By Anthony Trongone, Ph.D., CFP, CTA*
Posted: January 11, 2008
How do you play a foreign company with a listing on the NASDAQ-100 Index after it produced a 246 percent return in 2007? Baidu.com has recently taken investors on a death-defying roller coaster ride. After reaching its record intraday price of $429.20 on November 6, 2007, it misfired!
In the next four trading days, it fell precipitously -- losing $128.30 to an intraday low of $300.90. Encouraged by a decline of this magnitude, together with trading support at the $300 level, it was rescued by day traders, who pushed it up above $400. Since then, it has been bouncing around $400, consistently challenging its highest price.
Making History
Before we begin discussing a trading strategy for Baidu.com, let's take a look at its background.
With the recent rebalancing of the NASDAQ-100 Index, Baidu.com (NQ: BIDU) became the first Chinese company to make this prestigious listing. Such an Olympian feat comes with the mainland's growing Internet population -- the latest conservative estimate is at 150 million users. Many are young adults, who have a strong connection with this company.
BIDU has a popular search engine and an online encyclopedia -- offering information on travel services, as well as being the top provider of free MP3 downloads. Last week, two stories made the news:
- The company won a Beijing high court ruling, ending a copyright lawsuit between it and four global music giants -- a lawsuit that spanned two years.
- The accidental death of the chief financial officer should depress share prices until a replacement is found.
According to Wikipedia, the company name originates from a poem written by Xin Qiji in the 12th century during the Song Dynasty, which was the first government in world history to issue paper money.
Economic Gorilla
There are many good reasons for following the price movements of the Chinese market. This economic gorilla is a fertile source of finance, making it one of the more intelligent long-term plays. However, with its ongoing display of gravity-defying equity prices, there has been a steady flow of warnings from prominent professionals regarding an overdue correction.
Chasing a Record Close
After opening at $66, on the next trading day, BIDU's buying pressure carried it to $154; after that initial surge, it began its descent. After 123 trading days (February 7, 2006), it found a bottom at $45.20 -- this was the start of a long rally with few weekly meltdowns.
The blue box in the chart shows the stock's rapid rise before it experienced a few declining weeks. Thereafter, it returned to its winning ways, advancing to its highest intraday price ($429) before falling back to $300. BIDU's trading activity was strong as it ran toward a new record. More recently; however, since trading in a sideways range, it has been consistently losing steam.
Recent Activity
The longer it takes a stock to penetrate resistance, the more uncertainty there is regarding its ability to pass this significant barrier. Although BIDU was making steady progress, lately it has been drifting lower. If it runs past its intraday record, without an impressive display of active trading volume, most technicians would keep the champagne on ice. Reinforcing this pessimism is its spectacular yearly run, which would justify fear in the bravest investors.
On the downside, if it returns to support ($300 purple line), it is going to attract attention. A conservative technician would take a long position above support, along with a sell-stop order at a price below $300.
Splitting the Trading Session into Two Segments
If you have read some of my earlier articles posted on this website, you know that I strongly advocate separating the performance of the two trading sessions. Despite an impressive $56.24 run-up when it debuted August 5, 2005, BIDU's overall performance of the regular trading session (i.e., opening - closing price) is in the red -- losing $77.30 in the 605 trading days; conversely, the overnight session's (previous day's close – current day's opening price) enjoyed a $401.10 return.
Why trade the RTS? Because there was a meaningful distinction between the effects that a rising or falling overnight session had on the RTS (that is, when the trading day opened on the upside), the RTS overall slide was $227.80, but, when it opened on the downside, there was a $94.80 recovery.
Because there was a big discrepancy between the two trading sessions, it is important to investigate BIDU's recent trading pattern to determine if the disparity still exists. Since its record $400 finish, its overnight profit in the previous 40 trading days was $78.10; whereas, it has fallen $97.30 in the regular session.
After-Hours Trading: Overnight Session
An evaluation of BIDU's 605 trading days reveals that the best possible combination for taking a long position at the closing bell occurs on a day on which the RTS declines and on which there is an increase in its trading volume. Specifically, we are looking for a minimum increase of 25 percent in the trading volume between the two days.
Current day's RTS > 0 AND a 25% increase in the current day's volume over the previous trading day = taking a long position at the close of the current day's trading session.
When you play this combination, the overnight average percentage return = $0.66 cents in 107 plays, resulting in 68 advancing and 37 declining days (68 - 37 - 2). A percentage profit / loss results in a 3:1 profitable advantage. Those results are given in the table shown subsequently.
Side-by-Side Comparison
How does BIDU perform when GOOG has either a good or a bad trading day? The inclusion of BIDU will increase the volatility of the NASDAQ 100 because it replicates the price movements of its biggest rival, Google!
Below is a side-by-side daily comparison of these two competitors. According to the New York Times, Baidu.com "...has expanded its market share in China, taking 61% of the Web queries to Google's 24 percent..." (January 1, 2008, C4).
The table displays GOOG's extreme performance days for 2007. Specifically, these dates represent the days on which Google had a profit (left side) or a loss (right side) greater than 2 percent. Alongside Google's percentage return is BIDU's performance on that same day.
GOOG was able to produce a profit of 2 percent or more on 27 of the 251 yearly trading days. On those 27 days, BIDU's average return was 2.78 percent, and it was able to register 25 profitable days.
Caution Is the Watchword
This stock is an eye-catching play for anyone looking for large price swings; however, it does come with certain challenges. If you have little experience trading a stock with this much volatility, be extremely cautious. Allow me to quote from my published works:
"As a small individual player, do not become caught in the middle of a sideways market. Although you want to participate in the movement, you do not want to expose your resources to the ongoing conflict. Your best strategy would be not to take a position -- stay on the sidelines, waiting until the confrontation is over. And then become active by trading with the winning side."
Trongone, Anthony. Trading in the Footsteps of Sherlock Holmes: Balancing the Probabilities of Successful Investing.
Trongone, Anthony. Quantitative Methods for Finance and Investing. Cengage Learning.
Trongone, Anthony. "Trading in a Sideways Market". Technical Analysis of Stocks & Commodities (December 2004).
*Reprinted (and modified) with permission from Anthony Trongone, Ph.D., CFP, CTA (trongonea@centenarycollege.edu)
