This morning’s down gap is the latest in a long line of evidence that choppy summer trading is upon us. Traders bearing only bullish trades have limited options for capitalizing on the weakness, which is why having a few bearish positions in your portfolio is worthwhile. Those on the lookout for such trades should consider Caterpillar (NYSE:CAT), as CAT stock is breaking a major support level this morning.
Since peaking in mid-January, Caterpillar shares have shed 24% of their value. Over the same time frame, the S&P 500 fell half that amount and then reclaimed virtually all of its losses. Traders like to call this relative weakness or underperformance. And it’s an ugly, undesirable trait. The rationale goes something like this: If CAT stock can’t recover when the rest of the market is climbing back to previous peaks, then when will it recover?
Even if we use the Dow Jones Industrial Average as our benchmark instead of the S&P 500, the takeaway still stands. Caterpillar has suffered serial underperformance.
With this morning’s plunge, CAT stock now finds itself well below all major moving averages. Horizontal support at $134 has also caved, giving the feline little technical reason for optimism. The best bulls can say is it’s becoming a touch oversold with six straight down days.
Spectators wondering how low the stock can go should note that CAT fell as low as $56 as recently as 2016. So it’s not like it can’t probe lower if it wants to.
How to Trade CAT Stock Now
Traders looking to bank on further downside in the stock could buy the Oct $130/$120 put spread for $3.20. The position consists of buying to open the Oct $130 put, while selling to open the Oct $120 put. The initial debit of $3.20 represents the max loss and will be forfeited if Caterpillar sits above $130 at expiration.
The max gain is $6.80 and will be captured if CAT stock falls below $120 by expiration.
As of this writing, Tyler Craig didn’t hold positions in any of the aforementioned securities. Want more education on how to trade? Check out his trading blog, Tales of a Technician.