While it is tempting to look for narrative information that the market may have missed, it is likely that the key factors that could have a material impact on a publicly traded company’s valuation have already been taken into account. As such, the most effective way to assess a stock’s forward momentum may be to frame market behaviors using the Markov property.
Under Markov, the future state of a system depends only on its current state. Colloquially, this simply means that probabilities are influenced by context. For example, in professional football, a 20-yard field goal is practically considered a guarantee of three points. However, when you factor in snow, crosswinds and playoff pressure, the calculus suddenly changes quite dramatically.
Over the past few months, I have exclusively analyzed stocks based on an inductive model supported by Markovian logic. Essentially, the idea is that a title never falls within the scope of a strictly neutral state. Instead, it fits into a particular context and, based on that configuration, certain outcomes are more likely to materialize than others.
If a stock has already experienced heavy selling in previous sessions, this context will almost surely have a different impact in the future than if the same stock had previously enjoyed a long series of gains. For lack of a better phrase, actions have a “memory” of the immediate past – and this memory can then influence future behavior.
Of course, the philosophical criticism of induction is that there is no evidence that repeated trials of particular events are guaranteed to materialize in the same way in the future. This is particularly the risk with the market, where exogenous factors can easily disrupt the most reasoned analysis.
Yet the operational point is that humans are creatures of habit. As such, the belief is that repeated trials can create behavioral gravity wells from which we could potentially benefit.
Salesforce (CRM) may be off to a rocky start this year, but red ink might just prompt a contrarian stance. Since the beginning of January, CRM stock is down nearly 14%. Over the past 52 weeks, security has dropped about 32%. Unsurprisingly, the Barchart Technical Sentiment Indicator rates stocks at 56%, indicating a weakening near-term outlook.
What’s interesting about CRM stocks is the volatility bias. Currently, traders prioritize downside protection based on put option activity across multiple expiration dates and strike prices. That doesn’t mean they aren’t looking for benefits. However, the way the derivatives market is structured suggests an expectation of a higher probability of decline.
However, context can be everything. Over the past 10 weeks, CRM stock has printed six weeks up but with an overall downward slope. Under this rare 6-4-D sequence, CRM is expected to range between $210 and $250 over the next 10 weeks, with probability density peaking at around $235 (assuming a spot price of $228.05). Over the next five weeks, the probability density would likely peak between $223 and $237.
For intrepid speculators, the 232.50/237.50 bull call spread expiring on February 20 could be intriguing, especially since the breakeven price sits at a reasonable $234.90. If CRM stock rose to the strike price of $237.50 at expiration, the maximum payout would be more than 108%.
Mosaic (MOS) may have a low Sell rating of 24% according to the Barchart Technical Sentiment Indicator, but it is currently one of the strongest names on the market. On Friday, MOS stock gained more than 2%, bringing its yearly total to a remarkable 19.51%. Despite the good technical performance, the fundamental situation is suspect, with the company reporting weaker demand than expected.
The volatility bias shows a pensive nature, with the implied volatility (IV) of calls increasing higher than that of puts on strike prices below the current spot price. Additionally, the put IV tends to increase when hitting above the spot. Overall, this posture suggests that traders prioritize downside insurance. Furthermore, the impression is that negative movements are more likely to materialize.
In this case, I think this perception matches reality. Over the past 10 weeks, MOS stock has printed seven more weeks, leading to an overall upward slope. Under this 7-3-U sequence, the next 10 weeks are expected to range between $24 and $31 (assuming a spot price of $28.79, Friday close).
Over the next five weeks, forecast results would likely range between $26 and $29.50, with probability density peaking around $27. Given the accumulation of odds, traders could experience temporary success with the 30/27.50 bear spread expiring on February 20. If MOS stock fell beyond the $27.50 strike price, the maximum payout would be nearly 84%.
As of the date of publication, Josh Enomoto did not have (directly or indirectly) any position in any of the securities mentioned in this article. All information and data contained in this article are for informational purposes only. This article was originally published on Barchart.com
