Steeled for an Advance

It's time to follow up on Restoration Hardware (RSTO - commentary - Cramer's Take), a little-known stock that reader K.B. emailed me about last month.

K.B. was short the stock and had been told by his broker that he needed to cover part of his short position because the broker could no longer borrow all the shares. I suggested that in situations like this, the strategy is to immediately close the entire position and go long. The rationale was pretty simple: If the stock has become hard to borrow, you aren't the only trader being forced to close your short position.

Monday I received a follow-up email from K.B.:

I ... covered my short for a small loss, then purchased RSTO at $7.45. Sure enough, the stock price rose on heavy volume. At $8.20, I sold part of my position and let the rest run. Since I knew from the start that this was only a trade, I closed the rest of the position at $8.80. The stock then paused again before moving even higher with the rest of the market. Although I could have made more money on the trade, as a novice I felt pretty good about maintaining a disciplined posture and not trying to turn the trade into something else.

We'll play Deal or No Deal shortly when we look at the chart, but I hardly think it matters. Here's the point: K.B. is a novice trader, yet is self-aware enough to look at the underlying basis for his position. It was a trade; his dislike for the fundamentals was the reason he was initially short the name. And he understood that a short squeeze was a trading catalyst, not a change in the fundamentals. He didn't try to turn the trade into something else.

Now, as we look at this chart, keep in mind that K.B. is a novice and he is working on his discipline.

My previous article was written just before Restoration Hardware broke above resistance at $7.50. K.B. sold a portion at $8.20 and the rest at $8.80. The stock is now about 5% higher than his final exit. This uptrend is really strong and isn't really showing signs of letting up.

I would have preferred to just hang a trailing stop on the stock and let the trading action close my trade, but as a novice trader, K.B. opted to take the meat of the move rather than risk of overstaying his welcome. K.B. has plenty of time to work on position management, which will enable him to ride the trend longer. For now, I think he made a good deal.

The steel stocks have been in jail for the past several months but seem to be showing signs of life. This weekly chart of Oregon Steel Mills (OS - commentary - Cramer's Take) shows the stock breaking above multimonth resistance at $50. It's too soon to know whether this breakout will start the next leg higher or is simply an opportunity to sell at a higher price. But if I was long, I'd try protecting my capital with a stop below the breakout level. If you're bullish on the steel stocks, now might be an ideal time to start building a position.

AK Steel (AKS - commentary - Cramer's Take) is another steel stock that has been in jail for the past six months. But now the bulls have soaked up all the supply at $12 and finally are driving the stock higher. This stock really looks overextended to me now and is a risky buy. But any pullback to the breakout level would be a lower-risk buy.

Applied Materials (AMAT - commentary - Cramer's Take) has been on the move for the last three months and has run about 30% since the late-July low. The current uptrend shows very strong upside momentum without a hint of letup. If I were long, I'd stay that way. But Applied Materials is at the top of its trading channel. Buyers here should keep in mind that the stock could pull back about $1 before it tests support, so you stand the risk of having to sit through a pullback of about 5% before you're even close to learning whether or not the uptrend will continue.

I received an email from a regular reader, S.S., about Acorda Therapeutics (ACOR - commentary - Cramer's Take). S.S. bought the stock a while back and sold it when the price doubled because she didn't want to be a hog. I'd have just sold half and taken a free ride with a trailing stop, but a double is a double. Time to pat ourselves on the back and move on.

Be careful out there.

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Please note that due to factors including low market capitalization and/or insufficient public float, we consider Restoration Hardware and Acorda Therapeutics to be small-cap stocks. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

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At the time of publication, Fitzpatrick had no positions in the stocks mentioned, though positions may change at any time.

Fitzpatrick is a freelance writer and trading consultant who trades for his own account in Encinitas, Calif., and contributes to TheStreet.com Short Advisor. He is a former co-manager of a hedge fund and teaches seminars on technical analysis, options trading and asset-protection strategies for traders and business owners. Fitzpatrick graduated from the McGeorge School of Law and was a fellow at the Pacific Legal Foundation, a nonprofit public interest firm specializing in constitutional law. He also practiced law in the private sector before pursuing trading as a full-time career. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While Fitzpatrick cannot provide investment advice or recommendations, he appreciates your feedback; click here to send him an email.