Trend Analyzer

How to apply Auto Waves in Trend Analyzer

2009-12-04T12:15:00.002+05:30

Get high leverage with low risk

2009-11-19T16:03:00.000+05:30

Traders make money from fluctuations in price levels. By using leverage, traders can maximize return on capital. Leverage involves using margin to make more money than you can with your own funds.

Margin trading provides high rewards when you are right, but may also cause huge losses if you are wrong.

Traders are then confronted with some confusion: Leverage or margin trading can enhance return but carries high risk. This becomes a difficult decision since traders should not go for any increase in risk, but should at all times try to leverage their money for more profits.How can these two opposing viewpoints be reconciled.

The Answer:

If margin trading can be used with an always known and strictly limited risk, it becomes High Leverage with Low risk. (HLLR).

The instruments of HLLR are Put and Call options.

Buyers of puts and calls gain an enormous amount of leverage while applying only a small amount of capital. They also have limited and well defined risk.

Advantages of Option buying:

You do not have to possess large amounts of capital. (Remember, all trading activities require that you should be well capitalized.)

As an option buyer you enjoy all the benefits of margin trading when your are right, without the risk associated with leverage, if you are wrong.

Total risk is always known and limited. The maximum risk is the cost of your option.

A Trading Plan:

Successful trading depends on knowledge, courage of conviction, the discipline to execute your plan, and hard work required to develop the knowledge, courage & discipline.

In trading options, you must have the financial and the psychological strength to face adverse situations when they arise. (This applies to all trading methods).

Improve the performance of your Trading System

2009-11-19T15:46:00.001+05:30

Trading Systems offer profitable opportunities for making money. The Profit Test feature in Trend Mechanic allows you to test and them implement systems in real time trading. But, all systems go through periods of drawdowns. Often, the periods of drawdown are so severe that the trader abandons the system, or even system trading. While losses are inevitable, here are some suggestions to change the trading style to that we can remain in the business. There are two aspects to trading systems which can be adjusted to increase our chances of winning consistently.

First, we can try to reduce losing trades. This is not possible in a casino, but trading is a mind game, so it is possible in trading. We can try to identify conditions that are more favorable to our winners and include them in our system. We should also identify circumstances where a loser is more likely, and skip those trades. For example, if we notice that most of our winners are entered on days where the overall market has moved in the same direction as our trade, then only enter trades when the overall market is moving in the correct direction. This means that our trade is in the same direction of the overall market, rather than against it.
Another example might be that trades that are entered just before major news announcements, like the union budget or quarterly earnings, often get stopped out as losers due to increased volatility, so you should skip those trades. A study of past trades can be rewarding. It should be possible to identify many patterns of profitable & losing trades.

Second, we try to improve the average size of winners versus losers. Increasing the ratio of profits to losses so that the winners win more on average than the losers lose depends on the way you handle your stops. Having large winners in relation to losers can make up for a low win percentage, and mean that you will still make money playing the game. One method is to have a trailing stop that moves up as a trade becomes a winner. If you have fixed stops for losing trades that limit losses, but trailing stops for winning ones that allow winners to grow, then you are increasing your chances of your average winner being larger than your average loser. Generally it is better to be strict on losers by having ttighter stops that keep losses to a minimum and generous with winners by having stops that allow profits to grow. In any case you want to make losers small and winners large, so never add to a losing trade – that would be doing the opposite of what you want to achieve.

As traders, we should do whatever we can to improve the performance of our trading system, in the manner described here.

Advantages of Systematic Trading

2009-11-19T15:45:00.000+05:30

Advantages of Systems Trading:
There are many reasons why futures traders are turning to mechanical trading systems as their primary trading style. One of the biggest mistakes traders make is allowing emotions, excitement or fear, to overpower their logic and control over their trading. With systems trading, the trader relies on the system to select the trades; thus, freeing the trader from the burden of emotional fear and greed decisions.

Why there is NO Perfect System:
Selecting a trading system can be a difficult task. All system results are hypothetical, because they are based on past results and have the huge benefit of hindsight. The disclaimer for hypothetical results typically reads: “Past Performance does not guarantee future results.” Many trading systems seem too good to be true. Smart consumers know that when something looks too good to be true, it usually is.

Although trading systems are designed to select the most statistically desirable trades, they cannot completely or accurately predict market trends and cannot guarantee success. Countless factors contribute to market changes: price, volatility, news, shortages, wars, interest rates, increasing or decreasing money supply, etc. While some systems work in a bull market, some in a bear market, others do best during a choppy market.

What Goes Up Must Come Down:
While there is no system that can consistently assures success, that does not imply that systems trading is never profitable. Trading systems may deliver large profits during certain phases and then provide large losses later. Newton’s law of Gravity tells us that: “What goes up must come down.” Financial markets mimic this by having Bull markets and Bear Markets. Market prices will never continuously move in an upward trend. In the same way, the equity curve of any trading system will never continuously move positively. The equity curve for any high risk investment will fluctuate up and down; there will be winning and losing periods for any system.

While every trader will find himself in a losing period at times, there are strategic moves to attempt to minimize losses. A common strategy is diversification. By utilizing multiple trading systems, the trader is acknowledging that there is no trading system that can consistently make a profit. Many traders choose to use multiple automated systems, so that when one begins to lose during a certain market period, another may profit. The overall performance is not tied to only one set of rules.

Basic Techniques for Multiple Systems Trading: Portfolio vs. Selective

With portfolio systems trading, the “portfolio trader” runs multiple trading systems at the same time. The idea behind this style of multiple systems trading is that if one system suffers a loss then another system will hopefully receive a gain, thus minimizing or eliminating the loss. However, this style not only minimizes losses, but also minimizes profits: if one system is trending upward and profiting while another system is losing, then the losing system will reduce or eliminate the profit. The minimum account size for an individual trader using “portfolio trading” tends to be relatively high, because each system is trading a separate set of contracts each with margin requirements, thus portfolio system trading tends to be used primarily by high volume or high net worth traders.

The selective style falls into the category of multiple systems trading, because the trader utilizes several different systems, one at a time. Selective systems trading is designed to improve the trading performance of the systems based on modifications to the “working time” of any given system in the Market. The basic idea is to switch (turn one system off; turn a different system on) a trading system when the equity curve is expected to stop rising. While the strategy of the “portfolio trader” is to avoid taking major losses by balancing losing trades on one system with winning trades on another, the “selective trader” replaces a system that is losing or predicted to stop winning with a different system. There is no perfect method for predicting downward trends and ensuring consistent profit; profit cannot exist without loss. The process of predicting a downward trend in selective system trading is very complicated and will never be perfect; the goal is to minimize extended losing periods. A hypothetical example is detailed below.

Example: Hypothetical Selective Systems Trading Strategy for Determining when to Change Systems

Basic guidelines:

Switch system when the account has an overall daily loss at the close of the trading day.

Switch system after the account has a 5 consecutive days of overall daily profit.

Conclusion
While there are many advantages to systems trading, it must be acknowledged that there is no perfect system. While we would all like to hope that technology will advance to the point where a perfect system can be created, we must accept that the day may never come. Until that day, we feel the that the best approach is through the simultaneous use of multiple systems with a selective timing approach, so that if one system is not performing the other systems in the portfolio have an opportunity to potentially compensate and make for a smoother equity curve.

Risk Disclosure: Futures, and options trading contains substantial risk, is not for every trader, and only risk capital should be used. Any form of trading, including forex, options, hedging and spreads contains risk. Past performance is not indicative of future results. No representation is being made that any account will or is likely to achieve profits or losses. There have been no promises, assurances or warranties suggesting that any trading will result in a profit or will not result in a loss. Because there are no actual trading results to compare to the hypothetical performance results customers should be particularly wary of placing undue reliance on these hypothetical performance results.

Thoughts on Trading

2009-11-19T15:44:00.001+05:30

1. A trade is neither right nor wrong. A trade can only be pofitable or not profitable. a) Profitable is good. b) Unprofitable is bad. Do something!

2. Therapy for traders on a losing streak:
a) Brag about your losses. Tell everybody. Get on the phone!
b) You’ll soon discover that for a losing trade the only thing to brag about is how small you kept the loss, how quickly you stopped the bleeding.

3. The market is uncaring. If you hang on to losing trades, telling
yourself “I’m right, I know I’m right”, the market will reduce your
trading capital down to zero.

4. As an individual trader, you’re competing against guys with PhD.s in math and physics, against giant super-computers.

a) The PhD.s are probably smarter than you.
b) Your computer is no match for the competing computers.
c) Always know where the escape hatch is for each and every trade. How fast can you get through it? Practice!

5. If you start believing that you have some special insight into the market, that you’ve “cracked the code”, discovered “the natural order of the market”, that the market will go where you say, then put your money in Bank Fixed Deposits and take a long vacation. Motorcycle drivers who stay afraid of their machines die of old age. Those who think they are “daredevil charlie” land up in hospitals.

6. The market is a mechanism for transferring wealth. It does so by causing pain. Great wealth transfers in times of great pain. Losses are a way of causing pain. Trading is a business. You go to work in the morning, go home at night, and earn a paycheck at the end of the week. Keep the size of your trades reasonable.

7. Once in a while a sure thing comes along. It’s a good day to skip trading and take a walk on the beach.

8. Getting market direction right is only the first step of a trade.
Selecting the best trade (trading strategy) is the next step. For
example, is it better to go long a put (it will decay against you)?… or to enter a call spread for a credit (it will decay for you)? The answer depends on market conditions. Money management is the 3rd step. Your goal is to make a profit, not show the world. Your profit/loss statement will accurately reflect your trading at the end of every day. Read it carefully. Understand its message.

Overtrading: Are you Guilty ?

2009-11-19T15:43:00.000+05:30

The first rule to understand is this: Futures trading may not be suitable for everyone. The risk of loss can be substantial.

One of the most common mistakes made by FNO traders is overtrading.

When you create a trading position which is much larger than justified by your capital, this is overtrading.

What is too large? A simple rule is to ensure that any single loss should not exceed 2% of your trading capital. If your trading positions require you to take a loss which is larger then your volume is too large – you are overtrading.

Here are some psychological signals that you are taking more risk than proper:

Sweating during trading hours while sitting in an AC room

Watching Television but switiching channels hoping that some channel will provide you with “suitable” news

Closing your position at a loss which actually brings you relief, only to see that the market moves in your favor after you exit

Shouting at your spouse, children, office people for no apaprent reason (the real reason is that you are losing money on a large position)

Calling your broker every five minutes seeking assurance that your positions are correctly placed.

This is not the life of your dreams, is it ? The solution is to reduce your volume and trade small. But, you will ask, how can I trade small and make a living ? I will answer this question here.

On trading small volumes:

My thinking is that if you’re a good trader with good ideas, each trade you make isn’t significant. It’s the sum total of a lot of good ideas over a lot of years that will make you wealthy. Everyone is wrong sometimes and what happens If you risk it all (or most of it) on a single trade, and you’re wrong? If what I’m saying makes sense, then trading small makes sense. Good opportunities come along fairly often.

Trading with a small capital

Use the Mini Nifty contract
Trade only in stock futures which have a small value
Learn how to hedge with options

Trading with Market Flow

2009-11-19T15:42:00.000+05:30

Learning to trade with the market is a key part of improving trading results. There are many trading systems that work well in some market conditions and not at all in others. There are few, if any, systems that work in all market conditions. Trading results are improved when the trader has a variety of techniques available, and selects the one most appropriate for the current market conditions.

Trading success does not come from finding the Holy Grail; it is the mastery of several different aspects of trading that leads to success. It takes time, effort and money to learn this. Mastering trading, like many other professions is well worth the investment you make.

Consider a two-year period in the Nifty. Buy and hold investors who bought in May of 2001 ended up in pretty much the same place in May of 2003. Strategies with long holding periods showed draw downs during the first half of the period, and gains during the second half. The net result of holding during the 2001-2003 period was essentially breakeven.

Short-term traders could make profits during the first half of the period by using effective shorting strategies, and profits during the second half of the period by using effective long strategies. Trading with the Market requires one to have a variety of strategies that are known to work in different Market environments, and a method for determining which strategy to use.

We have developed a number of different scans that find setups suitable for a variety of different market conditions. There are scans that look for long and short pullbacks, volume accumulation, volume distribution, and various patterns. We have tested these scans in bullish, bearish, and trading range market periods; so we know which ones work best in any given market environment. We make a careful analysis of the current market conditions each evening then select the right tool for the job.

The key to selecting the best trading system to use for current market conditions is determine whether the current market is in a narrow trading range, a wide basing area, or a trend. Once we determine what the current market environment it is we know which of the trading tools to use because we have tested each tool in these different market conditions.

We use trend lines on the NIFTY to determine whether to focus on long or short scans. If the NIFTY is above an ascending trend line, we select tools that perform well in an up trending market. If the NIFTY is below a descending trend line, we select tools that perform well in a down trending market. We have also found moving averages to be effective tools for determining which trading tools to use. Backtesting results indicate that several of our systems respond well to limiting Long Entries to periods when the 30-day zero lag moving average for the NIFTY is moving up.

When the NIFTY broke above the descending trend line in April 2003 it implied that it was time to stop focusing on tools that perform well in down trending markets and select another tool. A trend line break does not imply the immediate start of a new trend. It indicates that something has changed; the market may base awhile then resume the original trend or start a new one. In either case the indication that something has changed in the market indicates that the trader must change with it. The way traders change is to change the tools they are using and their position sizing.

After a trend line break we reduce position size. The reason for this is that swing trading in bases carries more risk than trading in trends, so reducing position size is one way to compensate for this. After the April break of the descending trend line the market bases for four weeks. During this basing period we focus on tools and techniques that have tested well in this type of environment and also continue to trade half size positions. At some point the market will either break above or below the base, and attempt to start another trend. When it does we will trade with the break using the appropriate set of tools.

When the Market is in a clear trend, either up or down, we focus on tools and techniques for Swing or Intermediate term trades. When the Market is range bound , we generally focus on Short Term or Swing trades. The Market conditions tell us which type of trading patterns and techniques to focus on, and the type of trading determines the exit strategies.

Short Term Trading involves taking quick profits on the breakout. We typically exit after 1-2 days, or after a quick pop. This approach can be profitable in range bound markets when the market is only moving up or down a few days at a time. Holding periods of more than a few days in this type of market usually just churn the account.

Swing Trading requires the market to be moving in a large basing range or trending. We place a stop under the low of the setup pattern and close positions as the stock approaches support or resistance. This tends to be more profitable than Short Term trading when the Market is trending or trading in bases that take at least five days to move between the top and bottom of the range.

Intermediate Term trading generally is preferred when the market is strongly trending. We will place an initial stop under the low of the set up pattern and hold while market conditions remain favorable. We will sell when the Stock or the market breaks a key Trend Line or shows signs of topping.

Range bound markets are generally poor places for intermediate term trading. Short term or Swing trading techniques can provide better results. In Narrow bases, where the market moves between the top and bottom in less than four days we limit ourself to short term trading techniques when the market is bouncing off support or resistance, or stand aside. Narrow ranges require quick, decisive action. We just focus on taking a quick profit on the initial move after a trigger.

When the market is in a wide base where it takes at least five days to move between the top and bottom of the range swing trading can be effective. We focus on entering trades when the market is bouncing off support or resistance and avoid taking trades in the middle of the range. The reason for this is trades taken in the middle of the basing area have less time to work out than ones taken on either end. We refer to the middle third of a basing area as the ‘no zone’, and avoid taking new trades in this area.

Intermediate term trading works best when the Market is in a clear up or down trend. We watch for the break of an intermediate or long-term trend line, or a successful retest of a base breakout as possible beginnings of a new trend. We focus on Swing Trading until the market makes a higher low. After a higher low is established we can draw a trend line and consider Intermediate term trading techniques until the trend line is broken.

In order to use Intermediate term trading techniques, the market must be in a clear trend. An up trend usually is not clear until the market has formed a higher low. Until a higher low is formed it is often safer to focus on short term or swing trading rather than intermediate term trading.

Sometimes the market conditions will allow you to use more than one trading style. When the market channels up active traders may use both Intermediate and Short Term Trading techniques. To use short term trading in a channel focus on entering longs as the market bounces off the bottom of the channel, and taking profits as the Market approaches the upper channel boundary.

Successful traders analyze the market to determine the trading system and techniques most suitable to the current conditions. Ignoring market conditions can lead to significant draw down’s for most systems. It is important to have multiple techniques in the traders toolbox that have been tested in bull, bear, and trading range markets, then select the right tool for the current market environment.

Summary

The Market is a strong force that influences the outcome of most trades. Taking all trades generated by a system regardless of Market conditions will likely give you lots of practice at taking draw downs and stop losses. Having different systems that test well for Bull, Bear, and sideways Markets and selecting the right tool for the current Market conditions can improve your results.

Rather than focusing on Short, Intermediate, or Long Term trading consider developing expertise in all three and letting Market conditions determine which set of rules to use.

Why buying on dips is generally a good idea

2009-11-19T15:41:00.000+05:30

What The Professionals do, and Don’t Want You To Know

Judging from my email, it is apparent that I have not explained a very important concept very well – one that professional traders DO NOT want you to know about.

Here it is:

You want to be buying stocks on down days in the market – not selling!
You want to be selling stocks on up days in the market – not buying!

I get emails that go something like this:

“Sudarshan, I just bought XYZ stock. Is this a good trade?”

First of all, I can’t predict the future, so I have no idea if it will be a good trade. Second, the stock was bought on a major up day in the market. So, when the market pulls back, it will likely pull the stock with it and this person will get stopped out!

Now, I realize that buying on down days can be psychologically hard to do. After all, those in the media are saying things like this:

“The market sold off hard today as investors are worried about ‘X’.”

“The Nifty is down 100 points today on ‘X’ concerns.”

With all this negativity, it is no wonder why you could be worried! But, you have to learn to ignore the media.

“But what if I buy a stock on a down day and the market continues to sell off?”. Good question, but you could also say the following: “What if I buy on an up day and then the market sells off”!

At least in the first scenario, you got in after a wave a selling has already taken place. That is certainly a lot better than getting in before a wave of selling has taken place!

So…

Wait for a down day in the market. Now run your scans. Look for stocks that are up. Or, if the market is trading at the bottom of it’s intraday range, look for stocks that are trading at the top of it’s intraday range.

You are looking for stocks that have relative strength – stocks that are stronger than the market. Many times, these stocks will just trade sideways until the overall market reverses.

Then you will be sitting pretty. You will have already established a position. Now you can just watch all the novice traders move the stock in your direction.

You NEED these traders to buy after you buy. You NEED these traders to sell after you short.

That is a sensible way to make money trading stocks.

Requirements of Successful Trading

2009-11-19T15:39:00.000+05:30

This is not a list of “trading rules”; it’s a list of requirements for successful trading. Most worthwhile truths are simple, and this list contains only five items. Like most rewards life offers, market profits are not as easy to come by as the novice believes. Making money in the market requires a good deal of education, like any craft or business. If you’ve got the time, the drive, and the right psychological makeup, you can enter that elite realm of the truly professional, or at least successful, trader or investor. Here’s what you need:

1. A method.
I mean an objectively definable method. One that is thought out in its entirety to the extent that if someone asks you how you take your decisions, you can explain it to him, and if he asks you again in six months, he will receive the same answer. This is not to say that a method cannot be altered or improved; it must, however, be developed as a totality before it is implemented. A prerequisite for obtaining a method is acceptance of the fact that perfection is not achievable. People who demand it are wasting their time searching for the Holy Grail, and they will never get beyond this first step of obtaining a method.

2. The discipline to follow your method.
This requirement is so widely understood by the true professionals that among them, it almost sounds like a cliche´ . Neverthless, it is such an important cliche´ that it cannot be sidestepped, ignored, or excepted. Without discipline, you really have no method in the first place.

3. Experience.
Paper trading is useful for the testing of methodology, but it is of no value in learning about trading. Why? Because the markets are not merely an intellectual exercise. They are an emotional (and in extreme cases, even physical) one as well. To put it mildly, you will find it impossible to approach your task with the same cool detachment you displayed in your living room. This new situation is real, it matters, it is physical, it is dangerous, other people are watching, and you are being bombarded with stimuli. This is what your life is like when you are actually trading. You know it is real, you know it matters, you must physically pick up the phone and speak to place orders, you perform under the scrutiny of your broker or clients, your spouse and business acquaintances, and you must operate while thousands of conflicting messages are thrown at you from the financial media, the brokerage industry, analysts, and the market itself. In short, you must conquer a host of problems, most of them related to your own inner strength in battling powerful human emotions, in order to trade real money successfully.

There is only one shortcut to obtaining experience, and that is to find a mentor. Locate someone who has proved himself over the years to be a successful trader or investor, and go visit him. Observe not only what he does, but far more important, what he does not allow himself to do.

4. Accept the Fact that Losses Are Part of the Game.

The perfect trading system does not exist. Expecting, or even hoping for, perfection is a guarantee of failure. Speculation is akin to batting in cricket. A player scoring 60 runs in a one day match is good. A player scoring 100 is great. But even the great player fails to hit 60% of the time! He even gets out for low scores often. But he still deserves to be called a good player, because although not perfect, he has approached the best that can be achieved. You don’t have to be perfect to win in the markets, either; you “merely” have to be better than almost everybody else, and that’s hard enough.
Practically speaking, you must include an objective money management system when formulating your trading method in the first place.

How about the last requirement for successful tradiing ?

5. The Mental Fortitude to Accept Huge Gains.

This comment usually gets a hearty laugh, which merely goes to show how little most people have determined it actually to be a problem. But consider. How many times has the following sequence of events occurred? For a full year, you trade futures contracts, making 1000 here, losing 1500 there, making 3000 here and losing 2000 there. Once again, you enter a trade because your method told you to do so. Within a week, you’re up 4000. Your friend/partner/acquaintance/broker/advisor calls you and, looking out only for your welfare, tells you to take your profit. You have guts, though, and you wait. The following week, your position is up 8000, the best gain you have ever experienced. “Get out!”, says your friend. You sweat, still hoping for further gains. The next Monday, your contract opens limit against you. Your friend calls and says, “I told you so. You got greedy. But hey, you’re still way up on the trade. Get out tomorrow.” The next day, on the opening, you exit the trade, taking a 5000 profit. It’s your biggest profit of the year, and you click your heels, smiling gratefully, proud of yourself. Then, day after day for the next six months, you watch the market continue to go in the direction of your original trade. You try to find another entry point and continue to miss. At the end of six months, your method finally, quietly, calmly says, “Get out.” You check the figures and realize that your initial entry, if held, would have made a profit of 450,000.
So what was your problem? Simply that you had allowed yourself unconsciously to define your “normal” range of profit and loss. When the big trade finally came along, you lacked the self esteem to take all it promised. Who were you to shoot for such huge gains? Why should you deserve more than your best trade of the year? You then abandoned both method and discipline. To win the game, make sure that you understand why you’re in it. The big moves in markets only come once or twice a year. Those are the ones which will pay you for all the work, fear, sweat and aggravation of the previous eleven months or even eleven years. Don’t miss them for reasons other than those required by your objectively defined method.

[Excerpts from an article by Robert Prechter]

Be prepared for the trading day!

2009-11-19T15:36:00.000+05:30

The process of maneuvering around the financial markets and trading profitably has become an even more difficult task. We must be prepared and equipped with the appropriate tools in order to trade successfully.

The first and most important weapon to obtain is knowledge. As the saying goes, “knowledge is power,” and this is what will initially separate you from the majority of people who try their hand trading the markets. Secondly, proper money management is extremely important and should be taken very seriously in order to survive and play the game for many years. Lastly, preparation before the trading day is something that is mandatory in order to give yourself an edge against those you are competing against. This last tool, preparation, refers to having a trading game plan and knowing what you are going to do given certain movements in the market.

At first glance, preparation may not seem pertinent to succeeding as a trader, but have you ever placed a trade and then come to realize that you did the wrong thing? Or how about this one? The
market makes a huge move in one direction or the other and you are stuck wondering how you should adjust your trade. Instead of reacting immediately, you stop to think and before you know it, the opportunity has passed you by. These are things that should not happen to you and the proper preparation will keep you out of these costly and frustrating situations.

Be prepared for the trading day!

2009-11-19T15:26:00.000+05:30

Donchian's guide to trading

2009-11-19T15:23:00.001+05:30

Richard D Donchian first published his ideas in 1934 to help stock market traders. Donchiian is one of the most respected technicians on wall street, specially in commodities.

General Guides

1. Beware of acting immediately on public opinion. Even if correct, it will usually delay the move.

2. From a period of dullness and inactivity, watch for and prepare to follow a move in the direction in which volume increases.

3. LIMIT LOSSES, ride profits – irrespective of all other rules.

4. Light positions are advisable when a market position is not certain. Clearly defined moves are made frequently enough to make life interesting, and concentration on these moves to the virtual exclusion of others will prevent unprofitable “whipsawing”.

5. Seldom take a position of an immediately preceding three day move. Wait for a one day reversal.

6. Judicious use of stop orders is a valuable aid to profitable trading. Stops may be sued to protect profits, limit losses and to take positions from certain formations such as triangles. Stop orders are apt to be less treacherous and more valuable if used in proper relation to the chart formation.

Breakouts: Follow the momentum

2009-11-19T15:08:00.001+05:30

Traders who trade breakouts and breakdowns do so because they are following momentum – a market making new highs or lows.

Trading breakouts and breakdowns requires a trader who can withstand a retracement because stocks that break through key price levels will often come back to test those price levels. While learning the process of trading breakouts, the trader must be prepared for many wrong calls as he/she learns the rules. Once the rules have been learned you will realize that not all breakouts and breakdowns are the same. This will ensure you get less number of calls going wrong.

Breakouts have their foundation in the theory that price will tend to continue in the direction of an expansion of volatility. All trend start with some kind of a breakout. The trader who catches these can ride a trend for a long period, with substantial gains.

Problems with breakouts / breakdowns:

Often, the breakout results in a short term surge which eventually fails. This happens when the breakout occurs in the very last leg of a trend. Immediately thereafter, a correction begins causing losses to the breakout trader. Even if the trend remains intact, the trader may have to sit through a correction holding a losing position.

Selection of breakout / breakdown candidates:

Select charts that show an ongoing trend.

1. The trader should try to identify the type of breakouts or breakdowns that are most likely to follow through then the rewards can be large. Generally a wise breakout / breakdown trader will be looking for strongly trending stocks that consolidate with light volume and clean price action. (Clean price action means a chart with well defined trending moves & shallow pullbacks). Avoid charts where recent price action looks like a whipsawing market.

2. On breakout, price action should suggest a decisive move in the trend direction. The signs can be:

a) Gaps

b) Range expansion (RE)

c) Price moves above Short term averages

d) Green & red Alligator turn in the trend direction

e) Price breaks a previous well defined top or bottom.

Please understand that the presence of any or all of these signs is not a guarantee of a profitable trade. But it does enhance the probability of getting it right.

Anticipating a breakout:

Although as traders we always try to buy at the lowest price and sell at the highest price, being too early on the entry often does not help the breakout / breakdown trader. Entering slightly late, after a breakout or breakdown, is often a better method because at least a trader has witnessed the key price level violated. Yes, that may mean sitting through the correction, but the expansion of volatility principle is working on behalf of the trader.

Trading Breakouts effectively: A short course

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This is a short course on breakout trading.

When you think of breakouts, what comes to mind? Stocks making daily highs, two-day highs, weekly highs, all-time highs? As you see, breakout means a lot of things to a lot of people. So, why do so many people lose money day trading breakouts? Why are traders constantly buying stocks when they hit intraday highs, only to have them rollover within minutes. How many times have you shorted a stock on a breakdown through a critical support level, go get coffee, come back and see the stock has bounced and you just bought a five-thousand rupee cofee? Well, this article will give you the “secret” that so many breakout day trading professionals use everyday to take themselves from ordinary to extraordinary.

The ideas discussed here are applicable to breakouts in all time frames. Many of the examples are for day traders or swing traders but the concepts are universal.

Basic Principle. Prices move between contraction and expansion. Contraction represents a trading range or similar area of congestion. A breakout occurs when prices emerge out of contraction. The process of contraction can be considered a period of rest, when either the bulls or the bears are building up their energy. Finally, this energy is unleashed leading to a breakout from a congestion area.

Congestion areas have overlapping bars. Visually, it is often easy to identify well defined support and resistance levels in a congestion since these areas look like a straight line.

Expansion has price bars which do not overlap – they move in any one direction with relatively similar open and close positions.

Rule 1: A false breakout often takes place when there is little or no congestion near the breakout location. Even if the breakout is genuine, prices will often retrace sharply if there is no congestion to the left of the breakout area. On the other side, if the breakout emerges out of nearby consolidation or congestion, this area will act as support, thus avoiding a sharp retracement.

For Short term traders, this pattern is reflected in the opening gap. If the market was consolidating in the previous afternoon, then a gap open has more chances of success / follow through. On the opposite side, if the previous day closed with expansion bars, thern today sees a gap open, there remains the possibility of a sharp intra day correction since there is no congestion to the left of the gap.

Secondary Indicator – Volume. Ideally, volume should increase on expansion bars, decrease on retracements. But this may not always happen, specilaly in short term trading with smaller time frame bars. Always, it is price which is supreme.

Rule 2: A breakout that emerges from a period of contraction is a tradable breakout. The initial target for a breakout should be any previous support or resistance. A moving average on a higher time frame could also be a potential target for a breakout. Stops are always placed slightly below the support area for buys, or slightly above the resistance for shorts.

First Breakout is the initial move out of consolidation. The consolidation may have taken place at the end of a down move, or as part of a period of rest in an ongoing trend.

Retracement is a reverse move towards the intial breakout level. The stock should find support around the previous consolidation and resume its up move. A retracement is a low risk opportunity to enter a breakout.

Next chance is a breakout that occurs after another small period of consolidation. This consolidation should happen near the high recorded in the first breakout. This is another opportunity to catch the breakout.

Rule 3: A breakout that occurs without a nearby consolidation is a high risk trade. A retracement is likely, which can easily shake out the breakout traders. Such trades should be avoided. if this reads like a repetition of rule 1, it is. Example: A stock has seen a high, a deep retracement then a sharp expansion that takes prices above the earlier high – this is an improper trade since there is no consolidation before the breakout. A move above previous highs is not good enough reason to get in the trade, since a sharp pullback can come any time with no support to hold it.

Rule 4: A wide range bar at the point of breakout is a signal that the breakout has strength. A wide range bar shows commitment and has high odds of follow through. If there is no overhead resistance, then a breakout through a wide range bar could go further than expected.

TRADING TACTICS

Monitor charts for breakouts on any time frame. Our favorites are – 5 minute, 30 minute, 60 minute & end of day.

The First Breakout should be a well thought out trade. Examine the quality of the consolidation from which prices have broken out. A wide range bar on breakout is a plus point. A narrow, tight consolidation lasting 8 to 10 bars is better than a consolidation with many wide bars having long shadows. In there is overhead resistance nearby, the breakout may face difficulties. Consider all factors carefuly. If satisfied, buy a breakout from a consolidation area, with a stop below support. Remember, you do not have to trade.

If there is any doubt, it is wiser to wait for a retracement to enter. Sometimes, a runaway market will not retrace at all. In such cases, the trader lets go of the trade. There will be many more opportunities.

The Next chance entry comes after the original breakout has occured. There may be more than one Next chance entry in a trending market. These trades are low risk, since a protective stop can be placed below the small consolidation that offers the next chance.

GAPS:

If the gap is above/below a consolidation area it is more likely to be sustained. If the consolidation is nearby, traders can enter immediately. If the gap is wide, traders should look for a small consolidation after the gap, then enter in the gap direction.

A gap that occurs after an expansion has strong chances of going through a retracement. Of course, there will always be exceptions. But, it is wise to stay away from such gaps. Wait for retracement or Next chance .

ANTICIPATING A BREAKOUT

Should you anticipate a breakout and take an early position ? No. This is not a good idea. What happens if the breakout occurs in the opposite direction, or the stock simply continues drifting ? You will be left with a trade for which there are no trade management plans.

Breakout trading with less whipsaws

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Investors trading in breakouts often buy breakouts to new highs or new lows. Many of these breakouts then end up as whipsaws, when the security begins a sharp correction after a sustained trend or reverses the trend itself. If you’re going to be buying breakouts you need to know how you can improve the percentage of winners by identifying stocks that may have a higher probability of success after a breakout. Many technical ideas that can help a trader to do the filtering.

Many filters can be used to screen breaking out stocks for increased reliability of the trend continuing. By using these filters, traders can substantially improve their odds of success in trading breakouts of any kind.

1. The breakout is accompanied by a trend qualifier. In the Level 1 Seminar, we discuss many trend qualifiers – signals that reinforce the trend. Our favorite is RE -Range Expansion. If the breakout day also has an RE or a gap open then so much the better. This could be a real breakout.

2. Breakout stock has higher relative strength verses the Index. This tells us that the stock is outperforming. When a stock breaks out in price and also in its Relative Strength vs. other stocks, it is much more likely to be a true market leader and is more likely to follow through.

3. Breakout-day occurs on strong volume. Strong volume could be defined to mean at least 30% higher volume that its 20 day average, or the highest volume in past 20 days.You definitely want strong volume on the day of the breakout to show significant demand is coming in. Strong volume can also be defined as the very highest volume since the trading range started.

4. Before breaking out, in the trading range, there were signs of accumulation. In its simplest form, an accumulation day is a day that closes higher with the volume also higher than the previous day’s volume. You can also use accumulation distribution indicators to check if the indicator is giving signs of accumulation prior to the breakout.

5. Indicators leading price breakout could be a sign of strength in the stock. This happens when accumulation / distribution or momentum indicators such as the RSI breakout a day or two before prices breakout.
By checking out on such filters, you can screen breakouts to identify the candidates most likely to succeed.

Trading the Wide Range Bar

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A wide range bar has a range (High minus Low) which is higher than the average range. Such a bar may be either bullish or bearish depending on where it takes place in the set up. If it comes at the end of a buying climax, it is bearish. However, it is positive if it is breaking out of a formation. Most of the wide range bars have a pull hack on the following bar. The buy zone is in the lower 50% of the range of the bar. Conversely the take profit zone is 50% to 100% added to the high of the wide range bar. This obviously is for short-term trading. The market tends to rotate by having a narrow range bar after a wide range bar. This is not 100% objective and the definition of a wide range bar is subjective. This is where the art of chart reading comes into focus. This talent ia developed only by looking at many charts over a long period of time.

Wide-Range Reversal Bar after Run Up

When the market is moving aggressively up in new high ground and the following actions take place, it is time to move stops closer or take profits:
1. A wide-range reversal bar.
2. A narrow-range or inside bar comes after the wide range bar.
This type action implies supply is entering the market.

TWO-DAY INTERSECTION

Two wide-range bars to the upside that overlap only a small amount indicate aggressive demand for two bars in succession. The intersection of these two bars is a zone of support/resistance . Orders placed around these points can let one get on board with a small risk. Stops would be just outside the zone.

Wide Range Bar as a breakout.

A price breakout from a consolidation with a wide range bar, is a sign of strength.

A chart pattern that Swing Traders 'MUST' trade

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The One Chart Pattern That You Must Trade

No, it’s not a cup and handle pattern. It’s not a triangle. And it’s not a head and shoulders pattern.

It’s a First Pullback.

What’s a first pullback?
This is just the first pullback after a significant price event. For example:

The first pullback after a trend line break.
The first pullback after a breakout.
The first pullback after break down (short).
The first pullback after a “kicker” candlestick pattern.
The first pullback after a break to new highs.

(I think you get the idea!)

This is the one pattern that you should hope to find the most – that perfect first pullback scenario that swing traders (and day traders) have come to know and love!

Buying on dips & Selling on rallies with BAT

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Buy Weakness and Sell Strength

Buying weakness and selling strength is the art of buying pullbacks. Stocks that are in up trends will pull back offering a low risk buying opportunity and stocks that are in downtrends will rally offering a low risk shorting opportunity.

As a swing trader, you have to WAIT for these opportunities to happen because…

Doesn’t it make more sense to buy a stock after a wave of selling has occurred rather than getting caught in a sell-off?

Doesn’t it make more sense to short a stock after a wave of buying has occurred rather than getting caught in a rally?

Absolutely! If you are buying a stock then you want as many sellers out of the stock before you get in. On the other hand, if you are shorting a stock then you want as many buyers out of the stock before you get in. This gives you a low risk entry that you can manage effectively.

Buying Pullbacks And Shorting Rallies

Where do you buy a pullback and where do you short a rally? You buy them and short them in the Buffer Area for Traders (BAT). This is how you create the BAT:

BAT – The Trading Strategy

The Buffer Area for Traders (BAT) is a buy and sell zone on a chart that swing traders can use to identify possible reversals in a stock.

This is just simply “area” that we look at to see if a stock that is in a strong uptrend, after pulling back to this area, will likely reverse, and, vice versa for down trending stocks.

BAT is the area in between the 10 period moving average and 40 period moving average.. This is where you, as a swing trader look for reversals back to the upside when going long and reversals to the downside when shorting stocks.

For the 10 period, use the Triangular average, while for the 40 period use the Weighted average. But, the actual choice of moving average type is not very significant. It doesn’t matter whether you use sma’s or ema’s. There is little difference between different methods so don’t get caught up in the variations. We are just using these moving averages to create a zone that we will find our entries for long and short positions.

The area between the two moving averages is a buffer. We use the averages to identify the trend. If the 10 day is above the 40 day, the trend is UP. If the 10 day is below the 40 day, the trend is down.

When going long, wait for the decline into the BAT and when going short, wait for the rally into the BAT.

Swing Points

For a swing point low, the first candle makes a low, the second candle makes a lower low, and the third candle makes a higher low. This third candle tells us that the sellers have gotten weak and the stock will likely reverse.

For a swing point high, the first candle makes a high, the second candle makes a higher high, and the third candle makes a lower high. This third candle tells us that the buyers have gotten weak and the stock will likely reverse.

For our long entry strategy, we are trying to find stocks that have pulled back into the Buffer Area for Traders that have made a swing point low.

Now lets look at a stock on the short side. We are looking for a stock in a nice downtrend with the 10ma below the 30ma. Then we wait for a rally into the BAT that forms a swing point high.

A second setup: Consecutive Price Patterns

Many a time, you will notice that a pullback in an uptrend consists of three consecutive down days with lower highs and lower lows. (or two down days and one inside day).

That is what you want to look for in a pullback. You can buy the stock the first time it trades above the previous candle high. This will also complete the swing point low.

In a downtrend, you will see often that the stock has three consecutive up days with higher highs and higher lows (or two up days and one inside day). The fourth candle continues tol makes a higher high and a higher low. The fifth candle finally makes a lower high and a lower low – completing the swing point.

My point in explaining the pullback in a down trend was this : Pullbacks do not have to consist of exactly 3 consecutive up days (for short trades) or down days (for long trades.) Sometimes you will run your scans and find stocks that have more than that.

One final note: When you are looking for swing points to develop, you always want to look to the left of the chart to see if the stock is at a support or resistance area on the chart. That will improve the reliability of this entry strategy.

Ok, now that we know how to get into a trade, how do we get out? We need an exit strategy.

How To Take Profits And Control Your Losses

Your exit strategy consists of two parts: Where will you get out of the trade if the stock does not go in your favor? Where will you take profits if the stock does go in your favor? These are the two questions that make up your exit strategy. You have to be able to answer these questions before you can place the trade!

Part One – Your Stop Loss Order

First, lets put to rest the debate about where or not you should use a physical stop or use a mental stop. A physical stop loss is an order to sell (or buy if you are short) that you place with your broker. A mental stop is YOU clicking the sell (buy) button to get out of the trade. From a technical perspective, it does not matter which type you use.

Before you get into a trade you will have a plan that will determine when to get out of the trade if it does not go in your favor. You are a disciplined trader that always follows your plan (right?). What difference would it make whether or not you have an actual order placed with your broker or if you are going to pull the trigger yourself? There is no difference. In either case, you will get out of the stock when your plan (exit strategy) tells you to!

Personally, I always use physical stop loss orders placed with my broker. This is because I do not want to sit at my computer and look at a monitor all day long! Ok, maybe that’s a slight exaggeration, but you get the point!

Where is your stop going to be? First of all you need a stop that makes sense and you need it to be out of the “noise” of the current activity in the stock.

Look at the average true range of the stock over the past 10 days. If the average true range of the stock is, say, Rs 11, then your stop needs to be at least that far away from your entry price. It doesn’t make any sense to have your stop Rs 3 away from your entry price when the range is Rs 11. You will surely get stopped out prematurely!

For long positions, your stop should go under a support area and a swing point low.

For short positions, your stop should go above a resistance area and a swing point high.

Part Two – Taking Profits

Use trailing stops! This is an easy and unemotional way of exiting a trade. If this trade is going to be a typical swing trade with a holding time of 2-5 days, then you can trail your stops a few rupees under the two day low. (This is the low of the last two days). Once you have spent 2 or 2 days in the trade, tighten the stop to just the previous day’s low.

Note: Initially, on the day of entry, your stop should be based on your stop loss order. the trailing stops come in, on the day your trade becomes profitable.

If this is a first pullback scenario, then you may want to hold this for a longer time frame. Having some big winners every now and then will fatten up your trading account! In this case you can trail your stops under the swing lows (or highs for shorts) until stopped out.

In either case, you should always determine where your stop is going to be and how you are going to take profits before you get into the trade. Have a solid plan in place (write it down). This will take all of the emotion out of the trade. Then you can relax and trade the “map” that you have created. This will make your exit strategy easy to follow and it will put you on the path to success.

What is so special about this zone?

I have found that for swing trading, a lot of reversals happen in this area. So in order to create a focus in your trading strategy, it is helpful to narrow down your potential stock setups to one area on a chart. This zone provides a number of setups on a daily basis.

We are not really concerned with the moving averages themselves. When a stock pulls back into this zone, look to the left to identify support and resistance, trend lines, candlestick patterns, etc. You are looking for multiple signals all pointing in the same direction.

Will this strategy make me a profitable trader?

You may be surprised by my answer.

The answer is no. There isn’t ANY trading strategy that will make you a consistently profitable trader. Sorry to disappoint you. The only thing that will enable you to consistently pull money out of the markets is YOU.

YOU must have discipline. YOU must be able to take losses. YOU must be able to take your profits. YOU must eliminate fear. Put simply, you must be able to control the emotional and psychological problems that prevent success.

That will be your biggest challenge in learning how to trade stocks with any strategy.

CrossOvers - An easy path to swing trading

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Apply the tm Alligator indicator to your end of day chart.

Watch for a crossover. A bullish cross over must open below the three Alligator lines and close above them on the same day. We repeat that this should happen on the same day. You may relax the rules a bit, to permit a composite (across two days) cross but to be honest I prefer those that happen all in one day. No hesitation normally means that the stock is going to go up. Note that the direction of the three lines or even their order is not considered.

If you are tracking the market during trading, you can buy before the close. otherwise, buy the next day. Put your stop (mental or actual) below the candle that crossed and let them run.

Exiting a cross over is up to you – I expect 3% to 5% and after that everything is golden. My stop is always just below the crossing bar because the beauty of the cross over is – it works or it doesn’t. I use a close as a trigger to sell the stock. In other words an intra-day move below the candle will not cause me to sell but a end of day close below the candle definitely will. While some traders accept a pull back, I prefer the ones that go straight up.

Such crossovers will not come often. I think, we get one in two months, on an average. But, remember there are many stocks to swing trade, so there should be a stream of such patterns coming in. Remember, patience is the best friend of the trader. And impatience is the reason why many traders go broke instead of rich.

If you are trading in Futures, you can also go for the short sell signals. This will increase the number of signals that come in. A bearish crossover takes place when price opens above the three lines and closes below it. The stop is above the high of the crossover day.

The theory behind the Alligator lines is simple. When the lines converge it suggests that volatility is damping out and when they diverge it suggests that the volatility is excessive and needs to come back. A crossover will normally happen when the lines are converging. The crossover is giving a message that the decline in volartility may be over.

So instead of looking at the three lines as just three more lines on a chart – start looking at them as a function of volatility and they might start making more sense to you.

You may also experiment with replacing the Alligator lines with three moving averages to your end of day chart – the 4, 8 and 21 EMA. I have found the Alligator to be a better method.

Stock Selection

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Since swing trading is a short term trading method, traders should be open to the idea of short selling, if the market conditions are conducive. For this reason, the swing trading universe of stocks should consist of shares in the Futures & Options list. Traders will enjoy leverage if they trade in Futurers or Options. Even if they wish to trade in the cash segment itself, at leat they will have the advantage of using F&O instruments should they so desire.

Rule 1. The selection of stocks should come from the F&O segment. This is not an iron clad rule, since you may wish to keep some stocks that do not belong o the F&O segment, but the majority of stocks in your list should be from F&O.

From the F&O stocks, you should make a list of about 50 stocks that you will actively track. The stock selection exercise needs o be done once a week. Normally there will be only a few changes from week to week. You can use rank-It to identify stocks for your list. you can also use charts to directly identify stocks for your list. Both procedures are given below.

[LESSON: Use Rank-It! to identify strong & weak stocks.

Open the Rank-It! screen: follow the Scans —> Rank-It! —> EOD menu sequence.
Change the compression to weekly: Click on Compression, then click on weekly. (We will use the weekly time frame, which is the intermediate time frame, to identify our stocks.)
We want to rank the F&O folder, so on the folder list displayed to the left, click on #F&O. Now, click on the Rank-It! button. The process will start. The time taken depends on the speed of our computer. Please be patient.
When the process is complete, a lis of all the stocks is displayed. Each stock has a rank, starting from 1 to 225 or more. The Highest rank is 1. the lowest rank is the last rank. Stocks with high ranks are in strong up trend. Stocks with low ranks are in strong down trend.
From these ranks, select 50 stocks that you will monitor on a day to day basis. Select 20 stocks to represent the primary trend, and, about 30 to represent the intermediate trend. If the primary trend is up, choose 20 strong stocks, from the rank 1 to 75. If the intermediate trend is also up, choose 30 more stocks, from the ranks 1 to 125. If the intermediate trend is down, select 30 weak stocks from the last 80 or 100 stocks.

Explaination: Why not pick the top 20 stocks, or the top 50 stocks ? We suggest that you examine the top 75 stocks and then select 20 from them. You should spread out your selection accross the 75 names. There are many reasons to do so. First, it is quite possible that the top stocks may already be in mature trends. Second, the lower rank stocks, say between 50 to 75 may be improving day by day, moving towards the top ranks. Third, your selection should have a fair sprinking of different sectors. To do this, you have to select from a wide area.

The selection process should focus on stocks with high relative strength, sustained trend and increasing volume. Your choice should be on consistent performers instead of momentum ‘darlings’. These are the stocks favored by smart money. When stocks trend, they become tradable for swing traders since many institutions get involved adding fuel to the stock. Uptrending and downtrending stocks are better swing trading candidates than stocks inside a trading range.

By identifying strong & weak stocks, finally make a list of about 50 stocks that you will work on. You are not going to trade in all fifty. But, this is your universe and you will focus exclusively on it.

NOTE: In the heat of the moment you’ll see stocks you wished you owned, and you’ll be upset that somebody is making money when you are not doing as well. Someone will always be outperforming you, but let’s see where that person is six months or a year or two from now, because today’s darlings usually turn into next year’s dogs.

When this list is made, make a folder with the 50 stocks. Folders can be made in Data management —> Folders —> EOD. If you are repeating this exercise for subsequent weeks, then this folder already exists. You should open this folder and edit it o reflect the new list.

END OF Rank-It! LESSON]

[LESSON: use charts to visually identify stocks for swing trading]

We need trending stocks in our list. When we visually select stocks, we work on the daily chart. The process should identify stocks in visible uptrend or downtrend. Stocks in trading range should be avoided.

Up trending stocks:

Moving Averages should be in proper order. The 10 day simple average should be at the top. The 20 day exponential average should be below the 10 day. The 40 day exponential average should be below the 20 day. Prices should be above the 20 day average.

A clear up trend should be visible. A good uptrend has gaps, laps, wide range breakout bars & breakouts from narrow tight consolidation. Ideally, there should be short pullbacks also. Stocks that pullback are good stocks to trade with.

Relaitve Strength versus the Nifty should be increasing.

Down trending stocks:

Moving Averages should be in proper order. The 10 day simple average should be at the botom. The 20 day exponential average should be above the 10 day. The 40 day exponential average should be above the 20 day. Prices should be below the 20 day average.

A clear down trend should be visible. A good downtrend has gaps, laps, wide range breakout bars & breakdown from narrow tight consolidation. Ideally, there should be short pullbacks also. Stocks that pullback are good stocks to trade with.

Relaitve Strength versus the Nifty should be decreasing.

END OF stock selection LESSON]

An additional exercise can help in filtering out improper candidates for swing trading. For the stocks selected, Also, look at the price history for the stock in question. Does it have a history of large price gaps? Does it seem to trend well when it breaks out from chart patterns? Does the stock move for several days in a row when it breaks out or does it go for one day and soon after reverse course? Questions like these will help you decide if a swing trading approach is best for the stock you are looking to trade.

Setups for Swing Trading

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Making money with Swing Trading

To make money in the stock market it is necessary to have a disciplined approach to trading. Once you learn the rules and you trade with discipline, you will make money in the stock market.
Swing trading allows you to make money when the market is bullish, or bearish, or just going sideways. That is why it has a distinct advantage over other approaches to investing. The goal is to make money, not to rest one’s hopes on the future of a stock, a sector, or the economy.

When determining if conditions are proper for swing trading, take into consideration whether the overall market is trending or not. This observation alone can be helpful when deciding if stocks are likely to see follow-through for multi-day moves or if they will instead reverse course and not trend at all.

What can you expect ?

First, – only a portion of your trades will be executed. Swing trading is designed to only trade stocks that initially move in the anticipated direction. If the price moves in the opposite direction (continues pulling back or pulling up), the trade is not placed.

Second, – you will be holding positions for a limited amount of time. While swing trading is not day trading, you are only holding positions until targets are met.

Third, – some of your trades will result in losses, however losses are minimized by trailing stops which raises the stops as the stock price rises; this is known as trailing stops. Being disciplined, and following a plan will insure that profits exceed losses which means you will make money.

The Basic Setup

STEP 1 – Identify a stock that is in an uptrend or a downtrend.
STEP 2 – For stocks in an uptrend, identify those that are experiencing a pull-back.
For stocks in a downtrend, identify those that are experiencing a pull-up.
STEP 3 – Once an appropriate candidate is identified, place an order to buy (uptrend) or sell short (downtrend) the stock. You buy above the high of he previous day, and sell below the low.
STEP 4 – Once a stock has been traded (a position opened), place a stop-loss order to limit downside risk and place a limit order to identify the price at which you will take profits. (Ideally, these two orders are placed together. Ensure that both orders should never be triggered.
STEP 5 – At the end of each day, adjust the stop loss prices based on the price movement.

Getting Started in Swing Trading

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Swing trading means to hold stocks anywhere from one to five days and sometimes more. Swingtraders try to take advantage of certain “key” situations in a stock price’s movement. Such a situation would be a buy after a pullback into solid support during a longer term uptrend. Swing trading is an easy to implement strategy and is excellent for people who are willing to take overnight positions.

Before proceeding further, please understand how the trend is determined in any time frame. The article here explains the process.

Step 1: Define the Primary Trend of the Stock Market

This is best done on Monthly charts. Open the monthly chart for the Nifty. Employ any one of the tools and procedures explained earlier, to define the primary trend.

Primary Trend = PT = Trend as per the method used

Step 2: Define the Intermediate Trend of the Stock Market.

This is best done on weekly charts. Open the weekly chart for the Nifty. Employ any one of the tools and procedures explained earlier, to define the intermediate trend.
Apart from the trend methods discussed earlier, for the Intermediate trend, there is one more method. Apply a simple moving average with a value 30. This is the 30 week moving average. When weekly close is above the average, the trend is up, when weekly close is below the average, trend is down. Whatever method you use, use it consistently.

Intermediate Trend = IT = Trend as per the method used

Step 3: Define the short term Trend of the Stock Market. This is the trend that traders should be looking at. This is done on daily charts. Open the daily chart for the Nifty. Employ any one of the tools and procedures explained earlier, to define the short term trend.

Short Term Trend = ST = Trend as per the method used

At this point, after step 1 to 3, the trader should be aware of the trend in all three significant time frames. Please do not ignore these steps.

DECIDING ON THE TRADE DIRECTION

With clarity on trend in the three timeframes, a decision can be taken on the direction in which swing trades will be taken. It is here that the trend identified earlier will be used.

The second decision that the trader needs to take is to make a list of stocks in which he wishes to rade.

Once the trader knows the stocks he should be working with & the buy / sell action he needs to take, the rest of the trading process becomes mechanical. The Swing Trader now searches for setups or patterns which indicate if a trading opportunity exists in the desired trading direction.

These two issues, stock selection & setups are explained in seperate articles on Stock Selection & Setups for Swing Trading

How to determine the trend on any time frame

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Employ any one of the tools and procedures below to define the trend.

MACD: Use the buy values as inputs: 8,17 and 9. If the MACD line is above the trigger line, the primary trend is up. If the MACD line is below the trigger line, the primary trend is down.

Keltner Channels: Define a narrow channel with 10 and 1. Ignore the middle line. We are interested in the direction of the two outer channel lines. If both lines are moving up, trend is up. If both lines are moving down, trend is down. Sometimes, you will visually see that one line may be moving up while the other may be moving down. This is a sideways move. In such cases, it is best to wait for the lines to eventually take a direction. With Keltner channels, sometimes the lines appear to be flat. Just assume that the flat lines are sideways. We are interested in the broad view, not in extreme precision.

Linear Regression: Apply a 21 period linear regression line. The Linear Regression is available in the Moving Average indicator. If the line is moving up, the trend is up. if the line is moving down, the trend is down. You can also apply the query – ‘Short term trend is up’ to get this information. In the query, the brown bars represent an up trend. If the bar is not brown, it is a downtrend.

2MA Difference: Apply the 2 MA difference indicator with these settings: MA 1 = 3, MA2 = 10, Calc basis = Close, Average Type = Weighted. Select the Above/Below option. When the lines are green, the trend is up. When the lines are red, the trend is down.

+DMI/-DMI: Apply the ADX indicator with the default of 14. In the Indicators dialog, unchek ‘ADX Plot’ and also unchek ‘Mid Point’. The other two plots ‘ +DI and -DI’ should be checked. We wan to plot the +DI and -DI and we do not want to plot the ADX or the mid line. If the +DI (green) is above the -DI (red), then the trend is UP. If the +DI (green) is below the -DI (red) then the trend is down.

There are as many ways of identifying the trend, as stars in the sky. Do we really need all of them ? No. Eventually, all the methods will take us to the same destination. So, focus on any one method, then stick to it.

Intra Day Entry Methods

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This article discusses three entry strategies for day traders :

(1) KEY BUY :-
It is designed to help trader come into market as a buyer , precisely when the group gripped by fear and fright is anxious to leave the game .The key buy set up involves three simple steps :-

(a) New high -This criterion calls for a stock that has recently made a higher high than it prior rally . High does not imply all time high ,it means that stock should have made a new high no longer than 8 days ago.

(b) Three or more consecutive lower highs – This criterion calls for the stock to experience a 3-bar decline i.e. the high of each down bar must be lower than the prior bar’s high . This concept is applicable in intra day time frames , as well as daily and weekly time frames.

(c) The action – Buy the stock whenever it trades 0.25 to 0.5 above a prior bar high.

(2) 30-minutes Buy :-

In todays volatile market gaps are very common occurrences , and the trader who lacks the ability to deal with them is playing a distinct disadvantage.The first 20-30 minutes is the trickiest time period of the day , particularly when the market is poised to open up very strongly .If the stock that has gapped up and is able to trade to a new high after 30 minutes of trading , the strength demonstrated at the open was not artificial but real.The strength in this case is real because it is being confirmed by continuous buying .

Working Procedure :-

Set Up – (a) – The stock must gap up at the open by 0.6 or more . It is best if the stock does not rally much from its opening price , although stock which gap and stall immediately make the very best candidate for this strategy .

Action – (a) – Once the stock has gapped open , trader must let it trade for a full 30- minutes .

(b) – Once 30-minutes has transpired , the trader sets an alert 0.25 above the high of the day , which is not too far away from from current price.

(c) – Once the stock breaks to a new daily high the trader buys with a protective stop 0.25 below the day low .

(d)- Then the trader would use the trade management and profit taking steps.

(3) Late day breakout description :-

The latter part of the trading day offers the trader one of the best opportunities for picking up micro trading gains . It is because the , the market often continues where it left off before the start of mid day doldroms , providing the traders with new possibilities of trading . The latter part of the day imply time 2.15 onwards .
Set up :- The setup is based by viewing 5-minutes charts.

(a) – Stock must be up on the day .

(b) – The stock must be trading at or above its opening price.

(c) – The stock must be near day’s high .

(d) – The stock must be in sideways base at least 1 and 1/2 hrs.

Action :- (a) – The trader looks to buy 0.25 th above the recent high price , but it is preferable to enter the stock below the daily high . The assumption are made by analyzing 5-min price chart.

(b) – The traders put stop loss just below the lowest price.

(c) – Sells the stocks when its moves higher .

Brief guide to day trading

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This document is a short course on day trading with RT PRO – intra day data & charting service provided by Technical Trends. (www.techncaltrends.com)

The purpose of this document is to answer many questions that we receive daily. We wish to assist users in becoming proficient in the art of day trading. Yes, day trading is an art. There is a sixth sense, or rhythm to day trading. Those who have it do better than those who do not, but everyone who applies the principles outlined in the next few pages has the potential for consistent success in this business.

SECTION 1. DAY TRADING IS A BUSINESS
Trading in a short-term time frame is fun. It is just like playing computer games, except that there is a lot of money involved. So, unless you have money to burn, you should approach day trading as a business.

A. Record keeping.
Keep a record of all your trades. This involves keeping a trading diary. Don’t begin a story for each trade, just mention the highlights – why you took the trade & what went right or wrong.

B. Brokerage.In day trading, high brokerage rates can ruin you. Make sure you pay the lowest brokerage rates available. Many brokers will give you good rates when you negotiate with them.

SECTION 2. THE SPECIALIST TRADER
Traders who are most successful are specialists who use just one or two trading techniques and become experts in their execution. Focusing on one or two strategies will bring repeated success. Every time someone brings out a new strategy, we run to it, hoping it is the magic bullet. Well, we have not found any magic bullet, but we have identified a number of tactics that bring success. Knowing how to execute a particular strategy and being able to find the stocks that are ready to move when you want to trade is the most difficult situation facing day traders. With some study, it is possible to learn techniques to identify stocks that are ready to trade – when you need a trade. This can work out if you specialize in one or two techniques.

A. Your time frame.Traders must define the time frame in which they work. Position traders will typically enter a trade with a time horizon of weeks or even months. Swing traders are looking at trades that may last from a few hours to a few days. Day traders will usually hold stock for less than a day. Sometimes, their position will be closed in just a few minutes. Sometimes, a good trade will be carried overnight becoming a swing trade. In general, day traders will have positions that are closed in less than a day.

There are numerous advantages to day trading as well as disadvantages. Because day traders make more trades than, say, position traders, there are more chances of an error. Another disadvantage is that day traders often miss the big moves that stocks make. Therefore, some day traders let successful day trades develop into swing trades. Confirmed day traders, however, always close their trades before the market closes. An advantage to day trading is not holding trades overnight. Thus there is no risk of a gap open against the trader, the next day.

Finally, if you wish to day trade, you must be willing and able to sit in front of a computer all day and monitor a trade. If you cannot, then you can trade in the swing or intermediate time frames.

B. Goals & Cash management
Every trader must have goals. You must define these goals in terms of money. An example: “I wish to earn Rs 1,00,000 (One lakh) per month with day trading.” This works out to a daily average profit of Rs 5,000. Now, use this information in your cash management. Let’ say you find a great trade and are about to put on a trade. Suppose, you buy 500 shares. Now, the share must move at least Rs 10/- in your favor for you to reach your daily goal of Rs 5,000/-. Here, you must ask yourself if the stock has a daily range that justifies your expectation of a 10/- profit. If the average daily range for the stock is Rs 5/- then why should it move Rs 10/- on the day you put your trade? Then, you have to choose a stock that has a larger daily range, or increase the numbers of shares that you trade. But, your money management rules may not allow you to increase your volume. The only option left is to search out for stocks where the average range is enough to justify taking a position.

Average True Range – the difference between the daily high and low of the stock averaged over a number of days. Stocks with high average range are more volatile, thus offering more trading opportunities. Traders should search for stocks with high true range, or where the range is now increasing after remaining on the lower side.

The bottom line is you have to select stocks to trade that have the potential to generate a reasonable profit. While we will address the selection of stocks again in this course, once you decide on how you will trade every day, and what strategies you will employ, all of the above becomes second nature due to repetition. That is why it is important that you become a specialist. It is imperative that you have a trading plan before the open of the market. Just hoping to stumble across a good trade during the day, perhaps by listening to TV channels, is a sure way of failure in trading.

C. Are fundamentals important to day traders ?
Fundamentals do not matter to the day trader. You want a trade. You do not want the PE, Book Value, Q2 earnings, or any other information of this kind.

D. Market & Limit orders.

When trading highly liquid stocks, place orders at the market. In all other cases, place limit orders. This ensures that you do not get caught in a large spread for an illiquid stock. However, when your stops have been activated & you need to exit your position quickly, then do not wait for a limit order. Exit immediately at the market.

E. Stocks have individual trading characteristics

Stocks have personalities. One advantage of trading the same stocks all the time is you learn how they trade. If you are trading a stock for the first time, you often don’t know how it will move. Some stocks are incredibly volatile, others trade as smooth as silk. The more day traders, the more volume, the more volatility .
You should be looking at highly liquid stocks with an acceptable true range and a small spread.

SECTION 3. TREND & TRIGGER
“Successful trading is very simple. Buy a stock at the right time and sell it at the right time”.

A. TREND.
Traders make profits when the trend is in their favor. Many day traders forget this simple rule. There is only one way to make money – Buy Low & Sell high. If you are selling short then you may change the order, by selling first & buying later. It is a mathematical certainty that profits can be made only by buying at a price that is lower than the selling price.
For the day trader, who does not enjoy the luxury of time, it is all the more essential that the trend should be in his favor when he begins the trade.

B. TRIGGER
The trader need not take a trade even when the trend is in his favor. Once he is aware of the trend, he knows the direction in which he should trade. He should then wait for a trigger, which tells him that the appropriate moment to take the trade is now in hand. Thus, a trigger times the actual trade entry.

SECTION 4. . SETTING UP YOUR CHARTS

MULTIPLE TIME FRAMES

Traders can set up their trend & triggers in a number of ways. One classic & simple way is to use multiple time frames. A trend indicator on a higher time frame indicates the trend direction. The trader then takes trades using triggers in his normal time frame, only in the direction of the trend.
Example: A Day Trader uses two charts for each stock:
Chart 1. Trend. 30 minute chart which is the higher time frame
Chart 2. Trigger. 5 minute chart which is his trading time frame.

TREND CHART

To identify the trend, setup a 30 minute chart. Apply one of the following trend indicators: Escala, Alligator, Moving Average or Time Series.
You should go long only if the trend indicator is in an uptrend. This is how you identify the trend:
For an Uptrend:
Escala Day Trader: Bar color must be green. The Green bar must come after at least three red bars. If the green does not have three preceding red bars, then wait for three consecutive green bars to confirm an uptrend.
Alligator: The three lines should be in proper order. The Top line should be Green, then red, finally blue should be the lowest. Close of the latest bar MUST be above the Red line.
Moving Average: Apply a 20 period exponential moving average. Close of the latest bar should be above the moving average. The moving average should be rising. This means the value of the latest average should be higher than the value of the previous average.
Time Series: Apply a 13 period time series. This indicator is available inside the moving average option. Close of the latest bar should be above the time series. The time series should be rising. This means the value of the latest time series should be higher than the value of the previous time series.
For a Downtrend:
Escala Day Trader: Bar color must be red. The red bar must come after at least three green bars. If the red does not have three preceding green bars, then wait for three consecutive red bars to confirm a downtrend.
Alligator: The three lines should be in proper order. The Top line should be blue, then red, finally green should be the lowest. Close of the latest bar MUST be below the Red line.
Moving Average: Apply a 20 period exponential moving average. Close of the latest bar should be below the moving average. The moving average should be falling. This means the value of the latest average should be lower than the value of the previous average.
Time Series: Apply a 13 period time series. This indicator is available inside the moving average option. Close of the latest bar should be below the time series. The time series should be falling. This means the value of the latest time series should be lower than the value of the previous time series.

We have discussed four trend indicators. Please note that you should use one of these four. The choice is yours.

Note: If you are new to trading, you may think it takes a long time for the trend to emerge on the 30 min chart. This is to your advantage. When the trend emerges, it usually has some staying power.

TRIGGER CHART
This chart is a 5 minute chart of the stock that you wish to trade in. Once you determine the trend, you should be searching for a trigger to enter. The 5 minute chart provides you with the actual entry. It is also used to finally exit the trade.

We will use chart patterns on the 5 minute chart to enter the trade.

For long trades:

The 5 minute chart should have a small dip, after a rally. We want to buy when we sense the end of the dip. The end of this dip is signaled in two ways:

Reversal after dip:

After falling for a few bars, the security has a reversal bar. A reversal bar is defined as: (a) Bar with a greater than average range, (b) Open at the low and close at the High. The actual buying is done above the high of the reversal bar. If you are not filled in the next bar, you should keep the entry stop and wait for two more bars. After three bars have gone by, then cancel the trade if it has not been triggered.

For Short trades:

The 5 minute chart should have a small rally, after a dip. We want to sell when we sense the end of the rally. The end of this dip is signaled in two ways:

Reversal after rally:

After rising for a few bars, the security has a reversal bar. A reversal bar is defined as: (a) Bar with a greater than average range, (b) Open at the High and close at the Low. The actual selling is done below the low of the reversal bar. If you are not filled in the next bar, you should keep the entry stop and wait for two more bars. After three bars have gone by, then cancel the trade if it has not been triggered

Doji after dip:

After falling for a few bars, the security has a DOJI. A DOJI is defined as: (a) Bar with a greater than average range, (b) Open & close almost at the same price, and, (c) the open & close should in the the top half of the bar. The actual buying is done above the high of the Doji. If you are not filled in the next bar, you should keep the entry stop and wait for two more bars. After three bars have gone by, then cancel the trade if it has not been triggered.

INITIAL STOP LOSS:
Once a trade is taken, it must be given sufficient room to work out. Therefore, the initial stop loss should be based on the ATR (Average True Range) of the security. When a trade has been triggered, then you determine the ATR in this way:
Plot the Average True range indicator (Indicator —> Volatile —> Average True Range.) Note the value in the indicator window. This is the ATR. Now, your stop should be at least 2 times the ATR.
Example: You go long at 245. The ATR is 1.5. Then you stop will be 2 * 1.5 = 3 points below your entry price.

PROFIT TAKING:

Traders must allow the market to move as much as possible in their favor. Therefore, they should allow the market to determine the exit. For this reason, profit targets should be avoided. Let the market move in your favor. Keep a trailing stop to exit the market.

TRAILING STOP:
Two indicators can be used as trailing stops. Use the one which you find more comfortable.
Alligator Red Line: The red line is a trailing stop. If prices close below this line, then exit below the low of the latest bar.
Parabolic SAR: The SAR is also a suitable stop. SAR values are available on the screen. These become your exit values.

Exit Strategies – 1

Exits are an important part of trading plans. When you close the trade determines your size of profits, losses & total return.

Yet, traders who pay utmost attention on the right time to enter the trade, will often have just a hazy idea of when to exit. They hope that the trade will close itself. The trade does not end by itself, while the trader does not have a plan to close the trade. Many a time, a profitable trade finally gets closed at break even or worse at a loss.

For most traders, planning an exit strategy is a difficult task. This is mainly for psychological reasons. When you plan an exit, you have to accept that (a) the trade can result in a loss, and, (b) the profit on the trade is limited by some method or definition. But we do not like to bind ourselves with these assumptions.

Unrealistic expectations:
We expect that we will be able to buy at lows, sell at tops.

Lack of control irritates us:
While we can enter the market when we want, it is the market that determines our exit. This lack of control over exits irritates us, finally leading us to ignore it altogether. The truth is we are at the mercy of the market once we enter a trade. It is wise to accept that the market has control over our exits.

Answer:

We must have realistic expectations from every trade. We must accept that the trade can be a loss. A profitable trade is not going to make us as rich as Bill Gates.
Then, we can plan for an exit. While the market will still determine when that exit will take place, we will be in control of why that exit will happen.

Type of Exits:

Initial Protective Stop
Catastrophic stop
Break even stop
Trailing stop
Profit target stop

Factors influencing exits:

Reduce risk.
Protect profits.
Maximize profits.

Late in the Day Breakouts & Breakdowns

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Late in the day breakouts

Setup, Entry and Exit Guidelines

8 – 10 bar base or consolidation in a tight range

In the upper 1/3 of the preceding bullish move

Above the 20MA on intra-day charts

No significant resistance/congestion to the left

Up on the day, and over the prior bar’s close

Breakout over resistance, on Vol., after 2:00 PM

Buy over resistance, with stop under base

Cover ½ under reversal bar; other ½ far from 20MA, or congestion.

Late in the day breakdowns

Setup, Entry and Exit Guidelines

8 – 10 bar base or consolidation in a tight range

At the lower 1/3 of the preceding bearish move

Below the 20MA on the intra-day charts

No significant support/congestion to the left

Down on the day, and under yesterday’s close

Breakdown under support, on Vol., after 2:00 PM

Short under support, with stop over base

Cover ½ over reversal bar; other ½ far from 20MA, or congestion

How to buy stocks that Gap Open - 1

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Conditions that the stock should fulfill:

1. The stock must gap open to the upside on positive earnings, news, or strong buying in the sector.

2. Preferably, the stock should gap above the previous day’s high.

3. The stock should be in an up trend.

Tactics:
Once the stock has gapped open to the upside in the morning and has traded for a complete hour, the entry point at which to buy will be above the high of the 1st hour. In other words, the stock can only be bought after it has traded for a complete hour, and then only if it manages to trade above the highest price of the 1st hour.

The ideal situation occurs when the break above the 1st hour’s high happens several hours after the 1st hour of trading (mid to latter day).

Also, should the “gap open” take the issue from below to above a significant moving average like the 50MA or 200MA, consider it a bullish sign and therefore an extremely compelling play.

How to trade a Gap Open - 2

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Classic chartists have divided gaps in three groups:

Traders Gap: A gap that starts a a new trending move up or down.

Amateur Gap – one in the same direction of an already extended move, and typically ends the move. This is also called an exhaustion gap. Since amateurs get caught in this, we are calling it by a different name.

Continuation Gap – one that continues a move, typically at half-way points.

Questions to ask on Gaps before trade

Does the Gap create a compelling pattern?
Where is the next area of Support or Resistance?
Did it Gap from a consolidation or from an already extended move?
Is the Gap too excessive to invalidate a favorable Reward-Risk?
Does it set up a compelling pattern intra-day after the Gap?
Is the Reward-Risk at least 3:1?
If so, enter and manage in between per your Trading Plan.

Down gaps that turn Bullish

Oversold stock with little congestion to the left

The stock gaps down significantly and then rallies strongly to the open, on Increased Volume (Vol.)

Bar closes with a positive Wide range Bar on the 30-Min. chart, at or through intra-day resistance

The positive Wide range Bar should have a very small, if any, lower shadow. Look for a bullish intra-day entry, and manage in between.

Up gaps that turn Bearish

The stock gaps up significantly and then declines back to the open, on Increased Volume (Vol.)

Bar closes with a negative Wide range Bar on the 30-Min. chart, at or through intra-day support

The negative Wide range Bar should have a very small, if any, upper shadow. Look for a bearish intra-day entry, and manage in between.

Day Trading with Pivot Points

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The pivot point (daily pivot or DP) is the level at which the market direction changes for the day. The pivot level, support and resistance levels calculated from the previous day’s range are collectively known as pivot levels. These points can be critical support and resistance levels. The reason pivot points are so popular is that they are predictive as opposed to lagging. You use the information of the previous day to calculate potential turning points for the day you are about to trade (present day).

The pivot values are plotted as horizontal levels which, in turn, serve as support and resistance. The daily pivot itself can be thought of as the day’s mid-point, or fulcrum. It’s where the buyers and sellers meet to determine the day’s trend in a stock or futures. The support and resistance levels that are plotted around the pivot point are just that: potential support and resistance.

Trading the Pivots, Support and Resistance

The general idea behind pivots is to go long above the daily pivot and short below the daily pivot. The mode of the market (bull or bear) should be used when deciding whether to go long or short at the pivot point. In addition, the first time the pivot point is violated (to the upside or downside) is the most important crossing of the pivot. Subsequent crossings are less meaningful.

The three most important pivot points are R1, S1 and the DP – Daily Pivot. The general idea behind trading pivot points are to look for a reversal or break of R1 or S1. By the time the market reaches R2 or S2 the market will already be overbought or oversold and these levels should be used for exits rather than entries.

A perfect set would be for the market to open above the pivot level and then stall slightly at R1 then go on to R2. You would enter on a break of R1 with a target of R2 and if the market was really strong close half at R2 and ride the trend with the remainder of your position.

Unfortunately life is not that simple and we have to deal with each trading day the best way we can. There are many ways to day trade using pivot points but I shall walk you through a few of them and discuss why some are good in certain situations and why some are bad.

Follow The Intraday Trend

The power of pivot points is unleashed when you follow an unfolding trend during the day, and use the pivot values to measure the magnitude of trend. Additionally, the pivot points can be used to determine entry points into a trade. Applying simple breakout and breakdown entries around pivot points is a powerful way of using the tool

The Breakout Trade

Prices announce their bias for the day. If prices are above DP, then the bias is UP. If prices are below DP then the bias is down. Wait for a consolidation. If price is above DP, buy a breakout from the consolidation with a target of R1. If price is below DP, sell a breakdown from the consolidation with a target of S1. Your stop will be the other side of the consolidation.

Chart Example of Breakout Trade

The Pullback Trade

If the bias is up and price is above DP, then wait for the market to pass through S1 and then pull back. An entry order is placed above resistance, which in this case was the most recent high before the pullback. A stop is then placed below the pullback (the most recent low) and a target set for S2. If the bias is down and price is below DP, the market passes through S1 and then pulls back. An entry order is placed below support, which in this case was the most recent low before the pullback. A stop is then placed above the pullback (the most recent high – peak) and a target set for S2.

Chart Example of Pullback Trade

Pivot Point Tips And Tricks

Trading with pivot points is not a big secret. Floor traders and dealing desks have been applying the methodology for decades in the stock market. But what separates the profitable traders from the losers is the simple act of following the trend of the day, cutting losses short, and letting profits run to the next pivot value. In addition, there are a few observations I’ve made over the years that I can add to the simple truth of following the trend.

The first tip I want to share is that the best trend days usually unfold when the stock begins the trading day near its pivot point. You might have already made this observation. in the two above examples. If you didn’t, then take a second and jump back to the above charts, and note how the Nifty Futures and Reliance Capital Futures began the day at or very near their pivot points. There are usually two or three days out of the week during which the majors such as the Nifty futures, and other momentum stocks begin trading at their daily pivot. These are the days to look for a big trend to unfold.

If the stock that you’re trading begins the day far away from the pivot, either below S2 or above R2, then it’s probably a day that you want to walk away from. When a stock opens the day at one of the daily pivot extremes, it usually spends the rest of the session gyrating around that level. Avoid trying to trade a reversal of the overnight trend. Occasionally it might occur, but more often than not a big overnight trend will stall out at R2 or S2. The temptation is there to try to squeeze out a small profit, or bet on a reversal of the overnight trend. But the reality is that these are the days that can destroy a trader’s equity.

These days are best left to the floor traders. In the long run, you’ll be better off not even trying to trade during days when the futures stage a substantial gap, either high or lower. You’ll be better of by waiting for those days when the futures open near their pivot points.

Markets with wider ranges tend to generate more meaningful numbers than those with narrower ranges. Therefore, use of pivot points, support and resistance levels would most likely work better in markets such as the Nifty futures, High volatility stock futures like Reliance, Reliance Cap, Neyvelli, and would be less meaningful in markets like Hind Lever or ITC, which tend to trade in narrower ranges.

Advanced

Traders may consider using bigger-picture technical analysis to determine if a market is range-bound or in a longer-term trend.

For example, breakout traders may want to avoid trading until they have a strong market bias (trend) and then use the pivot points, support and resistance as entry and stop points. Likewise, contrarian traders may want to wait until the market is reversing or range-bound before fading the market through support and resistance. In addition, bigger-picture systems, set-ups or patterns can be used as a reason to be long or short a market, and the pivot points, support and resistance can be used to set entry points and protective stops.

A sensible way of keeping the bigger picture in mind is by adding a technical indicator that can pinpoint buy and sell signals. You will still want to use traditional support and resistance techniques around the pivot values. The purpose of adding to the indicator is to help in the timing of an entry into a trade. Above all else, though, you want to trade in the direction of the unfolding trend.

The MACD (12,26,9) is added to the 5-minute RNRL chart below. The MACD generates simple buy and sell signals with the crossing of the fast and slow lines. Quite simply, it’s time to buy when the fast line crosses above the slow. Conversely, it’s time to sell when the fast line crosses below the slow line. Only the buy signals are highlighted on the chart below because the futures was in an upward trend during the day. The sell signals are ignored due to the upward trend in the contract.

Chart for RNRL Pivot with MACD Trade

The RNRL futures began the day at 141 and ended near 134 for a move of roughly 8 points. That’s a lot of potential profit, part of which could have been captured by simply following the trend of the day and taking the sell signals coming from the MACD.

A complete method is given below for trading Pivot Points. This is also an example of how systems should be designed.

Pivot Point Bounce
When the price approaches a pivot point (especially for the first time in each direction), it will have a tendancy to reverse, and it is this reversal that is used by the pivot point bounce trading system

1. Wait for the Price to Move Towards a Pivot Point
Watch the market, and wait until the price is moving toward a pivot point. For a long trade, the price bars should be making new lows as they move towards the pivot point, and for a short trade the price bars should be making new highs as they move towards the pivot point.

2. Wait for the Price to Touch the Pivot Point
Wait for the price to touch the pivot point, which happens when the price trades at the pivot point price.

3. Enter your Trade
Enter your trade when the high (or low) of the first price bar that fails to make a new low (or high) is broken. The following list shows the steps required for both long and short entries :

Long Trade

Price bar touches the pivot point
Subsequent price bar fails to make a new low
Subsequent price bar breaks the high of the previous price bar

Short Trade

Price bar touches the pivot point
Subsequent price bar fails to make a new high
Subsequent price bar breaks the low of the previous price bar
The stop loss can be adjusted to use either the pivot point as the stop loss, or the high (or low) of the entry bar as the stop loss, depending upon the market being traded.

4. Wait for your Trade to Exit
Wait for the price to trade at your target or at your stop loss, and for either your target or stop loss order to get filled. The pivot point bounce trade can take anywhere from a few minutes to a couple of hours to reach your target or stop loss. Depending upon the market being traded, the target could be adjusted to be the next pivot point, and the stop loss could be adjusted to break even at a suitable time.

5. Repeat the Trade
Repeat the trade from step 4, as many times as necessary, until either your daily profit target is reached, or your market is no longer active

Mechanical Trading Systems

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Mechanical trading systems can be defined as methods of generating trading signals and quantifying risk that are independent of an individual trader’s discretion. Although the advantages in utilizing a mechanical trading system are manifold, almost market participants agree that their greatest benefit is the tempering of destructive trader “emotionalism”—which is considered to be the enemy of all successful market participants—from the decision-making process.

Technical analysis can be used to develop two different types of mechanical trading systems: price-driven systems or indicator-driven systems (along with a combination of the two). Both types of trigger events can be used to produce successful trading systems because they capitalize on recurring psychological conditions in the market.

Successful trading can be considered as the systematic “fading” (buying whenever the indicator would sell and vice versa) of unsuccessful traders.

Price-driven systems generate signals based on support & resistance. Indicators are mathematically calculated values that determine either the trend, or the unsustainable nature of the current move. Indicators that determine the rend are called trend following indicators, while those hat determine the unsustainable nature of the current move are called Oscillators, or mean reversion indicators. An indicator-driven trigger is an occurrence such as a price close above or below a moving average or the crossing of an oscillator above or below a significant level.

Trend-Following Indicators: Why They Work
If we assume that the majority of market participants lack the psychological fortitude to allow profits to run and take losses quickly, then successful traders use trend- following indicators that necessarily reinforce their ability to actualize disciplined profit and loss goals. As a result, such trend-following technicians often find themselves on opposite sides of the market from their less successful counterparts. Contrary opinion is often the epitome of trend trading.

Mean Reversion Indicators: Why They Work

If trend following is such a successful methodology, how can indicators based on the exact opposite philosophy generate consistent profits? The simple answer is that mean reversion indicators, such as RSI and other oscillators, work because they capitalize on the market’s tendency to overextend itself.

Whether the trend has matured and is approaching climactic reversal or is still in its infancy and simply correcting a temporarily overbought or oversold condition, the market has an uncanny knack for separating the less experienced from their money by exploiting their greed, lack of patience, and complacency. Mean reversion indicators such as oscillators attempt to somehow quantify these unsustainable levels of market emotionalism.

PSYCHOLOGICAL PROFILE OF A TREND-FOLLOWING TRADER

Willingness to buy recent highs/sell recent lows. Unless traders adhere to this first premise, there is no point in reading on. Trend trading works because it is extremely difficult to buy highs and sell lows.

Willingness to exhibit patience through numerous, consecutive small losses.

Ability to be comfortable with 1 to 5 percent of trades executed generating most profits.

PSYCHOLOGICAL PROFILE OF A MEAN REVERSION TRADER

Gain the Discipline to Fade the Crowd. Without the discipline (and courage) to fade recent price action, we will forever remain paralyzed with fear, unable to initiate the trades generated by our systems.

Gain and Maintain the Discipline to Exit with Losses. It is extremely satisfying to buy low and sell high, and we all like to be right more often than we are wrong. Yet without the discipline to exit with losses when dictated by our system, one bad trade will end our career as a speculator

2/20 EMA Breakout System

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This simple to understand trading system was developed by Dave Landry .

The system uses the 20 period exponential moving average and its relation ship with price to create buy/sell signals.

Buy alert: If today’s low and yesterday’s low is greater than the 20-day EMA. This signal remains valid until the low touches or falls below the 20-day EMA.

Buy entry: Place a buy stop order a few paisa above the two-day high. This will help ensure buying with the new trend and help to avoid false signals. Keep order until filled or as long as the buy alert is still valid.

Long exit: Place a stop equal to the 20-day EMA. Continue to update this stop daily to form a trailing stop.

Sell alert: If today’s high and yesterday’s high is less than the 20-day EMA. This signal remains valid until the high touches or rises above the 20-day EMA.

Sell entry: Place a sell stop order a few paisa below the two-day low. This will help ensure that you will sell with the new trend and help to avoid false signals. Keep order until filled or as long as the sell alert is still valid.

Short exit: Place a stop equal to the 20-day EMA. Continue to update this stop daily to form a trailing stop.

Trend Energy with Keltner / MACD filters

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One requirement for using Trend Energy is to have a view on the market. Trades are then taken in the direction of the view. The big question remains: how to have a systematic approach to trend direction ? Earlier, we have explained how 60 minute charts may be used to determine the trend.

Another method is offered here, which may well serve the purpose of determining the direction of the trend. Once this direction is known, Trend Energy signals are taken only in this direction.

Instead of using a higher time frame, an unrelated indicator is used to determine the trend.

Keltner Channels – Method 1.

Apply a Keltner channel with the following parameters to the 5 minute Chart. (This process may be applied to any future, not just the Nifty):

Keltner channel inputs: Close, 10, 1

Rules:

1. Take only buy signals in Trend Energy when the Keltner channels are moving up. The channel consists of the outer lines (excluding the middle line). Both lines should move up.

2. Take only sell signals in Trend Energy when the Keltner channels are moving down. The channel consists of the outer lines (excluding the middle line). Both lines should move down.

3. Sometimes, the Keltner channels become flat. In such cases, there are two options: First – wait for the channels to move in any one direction. Second – Be ready to take trades in both directions – up and down.

4. Exits should be based on Trend Energy rules. These are summarized again:

In an uptrend, buy when:
A. A normal bar (green or red bar) appears after a blue bar (start of an up move)
B. A brown bar appears. (strong momentum).
C. Exit the long position if a normal bar (green or red bar) comes after a brown bar, or, a blue bar comes.

The process of exits needs to be understood carefuly. While we use Keltner to confirm our entry, exits are based exclusively on the different Trend Energy signals. To explain this : assume that the trend is up, with both keltner lines moving up. Now a buy is taken with brown bars. Even if Keltner channels turn down, we will not exit on them. Our exit will be when a normal bar comes after a brown bar.

MACD – Method 2

Apply an MACD indicator to the 5 minute chart. Use the default MACD values. These are:
MACD Inputs: fast – 12, Slow – 26, Signal – 9

Rules:

1. Take only buy signals in Trend Energy when the MACD is in a ‘Buy’ mode. The MACD is in a ‘Buy’ when the MACD line – Blue line is above the trigger line – red line. Thus, when Blue is above or higher than the red, take only buy signals.

1. Take only sell signals in Trend Energy when the MACD is in a ‘Sell’ mode. The MACD is in a ‘Sell’ when the Trigger line – Red line is above the MACD line – Blue line. Thus, when Red is above or higher than the Blue, take only sell signals.

4. Exits should be based on Trend Energy rules. These are sumamrised again:

In an uptrend, buy when:
A. A normal bar (green or red bar) appears after a blue bar (start of an up move)
B. A brown bar appears. (strong momentum).
C. Exit the long position if a normal bar (green or red bar) comes after a brown bar, or, a blue bar comes.

The process of exits needs to be understood carefuly. While we use MACD to confirm our entry, exits are based exclusively on the different Trend Energy signals. To explain this : assume that the trend is up, with Blue MACD line above the Red Trigger line. Now a buy is taken with brown bars. Even if MACD goes into a sell, we will not exit on them. Our exit will be when a normal bar comes after a brown bar.

tm Stoch

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How do you enter into an ongoing trend ? tm Stoch provides a solution to this question. In a strong uptrend, most indicators will remain ‘overbought’ for a long period of time. They do not provide any new entry signals. tm Stoch is desgned to fill in the gap created by traditional indicators.

What tm Stoch does ?

The tm Stoch, is an improved version of the original Stochastics
indicator. The tm Stoch will quickly move down from an ‘overbought’ zone and come all the way down to the ‘oversold’ zone. It can do this at times when there is very little down price movement.

The almost constant cycling back and forth between the upper and lower reference lines displays a cyclic tendency. The tm Stoch is not a cycle indicator by any means. It is not measuring a cycle or projecting a cycle. It is simply following a tendency toward an up/down cycle that is often imperceptible on the price bars.
When a strong trend is continuing, a normal Stochastic often won’t react enough, or with enough amplitude to descend to a low enough level to feel comfortable entering the trade, even with a very short parameter. The tm Stoch can turn down from an overbought area and prices can still be climbing, but when the cycle tendency bottoms out and then turns up in the direction of the trend, often a good entry point presents itself.

Use in Trend Mechanic/Trend Analyzer

In Trend Mechanic, the tm Stoch is plotted with a default of 5.

Basic Rules

Identify the trend of the security. A moving average, MACD, Alligator or Charts may be used to do this.

In an uptrend, buy when tm Stoch falls below 10, then reverses and moves above 10.

In a down trend, sell when tm Stoch rises above 90, then reverses and moves below 90.

The entries in tm Stoch is to be taken in the direction of the trend. tm Stoch is ideal when used to find entry points within existing trends.

Tips & Tricks

1. When the market is just starting a move, with day by day rallies, there is no obvious entry point. Here, the 5 period tm Stoch will make a slingshot action by briefly dipping for a day or two. Of course, the idea can be reversed for downtrends. In a downtrend, the tm Stoch will perform a slingshot action by hooking up – for a day or two, which can be used to sell.

Advanced Ideas

1. Traders should not use this indicator to generate initial trading signals, but it can give excellent signals to enter on pullbacks within a trend, when often a trend is too strong to offer visual pullbacks on the price bars. There are probably many other uses that one can discover with some experimentation.

Alligator

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The Alligator is a set of three smoothed moving average lines, created by Bill Williams (www.profitunity.com) and described in his bnook – the new Trading Dimensions.

Bill Williams describes the Alligator as being like a compass which keeps your trading in the right direction. The Alligator helps you spot a real trend and stay out of range-bound trading, which always result in losses. The Alligator is the combination of three balance lines:

Alligator’s Jaw (the blue line) – 13-period moving average at the mid price (High+Low)/2, which is offset 8 bars into the future;

Alligator’s Teeth (the red line) – 8-period moving average at the mid price (High+Low)/2, which is offset 5 bars into the future;

Alligator’s Lips (the green line) – 5-period moving average at the mid price (High+Low)/2, which is offset 2 bars into the future.

What the Alligator does ?

The Alligator identifies trending & non-trending markets. It also specifies the direction of the trend.

Use in Trend Mechanic/Trend Analyser

In order to plot the Alligator in Trend Mechanic, open a chart, from the Indicator Menu select – ‘Tm Alligator’. The Alligator indicator does not require any inputs.

[ In Trading Strategies, Trend Mechanic has a complete sysytem designed on the Alligator – called Chaos Alligator. The system comes with its own Expert which provides commentary. ]

[ The Rank-It! feature in Trend Mechanic incorporates the Alligator trading strategy and displays signals generated by the strategy for all stocks from a folder. ]

Basic Rules

If all three lines are intertwined, the Alligator is asleep and the market is range-bound. The longer it sleeps, the hungrier it gets. When it wakes up from a long sleep it chases the price much farther, therefore price movements are much stronger.

When the Alligator is asleep, stay away.

If the Alligator is not asleep, the market is either uptrending or downtrending:

if the price is above the Alligator’s mouth then it’s an uptrend;
if the price is below the Alligator’s mouth then it’s a downtrend.

Once the Alligator wakes up, it opens its mouth (the three llines diverge) and starts hunting. Having eaten enough, it goes to sleep again (the three Lines converge), so it’s time to take profits.

Tips & Tricks

1. The Alligator also helps to determine the character of the Elliot waves:

if the price is outside the Alligator’s mouth the wave is impulsive;
if the price is inside the Alligator’s mouth the wave is corrective.

Advanced Ideas

1. Divergent Bar – The First Wise Man

A sharp up trend will often see prices moving up steeply. The Alligator lines are slow to catch up, and they will be far below prices. Such conditions result in divergence between the momentum in Prices and momentum in the Alligator. Price rise is steep while the Alligator movement is less steep or sometimes flat. When this happens, look for a reversal bar to signal at least a short term reversal.

A reversal bar is a price bar which makes a new high but closes in the lower 50% of the day’s range. Once a reversal bar is identified,

Sell below the low of the reversal bar

Stop loss little above the high of the same bar.

Money Flow Index

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The Money Flow Index (MFI) tracks the flow of money into or out of a market. Price typically follows MFI and will eventually move in the same direction.
MFI is a volume-weighted relative strength index (RSI). It is effective for both stock and company selection because it gives a view of a market’s essential strength or weakness. Normally, MFI shows the same trends as the price pattern, indicating that, in an uptrend, money is flowing into the market, and when prices fall, money is flowing out of the market. Like the RSI, the MFI is measured on a 0 – 100 scale.

What the Money flow Index does ?

The MFI can be interpreted much like the RSI in that it can signal divergences and overbought/oversold conditions. It should be used as a secondary or supporting indicator.

Use in Trend Analyzer

The Money Flow Index is applied through the Indicator Menu. By default, four lines are plotted:
1. Money Flow Index (default 14)
2. Exrtreme High (default 60)
3. Mid Point (default 50)
4. Extreme Low (default 40)
The Extreme High, Mid Point & Extreme Low lines are stratight lines.
It is possible to plot upto two moving averages of MFI. Any of the lines can be removed by unchecking it.

[In Profit Tests, it is possible to test a trading strategy using the Money Flow index. MFI is included in the Momentum Trend group.]

Basic Rule

If a new price high is confirmed by a new indicator high it means that the bullish trend is strong;
If a new price bottom is confirmed by indicator bottom is means that the bearish trend is strong;
Bearish divergence warns of the weakness of the uptrend.
Bullish convergence warns of the weakness of the downtrend.

Divergences
Positive and negative divergences between the stock and the MFI can be used as buy and sell signals respectively, for they often indicate the imminent reversal of a trend. If the stock price is falling, but positive money flow tends to be greater than negative money flow, then there is more volume associated with daily price rises than with the price drops. This suggests a weak downtrend that threatens to reverse as money flowing into the security is “stronger” than money flowing out of it.

Overbought/Oversold
As with the RSI, the MFI can be used to determine if there is too much or too little volume associated with a security. A stock is considered “overbought” if the MFI indicator reaches 80 and above (a bearish reading). On the other end of the spectrum, a bullish reading of 20 and below suggests a stock is “oversold”.

Tips & Tricks

1. The MFI can be used to replace the RSI in your trading strategies.

Advanced Ideas
1. Like the RSI, the MFI can also be used as a trend indicator. Above 40, the trend is up. Above 60, there is a strong up trend. Below 40, the trend is down. In this method, the absolute value of the MFI is significant and not its direction.

Formula

The “flow” of money is the product of price and volume and shows the demand for a security and a certain price. The money flow is not the same as the Money Flow Index but rather is a component of calculating it. So when calculating the money flow, we first need to find the average price for a period. Since we are often looking at a 14-day period, we will calculate the typical price for a day and use that to create a 14-day average.

Typical Price = ( (Day High + Day Low + Day Close) / 3)

Money Flow = (Typical Price) x (Volume)

The MFI compares the ratio of “positive” money flow and “negative” money flow. If typical price today is greater than yesterday, it is considered positive money. For a 14-day average, the sum of all positive money for those 14 days is the positive money flow. The MFI is based on the ratio of positive/negative money flow (Money Ratio).

Money Ratio = (Positive Money Flow / Negative Money Flow)

Finally, the MFI can be calculated using this ratio:

Money Flow Index = 100 – (100 / (1 + Money Ratio))

The fewer number of days used to calculate the MFI, the more volatile it will be.

How to combine Indicators

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Indicators have been around as technical analysis was invented. But with each passing year, the number of new indicators introduced hitting the market is astounding.

Not only that, the latest technology is able to calculate complex formulas that the even the most complex indicators serve well in real time. But what does one choose to test and use to create a successful robust strategy? A trader can spend the entire lifetime learning and combining all of them and still cannot come close to get a decent result. Understanding how each indicator is formulated and verifying how they work and display in REAL TIME is the key. Many indicators look very good in historical charts, but they show ambiguous numbers when they come down to calculating with the bouncing prices live.

There are two types of indicators: timing and trend. These should be view in this way to catch the basic essence of the market mechanics. If one looks at all the trading masters, they all follow the trend of the market. This is the only way to get the big wins with the high probability to turn the trade into a win. All the statistics have proven this. The second element and probably the most important, is the timing of the entry and exit. Combining this with the going in the right direction will complete the strategy.

Timing indicators are normally called oscillators where they have a maximum limit and a minimum limit such as Stochastics, RSI, among others where the minimum is 0 and the maximum is usually 100.

Figure 1 Example of an oscillator.

The trend indicators have no upper or lower limits, from high positive maximum to low negative minimum, all depending on the prices and how far they go. These trend indicators are DMI, MACD to name a few.

Figure 2 Example of a trending indicator.

Since trend indicators are vital, so the rule is: always trade on the side of the trend. So the first step is to check the trend, which way the money the pushing the prices. Once that is established, look at the oscillator to time the entry. It was mentioned earlier that the indicator readings are extremely different when it’s not in real time and when they are not. With historical charts, the readings seem to indicate a clear entry or exit signal, but in real time, it’s more ambiguous.

Combining then together the chart begin to give better gauge of what the market is likely to do next, at least a better probability of when to stay out of the market.

Figure 3 Stochastics and MACD working together.

In Figure 1, the chart shows the trend is rising (MACD moving upwards). If the trade was taken right now, would not be prudent since the market has already moved and the trade is taken too late. Adding the oscillator will show exactly that, the Stochastics is overbought, which means the market is currently exhausted (at 80 and above) and there may not be more buying until some steam is let off (by moving back to the oversold near 0-20 reading).

So by using these two together, the market action becomes clearer. Let’s take another example.

The chart above shows a Bollinger Bands overlaid on the price chart. Bollinger Bands (timing indicator) shows the extremes of price movements, normally set to 2 standard deviations (upper line, lower line). When prices move and touch the upper line, prices are predicted to reverse and move down and vice versa. Combining this with DMI, we will know whether there is a trend or not or which direction of the trend it is going. Currently the chart shows the DMI lines are converging, indicating there is no trend or that the market is detrending (going sideways). This is the beauty of the combined indicators: keeping you out of the market when there is no money to be made.

Keep it simple is a rule that works well in the markets. Combining the two common indicators can be effective, as long as they are each from different type of indicator. Do more research and make sure to test in the real time to get an idea how the indicators work to avoid confusion and indecision.

Two MA Difference

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With a little patience, this indicator can pinpoint where the next opportunity is approaching…

There are many opportunities in the markets everyday. Using simple tools and a keen eye are enough to find them. One of the simple tools is the difference between 2 moving averages. Derived from this indicator is a technique specifically used to identify divergence between price and indicator, called 2MA Diff. The 2 MA Diff is the difference between 2 exponential moving averages, one short-term and one long-term, plotted in a histogram with 0 as the point of equilibrium. Although the numbers plotted mark the levels, this absolute numbers are not used; it is the measurement of tops and troughs and their relationship to each other that marks the importance of its use.

In the chart above, we see that prices make a peak, pull back then make a higher peak. At the same time the 2MA Diff makes a peak, pulls back, then makes a lower peak. This is a divergence!

In Trend mechanic, 2MA Diff was calculated with the values : 8 and 17 using an exponential moving average.

Common knowledge dictates that not all indicators work 100%. So goes with this indicator. However there is one test to verify what the indicator is showing is not a false signal; and that is the use of price action to confirm the signal. The 2MA Diff indicator may lead by warning of the impending reversal but it cannot be done without the price following in the direction of the indicator. This is the test of the price action to determine if the signal is real or not.

The horizontal line from the chart above is the test of the price action to confirm the bearish divergence signal. In this example, prices did break through the horizontal line, thus confirming the signal is real.

What is this horizontal line? It is the low of the last swing low made before the second peak in prices, if there is bearish divergence. When there is bullish divergence, the horizontal line will be drawn from the high of the last swing high made before the second trough in prices.

Chart Example of Breakout Trade

If prices do not break this horizontal line and proceed to make another high or low, then this signal gets invalidated. In fact, this does not worry us since we will take the trade only if the line is violated.

The chart above shows the blue horizontal line, where the confirmation this marks threshold level. Since this pivot was the last support held by the bulls, a break of this area will get bulls exiting and bring in bears into selling. In many charts, the divergence signal will be false because price action did not follow through and not break above/below the horizontal line. The test of price action is crucial and must be used to weed out the false signals. Doing this step increases the win rate even higher.

How does one trade this divergence?

For a bearish divergence, once the price action has confirmed the signal, there are two methods to enter: (a) If the last swing low (horizontal line) is not far away from the second top, then enter on the break of the line. “Far Away” is for you to decide since your initial stop will be above the high of the second top. (b) look for the first rally, that is, the first lower high after the break of support. That rally will set up an entry. During that rally up toward the horizontal line, it is actually an act of confirming the support becoming resistance. When the bar that goes lower than the low of the previous bar’s low, that is the signal to enter a short position. Here, the stop is the horizontal line.

Where to exit?

Each trader has his or her own style or system to determine the exit: either by an absolute point system, percentage system, indicator signal or price action signal. Here are two alternatives:

1. For longs, when prices make lower high or lower low, this is indication the market is about to consolidate or reverse. An exit here is prudent. For short, when prices make higher high or higher low, it’s time to exit.
2. For shorts and longs, when the indicator makes the opposite divergence signal, the trader can consider exiting with or without price action confirmation. Either alternative is an acceptable exit point.

The blue shaded box in the above chart shows the second exit strategy: exiting from divergence signal in the opposite direction without price confirmation.

With a little patience, the indicator can pinpoint where the next opportunity is approaching. Being prepared is paramount. There is one precise entry and wait for the market to play itself out fully to truly profit, raising the reward/risk ratio much higher. Using the MACD delta indicator is simple and doesn’t require much time and maintenance to profit from the market.

Detrended Price Oscillator

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Overview

The Detrended Price Oscillator (“DPO”) attempts to eliminate the trend in prices. Detrended prices allow you to more easily identify cycles and overbought/oversold levels.

Interpretation

Long-term cycles are made up of a series of short-term cycles. Analyzing these shorter term components of the long-term cycles can be helpful in identifying major turning points in the longer term cycle. The DPO helps you remove these longer-term cycles from prices.The real power of the Detrended Price Oscillator is in identifying turning points in longer cycles:

When Detrended Price Oscillator shows a higher trough – expect an upturn in the intermediate cycle;
When Detrended Price Oscillator experiences a lower peak – expect a downturn.

Trading Signals

First, estimate the maximum length of the cycle that you wish to track. Use half of the cycle length as the MA period. The Detrended Price Oscillator is most effective with indicator periods of 21 days or less.

Ranging Markets
Set overbought and oversold levels based on observation of past price behavior.

Go long when Detrended Price Oscillator crosses below and then back above the oversold level.

Go short when Detrended Price Oscillator crosses above and then back below the overbought level.

Use stop-losses at all times.

Trending Markets

Only trade in the direction of the trend.

Go long when Detrended Price Oscillator crosses below zero and then turns back above.

Go short when Detrended Price Oscillator crosses above zero and then turns back below.
Only execute trades if the trend is intact (price does not close below the MA). Exit using a trend indicator.

Use stop-losses to protect your position.

TRIX- An Indicator To Improve Your Trading

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In the constant search to bring you the best information in the technical analysis world, I wanted to review an indicator that has somehow fallen to the back burner and needs to be heated up again.

TRIX- TRIX is based upon the concept of exponential moving averages, so before we jump into this indicator, let’s do a quick review.

A moving average in the technical analysis world is simply the average price of a stock or index over the last (x) number of days.You can choose any number of days you like, but the more days you use, the slower your moving average line moves. Why does that matter? If you’re using moving average lines as a trade signal, slower moving lines means delayed buy/sell signals (although slower moving lines result in fewer errant signals).

Any moving average is going to be at least partially delayed. But what if there was a way to make a moving average line considerably smoother, without sacrificing responsiveness?

This can be achieved by plotting a moving average of a moving average. In fact, we’re going to examine a moving average of a moving average of a moving average.
This is the method used to plot the TRIX (short for TRIple eXponential) moving average indicator.

As the lower portions of chart illustrate, the TRIX lines still move relatively quickly. There is one twist here – the TRIX line is not exactly a moving average of a price. It’s actually the moving average of the changes in price. By focusing on price changes rather than the absolute closing prices, the TRIX indicator can be centered around a zero line (thus creating an oscillator).

Just using the cross of that zero line as a buy or sell signal would have gotten you into some decent moves, as far as traders are concerned anyway. But even more important than that, using this cross of the zero level as your minimum requirement would have kept you out of a lot of errant trades.

This implies that it pays to be patient and not get pulled into a market move that is unproven. A triple-smoothed moving average line like TRIX will weed out a lot of the day-to-day volatility, but it will still get you into a trade without sacrificing a lot of time before entering the trade.

In the NIFTY chart below, we’ve plotted a 9 day TRIX line (White). Look at how the TRIX line began to turn higher on March 9th, the exact day the market started to rally from the recent lows. The TRIX line started to rally hard and fast towards the zero line, ultimately crossing it on March the 20th . The market participants were skeptical of that rally, but the TRIX line was telling the story loud and clear.

Although the usefulness of the TRIX line is clear, it’s still not a perfect indicator. For starters, once a buy or sell signal is given by a cross of the zero line, it won’t technically make another signal until that line is crossed again. That could take a long time though, so if you missed the boat, another one might not come by for a while. In a similar sense, there is no real ‘exit’ signal. The TRIX entries are great, but if you wait for another cross of the zero line to unwind your position, you’ve probably given back a large part of your gain. All the same, the TRIX line is a great tool to add to your arsenal. Just be sure to pick a different tool to signal your exits.

ADX

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Average Directional Index (ADX)

The average directional index (ADX) is an indicator that is used to measure the strength of a current trend. Its associated indicators, +DI and -DI tell us the direction of the trend. The three lines together tell us: If a trend exists (ADX), and, the direction of the trend – up or down (+DI and -DI).

The ADX measures the strength of a trend but not the direction. The ADX is measured on a scale between zero and 100. Readings below 25 signal a weak trend while readings above 25 signal a strong trend.

Please remember that ADX is non-directional. When there is a strong uprend, the ADX will rise. When there is a strong downtrend, the ADX will rise. A rise in the ADX tells us that the market is trending, it does not tell us the direction.

The +DI measures the strength of the upward trend while the -DI measures the strength of the downward trend. These two measures are also plotted along with the ADX line.

Using the +DI and -DI
The +DI and -DI together tell us whether the bulls or the bears are in control. When the +DI line is above the -DI line, bulls are stronger. When the -DI line is above the +DI line, bears are stronger.

What the ADX does ?

1. It tells us when the trend is weak (use range trading tools, such as overbought / oversold indicators).
2. Tells when the trend is strong enough to trade with the trend (use trend following methods like moving averages, Alligator, MACD).
3. Allows us to see the strength of bulls & bears and determine who is in control.
4. Works in all time frames.

Basic Rule:

When ADX > 25
If +DMI is above –DMI, prices are trending up.
If –DMI is above +DMI, prices are trending down.

The actual trade may be taken on any one of the two triggers: (1.) When ADX crosses above 25, or, (2.) When +DMI crosses above -DMI and vice versa.

If ADX is less than 25 then either (a) avoid trading or (b) use range trading methods like RSI, Stochastics.

In Trend Mechanic, the ADX indicator provides the ability to plot three seperate lines:

1. ADX – this is the main plot. This indicator provides a measure of trend strength.

2. +DI – This line measures the strength of the bulls. the +DI line is used with the -DI line.

3. -DI – This line measures the strength of the bears. the -DI line is used with the +DI line.

Tips & Tricks

1. If you want to see only the ADX, then you can turn off the +DI and -DI plots by unchecking them.

2. You can change the value of the mid point line to quickly identify stocks meeting a specific requirement.

When the ADX starts rising and crosses 20, this is a sign that a new trend may be emerging. To quickly identify stocks where the ADX has moved above 20, you can change the value of the mid point line from the default of 25, to 20.

A strong trend is indicated when the ADX is above 30. To quickly identify such stocks, change the value of the mid point line from the default of 25, to 30.

A stock is trendless when it has an ADX below 15. Such stocks should not be in your trading list since there is negligible trend in their movement. But, if it is an active stock, then the ADX below 15 may signify a period of rest & contraction. Such stocks should be monitored for possible breakouts. To quickly identify such stocks, change the value of the mid point line from the default of 25, to 15. The ADX should be trading below the mid point line.

3. A Moving Average can be applied on the ADX to identify changes in ADX movement. Apply a 5 period Moving Average. The Moving Avearge option is at the lower end of the ADX indicator Window. Click on the checkbox to activate the Average. Change the average value from the default of 14, to 5. (For clarity, you may like to turn off the +DI an -DI lines).
When the ADX crosses above its average, an early warning signal comes in that the ADX may have started its up move. A rising ADX signifies a trend. When the ADX crosses below its average, an early warning signal comes in that the ADX may have started its down move. A falling ADX signifies that a trend is losing strength.

ADVANCED IDEAS

1. When the DMI lines move away from each other and the ADX is rising – there is a trend which can be traded. When the DMI lines move towards each other and the ADX is falling – trend is weakening.

2. Use 25 as the benchmark for the ADX.
When ADX falls below 25, price is usually in a consolidation period and trend trading strategies will normally fail. Once ADX rises above 25, the trader can use trend trading strategies.

3. Often, the best trades begin from low ADX periods.
When ADX is below 25 for an extended period, draw trendlines on price and wait for a breakout.

4. Traders should watch the direction of the ADX line. If the ADX line is moving up, then a trend is emerging. If the line is moving down, then the trend may be slowing down. Often, the direction of the ADX is more important than the level at which is stands.
[Example: We have two stocks, A & B. While the ADX for A is at 18, it has been rising from a low of 8, suggestng that a new trend may be emerging. The ADX for B is at 32, but it has been falling from a high of 45, suggesting that the trend may be ending. ]

HOW TO MAKE SMOOTH CCI

2009-11-16T11:21:00.007+05:30

Step:1
In Trend Analyzer click Indicator and insert CCI indicator.

Step: 2
A. Now modify the PERIOD value to "10" which is 14 by default.
B. Smooth the CCI by putting "2" value in SMOOTH column

Step:3
Now in the same window click advanced option, select moving average and put "1" period Simple Moving Average.
And in second option of moving average put "3"- PERIOD Weighted Moving Average
Click OK

You can plot the indicator in the form of line or Histogram by selecting option in line style.
Click OK to display the indicator on a chart.

HEAT WAVES

2009-11-14T11:47:00.012+05:30

HEAT WAVES: MAKES THE TREND ANALYZER HOT
We have added new indicator called HEAT WAVES in Trend Analyzer which can provide an edge to traders in trading.

What are HEAT WAVES ?

HEAT WAVES is the indicator that indicates the strength of a stock that means it shows how much oversold or overbought the stock is. Red colour shows the stock is oversold and green colour reflects the overbought condition of the stock.
Bright colour shows the level or strength of overbought / oversold condition in the stock.

HOW TO USE HEAT WAVES:

HEAT WAVES does not work independently, it works best on momentum indicators. Therefore traders need to apply any indicator before applying HEAT WAVES . Let say user apply CCI, then HEAT WAVES will show the level of overbought/oversold condition in the stock as per CCI.

Similarly traders can apply different indiacators like RSI and measure the strength of overbought/ oversold condition in the stock.
Traders are advised to take signal in the direction of momentum that means in an uptrend traders should look for buying signals provided by HEAT WAVES, similarly in down trending stocks traders should search for sell signals as per HEAT WAVES.

Here are the few examples:

HEAT WAVES also helps day traders in getting some high probability trades.HERE is example of HCC which provides buy signal on 60-Min chart.

WINNING SPREAD TRADE WITH RANK IT

2009-11-09T16:25:00.006+05:30

RANK IT is a indicator that measures the strength in stock within a given list or selected folder.
Higher the Rank, stronger the stock will be. The stock which Rank 1 within a given list indicates, that stock is strongest among all. Similarly lower the Rank weaker the stock will be.
RANK IT is basically used for stock selection but we can also use it by making Stock Spread.

Here is the Example:
Today we took a theoretical trade according to RANK IT, a product available in our software TREND ANALYZER.

The Trade Was Like This:
In morning at 10:25
Bank Nifty was showing RANK -1,
Whereas the Nifty showing RANK-5
which indiactes Bank Nifty was having more strength as compared to the Nifty.
So we took the trade by Buying one contract of Bank Nifty at 8795 and selling two contracts of Nifty at 4800.
we have kept the ratio of 1:2 due to their value although it was not a perfect ratio but as Bank Nifty is more volatile as compared to Nifty, so ratio was exceptable.

In late Afternoon Nifty was trading at 4870 and Bank Nifty was trading around 8975 fetching us 40 points. ( Bank Nifty gain 180points whereas Nifty losses 70*2 i.e 140 points)

The trade become more profitable at 3:20 at the time of squaring off position Nifty was trading at 4907 whereas Bank Nifty was trading at 9138 which give us 129 points.
Total loss incurred by Nifty 214 points (107*2).
Total gain delivered by Bank Nifty 343 points (9138-8795)

The trade was carrying less risk as our position was hedged.

Day Trading Example - Buying pullbacks

2009-11-08T20:57:00.000+05:30

When the trend is up, buying pullbacks for a day trade can be a rewarding experience. With Trend Analyzer, we can use advanced indicators to identify such pullbacks. Given below is a chart with a customised CCI. When the CCI moves down to zero, we have the signs of a pullback. Once prices move up after such a CCI pattern, the trder can buy. The chart below shows two intraday opportunities.

Trading Tips - Trading Contraction Signals: ACC

2009-11-05T10:12:00.006+05:30

Contraction represents a significant fall in the stock’s volatility. Volatility has a tendency to revert to its mean. This means: Stocks where volatility has fallen will soon make large moves to push the volatility to reach its normal average.

For trading on June 12, ACC was a classic case of low volatility.

Let us see how this trade worked.

The Newsletter / Market Watch for June 12 has a list of contraction signals. The relevant segment is reproduced below:

ACC emerges as a strong candidate for trading contraction signal setups on June 12. The stock satisfies three of the most important parameters for low volatility:

ID - Inside Day

NR4 - Narrowest Range in 4 days

NR7 - Narrowest Range in 7 days

Notice the mark of ‘X’ in the columns for ID, NR4 and NR7 for ACC.

The Daily chart for ACC suggests that ACC is in a consolidation / Trading Range.

The daily chart confirms that ACC may be heading for a breakout. This lends added weight to the contraction signal.

NewsLetter Trend:

Our Newsletter gives the trend for ACC as : Up Last: Tgt 180.

The notations mean:

ACC trend is UP. This may be the last leg of the up move. The target (Tgt) may be 180.

Since we see an upward bias in ACC we will only take the ‘Buy Above’ signal given in the contraction signals.

On June 12, 2002, we are ready for a trade in ACC if the setup works.

Trading Plan:

Buy ACC above 155.4. Place a protective stop below 153.1 (This is the sell below number) or below the low of June 12, 2002, whichever is lower. We will also take profits if we get a gain of at least 2.0 % in intraday moves.

Actual Trade:

On June 12, We see ACC open at 153.50 and move up and we are long at 155.50, 2 ticks (10 paisa) above the buy price. ACC makes a low of 152.45. This becomes our stop for the day. The low of 152.45 was actually just a flash and did not come in any intra day data feed. But, we will accept this as our protective stop for the day. Our profit target is 158.60. Soon enough, ACC reaches this target. We exit for a profit of Rs 3.10 per share in a trade that lasted about 2 hours.

Questions:

Q. What should we do if ACC does not hit our stop and does not hit our Profit target during the day? Should we carry forward the trade?

A. We should carry forward the trade only if ACC is closing the day above our entry price. If it is not doing so, it is best to exit at the close.

Which Indicators to use ?

2009-11-04T15:20:00.002+05:30

I am frequently asked this question by newcomers in trading - What indicators do you use? The person asking this question is hoping to receive the ‘secret of profitable trading’ when I answer the question.

There are traders who say they are successful with Stochastics. Others swear by moving averages. Still others track MACD, Support and Resistance patterns, Elliot Waves, or changes in Volume. My belief is that any indicators I use are not going to be useful to other traders and investors.

My definition of ‘useful’ is an indicator that works so reliably that it is a big surprise when it doesn't work, and I can instantly recognize that failure and do something about it. I have not found a single indicator that meets this requirement.

Look at any book that illustrates the Stochastic oscillator. It will provide a chart and highlight how at overbought levels, the fast line (%K) crosses below the slow line (%D) and sure enough, a downward surge in the market ensues. This is a bearish stochastic crossover. If you continue looking for other instances of a stochastic crossover, you will see examples of the same indicator doing the same thing, but without any kind of similar market movement occurring. This is a good skill to practice; go looking for places where the signal didn't work. These are failed signals and you lose money when a failed signal occurs.

Trend lines? Well, I like trend lines, but I think the only really good application of them is in the support (or resistance) of a trend. If you use them as reversal indicators, you are asking for trouble. And the big reason they're useful as a tool is that your risk is definable. If the market penetrates the line, you're out, no messing around.

But, it is also possible to have success with Stochastics, and Moving Averages, and Trendlines, and Elliot Waves and the newest indicator just released. This success comes when you use another very, very sophisticated filter - your brain together with the indicator. Your brain acts as a filter to remove at least some of the bad signals (not all of them) and therefore makes the indicator useful and tradeable.

And how do you get this filter in your brain to work? By putting in hard work, many hours, days, months and years – in fact. You develop an intuition and a mechanical response to different situations in the market and by understanding the behaviour of the indicator – stochastic or trendlines or whatever – in such situations. It takes time and experience and dedication – but then we have heard that ‘success is one percent inspiration and 99% perspiration’.

But most new comers who come into trading want to become successful and rich overnight. They have heard that trading brings instant riches – they are not prepared to wait for years!

For successful traders – this is good news! They can feel relaxed in the knowledge that competition will be far away. Few newcomers are prepared to put in years of hard work. While it takes many years to train as an engineer or medical practitioner, trading apparently requires just seven days – this is the impression of most people.

So, to answer the original question: What indicators I use, the answer is simple: it is not important. Almost all indicators will give successful trades if used with commonsense and judgment. The commonsense and judgment take time to develop. And the results are worth the effort.

Trading Tips - Three Black Crows visit the Nifty

2009-11-04T15:06:00.007+05:30

A rare Candlesticks Pattern is visible on the Nifty chart – again and again. This is a strongly bearish pattern and called ‘Three Black Crows’.

Candlesticks: Three Black Crows
Three black crows is a bearish reversal pattern that forms with three consecutive long black candlesticks. After an advance, the three black crows pattern signals a change in sentiment and reversal of trend from bullish to bearish. Further bearish confirmation is not required, but there is sometimes a test of resistance established by the reversal.

Three Black Crows Bearish

Pattern: Reversal
Trend: Bearish
Reliability: High

How to Identify it

· Three black days occur, each with a close below the previous day

· Each day opens within the body of the previous day

· Each day closes near or at its lows

What it Means

In an uptrend three long black days occur with consecutively lower closes. This pattern suggests that the market has been at a high price for too long, and a reaction at the very minimum and a reversal possibly is coming.

The following chart of the Nifty shows what happened after the appearance of The Three Black Crows.

The pattern was visible when the third candlestick was formed with a low of 1140, in early March 2002. Since then the Nifty entered a bear market and made a low of 1020 in end of May 2002.

CONTEXT

Technical indicators and patterns should not be viewed in isolation.

Three black candlesticks can become a reversal pattern called ‘Three Black Crows’ ONLY if these black candles appear after a sustained up move. The context for this pattern is therefore the presence of a sustained up move. If three black candles appear in a chart that may be range bound, or may already be in a downtrend, the candles do not form the ‘Three Black Crows’ pattern. The context should be clearly seen. Here, the context is: a sustained up move.

You will find that this is really a rare pattern once you are strict about the context. Thus, when it does appear, we should respect it.

Buying Option: Using ROC to identify buying opportunities Part 2.

2009-11-04T15:01:00.004+05:30

Principle:

Buy Options when the ROC Indicator on the Underlying is oversold or overbought.

This strategy to buy options attempts to identify periods when up or down trend may be ending and a reversal is likely. It looks for ROC to reach a given overbought or oversold level, and then to reverse and change direction.

Please note that ROC is calculated on the Underlying Security and NOT on the option.

The idea is to search for securities identified by ROC as oversold or overbought. We then look to buy calls in securities that are oversold. We look to buy puts in securities that are overbought.

Remember, we are buying options in both cases – oversold and overbought. The difference is – we buy calls in oversold ROC and puts in overbought ROC.

When the Underlying security is falling in price and ROC is oversold, Calls are available at lower prices and hopefully at lower volatility. This is possible since in a falling market Puts are in demand and command higher premium. Thus, we try to buy calls when the calls are not in favor and have lower premium.

When the Underlying security is rising in price and ROC is overbought, Puts are available at lower prices and hopefully at lower volatility. This is possible since in a Rising market Calls are in demand and command higher premium. Thus, we try to buy puts when the puts are not in favor and have lower premium.

What is the definition of overbought and oversold?

We look at a chart and try to identify ROC levels that define these levels. We have used an ROC value of 107 and above as overbought and 93 and below as oversold.

Filter with Historical Volatility

Once we identify Underlying securities that are oversold or overbought using the Momentum Indicator, we should check if the volatility is high. As a rule we should try to avoid buying options when (a) Historical Volatility of the underlying security is High, or (b) Implied Volatility of the option is high. The use of implied volatility is beyond the scope of this article.

We can use Historical Volatility to filter out our ‘buy option’ signals. Trend Analyzer has a Historical Volatility Indicator. Apply this indicator on the Underlying Security. If the HV indicator is near the top then avoid buying options since volatility (time premium) is likely to be high.

Exit Strategy

We are trying to capture short-term moves with this strategy. We want to exit before the option starts decaying in value. The exit strategy is:

1. Exit immediately if the option loses one half of its value. This is the maximum loss that we should incur. Since we are buying the options when the market is at an extreme, this exit method should be invoked rarely.

2. Exit after a strong move in your direction.

3. Exit after 7 days have elapsed. If we still do not have a move in our favor, we want to get out before we lose more time premium on the options.

4. Exit if the momentum indicator gives a signal in the opposite direction.

Example: ACC

The ROC indicator is applied to the ACC chart with the following settings:

Period for ROC: 10

Overbought Level: 107

Oversold Level: 93

From the beginning of 2002, ACC has given 3 sell signals and five buy signals.

A Sell signal is received when the ROC goes above 107 and then falls.

A buy signal is received when the ROC goes below 93 and rises.

After the sell signals, we could have purchased PUT options. ACC fell in the next 5 to 7 days and the Put options were probably profitable. All three sell signals should have given some profit.

After the buy signals, we could have purchased CALL options. Signal No 3 was clearly a loss. Signals No 1,2 and 4 were profitable. The last signal, signal no 5 was either a loss or a breakeven.

The ROC threshold we have used was 107 for overbought and 93 for oversold. We found that the levels gave a reasonable amount of trades and avoided some whipsaws.

You should experiment with these values.

Buying Option: A time to buy them and a time to avoid them Part 1.

2009-11-04T14:53:00.001+05:30

Since trading in index and stock options began in June/July 2001, many traders have been attracted to trading in options.

The two aspects of trading in options are: Buying options and selling or writing options.

When we buy options, we are paying for time premium and in return we obtain limited risk and unlimited reward on the options purchased. When we sell options we are receiving time premium but in return we accept unlimited risk on the options sold accompanied by limited reward.

For the risk-averse investor, buying options provides a low risk method of participating in the options market.

But when we buy options, we are paying for time premium. Time premiums suffer from time decay. This means, as time goes by, the premium on the option comes down even if the underlying prices remain the same.

Hypothetical Example:

Date: May 2, 2002

Satyam is trading at 260

The 260 call expiring on May 30 is priced at 15.00

Date: May 16, 2002

Satyam is trading at 260

The 260 call expiring on May 30 is priced at 10.00

We see that the price of the option has come down from 15 to 10 even though the price of Satyam has remained the same.

This happens due to the concept of time decay. As the date of expiration comes closer, the probability of making a profit from the option comes down.

Most of the time, the buyer of options ends up as a loser even when he makes a correct call on the direction of the option. This happens because the value of this option falls due to the effect of time decay. Even if the underlying stock makes a move in her favor, the detrimental effect of time decay may more than offset the positive benefits of the move by the stock.

Buying Time Premium

As a buyer of options, we want to identify periods or situations when the premium paid on our options should be subjected to the minimum of time decay. We want to buy premium (we actually buy premium when we buy options) only if we find a low risk buy zone. This applies to both calls and puts.

Buy Premium Strategies.

The "Buy Premium" strategies are essentially "hit and run" techniques. The "hit and run" nature of these strategies is due primarily to the detrimental effect of time decay on option premiums. The longer an option position is held, the more time premium will decrease. In other words, the longer you hold a position, the greater the eventual market movement must be in order to overcome the negative effects of time decay. As a result, the intent is generally to catch short-term swings in the market, rather than waiting (and hoping) for an extended movement in the Underlying price.

We will discuss strategies that will try to:

01. Identify short-term movements in the market;

02. Get in just before a significant market movement;

03. Take profits quickly (within 2 to 10 trading days).

04. Maintain a stop loss if the trade goes wrong.

These strategies will be discussed in subsequent issues.

Finding Turning Points with Oscillators.

2009-11-04T14:49:00.004+05:30

In general, technical indicators can be placed into two categories: trend following indicators or oscillators.

Trend following indicators include moving averages, On Balance Volume, Larry Williams’ Accumulation-Distribution, the popular Moving Average Convergence Divergence (or MACD), and others. As the name implies, trend following indicators tend to move with the stock. They are considered lagging because they generally turn after a trend has already reversed course.

The definition of the word oscillate is, “to swing or move to and fro, as a pendulum does.” On stock charts, oscillators do exactly that, they move higher and lower and help identify turning points for a stock. In the book Trading for A Living, Dr. Alexander Elder put it this way,

Oscillators help to identify the emotional extremes of crowds. They allow you to find unsustainable levels of optimism and pessimism. Professionals tend to fade those extremes. They bet against them, for a return to normalcy. When the market rises and the crowd gets up on its hind legs and roars from greed, professionals sell short. They buy when the market falls and the crowd howls from fear. Oscillators help them to time those trades.

There are a number of different oscillators available to the trader today. One of the most popular is Stochastics. Other oscillators include Rate of Change, Williams % R, Chaos MO and AO, and others. Each is designed to gauge whether prices have been driven to extremes. For instance, when prices rise too high, a stock is considered overbought and it is likely to fall. On the other hand, when prices fall too far, the stock is oversold and likely to rally. Each oscillator has its own reference points and will generate buy or sell signals when prices deviate too far from what is considered normal.

To see how oscillators work, let’s consider the Relative Strength Indicator [RSI]. Developed by Welles Wilder, RSI is a popular indicator. The relative strength index is generally viewed on a stock chart underneath the price chart. For instance, the chart below includes the recent price action of SSI (SOFTSOL) along with RSI.

There are basically three ways to use the Relative Strength Index. Most other oscillators are used the same way.

The first is to identify overbought and oversold conditions. RSI will fluctuate between 0 and 100. On the chart above, the RSI on SSI has been between, roughly, 40% and 70%, which is the range for a sideways market. The indicator has moved above 70% in late-November 2001 and again in late-April 2002, it signaled overbought conditions and hinted at a snapback. In early April 2002, the indicator dipped below 30 thus sigannling oversold conditions.

The second way to use oscillators is as a confirmation tool. For instance, when looking at trends, the technical analyst wants to see the RSI setting new highs or new lows along with the stock. For instance, when SSI set a new high in mid-January 2002, RSI did not. That signaled what is known as a bearish divergence and hinted that a reversal might be on the way.

Finally, when looking at the relative strength index, the chart analyst wants to consider the slope of the indicator. An upward sloping RSI is the sign of a healthy advance and a downward sloping RSI is evidence of a strong decline. Most oscillators are used in the same fashion as RSI, but each is unique in its own way and must be considered individually.

Nevertheless, oscillators like RSI are useful in finding turning points in a stock. For that reason, they work better when a stock is in a trading range, rather than in a trending market. In trending markets, oscillators can give premature and inaccurate signals, but when a stock is in a trading range, you will find that these tools can help pinpoint important turning points remarkably well.

Options Strategies - Safety in Collars

2009-11-04T14:36:00.002+05:30

Collars are a way of protecting stocks that an investor would like to hold. In the uncertainty of the current market, investors who feel the market is bottoming and might want to buy stock but still hedge their positions can utilize a collar to protect their investment.

A collar uses a long at-the-money put and short out-of-the-money call to protect a long position in a stock holding. The goal of the protection is to allow the investor to continue to take advantage of any (further) upside movement for the stock while protecting against loss in the event of unexpected downside. The way this works is as follows:

Example: An investor feels that Satyam is consolidating and may go up. He enters into a Collar:

(Note: RS stands for Rupees)

(ATM stands for At The Money, and OTM for Out Of Money).

Buy 1200 shares SATYAM at RS 264
Buy 1 ATM put at 260 strike for RS 6 (LONG PUT)
Sell 1 OTM call at 280 strike for RS 4 (SHORT CALL)

Risk is RS 6 to make RS 14.

Risk is calculated by subtracting the cost of the put from the premium of the call—in this case, a net debit of RS 2. (We pay to buy the PUT and we receive money when we sell the Call.) Since the put will provide protection from RS 260 downwards, we will also lose RS 4 in the shares purchased before we get protection.

The maximum upside this trade now has is RS 16. We buy at 264 and a call is sold at 280. The maximum profit is 280 minus 264 = RS 16.

The cost of the Collar is RS 6 and this cost should be deducted from the maximum gain of RS 16. The Net gain is RS 16 minus RS 6 = RS 10.

I repeat, the maximum loss is = RS 6.

For one contract of Satyam, the loss is 1200 shares multiplied by RS 2 = RS 7200. Commissions will have to be considered separately.

Spreads: The actual bid and offer prices for the two options we are considering are given below. Rates as on close on Friday, May 3, 2002.

Satyam PUT 260: Bid 5.85 and Ask 6.20

Satyam CALL 280: Bid 4.25 and Ask 4.50

The Bid is the price that a buyer is prepared to pay. If you are selling then you will receive the bid price. The Ask is the price at which a seller is prepared to sell. If you are buying then you will have to pay this price.

Since a collar is usually a debit spread, you should not have to put up margin money. However you should check with your broker to find out if they require margin.

What is the benefit of looking at collars in the current market?

The Nifty has retraced from its highs and has reached a support level. Therefore there may be a possibility that the market may rally from here.

An investor who feels that the market is bottoming out and wants to buy stocks may use collars to protect his risk.

A trader who is not sure about market direction may set up a collar to benefit if the market rises. He has limited losses if the market falls.

Investment. This trade requires investments. You have to buy 1200 shares of Satyam. Most brokers and banks will give you 50% financing on the cost. Instead of buying 1200 shares you can buy ONE Satyam futures. Margin on futures will be less. But you also have to pay a premium and your potential profits are reduced by this amount. If your broker requires margin on the Call sold, then you also have to deposit this amount. The margin is usually 20% of the cost.

There is no such thing as a free lunch. Traders must now be prepared to put in money to make gains.

As usual, be careful.

Trading Tips - Trading the Inside Day - NR7 Combination: Reliance.

2009-11-04T14:25:00.004+05:30

The Inside Day – Narrow Range of 7 days combination can be a potent trading signal. This signal works best when supported by other unrelated indicators.

One such setup occurred in Reliance In on Thursday, March 14, 2002.

The Chart for Reliance gave us these signals:

à On Thursday, Reliance printed an Inside day – Narrow Range for 7 days pattern.

à Reliance has been finding support at 290, and this was mentioned in our Newsletter. On Wednesday, Reliance had a low of 292 and on Thursday, a low of 294.30. The support at 290 was holding.

à The 14-period RSI was now oversold, having dipped below 40 and then rallied to cross above 40. The support level for RSI is 40 when stocks are in an up trend. This support held well.

Here is the chart.

On Friday, we were buyers above 298.4. This value may be obtained from our table giving Contraction Signals. The buy above value for Reliance was at 298.4.

On Friday, Reliance opened with a gap and we were buyers. The trade went well. We could have sold at the close at 308.05 or carried part or all of the trade for Monday, since the stock closed at the top.

Trading Tips - TRADING the GAP OPEN - 2.

2009-11-04T13:52:00.004+05:30

Earlier we discussed a conservative technique for trading a gap open. An example was taken for Satyam Computers.

Today, we have another example for the same Stock – Satyam Computers.

Assume we were bullish on Satyam on Friday. We wanted to buy the stock on Monday.

On Friday, the close was 270. But Satyam opened at 284.20, a large 14 Rupee gap. We were then presented with the same question. Should we buy, wait or ignore the trade.

Fortunately, we had defined a simple rule to trade a gap open. We will follow this rule and trace the trade for today.

We wait and take the high and low of the first half an hour. The high for Satyam was 284.40, and the low was 281.10. Since we wanted to buy, we will become buyers if Satyam crosses above its first 30 minute high.

Satyam never crossed its initial 30-minute high. We did not buy the stock, and were saved from a loss.

Note how the high made in the first 30 minutes of trading was never crossed.

Trading Tips - Trading Opening Gaps

2009-11-04T13:38:00.008+05:30

Often, we analyze the markets in the evening and then decide to buy the next day above a certain price. This price is called the threshold price. The next day, the stock opens with a large up gap and we find that the current price is much higher than our threshold level.

Now we face a disturbing decision.

Should we buy at the much higher price that is currently prevailing?

Or, Should we wait for the price to come down near our threshold price?

Let us take a real-time example. On Monday, February 25, we had a trading setup in the section: Contraction Signals, for Satyam Computers, valid for the next day, Tuesday, February 26, 2002.

This was the signal:

Contraction Signals

We have two signals:

Buy above 281.95

Sell below 274.70

Now we should take the context. The market is in an uptrend, and we are looking for new highs. In such an environment, we do not want to take the sell signals.

For Tuesday, we will buy if and when Satyam trades above 281.95. Our initial stop loss will be 274.70, although this stop loss can change quickly.

Market Action on Tuesday

Satyam opens with a gap at 286.15 far above our threshold price of 281.95.

Now what?

While it is possible to trade such gaps in many ways, we present here one relatively conservative strategy.

When we see a large gap, we wait for the first half an hour to see the price action.

Then we take the high and low of the first 30 minutes. This information is available from Trend Analyzer, if you update 30-minute bars.

The High is: 286.15

The Low is: 284.30

Now we are buyers above 285.15. We can put a buy stop at 286.20.

For stop loss, we want to give some room on the downside.

First we calculate the half hour range.

Range = 286.15 – 284.30 = 1.85

To obtain the maximum loss, we add 50% more to the range.

Maximum Loss = 1.85 + .95 (rounded off) = 2.80

If the Maximum loss is more than 1% of the stock value, you should consider if you want to take the trade.

Our stop should be 2.80 below the entry price of 286.20

This gives a stop of 283.40

Our buy is triggered after one and a half hours. Even after buying, we see that Satyam remains sideways. But, we must be patient. So far as Satyam does not hit our stop loss, we need to be patient.

Luckily, today, Satyam moves in the last part of the trading session. The trade ends with a profit. But there will be many days when this is not so. We can still take these trades, since we have clear rules for entry and exits.

Momentum Waves: A Tutorial and a Practical Example

2009-11-03T17:50:00.010+05:30

Momentum Waves are a simpler and modified version of Elliot Waves, which are much easier to use. When we make these waves, we look only at the current market swings. If the current swings lend themselves to 1-2-3-4-5 or A-B-C analysis, we mark the waves on the swing points and try to identify future targets. Very often, current swings tell us nothing, and we do not try to force any wave counts.

How is it different from Elliot Waves?

Elliot Wave analysis spans an entire industry. There are enough EW rules to fill a big book. Momentum Waves are identified without much rule making. You can do it yourself, just as I do it here.
EW look at past data. Some EW experts look at 20 or 30 year data to determine where we are now. To each his own! MW look only at current data. MW users like myself follow the axiom: What is behind us is not important.

Some Simple Momentum Wave Rules:

1. Wave Zero should be the end of a trend. This is the starting point of a new trend in the opposite direction.

2. Wave 1 makes a swing high.

3. Wave 2 is a retracement going towards Wave 0, but does not go beyond wave 0. [Use some common sense. If we cross wave 0 then wave 0 was not the end of a trend.]

4. Wave 3 is the big thrust in the direction of the current trend.

5. Wave 4 is a retracement of the move from wave 2 to wave 3.

6. Finally, Wave 5, is the final thrust in the direction of the current trend.

No More Rules ! Six is more than enough ! I like trading strategies with just two rules: how to get in and how to get out.

How we can trade Momentum Waves?

1. Once we can identify wave 0, wave 1 and wave 2, we can expect a big thrust when wave 3 is made. We can take a trade in the expected direction of wave 3 with a stop just away from wave 0. This is usually a low risk trade.

2. IF we are correct and we can identify wave 3, then we are wating for a retracement that is wave 4. After a retracement, we can enter again in the direction of expected wave 5, with a stop away from wave 4.

That’s It.
The Final Rule: Sometimes you can identify these waves. Quite often you cannot. When you cannot, you cannot.

Why 5 waves, why not 7 or 9 or 11?

Sure why not? I am comfortable with 5, but you can do what you want.

What if we are wrong?

Ask your broker to refund your margin, close your account with him and set up an internet café – a low risk business.

Sorry, just joking.

When we are wrong, we get stopped out with some losses. Losses are a part of trading costs, so what is the big deal? The nice thing about MW is a fairly close stop, and the stop level is visible. When you are trying to catch wave 3, your stop is just around wave 0. When you are trying to catch wave 5, your stop is a little away from wave 4.

How did you get those Wave 4 targets?

Gann & Fibonacci.

A Practical Example:

I will put the Nifty chart again:

After a strong down move, we had projected a target of 945 for the Nifty. The Nifty made a low of 944.60, and then started moving up. When it crossed 955, we realized we may have made an important low. So 944.60 became out tentative Wave 0. We have written it as 0 944.60 – This means the wave is 0 and the level is 944.60.

After a high of 968.60, the Nifty made a sudden move down. Assuming that wave zero would hold, we forecast support at 945. The Nifty made a low of 945.15 and immediately pushed up. After one 60 minute bar closed higher, we were buyers in Nifty futures. Our stop was just below the Nifty level of 944.60. We have marked our entry point with a blue arrow. The risk was low.

The next day opened with a gap and we could enjoy the momentum of a wave three up move in our favor. Finally, the Nifty opened with a strong up gap and made a high of 982.95. Of course, we did not know then that this will be a high for wave 3. But after a strong gap open, we tightened our stop, below a 3 bar low. We were stopped out at 979 (Nifty) for a decent profit. A red arrow marks the point where we were stopped out.

Now, we saw the Nifty decline and we were expecting a wave 4 correction. The Nifty did correct, but rallied again. We entered on the rally assuming a wave 5 will begin. But on Friday, the Nifty began declining again and we were stopped out of a long trade with a profit of just 2 points.

We have not taken short positions, since we do expect a rally to wave 5 - new highs. The Nifty is close to its wave 4 targets. If we see two higher highs tomorrow, we will enter long positions again, with a stop below the low of wave 4.

Trading Tips

2009-10-14T13:25:00.001+05:30

An actual trade is discussed in REL PETRO. We had suggested that the stock has made a double bottom and is now a buy.

The trade was: On the basis of this recommendation Feb futures were purchased at 31/-. Later, when the stock was not rising, as a protection, the 30/- Feb Put was purchased at 1/-. The cost of the futures is therefore 32. (31 + 1 for the Put ).

To breakeven, the stock must trade above 32. The maximum loss is 2/- since below 30 the PUT will provide protection. With Feb expiration nearing, what should be done?

The chart for REL PETRO is given below:

1. After a breakout that confirmed a double bottom, REL PETRO has fallen. We assume this is a reaction.

2. Chaos lines have given a buy signal, at the point marked a.

3. The RSI has been holding the 40 level. This is the support level for bullish stocks.

4. A stop was not mentioned, but a stop should be put under 28.

This is the background for the trade. Our actual trade is under pressure, since REL PETRO has to move up now and immediately, latest by Feb 28.

What should we do?

Such questions seldom have clear answers.
There was no time limit set for the possible up move. Stocks take their own time. Therefore, we have no way of saying that this up move will take place by FEB 28. But this is of small consolation to the trader who has taken the position.
The best solution will be to somehow push up the stock so that the trade does not lose money. But we have no power over the market so this option is ruled out.

1. The REL PETRO 30 FEB call should be sold for 75 PAISA. This will reduce the cost from 32 to 31.25. The maximum loss will then be 1.25 if RELPETRO falls below 30. Unfortunately, the minimum loss will also be 1.25. Therefore, this strategy reduced our loss to 1.25 but this amount then becomes a sure loss.

2. Do nothing. Wait for FEB 28, and since the market is bullish, we have a chance of making money / reducing our loss.

3. Close the trade. The PUT may be sold for 50 PAISA perhaps. So, we take a loss and look for new trades.

This trading tip ends on a rather unsatisfactory note. There is no “happily ever after” ending.
None of the alternatives assure a profit. In fact, this is a reality that all traders face, many times.

CANSLIM Method of Trading

2009-10-10T14:32:00.001+05:30

E-News
Stock Market Setups

Decisions to buy or sell shares are based on some principles or reasons. These could be Technical, Fundamental, news driven, impulsive. One of the most successful and widely used models for trading has been promoted by William O’Neil and David Ryan – the CANSLIM model. O’Neil wrote about the model in his book How to invest in stocks.

William O’Neil’s CANSLIM Model

CANSLIM is an acronym – with all the letters standing for setups.

C stands for current earnings per share. The company should have recorded an increase of 70 percent over the same quarter a year ago.

A is for annual earnings. For the last 5 years the company should have recorded an earnings growth of at least 25 percent compounded per year.

N stands for something new about the company. This new factor could be a new product or service, a change in management or even a change in the industry. It also means that the stock has reached a new high price.

S refers to the share capital of the company. O’Neil did a study of the best performing stocks and found that their average capitalization was small.
L means leader. O’Neil believes in a relative strength model of the market. I think he wants the stock should have a relative strength better than 80% of all stocks in the market.

I represent institutional sponsorship. It usually takes some institutional sponsorship to produce a leading stock. But a lot of sponsorship is not desirable since there would be a lot of selling if anything went wrong. Also, by the time all institutions have found it, it is probably too late to expect a good move.

M in the formula stands for what the overall market is doing. You want the overall market direction to be favorable before buying the stock.

Does CANSLIM work?

Reports suggest that O’Neil has been a successful investor/trader. He does not hold stocks forever. He also has rules to exit stocks if some conditions are triggered. This makes him an active trader / investor rather than a buy and hold investor

5 SIMPLE RULES TO MAKING and KEEPING PROFITS

2009-10-04T12:20:00.001+05:30

I recently received a call from a very prominent Wall Street "guru" who wanted to know why I was so intent on revealing my secrets of success in the stock market. He was of the opinion that not only were my efforts a waste of my valuable time, but that if I truly succeeded in teaching these inner workings, it would result in many of my techniques becoming obsolete due to their overuse.

While I simply don't have the space to fully address this gentleman's question, I would like to establish one thing before we go any further. These methods and techniques are not my secrets or anyone else's for that matter. And whenever you even hear the words, "I am going to reveal my secrets on how . . . .," you should make a 180 degree turn and run as fast, and as far away, as you possibly can. Why? Because that is an old sales pitch which has been used by every bullshit artist since the beginning of time. And if you stay around long enough you'll end up losing your shirt.

The fact is, the public's belief that "secrets" exist helps to support a multi-billion dollar book industry, as there are no less than 3 financial books published every single week (all of which contain the "ultimate" secret to riches, of course). And this is not to mention the multi-millions of dollars spent on the latest computer software programs which will triple your money every 3 months, "guaranteed".

No, my friends! As disappointing as this may be, there are no secrets. . . . . . .just plain, old-fashioned common sense. And I am about to go over a few common sense sell guidelines which should help you to better ascertain when to exit your trades. In addition to individual sell pointers, I will reveal to you what I like to refer to as the Pristine Profit Plan (PPP). I strongly encourage that you make every effort to understand it, as it is a simple (common sense) approach which makes it IMPOSSIBLE to lose money in the stock market over time.

Now I know that sounds like a sales pitch, but I'm not selling anything remember. You are already subscribers.

Once again, I am presenting something which I feel is worth several times the annual subscription rate to The Pristine Day Trader. Read it, study it, keep it, and above all employ it. There is no doubt that knowing how to sell and when to sell will help you obtain more consistent profitability in your everyday trading. So, let's get right to it.

THE PRISTINE PROFIT PLAN (PPP)

(A simple approach which will render it mathematically impossible to lose money)

RULE NUMBER 1: NEVER LOSE MORE THAN 8% ON ANY STOCK

What is the trader/investor's most valuable commodity? His/her initial capital, of course. What should be of paramount importance is the preservation of your starting capital. This is your life. This is what will keep you in the game, and it is foolish to do anything that will jeopardize it. That is why you should never be willing to let a position go against you by more than 8%. If you have entered the trade properly, and your timing was precise (our suggested entry points take care of this concern), the issue SHOULD NOT decline by more than 8%. Otherwise, something has gone amiss and the trade should be eliminated with no questions asked. But what if it's a blue chip company? What if the earnings are still positive? Frankly, these are the rationalizations of an amateur. The earnings of a company don't put money in your pocket. Neither does the color of the company's chip. There is only one thing that can put money in the bank and that's a RISING STOCK, not a declining one. Remember, all stock are bad, unless they go up. Cut your losses at 8% and move on.

RULE NUMBER 2: ALWAYS TAKE PROFITS (AT LEAST SOME) AT 20% - 25%

Once a stock you own rises by 20% or more, it is foolish not to pull at least some off the table. This really boils down to common sense. Stocks have a tendency to advance 20% to 25%, then decline before they take off again (if they are going to take off again at all). I am in the habit of comparing my daily and weekly profits to the CD purchaser. I constantly ask myself, "How long will it take for the average 1 year CD to produce the gains that I have in this stock right now?" This question is an excellent way to keep your feet firmly fixed on the ground of financial reality. It also does a good job of tempering greed, one of the biggest enemies of every trader. It would take the purchaser of a 1 year CD paying 6% more than 8 years to match a 20% stock gain. Nearly all of you have witnessed many of our stock selections rise 20% or more over several days. But more important than all of this is the mathematical magic that the combination of Rule 1 and Rule 2 brings into being. If your are disciplined enough to cut losses at 8% while taking profits at 20% - 25%, you can't possibly lose money over time as this law of mathematics cannot be broken. with these two simple rules, you can lose three times and win only once and still not get into financial trouble. Now, if you can't produce 1 winning trade out of every 3, you don't belong in the market. Of course as subscribers this shouldn't be your problem. I know two traders who sell only on the basis of Rule 1 and 2. The stocks that they buy will either be sold at an 8% loss, or they will be sold at 20% or above. That's it. That's their only sell rules, and they are both rich, I might add. But I will show you how to do even better.

RULE NUMBER 3: ONCE A STOCK RISES BY 6% TO 8%, MOVE YOUR SELL POINT TO BREAK EVEN
This additional sell rule is not employed by my friends mentioned above, as they operate on a do or die approach. Either their stock produces a 20% gain, or it produces an 8% loss. I don't believe you should be so fatalistic. Allowing a winner to fall back into losing territory is just not smart, no matter what the reason. It is hard enough being right in the stock market without allowing the winner to turn into losers. So after a stock has demonstrated it's ability to move in the desired direction, you should take further action by raising your sell point to break even. This will have the effect of taking ALL of the risk out of the trade. At that point you can literally put your feet up on the coffee table, lean back and watch, as there is no initial capital at risk. I can not begin to tell you how psychologically important this rule is. Once a trader realizes that money can no longer be lost, a tremendous calm and clarity begins to pervade his mind. A sense of power and control evolves as he adopts the frame of mind of an employer who has now hired an employee (the stock) to do all the work. Once you're up 6% or more, decide never to be down in that position again.

RULE NUMBER 4: ONCE A STOCK RISES BY 10%, PROTECT 3% OF YOUR PROFITS

This rule should be self explanatory after Rule 3. There are some who might ask, "Why just 3%?" And it's a good question. So let me explain. At Pristine, we have one very simple goal for our personal and managed accounts. We strive to produce a 3% gain every month. Now it should be obvious to you that we supersede this goal by leaps and bounds as we are already up over 100% year to date. So why so small a goal? Well, in reality this goal is not as small as one might think, despite the ease with which we appear to top it. If you can produce a monthly gain of 3%, your annual return will be in excess of 45%. Now, if you can produce gains in excess of 45% annually on a consistent basis, Wall Street would be sleeping outside your door (we step over them every day, smile). Let's take the scenario a bit further by asking, "What if you produced an average 3% gain on all of your stock trades?" We certainly wouldn't have to worry about your financial condition. That's for sure. So are you starting to understand why we will not let that 3% get away from us when we have at least a 10% gain? Go do likewise my friends. I promise you won't be sorry. Nickels and dimes do add up.

RULE NUMBER 5: ONCE A STOCK RISES 15%, PROTECT 10% AND TARGET YOUR 20% PROFIT POINT

You now know the rationale. The higher a stock continues to rise, the greater the probability of a decline. So with this in mind, we tighten our stops and only give the stock a 5% margin of movement. It is at this point that we experience a lot of sells as many of the stock selections fall back a bit. But in most cases, the 10% gain is produced over several days. The average mutual fund produces gains in the area of 7% yearly. So why should we be disappointed? Besides, there is no rule that says we can't repurchase a stock after selling it. We do this all the time. Now a good portion of your selections will not stop you out at 10%. These are the stocks which tend to be the future leaders in the market. Once you have a 15% gain and you have moved your stop to protect 10% of your profits, determine the exact price at which you will sell at least 1/2 of your position. This step that I am mentioning now is one of the hallmarks of a professional. At this point he comes to the market every day knowing precisely where he will exit. When the price reaches his sell spot, he leaps into action unfettered by indecision and confusion. There are no rationalizations, no waiting for another 1/4 point, no delaying, just action. We favor the approach of selling only half of your position, especially with those stocks which have run to this level in less than 2 weeks. Rapid movement of this nature indicates very strong demand and the likelihood that it will carry is very great. The remaining half can stay in as long as the stock stays above it's 50 period simple moving average (sum of last 50 closing prices divided by 50).

COMMENTS
That's all there is to our Pristine Profit Plan, just 5 relatively simple rules. However, let me be very real for a moment. There is no question, that if you are disciplined enough to follow a plan such as the one just outlined, it will dramatically improve your results many times over. But the fact is that most individuals will not comply. Why? Where will they fail in their attempt to stick to a proven money making approach? Nearly all will fail at the very beginning, Rule Number 1. If I had to choose the biggest difference between winners and losers it would by rule number 1. Winners cut their losses short and move on to the next winning trade. Losers hold on to falling stocks 1/4 point by 1/4 point until the very ability to make a rational decision has been zapped from their bodies. This costly fault is also an ego problem as selling at a loss forces the trader to admit that he was wrong. As long as he holds on to his dud, he does not have to really admit he has made a mistake. This attitude and frame of mind is the hallmark of a loser. And finding someone who thinks like this and suffers from this paralysis can actually be a gem in and of itself. Once you have pinpointed a true loser, reverse his every decision and I guarantee that you'll make a fortune. Because when he should be selling a losing position, he'll buy more rationalizing that it's now cheaper that his original purchase. When he should by buying, it will look too high for his taste, or the spread will be too big, or the P/E will be too high. He will find any excuse not to take a winning trade. Why? Because a loser can't help it; the simple truth is winning is against his nature.

A FINAL NOTE

When I first started out in this business, I lost money consistently. The day I bought a stock was the last up day that issue would see in a great while. When I sold, it was sure to be the bottom just before a major multi-month advance. I was a kid without any direction, without any experience and no one willing to help me get it. I spent many years and a lot of lost money to get to the point at which I am now. Where is that, you ask? Well, I'll answer that by telling you what I demand from the people who work for me. My traders must be able to take $50,000 and a margin account and produce $1,000 in profits a day (and I mean every single day if they like working for me. I accept no excuses.) But let me tell you this. A very talented trader would not even be impressed with that. I had the privilege of spending a period of time with an individual who effortlessly pulled $40,000 a day out of the markets. And guys, that is no typo. The time I spent with this "master" was worth more money than most people will ever see in a lifetime. If you are ever fortunate enough to find a successful market player like this, do everything in your power to procure his guidance. Pay him $100,000 for several weeks instruction if you can. Believe me, that sum will prove to be a mere pittance compared to the future rewards. The time and money saved alone will be well worth the cost.

The Pristine Day Trader was formed to partly provide this guidance which I so desperately needed in my early years. And while it can never replace the benefit of personalized instruction, I do believe it is the next best thing. Good luck my friends, and happy trading.

Cup and Handle Patterns can be very rewarding

2009-10-04T11:39:00.001+05:30

On February 9, we gave BSES as a strong buy. The stock was coming out of an almost perfect cup and handle pattern.

The buy signal was given when BSES was 240.00 The stock is now at 315, and has seen a high of 356.00

This was the chart.

Trading Tips - Position Trades with CHAOS Levels: Example with BPCL

2009-09-05T12:47:00.001+05:30

In this issue of trading tips, we give an example of buying in BPCL and how CHAOS levels enabled us to identify two buying opportunities, in recent months.

In early October 2001, the three chaos lines were inter-twined with each other, thus suggesting a sideways market. Then, the chaos lines changed direction and gave a buy signal. A buy signal comes when the three chaos lines are aligned to give a bullish trend. This alignment is:

GREEN - At the top
RED - In the middle
BLUE - At the bottom

This happened on October 12, 2001. See chart below. The stock could have been purchased for 159.45, at the close. Note that prices continued to drift sideways for many days even after the buy signal was received.

But, soon enough BPCL began an impressive up move.

On December 10, 2001, almost 2 months later, BPCL rose shaprly but could not sustain the highs, and close lower. This was a Range Expansion – A sharp rise / fall with a large range. This is usually a sign that the stock will experience at least short term exhaustion. We could have exited around Rs 212, for an excellent profit.

A second chance to enter BPCL came in January 2002. After a sideways drift for more than a month, BPCL again gave a chaos buy signal on January 23, 2002. The three Chaos lines were aligned in a bullish trend. Buying could have been done around 210.45. After a sideways drift for a few days, BPCL broke out to new highs. A range expansion took it to 280 where profits should have been taken. This happened around February 11, 2002.

For best results, a chaos buy signal should be supported by some additional inputs. In case of BPCL, in October, our newsletter had identified this stock as having broken out with the potential for new highs. In January, BPCL was trading sideways for over a month and could breakout in either direction – up or down. Once the Chaos buy signal came, we could anticipate that the breakout would be up and take positions.

No positions should be taken without a clear concept of the EXIT route if things do not go our way. For Position Trades, stop loses should be put around 10% below the buying price.

How to Become a Trader: 11-Step Plan for Success.

2009-09-04T14:45:00.001+05:30

The fact is that the overwhelming majority of new traders lose their trading capital when they start. Markets have a way of seductively looking predictable and tradeable, but that's only until you take a position. At that point, they go nuts and you lose your money.

But now, I'm going to turn around and tell you that yes, it is possible to make money in trading . There are some basic ground rules you need to know, and you have to have or develop a lot of patience. Advice (even mine) must be taken and viewed with a critical eye. The trick is to learn a lot, watch what other people are doing, and then you will have the foundation to pick out what is right and wrong for you. Trading is an intensely individual effort.

The 11-Step Plan to Trading Success

1. Get some books that give a basic overview of the stocks, options and futures markets.

2. Get a book on technical analysis of stocks and futures.You're welcome to do fundamental analysis if you want (growth prospects, industry profile, interest rates, etc.), but I'm a technical trader, so you get my point of view here.

3. Read the books. If you feel impatient, well, then this is good training. Sit and read. Yes, the markets are in motion now, but they will still be in motion when you are ready to trade. There is no single grand missed opportunity here. The markets will give us opportunities every day.

4. Now get a book on trading discipline, money management, etc., if you haven't already read some things about those topics. Don't overdose on psychology; everyone will pretty much say the same things. One iteration of, "Control risk, stay capitalized, use stops" is about all you need, though you may need to read it a few times

5. Figure out how you're going to get your data. A good idea is to subscribe to a data service like Technical Trends. (http://www.technicaltrends.com). They give you data including intra day data during market hours) and a free software and a daily newsletter

6. Start watching markets. You may notice that you have not started trading yet. Good. Yes, you probably just missed that huge move in Rolta. So what? Be patient. Say it with me again: Markets are in motion now, but they will still be in motion when you are ready to trade. Do not be led astray by the feeling of missing the train. So, start watching markets. Find your favorite technical formations and indicators. Watch the markets go up and down, or not.

7. At some point, you should start looking at a market and saying, "It's going to go up. It's right there in front of me. When this starts to happen, it is a sign that you are ready to paper trade. Set up a simple way for yourself to track the following things:

* The date you took the trade

* The date you exited the trade

* Your entry price

* Your exit price

* Net result after subtracting commissions and fees

* The reason you took the trade

* The reason why you exited

* Anything about why it did or didn't work.

And then write down your entry price. Be realistic to the point of pessimism; you're not trying to convince yourself to trade, here, you're trying to demonstrate that your reasoning is sound. You already know that you want to trade, and that you want to win. The easiest thing to do is to take the closing price for the day. Whatever you do, do not use the high or low for the day as an entry or exit price. It's just not realistic.

8. Now that you're here, paper trade like crazy. Do as many markets as you want, because it's free. This will give you a great idea of how much work you can handle. Never pull tricks like letting things drift for a few days, and then going back to discover that if you'd exited on Wednesday, you would have had a nice profit, so you make your paper exit occur on that Wednesday. If you didn't make that decision on Wednesday, it's lost forever. This is a dry run for what you will do when you are trading. Never, ever, give yourself slack by being generous with entries and exits, omitting bad trades, changing your mind after entry, none of that. You are lying to yourself, and you are trying to hurry and convince yourself to trade, not to prove that your method works.

9. Paper trade until you have had at least half a dozen trades in strongly trending markets, in whipsaw (violent ups and downs without actually going anywhere) markets, in gradual trend markets, and in doldrums markets. This will take many weeks to the better part of a year. Impatient? So what? One more time: Markets are in motion now, but they will still be in motion when it's time for you to take real trades. Work on your system

10. When, and only when, you have adequately tested your system on paper and found that it worked pretty well in many circumstances, and it's something you have time to do, and you have the money to risk, then go find a broker (with low commissions) you like and open an account.

11. Get going! You tested your system, right? Then look for signals and take them just as aggressively as you did on paper. Change nothing about your approach in the real market. If you are being timid, then you lack confidence in something; stop trading and figure out what's wrong. Are you taking losses? Are they unexpected? Really? Then stop trading and figure out why your paper trading didn't take account of what is happening now. If there is a fatal flaw (a couple of ticks here or there is making a big difference in the real world, for example), stop and get back to work on your system. Don't tinker with the system in the actual market; this is what I did for a while, and it's just a frustrating way to lose money. If you are taking expected losses but decide that real money going down the drain is too painful, then stop trading and start looking for a new way to approach your trading.

Put Call Ratio

2009-09-04T12:37:00.001+05:30

The Put/Call Ratio is the total number of traded put options divided by the total number of traded call options on the National Stock Exchange of India (NSE) on a given day.

Since there are generally more call options traded than put options, the ratio is usually below 1.

Example:

On February 15, 2001: the total number of Calls and Puts traded were:

Number of Calls (contracts): 7723

Number of Puts (contracts): 1693

Put-Call Ratio = Puts / Calls

= 7723 / 1693

= .22 (Rounded off to 2 decimals)

This is an important CONTRARIAN indicator of investor sentiment.

Put/Call ratios are commonly used as a measurement of market sentiment. It is widely believed that the “PUBLIC” is typically wrong on the market and thus should be used as contra-market indicators. In other words, when “PUBLIC” are overwhelmingly buying calls, it is bearish as they are probably wrong in their bet. Conversely, when put volume is at extreme levels, you should turn bullish as the put buyers are probably wrong.

The Ratio is drawn as a line chart.

When the ratio gets too low, it indicates that call volume is high relative to put volume and the market may be overly bullish or complacent. When the ratio gets too high, it indicates that put volume is high relative to call volume and the market may be overly bearish or in panic. Traders look to sell when the ratio gets too low and the market is extremely bullish. They look to buy when the ratio is too high and the market is extremely bearish.

In short term trading, bullish conditions often become more bullish, and bearish conditions lead to more bearishness. Therefore, use of this indicator is more difficult for short-term traders.

Given below are the S&P Nifty and the Put-Call ratio charts. Note that high ratios indicate market bottoms, while a low ratio indicated the beginning of a reaction.

Like most other overbought / oversold indicators, the Put-Call ratio should be used with care.

Why Turtles made a splash ?

2009-09-04T12:28:00.001+05:30

Imagine a technically-driven futures trading system with a big reputation where traders are told to expect up to 70 per cent of their decisions to be wrong. At the same time, an extremely basic system where the principal consideration is changes in price and the main aim and challenge is to identify a clear price trend - up or down - and then stick with it in a disciplined way.

The system is the quaintly named Turtle method, a technique that attracted a better than fair share of US media attention during the late 1980s and early 1990s as a whiz bang way of training successful commodity traders. Turtle trading and its founders get three chapters in the best-selling Market Wizards financial books.

The Turtle system, claims Russell Sands - one of the original Turtles, is a very straightforward way of trading futures and currencies. While it can be used to trade shares, it works better on securities that are more likely to exhibit trend-like behavior.

One of the important features of Turtle is it makes no attempt to anticipate markets. "When we go with a trend, we have absolutely no idea how long it will last or how far it will go," says Sands, a protégé of the system's creators, countrymen Richard Dennis and William Eckhardt. Turtle traders start with the basic assumption that markets follow trends. The principal requirement before there is any trading action is that the trend must be firmly in place.

If prices go up for 20 days in a row, for instance, that signals the start of an up trend. The end of the up trend comes when prices reverse for 10 days in a row.

The big thing about the method, says Sands, is that Turtle traders - if they play the game properly - never enter a market too early and never pick the bottom. Prices have to rise for a reasonable period and build up some momentum before any action is justified. Equally, they must clearly show they are on the way down before a position is closed out.

But once a position is taken, it stays in place until the criteria are met for a trend reversal. It therefore takes a certain amount of opposite price movement before a trader quits a position.

The same rules apply for short positions. Sands says he took a sold position in August gold futures about three weeks ago after the price had retreated for the requisite number of days. The gold price when he acted was $US395 an ounce and he expects to stay with the downtrend until the market rallies for, say, 10 days in a row or he is stopped out by sharp movements.

Turtle trading also incorporates price-related stop losses as part of the overall money management strategy.

These rules relate activity to a trader's resources and strive to discourage overtrading. There are other guides that suggest how profitable positions can be enhanced by expanding a position using unrealized profits.

The biggest trap for futures traders, says Sands, is overtrading. An important part of the Turtle method is putting this into context in terms of market psychology and trading behavior and defining the probabilities of overall ruin due to over-exposure.

The Turtle system argues that if traders wish to stay in the game for the long haul they should try to risk no more than 2 per cent of their total funds at any one time. This means having enough in the way of financial resources to make worthwhile trades but also stay in the game. "Running a $20,000 trading account and then trading five or 10 gold contracts on this is suicidal behavior," says Sands. His personal method is to trade one contract for every $30,000 of capital. Although markets can be traded with less capital, it increases the risk of being wiped out.

An extreme example is a gold trader with a $5,000 account. With such a small amount, setting a stop loss at 2 per cent of account size is obviously uneconomical as it represents scope for just a $1 price move.

If the gold price is given $5 to move, the money at risk in a 100-ounce contract is $500, or 10 per cent of total funds. But someone with $30,000 will be risking less than 2 per cent of their total funds. The same small trader will, of course, make a more impressive profit if he wins. But then, however, trading becomes more of a function of courage rather than a discipline.

"Obviously the bigger risk you take when you trade, the bigger the reward if you're right. But equally, the smaller you trade, the less chance you will go bust," says Sands. The Turtle philosophy is to trade many times as small as possible in order to stay trading forever. This is important, says Sands, because 60 to 70 per cent of the time the identified trends fizzle out and traders wind up losing a small amount of money. The compensation comes when a solid trend is identified which rewards the trader handsomely. "Maybe 30 per cent of the time you are right and when I win with Turtle I can make between five to 10 times what I've previously lost," claims Sands.

The 12 Commandments Of Technical Analysis

2009-09-04T12:06:00.001+05:30

There are no hard and fast rules about technical analysis, But Here Are 12 Guidelines that will help you succeed.

1. Always assume the current trend is in force until the majority of evidence indicates otherwise.

The biggest mistake most traders make is selling too soon. The second biggest mistake is buying too early. You want confirmation from multiple sources before you take action. Stocks always move in funny lines and unless you have the discipline to ride out the smaller jiggles, you will be furiously trading without ever capturing longer, sustainable trends. Trends are persistent so give yourself the opportunity to ride those trends for all they are worth.

2. The more frequently a trendline is touched, the more valid that trendline becomes.

Trend-lines are fickle but can also be very faithful. The best trend-lines will regularly tell you they love you by repeatedly touching the prices, over and over again. The more a trend-line is touched, the more dependable that trend-line is.

3. The longer a trendline is in force, the more valid that trendline becomes.
This is a corollary to the above principle. Trend-lines that have been in-tact for an extended period of time are usually very reliable. Some traders mistakenly think that something that has gone up for a long period of time cannot continue much longer. Not true. Long trend-lines are very dependable and very worthy of your consideration. Of course, nothing last forever but jump on board and enjoy the ride until it reverses. One thing about long trend-lines -- once they are broken, it is usually time to get very worried.

4. Uptrends live above 50 and downtrends live below 50.

Stocks that wiggle back and forth between positive and negative RSI readings are bad news. Persistency is the quality you should admire most in a stock so concentrate on those that have a recent track record of staying in positive territory and avoid those stocks that cannot generate enough buying pressure to stay above 50.

5. Generally, you should avoid making new purchases when RSI is in overbought territory and avoid selling existing positions when RSI is in oversold territory.

Like a rubber band that is stretched too far, stocks that rise into overbought territory are usually ripe for a near-term pullback. Conversely, stocks in oversold territory should experience a bounce. In both cases, the best time to take action is as soon as they move out of these extreme readings. One caveat is that the more volatile the stock, the longer they can survive in overbought/oversold territory. Volatile stocks can move fast and continue moving fast so change your guidelines to extremely overbought or extremely oversold for these types of stocks.

6. Trendlines get broken all the time. RSI will tell you if you should re-draw your trendline or if a trend reversal is developing.

One thing you need to get used to is that trend-lines are never as straight as you want them to be. Every time a trend-line is broken, you need to make a decision whether a trend reversal is developing or whether you should re-draw your trend-line to incorporate the new low. Do not take a guess - ask your RSI friend what to do. A trend-line break accompanied by a positive RSI reading tells you that things are still okay and that it is time to draw a new trend-line. A trend-line break accompanied by a negative RSI reading tells you that a trend reversal is possible (not absolute) and that you need to be wary of a potential sell.

7. Breakouts above resistance are usually good times to buy.

Breakouts below support are usually good times to sell. Breakouts are to technical analysis what voters are to politicians - they are supposed to get your attention. Whenever you see a breakout, you should assume that there has been a powerful shift in investor perception. Either a lot of new buyers have jumped on board or a bunch of sellers are running for the exits. In either case, a significant change has occurred and you should take action. The Stock Market is pretty smart. Things go up or down for good reasons. Breakouts deserve your attention.

8. Always look at three factors before buying or selling - trendline analysis, support/resistance lines, and momentum indicators.

The point of all this technical analysis stuff to play the odds. Nothing is guaranteed but a lot of things are probable. You want to find those circumstances when the odds are most in your favor. The way you improve your odds is when you have confirmation from several sources. You want to find stocks with clear trends, favorable support/resistance characteristics, and positive momentum indicators.

9. Your best buys will usually occur after a stock recovers from a deeply oversold reading.

Your buys will usually comes from two sources - stocks that are already moving up (buying high and hoping it goes higher) or finding trend reversals (buying low, hoping to sell higher). If you are looking for bottoms, your most profitable buys will come from stocks that are recovering from deeply oversold readings. This does not mean that you should automatically buy stocks that are deeply oversold. It does mean that when a deeply oversold stock does turn positive, it usually produces big gains.

10. Resistance, once broken, becomes your new support level.

Conversely, support, once broken, become your new resistance level. Pretty straightforward stuff but often overlooked. This principle is important because it helps you identify your mistakes. Buying on breakouts is usually a very good idea. However, if a stock does a quick turnaround and drops below that old resistance (now support) you may have been pushed into a bad trade. Making mistake is not fun, but not admitting them when they happen is very expensive.

11. Let your winners run and cost your losses.

During the course of your trading career, you will have many opportunities to capture a quick buck. While it may be tempting to grab a quick 10% gain, you should not sell until there is compelling reasons to do so. You will probably have a lot of small, profitable trades but there will always be that one or two trades each year that makes you a bunch of money. The success of your year will depend upon that one or two monster trades. On the other extreme, holding on to your losers will probably result in deeper losses. You will screw up - guaranteed. We all do, but the important thing is to cut your losses and look for the next monster trade. Stocks go up and down for good reasons. Do not try to figure out why. Just go find a new, more friendly sandbox to go play in.

12. Expect 1 out of every 3 trades you make to be losers.

Technical analysis will constantly test your faith. Not only should you expect to lose money on about 1 out of every 3 trades, you find that your losers usually come in bunches. You might have 10 good trades in a row and then 5 dogs. It is easy to lose your faith when everything you touch seems to turn into dust. However, if you minimize the impact of your mistakes by quickly cutting your losses, you will be able to prosper as a technician.

These are time-tested principles that will help you sway the odds into your favor. Apply discipline, logic, and probabilities to your stock picks and you should do very well. Re-read these principles frequently. I do and I find it helps me avoid the big mistakes. I hope it help you too.

WARNING:
The above information is provided for general information only, and is not intended for trading purposes. You should carefully consider whether any trading in which you expect to engage will be suitable for you given your financial objectives and financial condition.

TECHNICAL ANALYSIS : QUESTIONS AND ANSWERS

2009-09-04T11:54:00.001+05:30

This Article is actually a reply sent by Bob Fulks, a respected technical trader, to questions raised on technical analysis.

Question 1) I realize no method is perfect, but can technical analysis be as effective a method for equity (or other market) selection and timing as compared to analyzing fundamentals or some other method?

Answer 1)

The two methods are quite different. The reasons equities change price is due to both longer term fundamental factors, such as revenue and profit growth, and short-term psychological factors, such as people thinking it will be worth more tomorrow. The problem with fundamental analysis is that if no except you understands that an equity is undervalued, the price may not move up for years. Fundamental analysis tends to work if there are industry analysts following a stock and promoting it to their clients. Technical analysis just looks at what is happening now and doesn't much care why it is happening. Most people on these lists care primarily about
technical analysis.

Question 2) If the answer to #1 was positive, is automating the process to a trading system the next logical step? Do real/full-time traders use trading systems to make real income?

Answer 2)

Many people look at charts and make decisions on chart patterns. The human brain is very good at recognizing patterns that are almost impossible for a
computer to interpret. But it is hard for a person to be objective. There are hundreds of indicators and it is easy to look at enough indicators and
see what you want to see. Trading systems are objective but can only handle situations that they are programmed to handle. Lots of traders make real
income using trading systems, (even though many academics will tell you that technical analysis doesn't work.)

Question 3) If the answer to #2 was positive, would you recommend the TradeStation software to a close friend? Is the product a necessity for a serious ta/system trader? If you had it to do again, would you plunk down another $2400+ dollars for it? If not TS then what?

Answer 3)

If your trading system is more than a few lines in length, (and it better be), there is really no other choice. There are other products but they tend to be limited in what kind of systems you can create. SuperCharts has many similar features but the lack of the PowerEditor makes it nearly impossible to write other than very simple indicators and systems.

In addition, there are a large number of programs for TradeStation that are available from many sources. This makes it easy to build upon the work of
others and helps you learn the many quirks of programming the product. People hate Omega Research because Omega tends to do dumb things that
alienate their customers. I could never figure out why. I was an executive of a software company before I started trading and we would never think of
treating our customers the way Omega treats theirs. TradeStation is the only choice now but there are companies trying to end that dominance. Many
users would quickly move to another product if they had a real choice. It certainly is not perfect but as of now, it is about the only game in town.
Lots of people can make it do marvelous things. To put the cost in perspective, the cost of the software will be insignificant when you consider the cost of the time you spend learning to use it and the cost of all the money you will lose learning to trade.

Question 4) If the answer to #3 was positive, were you successful and what were your experiences developing your own profitable system? Did you find it necessary to obtain one from another source? If so, how does one evaluate these sources?

Answer 4)

Don't plan on making money with the canned systems and indicators that come with the product. These are really just examples to learn from. To create a
profitable system, you will need to write your own system in their EasyLanguage. The language is pretty easy to learn if you have any computer
programming experience but can be pretty difficult if you don't. Most of the power is in the library of functions which take a lot of time to learn
to use effectively.

There are also several newsletters, such as TSExpress, that explain many of the idiosyncrasies of using the product. I suggest you buy several of these
and get all the back issues. It will save you a lot of effort. Developing a trading system that really works seems to be hard for a lot of
people. Recent threads on this list have been discussing this topic in detail. I think the main problem is that people try to use the popular
indicator functions. There are many popular indicators such as MACD, RSI, ADX, etc., that have been developed over the years to help people try to
see changes in trends on charts. These always look good on charts. They were developed as stand-alone indicators to show some feature and work
pretty well for this.

But many people try to combine a bunch of them together to generate buy/sell signals. In my opinion this cannot work well. After all, most of
these indicators start by using the price as the input. The indicator functions then manipulate the price lots of ways to derive a new value for
the indicators. People then manipulate these indicator values lots of ways to create a trading signal. But, by the time the original price data has
gone through all of these transformations, it is impossible to understand what is really happening. They then tune lots of parameters until
TradeStation tells them that combination of parameters would have made money if they had that code with those values to start trading a few years
ago. And then they get discouraged when they lose money trading the system. I feel that it is better work directly with the raw price data and
manipulate it in ways that make logical sense to you.

The other option is to purchase a trading system from someone. In my experience, this rarely works because there are so many variables in every
style of trading. It is very unlikely that you will find a good system that actually works and that fits your style of trading. Besides, most of the
ones that you can buy for any reasonable price are worthless. Why would anyone sell you, for a few thousand dollars, a printing press to print
money? Most of the ones you can buy are locked so that you cannot see the code (called "Black Boxes"). If you don't know how something works, it is
hard to really have enough confidence in it to trade it.

There are many vendors selling professionally developed components that you can use to help develop your systems. (Jurik Research, SirTrade, etc.)
There are also consultants that will help you develop systems for a fee. Many are very experienced.

Question 5) I don't mind putting in hours and hours of reading and research and adding this to my share of hard-knocks, but I want to feel that my initial learning efforts are headed in the right direction. Any comments or opinions from individuals who are truely "walking-the-walk" would be very much appreciated.

P.S. My apologies to those who've heard these questions for the 10,000th time. Maybe a FAQ for new comers is available?

Answer 5)

I thought your questions were well thought out and worth the effort to answer. These are obviously my personal opinions. Others will probably disagree.

Bob Fulks

Advice for Beginning Traders

2009-08-14T12:25:00.001+05:30

The things I wish I'd known at the beginning were:

A: The "classic texts" (Murphy, Edwards & Magee etc.)

B: Capitalization

C: Risk Management

D: "Don't quit your day job"

E: Psychology

I was lucky enough to find an honest and supportive broker. I found it an important fact that large funds, big traders and small traders all use different methodologies. They can all be successful.

I think a set of End Of Day charts and some good books that you study in the evening after work are probably the most cost effective and sensible tools to use until you become profitable. Trend-lines, 1-2-3 bottoms and patience...

The most daunting aspect of day trading, is that it's a full time endeavor. You cannot work another job. Any beginner who tries to go full time, runs the risk of becoming another casualty of the Market.

As with all walks of business the only way to learn is to:

(1) Do it with a make or break attitude,

(2) Go work with someone or a group of people for an extended period of time, watching, learning and doing before going out on your own.

You cannot pay Rupees, spend one week looking over the shoulder of a "master trader", read some material and then go out on your own - it does not work that way!! Its not that easy!!

What makes you think that you can let someone else endure the years or hard work, perspiration and sickly feeling at the bottom of their stomach. The sleepless nights. The loss of appetite. The feeling of having failed.... pay them a few Rupees and expect to buy the end result of their hard work and think you can make it work for you. It doesn't work that way.

If you want the results you must pay the price and the cost is not just measured in RUPEE terms.

There are people who can take short cuts and succeed, but they are exceptions and are far and few between.

As long as your are disciplined and know when to admit you are wrong and have the guts to jump right back on top of the horse then you'll do just fine.

Don't get so worked up about learning the new fad or secret approach to markets. Relax. Prices can either go up or go down or maybe stay the same.

Trading is as difficult as you want it to be.

Be prepared Whipsaws happen

2009-08-04T12:32:00.001+05:30

WHIPSAW: A change of trading signals within a relatively short period of time.

Trading aims to reduce risk and to compound gains. The better trading systems reduce the number of whipsaws, but they all have them.

Two types of whipsaws

BUY signal SOON after a SELL signal. In this type of whipsaw, traders usually BUY BACK AT HIGHER PRICES.

SELL signal SOON after a BUY signal: In this type of whipsaw, traders often LOSE MONEY.

Worst case scenario: Even in the best of trading systems, you can have type 1 whipsaw followed by type 2.

Problem #1: No-one can be emotionally prepared for whipsaws.

Problem #2: Whipsaws can come in consecutive trades.

Problem #3: After being whipsawed a few times, there's a tendency to ignore signals -- which can be VERY costly.

Are they worth it?

WHIPSAW frustrations are the PRICE traders pay for:

Lowering risks (by being out of the market part of the time) and,
Significantly increasing profit potential (by finding the "better mousetrap").
Protections

Use more than one trading system.

Select a time frame (short, intermediate, long) which suits your personality.
Prefer trading systems back tested for long periods of time.

Corollaries: The shorter the time frame of a trading system -- the more whipsaws it is likely to have. With a longer time frame, you have fewer profits over a ten year period -- and fewer whipsaws -- everything else being equal.

Systems which attempt to eliminate ALL whipsaws miss many good profit opportunities.

Traders have no alternative except to learn to live with whipsaws. It's part of the discipline. Those who don't have the courage and patience to endure trading losses are very likely to pay a much larger price for holding on to bad trades.

Trading Is Not Investing

2009-08-04T12:18:00.001+05:30

The problem with day trading, an expert on financial markets says, is that few people bother to learn the rules first. college roommate, half a century ago, was a lean, athletic young man who cared about sports in mind as well as in body. He could tell you the batting averages of the 20 leading hitters for the last 20 years, or cite such arcane facts as the name (and the time) of the man who came in third in the Wanamaker Mile at the Millrose Games in 1935.

When he finished college, he went to work at a Wall Street firm that knew how to use his talents: He became a tape reader. If you gave him the symbol for any of some hundreds of stocks, he could tell you how often two upticks in its price produced a third uptick or a downtick the next time the stock traded at a different price. He sat in a cell of a room on Wall Street, the physical ticker tape scrolling through his hands. Ideally, he had no position when he came to work and none when he went home. But every day he made millions of dollars of purchases and sales and over the year a noticeable contribution to the profits of his firm.

Ordinary people couldn't hope to compete with my friend, quite apart from his extraordinary personal storage and retrieval capacities. Those were days when fixed commissions cost outsiders 1 to 1.5 percent of every trade, with no volume discounts. And the spread between bid and asked was normally half a point; the outsider bought at the top of the spread and sold at the bottom. Fees, spreads, and commissions would eat traders alive even if they got their markets right.

But my friend's trading imposed virtually no costs on his firm. All he had to do was get it right more often than not. And there's no question that different stocks, because they draw different sorts of people as followers, have different short-term activity patterns.

There was also another kind of trading, which tried to find price movements that might last for several days or even weeks. This, too, was best done by members on the floor of an exchange-indeed, the Securities and Exchange commission had occasional fits about "floor traders." Only a handful of these traders were left in the 1950s. I asked one of them what he did for a living: "I listen for the streetcar," he said. "When I hear it coming, I get on; when it seems to be slowing down, I get off." Outsiders had the handicap that they weren't on the streetcar's route.

The chance ordinary people had to play these games profitably opened up first in Chicago in the 1960s, when the commodities markets began to clean up what had been a pretty dubious act. People could buy their way in for a few tens of thousands of dollars, and stand in a trading pit, "spreading" the price of corn against the price of hogs, or June contracts against September contracts, "scalping" the short-term movements in the prices of contracts-first for the prices of agricultural commodities and then, with a whoosh, for currencies and interest-rate futures and all sorts of financial commodities. Because relatively small sums of money could control relatively large purchases and sales in the low-margin world of the commodities markets, outsiders were not so severely handicapped as the visitors to brokerage offices.

Very recently, trading as a business has been democratized. Today, anybody with a computer and a modem can buy a service that delivers up-to-the-minute detailed information about trades and prices in markets all over the world. One such service, MarketWatch.com, went public in January with a prospectus claiming 2.2 million hits per month on its Website-and the price of the stock more than quintupled in the first day of trading. The cable networks run commercials all day from brokers offering to execute transactions at commission rates measured in tenths of a percent of the value of the trade.

Much Internet "trading" is performed by people who have a barber who's plugged in to technology or a brother-in-law who lives near San Jose and keeps a keen ear open at cocktail parties. Buying stocks on the basis of tips or comments in chat rooms is like betting on the advice of touts at the racetracks: It's not a business, and over time it's not going to be profitable. Even for people who know what they're doing, cyberstreets are not paved with gold. The vigorish is still with the house, and the electronic customer, like his ancestor who hung around at the broker's office, still buys at the asked and sells at the bid. But in actively traded stocks the spread may be as little as a sixteenth of a point, or six and one quarter cents a share, a manageable handicap.

The first rule for success in the trading world is to take the work seriously, to concentrate as hard as my roommate concentrated on his tape. Leo Melamed, who invented the first financial futures contracts, remembered that as long as he continued to practice law on the side, he lost money as a trader. This was and is a business of numbers and psychology, not economics: You have to live the numbers and practice the psychology. The trader's be-all and end-all is the most recent movement of prices in the markets-not just his one market, but many others: The walls of the rooms that hold the giant trading floors are covered with lights telling traders what's happening in the world's major markets for all the big commodities and financial instruments. If you're trading, say, interest-rate futures, you'd better keep abreast of what's happening in oil and gold.

The second rule, then, offered to novice commodity traders in a lecture by Charles DiFrancesca, is to know why you take positions, why you hold them, and why you sell them. DiFrancesca, whose advice is transcribed in William Falloon's book Charlie D.: The Story of the Legendary Bond Trader (Wiley), was the most admired independent bond trader in the busiest pit in the world. He thought the best discipline for young traders was "spreading"-taking long positions in one contract against short positions in another, to exploit changes in relative prices that would disappear as normal patterns reasserted themselves.

Once a trader was fairly consistently profitable in this low-margin business, he was more likely to succeed at the trickier business of "scalping," taking positions in one contract to catch brief waves of motion. The legacy of spreading was that traders should always have a reason for what they did. "If you're standing in the pit like a nail," he told the novices, "you don't have a reason for everything you do. Rely on your outside crutches as a scalper who spreads price relationships and imbalances that you see developing inside and outside the pit."

But those outside crutches, those reasons, are there only to prevent aimless activity. Like every trader, DiFrancesca agreed with the notion that good traders have to take their losses, quickly, and cannot ask Divine Providence to bail them out: "The people who survive at the Board of Trade have a low puke point....God doesn't trade bonds....He doesn't care what kind of trouble you're in; He doesn't trade bonds. You want to throw those future contracts up all over your shoes....There has to be a feeling inside of you that won't let you stay with something too long."

Human nature leads people to deny their mistakes. Even traders may acquire a crazy kind of loyalty to the positions they have taken, especially if they've talked to friends and neighbors about them. Television's Adam Smith likes to remind people that "the stock doesn't know you own it." If you scratch a money-losing trader, you are all but certain to find that he tries to cut his losses by hanging on until the stock or the commodity "comes back."

By the same token, traders find it hard to resist taking profits too fast. One of the most successful big traders in the currency and interest-rate markets says that he expects that 70 percent of his trades will be losers. But when he loses he loses small, and when he wins he wins big. Others who work in his trading room will say that they are profitable on 70 percent of their trades-but most of them lose money, because they grab for small winnings.

In the current lingo of the business, the two different species of trader are those that "sell volatility" and those that "buy volatility." My college friend sold volatility-that is, his essential bet was that market prices wouldn't move much, which meant he could always reverse his trades when he wanted to do so. All the hedge funds that claim to be market neutral-they can make money whichever way the market goes because they are betting on anomalies-are sellers of volatility and rely on a lot of liquidity in the market. This includes the infamous Long-Term Capital Management, which last fall had to be rescued from destruction. And, at the extreme, Nick Leeson of Barings, who sold out-of-the-money puts and calls on Japanese stocks, leaving him a little cash to put in his pockets if the markets didn't move much and a big hole in Barings's capital if they did.

These are the descendants of the classic Wall Street stock trader, the "contrarian" who assumed that the public was usually wrong, that most of the price movement in the market was noise, and that one could make money by selling on small rises and buying on small dips. Even more than other traders, the seller of volatility needs a talent for smelling when to head for the hills. George Soros said recently that he thought the LTCM "convergence" strategy would work 99.9 percent of the time, which was very generous of him, but even on those terms it's easy to be a loser. If you make a few bucks every day for 999 days and lose millions on the thousandth day, you will leave your children memories rather than estates.

Those who expect to overwhelm frequent small losses with less frequent large winnings come from a different school. They "buy volatility." Far from adopting a contrarian position, they take as their motto the old line from the Chicago pits, that "the trend is your friend." This is still trading, not investing. Buyers of volatility couldn't care less about the future earnings stream or purchasing power associated with what they buy: Such factors, presumably, are already in the price. The best of them are often ready for crises, because they limit their downside with something in the nature of "stop loss" orders, which in the modern world may mean fancy schemes for dynamic hedging.

These days, one can buy computer programs that purport to flag opportunities for short-term trading profits. They are useful for practice, like the programs that teach you card games, but following a strategy that's for sale to everybody is not likely to tap into an income-producing spread. There is no aptitude test for trading-the successful traders I know come from all sorts of backgrounds, from the most rarefied academic specialties to the jock worlds.

It's not socially responsible to encourage people to try their hand at trading. Just as the worst thing that can happen to an adolescent is to win big on that first visit to the racetrack or the casino, a profitable first month as a trader is a real danger. It's only after you've had a few bloody noses and moved on that you begin to understand what you're doing. Still, traders love what they do, though only a minority of them prosper; and technology has made it possible for almost anyone to try.

Overtrading - Are you Guilty?

2009-08-04T11:59:00.001+05:30

One of the most common mistakes I encounter in traders is overtrading. First, let me define what I mean by overtrading.

Overtrading - Initiating or maintaining a position too large relative to your account equity.

What is too large? In my accounts I don't like to risk more than 2% of the account equity on any single trade. I learned a while back that the worst enemy of a trader is fear (greed is easier to deal with). When you're scared, you're apt to display the following characteristics:

* Sweaty palms, a few palpitations here and there

* Staring at the ceiling at 2:00 am

* Maybe mumbling or yelling at your spouse

* calling your broker every 5 minutes during the day

* unwinding a position at a loss so you can feel "normal" again only to see it turn, right after you exit (the markets are
conspiring against you, right?)

You get the picture. This is no way to live and the best defense is to trade small. Each position you carry should seem almost insignificant. You're probably thinking "How can I make any money this way?" or "How can I do that in a "RS 50,000 account?". I'll address both these questions.

On trading small:

My thinking is that if you're a good trader with good ideas, each trade you make isn't significant. It's the sum total of a lot of good ideas over a lot of years that will make you wealthy. Everyone is wrong sometimes and what happens If you risk it all (or most of it) on a single trade, and you're wrong? If what I'm saying makes sense, then trading small makes sense. Good opportunities come along fairly often. If they didn't, then I might have a different opinion. As a professional, I would never intentionally expose a large portion of my money to one market or one trade. I always trade a variety of markets with a variety of positions.

On trading a small account: Here are some suggestions for trading a small account properly.

* Trade less number of shares

* Trade futures contracts that usually aren't as volatile as stocks

* Learn about option strategies to hedge risk

* Get familiar with vertical options spreads and ratio spreads to limit risk and volatility, while allowing you to stay in a
trade for a long period of time.

Having said that, the problem with a small account is that slippage and transaction costs become larger relative to the trading gains. This problem is eased if you trade longer term (believe it or not, I've got an opinion on that too).

Trading Rules

1. Do not be a Tradaholic.

2. You trade to make money--not for fun & games or to escape boredom.

3. Never add to a bad trade.

4. Once you have a profit on a trade, never let it become a loss.

5. NO HOPING - NO WISHING - NO WOULD'VE - NO PRAYING - NO OPINIONS - NO SHOULD'VE.

6. Don't be a one-way trader be flexible.

7. Know your risk on each trade. Trade with stops.

8. Look for a 3-1 profit objective.

9. When initiating a trade, always get your price.

10. When liquidating a bad trade, always use a market order.

11. A scratch trade is a "winner."

12. Make ten points on a million trades not a million points on ten trades.

13. Learn from your own mistakes.

14. Have a plan. Trade it. Monitor it.

15. 3 Losing Trades in a Row Rule. Stop! Take a break.

16. DISCIPLINE! 90% of the public lose without it.

17. Pay attention to weekly lows and highs.

18. "Guru" software systems make money for the sales rep. Develop your own approach.

19. Understand spreading and options.

20. Technicals and fundamentals are equally important. Trading may not be suitable for everyone. The risk of
loss can be substantial.

Chart Patterns on larger time frames

2009-08-04T11:10:00.001+05:30

Often, technical chartists will identify chart patterns on Weekly and Monthly charts.

These patterns take many years to complete. They are likely to take equal number of years to fulfill. As investors and traders, we are unlikely to have the patience and discipline to sit through the fulfillment period.

My suggestion is that we should not invest or trade based on patterns developing on longer time frame charts.

We should stay focused on charts in daily and intra day time frames. Big picture charts are mainly of academic interest only.

We suggest that readers should be careful when they read about some ’88 year supercycle’ or ‘Elliot Wave that started in 1938’ or something similar.

It is difficult to believe that market movements in 1938 can still influence the stock markets in 2002.

Short term trends are easier to forecast. Momentum and investor psychology today can influence events in the next few months, but how can they influence events 5 years hence?

I soemtimes read about some ‘grand elliot wave count that will peak out in 2012’. How can anyone know what will happen in 2012 or similar?

Again, suppose that the ‘grand elliot wave count that will peak out in 2012’ is correct. So, what are you going to do now? Buy and wait till 2012?

Finally, trading and investing is about clear cut trading signals. If this happens we buy. If this happens we get stopped out for profit or loss….

We will offer many charts of big picture patterns. Given below is a digial weekly chart.

After a sharp down move in September 2001, Digital made a bullish head and shoulder. This patten broke out on the upside around 628. An investor looking at this breakout would be justified in buying Digital at 628 with a target of 1050.

Now, what would be his stop loss? The Right shoulder low is at 509. The stop will have to be put below 500.

How can anyone say that Digital will rally to 1050 in one year or two years? What will be the economy be like in the next few years? It is easier to look at the next two months than at the next two years.

Chart patterns often fail. When a pattern on a daily chart fails we end up with small losses. And we know about it in a few days. If a weely or monthly chart pattern fails, we will about it in many weeks or years. Not a pleasing idea.