Apple’s Pending Breakdown Could Lead to Fast Profits in This Small Cap

One way to put less money at risk to play Apple (Nasdaq: AAPL) is via its suppliers. When deciding which one, traders need to be selective and choose one with a decent positive correlation to Apple’s stock price.#-ad_banner-#

iPhone chip supplier Skyworks Solutions (Nasdaq: SWKS) is one such stock and my pick for playing Apple with more leverage. The stock has a beta of 1.46 versus the S&P 500, whereas Apple more or less is the market with a beta closer to 0.93.

On the charts, the stock looks eerily similar to Apple and has reached or breached several key Fibonacci retracement levels that currently offer good risk/reward for a short-side trade for a 12% gain.

A simple look at the correlation between Skyworks (yellow line) and Apple (blue line) pretty much sums up all we need to know. Note, however, that the positive correlation hasn’t always been this high. In 2011, for example, Skyworks rallied much more than Apple, before coming back down to earth toward the end of the year.

From a longer-term perspective looking back to 2009, nothing hugely significant sticks out on the weekly chart, except maybe an oversimplified uptrend line that still lies below the market.

From the December 2011 lows to the September 2012 highs, Skyworks has failed at all the important Fibonacci retracement support lines, including what in my book is most often support of last resort — the 61.8% retracement level.

Since early November, the stock has now dipped below the $20 mark on three separate occasions, each time followed by a bounce. Given what I see in the following charts, however, I expect the support level near $19.25 to ultimately fail.

Just as I measured the Fibonacci retracement move from the December 2011 to September 2012 swing on the previous chart, in the following chart I am measuring the move lower from the September 2012 highs to the November 2012 lows. 

On Dec. 6, Skyworks had retraced 38.2% (an important Fibonacci number) of said move, and again changed course to the downside, where it then retested the early November lows. The more often any given level of support/resistance gets tested, the more meaningful its eventual/potential failure to hold. 

In the case of Skyworks, the stock still looks very heavy and should, in time, have enough weight to push through the $19.25 support level. For a potential target in case support breaks, I again turn to the Fibonacci numbers. A 23.6% Fibonacci extension of the September to December swing lower gives us a price target near $16.30.

Since how this trade works out is largely dependent on Apple, the analysis would not be complete without looking at a chart of Apple.

Much like Skyworks, Apple retraced some of its September to November sell-off, but unlike Skyworks, Apple retraced to the more meaningful resistance level of 50%. This gives me more confidence that the stock’s early December highs will hold as resistance and the key support level near $500 will eventually break. And by the way, should Apple break below the $500 support level, its downside target would be near $460, which is about 55 points lower than current levels.

Action to Take –> Short Skyworks at $20.50 or higher. Set stop-loss at $22. Set initial price target at $18 for a potential 12% gain in 4-5 weeks.

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Apple’s Pending Breakdown Could Lead to Fast Profits in This Small Cap