick and a new high of the day. Buying in requires a market order. Once you have the position, keep track of the most recent support ($2.45 in this case) and the high price of the day. Sell with a market order as soon as the price has fallen about 10% off the high, relative to support. Do not attempt to set a stop order, which may delay you just enough to miss the right moment. Take the money and run!
Tactic 2: Short the downside. Smart money prefers this method, because the support and the high are already known, and the potential gain is greater. Watch for the 10% drop on high volume as in Tactic 1, but use it as a point to enter the trade with a short. Once you are holding a short position, you may choose to employ a trailing stop to lock in profits. Beware of a second wave of rising prices. Inattention is a killer in these cases.
Tactic 3: Go fishing. Being a cautious trader, you know that foolish and frustrated daytraders are all over this trade already. Do not buy during the climax period at all. Instead, wait for frightened daytraders to unload. They will do so in the last hour of trading, often with gigantic market orders which momentarily overload the available buyers. Pick a price which is less than 50% of the day’s price movement, low to high, and place a limit buy in the market, and wait. If you are lucky, you will catch one of the big guys unloading, and get some cheap shares. The big guy doesn’t care – he bought so much that he made a lot of money selling on the bids above you. Now you are holding some stock you can sell at the end of day for a nice profit, assuming the little buyers continue buying, which is a fairly good bet. The 50% level protects you – a pure Climax Syndrome case often will not sell off more than 50% on its first day, whereas fishing just below this level often can catch a transient.
Tactic 4: Play the overnight. This trade is limited to circumstances in which you are sure no new news will appear overnight. If you think this is the case, then it is reasonable to expect one last wave of new buyers the next morning. Buy near the end of day and hold to the next morning, and sell when you think that day’s wave of buying is over. If you obtained your shares by fishing as in Tactic 3, all the better. This tactic is risky and requires some judgment because even a negative comment by a newscaster can cause a new selling wave to overtake any new buying at market open.
So, what do you do if it goes wrong? If you do not make money in this trade, it is probably because you did not follow one of the 4 tactics above. You lost focus and traded without proper discipline. Note that I am talking about myself here – as you can see from the chart, I took an unnecessary chance on a second day of buying, and sold for about breakeven when I could have taken in a nice profit. If this happens to you, do what I did — sit down, and summarize the 4 basic techniques for trading a case of Climax Syndrome, and NEXT TIME STICK TO THE PLAN.
from MyHappyTrading.com by Skymist
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