To better understand how the market will respond, one approach is to convert the chaos of everyday price discovery into a unified language that stays stationary across time. In this manner, demand profiles can be segregated into distinct, discrete behavioral states. From there, traders can extract — through studying past analogs — the likelihood of transition from one behavioral state to another.

To achieve this framework, price action can be converted into market breadth or sequences of accumulative and distributive sessions. As a representation of demand, market breadth is effectively binary — investors at the end of the day (or session) are either net buyers or net sellers. Through this binary code, traders can get an empirical gauge of how the target asset responds to various conditions.

In the trailing two months, the price action of RGLD stock can be arranged as a “4-6-U” sequence: four up weeks, six down weeks, with a positive trajectory across the 10-week period. Admittedly, this conversion process pancakes RGLD’s magnitude dynamism into a simple binary code. But the benefit is that this code — once identified — can be analyzed to see how it responded in prior circumstances.

As it turns out, the 4-6-U is relatively rare, having only materialized 15 times since January 2019. Notably, though, in 73.33% of cases, the following week’s price action results in upside, with a median return of 3.07%. Should the bulls maintain control for a second week, they may anticipate an additional 1.11% of performance.

Accounting for yesterday’s volatility, a possible upside target would be around $175.30 over the next two weeks.

For those willing to roll the dice, market gamblers may be tempted by the 170/175 bull call spread expiring July 18. This transaction involves buying the $170 call and simultaneously selling the $175 call, for a net debit paid of $240 (the most that can be lost in the trade). Should RGLD stock rise through the short strike price ($175) at expiration, the maximum reward is $260, a payout of over 108%.

Primarily, what’s appealing about the above call spread is the implied shift in sentiment regime of the 4-6-U sequence. As a baseline, the chance that a long position in RGLD stock will be profitable is only 51.18%. With the aforementioned sequence flashing, the bulls potentially have a compelling opportunity to extract a quick reward.

To be clear, we’re still talking about probabilities, not certainties. Further, it should be mentioned that the stock market is an open system, meaning that outside influences can enter the paradigm and disrupt it. No model can perfectly account for such risks. Still, the above framework provides a decision-tree logic that may help traders think more empirically.

On the date of publication, Josh Enomoto did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. This article was originally published on Barchart.com