The Trading Puzzle Book One from SpikeTrade Dr. Alexander Elder & Kerry Lovvorn
Copyright 2013 by SpikeTrade.com ISBN 9781301566532
DEAR READER: if you need any assistance with the e-book files or have any suggestions on improving this book, please write to the authors. To give you better and bigger charts, we attached a link to every chart in this e-book. When you have access to the Internet, click on any chart to be taken to a special page on our website where that chart will be bigger and clearer.
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DISCLAIMER OF WARRANTY: while the authors have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents. The advice and strategies contained herein may not be appropriate for your situation. You should consult with a professional where appropriate. The authors shall not be responsible for any loss.
Last revised: February 2013
Table of Contents Psychology and Self-Management Technical Analysis Other Methods and Markets Entry and Exit Techniques Current Markets Risk Control Finding Good Data (Mini-encyclopedia) Answers to Your Questions
Welcome
We’ve created SpikeTrade.com as a meeting place for serious traders. Our members share ideas and participate in a friendly competition for the best stock picks. This competition is very intense – but also very friendly. Members ask each other questions and help one another. If, for example, a popular trader submits a stock pick for a company that’s about to announce its earnings, you can be sure that some members will write to him or her with a friendly warning that a major piece of fundamental news is coming down the pike.
SpikeTrade is a members’ website – this is not a guru business. We let our Members take center stage – but at the same time we share our knowledge just as openly as they do. We post diaries of our trades, including video diaries. We contribute nightly reviews of key indicators and weekend market reviews. We also answer members’ questions in the section we call “Q&A and Alex & Kerry.”
There is a growing wealth of knowledge in SpikeTrade archives, open to all members. We’re publishing this e-book to help non-members get up to speed and avoid bad mistakes. We took all questions and answers from 2011, slightly edited them for smoother flow and organized them into chapters.
We hope you enjoy this e-book, and we invite you to visit our group by taking a trial membership in SpikeTrade. You can deduct the cost of this e-book from your Trial: just use the coupon code “P1”
Best wishes for success,
Dr. Alexander Elder New York City
Kerry Lovvorn Scottsboro, Alabama February 2013
PSYCHOLOGY & SELF-MANAGEMENT
Sound psychology is essential for successful trading. Markets put up an enormous gallery of temptations, causing crowds of beginners to jump in from the deep end and lose fortunes in thoughtless trades. Good planning and sober self-management are the keys to market success.
SpikeTrade members know the importance of trading psychology. People who voluntarily submit picks develop a habit of spelling out their plans. Submitting picks week after week develops discipline and translates into steady performance. Our Trade Journal is a great tool for developing the habits of accountability. Last but not least, our members can ask us questions about psychology and self-management.
TO CHASE OR NOT TO CHASE
A member from Canada writes: “As Alex wrote in one of his books, ‘Don’t chase a stock, if you miss a bus, there is always another.’ I follow this rule for most of my trades. But I am struggling whether I should chase the stock when there is a gap up on a strong day like today. There is a high probability that the general market will go up. Should I jump in and put on a trade and set a logical stop below yesterday’s high? Or, should I just pass and wait for the next train to get on. But waiting for the next set up could be weeks away.”
Kerry replies: The answer depends on whether one is a breakout momentum trader or a pullback trader. I am a trend trader and prefer entering on pullbacks. I don’t chase breakouts. If I miss the bus, I’m not a fan of chasing and jumping in, you may jump in front of the bus and get run over.
CLICK ON ANY CHART TO SEE A LARGE VERSION (YOU NEED TO BE ONLINE)
Figure 1-01 SINA daily
The problem of ‘missing the bus’ can occur with any style of trading. Here is my trade this week in SINA. On Friday it gave me a signal to enter, but I missed it. I kept this stock on my watchlist, and today SINA flashed another entry signal by tracing a V-1 Trigger [described elsewhere in this e-book – Editor].
Although I missed the entry on Friday, I acted on today’s signal. Whenever you miss the bus, keep the stock on your watchlist, and you may well get a second opportunity.
Another option after missing the bus is to drop down one timeframe and look for an entry. I may drop from a daily chart to my favorite intraday 39-minute chart and look for an entry there.
TAKING LOSSES
We’ve received several emails from members asking how to handle losses.
Kerry replies: Most traders focus only on winning, on making the big trade. It is much safer to think first about losing and how to manage and control losses. When you learn to ski, one of the first things your instructor will teach you is how to fall safely. Not knowing how to lose safely can result in catastrophic losses.
Bad losses create fear and then traders fail to take new attractive trades. A successful trader must learn to lose properly and learn to love taking small losses. Just like falls on ski slopes, this is a normal part of the game.
The following is a good sequence of steps:
1. Eliminate disastrous losses 2. Learn to lose properly 3. Learn when not to trade (look for higher probability trades) 4. Learn to ride winners
Once you master items one and two, you can focus on items three and four.
To achieve long-term success you must develop techniques for setting risk limits and dealing with inevitable losses. We must learn to embrace losses so that we can win.
Figure 1-02. Every winter Kerry (left) and Alex (right) run a live trading workshop at a ski resort in Austria. Notice that both men wear helmets.
Disastrous losses become the undoing of many traders. The first step towards success consists of learning to avoid them. Traders continue suffering because they’re unwilling to accept a loss.
A trader needs to recognize when a trade is not behaving the way it should and what is the maximum loss one can ever take. At some point we have to accept a loss – unwillingness to do so will affect the psyche and lead to more fear, preventing us from becoming a successful trader.
NORMAL LOSSES
A member from Arizona writes: “What’s the best way to accept losses? I continue to fight with the expectation that all my trades should be winners and I’m doing something wrong when a trade doesn’t make a profit. I constantly fight with being too emotional over losses…”
Kerry replies: I used to battle against losses, believing something was wrong with my system if I had to take a loss. I kept tweaking my system and never leaving it alone. I would take a loss one day, then trade differently the next day. I felt like a dog chasing its tail.
A conversation with one of my company managers made me realize that I needed to handle my trading the same way as my business.
A manager in my company noticed that I was upset and asked whether I was upset with him. I replied that I was irritated by trading losses that day. He thought it was strange, because I never got upset over losses on individual jobs that happen from time to time. I replied that I don’t expect us to make money on every single job and it’s a cost of doing business in this industry to incur occasional job losses. What mattered most was how we managed a group of jobs over time. I did not expect to make money each week or every month. My manager politely asked, what the difference was between that and trading.
The only difference was that in business I didn’t have five screens flashing green and red every minute of the day, showing how much I was making or losing at any given moment. I was OK knowing that I would not make money on every individual job, yet I was letting trading losses take me on an emotional roller coaster.
Think about it for a minute. Is it so terrible to take a loss on a few positions? I am sure if I had to run my business with a ticker tape in front of me, it would be just as difficult to deal with the daily ups and downs. I see my profits and losses on a monthly basis in business, but in trading I get to see them for each position minute by minute.
I had to train my mind to deal with trading losses just like with business losses. Losses are a normal cost of doing business and nothing more than a businessman’s risk. What’s important is the profitability over time and not the profitability of any one position. I needed to focus on the total result, not the individual result.
That brief conversation with a manger who was not even a trader helped me recognize that I was allowing individual losses take up much of my focus and cause me emotional pain. I was getting more upset over a $200 trading loss than a $10,000 project loss in the company. I was running a multimillion dollar company with fewer worries or emotions than my small trading account at that time. As my manager walked out my office, I could not help but laugh at this paradox.
My mindset changed after I realized that a loss on an individual trade was no different than a business loss on an individual project. I began to manage my trading like I was managing my business. Trades were individual projects. I would lose money on some and make money on others. My primary focus shifted to the overall process rather than each individual trade. In the end what mattered was that I was making more than I was losing over a set number of trades.
Becoming a realist and accepting that some trades are not going to work helps me keep my emotions in check. I even removed trade balances from my screens in order to keep my focus on the process rather than each individual trade.
DON’T FORCE A TRADE
A Member from Tel Aviv writes: “I have a full-time job and rarely sit in front of the computer when the markets are open. All my trading decisions are done when the market is closed, but I am having problems deciding exactly where to place my entry orders, with the current market being so volatile. Can you please give some advice on how to place entry orders when we’re unable to sit in front of the screen all day and day-trade into positions...”
Dr. Elder responds: The market is very volatile these days, presenting a problem for position traders. No matter how clever your entry and exit techniques, one cannot fully overcome the disadvantage of not having live data in these unusually volatile times. There is nothing wrong with sitting back and waiting. Use this time to study, do research, and create plans for more peaceful and trending times. If you’re strictly a position trader you may have to sit on your hands until more opportune times.
One possible advice for a position trader might be to wait until the markets settle into a reasonably steady trend. Another advice is to be extremely demanding about entries while being very skittish about targets at this time. Put your buy orders ridiculously low – you may not get filled, but if you do, it’ll be at such a low price that a bounce is virtually certain. Put your shorting orders higher than you expect a stock to go – again, you may not get filled, but if you do, there will be almost certainly be a pause, allowing you to grab some profit. Speaking of which – do not overstay your trades, keep your finger on the trigger. As soon as you have a bit of an open profit – grab it! There are markets for holding and markets for quick hit-and-run, such as the current one.
DAILY ROUTINE
A member from California writes: “Could you please share your opinions and ideas on how to manage time on trading days and on weekends? Which websites/resources do you suggest I look at?”
Kerry replies: The answers will vary from trader to trader, depending on their primary style of trading. Day- traders’ preparation is different from swing traders or trend followers. The suggestions that follow are more suited for swing traders.
Here’s a brief outline of my personal routine:
1. I do a quick mental self-assessment to determine whether I should trade that day. I make this determination before 8 am, typically during my drive to the office.
2. I do a market review to determine current conditions and key support resistance levels. This helps me determine what actions I may need to take with existing or potential trades. I like to do this soon after the market close, in the afternoon or at night and then do a quick review of my analysis the next morning before the market opens.
3. I review any existing positions and formulate plans for the management of those trades. I enter any orders or set alerts to be notified to take action.
4. I review any potential trades from my active watchlist and set alerts accordingly, to enter any orders if necessary.
5. If I’m not fully positioned, I run scans for trades in my personal basket of stocks. If I am fully positioned, I must sell something before taking another trade.
6. I review foreign markets and any key reports that are due today. I skim the headlines for any unexpected news.
7. Once my plans are in place, I try not to look at the screens until I am alerted to take action. When away from the screen, I use trigger orders to enter any trades. When an alert goes off, I click to that particular chart to execute any decision.
8. I do not look for trades during the day; I only focus on my trade plans and existing positions.
9. I watch no TV during trading hours, wishing to trade in quiet, with as few distractions as possible. I work on projects during trading hours until I am alerted to take action.
10. After the market closes, I repeat my routine of market review and adjust trade plans.
11. On weekends I do the same routine as on weekdays, except for some additional analysis of longer-term charts. I do most of my reading on weekends.
12. Websites I use are Sentimentrader.com, Briefing.com, and Finviz.com. I read The Wall Street Journal, Barron’s, Investors’ Business Daily, and The Big Picture blog. These are my regular reads and I occasionally read other articles if they catch my interest. I have a reading file into which I put all articles of interest for reading at a later time. I try and block out a couple hours each weekend morning for this follow-up reading.
This is only a brief outline of what I do each day and on weekends. My personal trading takes approximately one to three hours per day. It varies, depending on the type of market conditions. If I’m not in a trading mindset, I avoid trading at all costs because that’s when I make my worst trading errors. I used to be a hyperactive trader who never knew when to stop, and then I made a sign I’d put on my screen to mark whether it was a trading day or not, similar to a store’s open and closed sign.
Basically I want to operate as a two employee company. The Analyst does the work when markets are closed and sets various work orders for the Trader. The Trader’s job is to carry out those orders. The Analyst may give the Trader a choice between options A or B, but the Trader is not allowed to carry out work in a way that was not spelled out by the Analyst. If he does, fire the Trader.
I hope this brief outline helps. If you would like some consulting on how to improve your trading methodology or routines, please feel free to contact me.
SELLER’S REMORSE
A member from North Carolina asks: “How do you control seller’s remorse? I find that if I sell a position and the stock starts to rise, I regret selling. This regret leads me back into wanting to own this stock again and I buy it out of regret that I ever sold it. Once I do this, the stock drops and I give my profits back and often more, and then I have buyer’s remorse. As I make my next trade, I have that buyer’s remorse on my mind and then I find myself exiting early, fearful of letting my new profits erode away, again dealing with seller’s remorse. The cycle continues...”
Kerry replies: I’m not certain we can completely eliminate the feeling of remorse, but we can learn to manage this emotion. I’ve developed a habit of expecting prices to rise after I sell a stock. I accept the fact that I’ll never sell at the top, unless I get lucky. I will either sell at a predetermined target on the way up or I’ll trail a stop and get stopped out as prices pull back. My main focus is on trading my plan.
Let’s review my two recent trades. I had entered AAPL on June 21 and BIDU on June 23 for similar reasons, expecting a bounce from the lower channel line toward the moving average or even 1ATR (average true range) channel. The market was oversold, and these were counter-trend trades, back toward resistance. On June 24, as the market was hitting resistance and both AAPL and BIDU hit my targets, I exited these trades.
Figure 1-03 AAPL daily
At first I was very satisfied, as both trades hit their intended targets. I had followed my trade plans and made money. The following week both stocks rallied without me, as the market had one of the strongest 5-day rallies in years. In hindsight, I would’ve loved to have kept those trades.
Figure 1-04 BIDU daily
There was seller’s remorse for sure, but the key question is: if I made those trades again under the same circumstances, would I have done the same thing? The key to long-term success is having a plan. Here the plan worked and reached its objective.
The key questions to ask myself are: what can I learn from these trades and was there anything I failed to execute. I typically trail stops, but for some reason I have not done so the last few trades. All of my recent trades in which I didn’t trail stops have cost me additional profits. I want to shift my focus from the remorse to action by asking why I’ve been closing my trades and not using a trailing stop method.
You have to be careful not to allow feelings of remorse push you into chasing a trade. I must wait for a valid signal in this or any other stock. Wishing I had caught additional profits is not a valid reason to re-enter a trade. Stay focused on the trading plan and techniques.
I made a commitment this week to revert to my trailing stop method. It may not benefit me on the very next trade, but experience shows that it works well over time. Focusing on my methods rather than the emotion is likely to produce a better long-term outcome.
To summarize:
1. Accept that you will rarely if ever capture the full extent of any move. You will sell early or late 99.9% of the time. There is no perfect exit, only your faithfulness to your trading plan.
2. After you close a trade, open the next trade only if it meets all of your criteria.
3. Never make a trade on the basis of what you wish you had done in hindsight.
4. After you sell and the feeling of remorse emerges, drink beer to purge the body of this feeling (joking).
A GREAT OBSTACLE TO LEARNING
A Member from Colorado writes: “I'm having a hard time switching mental gears so that I can comfortably trade the short side as well as the long side. I'd really like to become more flexible in this regard. Any advice?”
Dr. Elder replies: One of the main troubles with learning a new trading skill, including shorting, is the rush to make money from that skill. You can learn much better by taking a long-term approach.
Choosing shorting candidates is no harder than choosing stocks to buy (I wrote a book about it – The New Sell & Sell Short). Let’s say, for example, that you expect the market to decline and decide to short AMZN. Today, the weekly chart (not shown) is in a downtrend, and the two recent downdrafts on the dailies show the growing power of bears. The shorting idea makes sense, but let’s take a look how rushing to make money from this idea can hurt a beginner.
Figure 1-05, AMZN daily
At the right edge of the chart, AMZN closed at $192, in its value zone. Do we short it right here? Do we wait for MACD-H to tick down? Do we give the stock a chance to rally above its longer EMA (the yellow line) at $196 and short there? The target would probably be near the lower channel line at $184. There are lots of choices to be considered. If, instead of planning, you rush to trade a few hundred shares – hey, let’s make some money! – then AMZN, which can easily swing $8/day will give you several thousand dollars of equity fluctuation per day. The sheer tension of such equity swings, whether up or down, will subvert your learning process.
What if you decide to take time learning to short and allocate $100 of risk to each trade, with a plan to raise it to $200 after 10 trades if things go well? This will mean shorting a single share of AMZN, then tracking and managing that trade, milking every drop of educational value from it. You’re not going to make much money if the trade is successful, nor lose much if it bombs out. Your small stake will allow you to concentrate on quality, on learning the new skill.
Focus on learning, use small money, and the big money will follow. Return to the Top
TECHNICAL ANALYSIS
Every trader needs a method of analysis and a plan of action. SpikeTrade members use a variety of methods, but the most popular one is technical analysis. Of course, the field of technical analysis is huge, with a great variety of techniques. The market puzzle can’t be cracked with a single indicator – you need more than one tool. Be careful not to drown in a vast pool of available techniques and indicators. Each of us needs to select a handful of tools that make sense and that fit our temperament and trading style.
Less is more in market analysis. Clarity and consistency are hugely important – they beat complexity any trading day. These are the premises from which we answer our members’ questions.
CHOOSING INDICATORS
A Member from California writes: “I’m a new member of SpikeTrade and I’ve been studying like a madman! I am currently using price, Bollinger Bands, MACD and Stochastic oscillators to provide signals in my day-trading. Do you have any other recommendations for day-trading indicators?”
Dr. Elder replies: There is no ideal set of indicators. We choose them depending on personal preferences and then fine-tune their parameters. A beginning trader may track a larger number of indicators, but as time goes on, I suggest keeping that number under six. Let me show you what I use:
Figure 2-01
1. A set of two EMAs helps identify value 2. An envelope helps identify manic or depressive episodes in any market 3. MACD Lines and Histograms help track the power of bulls and bears. 4. Force Index in two timeframes – longer to identify the current trend and shorter for tuning entries and exits.
I could not resist marking beautiful buy and sell signals, given by MACD divergences – they are marked by diagonal arrows. I also marked false breakouts from support and resistance.
You seem to be using a good set of indicators, although I prefer straight envelopes to Bollinger Bands. They are good only for options trading because both Bollinger Bands and options are driven by volatility. Try a few more indicators, play with their parameters, and gradually you will find what works for you.
MUST USE MULTIPLE TIMEFRAMES
A Member from California writes: “Today I was watching TZA when I saw a divergence between price and MACD-Histogram on the 5-minute chart around 12:35. As soon as the histogram ticked up from the low I placed a buy order. However, the price only went up very little, then started a steady decline. You said that the MACD divergence should not be the only indicator for decision-making. I was wondering which is the best indicator to use together with MACD-Histogram, so I don't repeat this mistake.”
Dr. Elder responds: As you noticed, using a single indicator in a single timeframe will not work. No matter what single indicator you use with a five-minute chart (or any other timeframe) – MACD, moving averages, RSI, Stochastic, channels, you-name-it – over a period of time you will lose money with each and every one of them. Brutal but true.
Why?
Because markets always move in multiple timeframes at the same time. The 5-minute chart is just a ripple, but what about a wave on the chart of the next order of magnitude, a 25-minute or a 30-minute chart? Your trade on a 5-minute chart must be in gear with the longer-term timeframe, otherwise that timeframe will flip over your ripple – as happened to your TZA trade on Tuesday.
I am a great believer in analyzing markets in multiple timeframes. Make your strategic decision to go long or short on the longer-term chart, execute on the shorter-term chart.
As a swing trader, decide to be a bull or a bear on the weeklies and then execute on the dailies. As a day-trader, decide to be a bull or a bear on a 25-minute chart, execute on a 5-minute chart. Kerry, by the way, prefers a different pair – he makes his strategic decisions on 39-minute charts, executes on 8-minute charts (notice that he uses the same ratio – about 5 to 1).
Spend some time looking at many trades featured in our A&K Journal, and you’ll see multiple examples of this approach. Remember: make a strategic decision on the longer-term chart, tactical on the shorter-term chart, and keep the ratio between them at about five to one.
NEW HIGHS – NEW LOWS
A Member from Europe asks: "Why do you track both weekly and daily New High – New Low? Which is more important?"
Dr. Elder replies: Markets are complex, and you need more than one tool to become a winner. Markets move simultaneously in multiple timeframes – and we need to use more than one timeframe for our analysis. I suggest making strategic decisions on the long-term chart and then turning to the daily chart to make tactical decisions (I call this Triple Screen trading system).
Since my favorite timeframe is the daily, this means that before looking at a daily chart I must analyze the weekly chart of the same market and make my strategic decision there. Then I switch to the daily chart for tactical purposes – to sharpen the message of the weekly chart.
Figure 2-02 NH-NL weekly and daily
For example, let us review this set of NH-NL charts. The weekly plot on the left is well above its zero line – bullish. A recent peak of weekly NH-NL has risen above 2,500, confirming a bull market. At the same time, the daily NH-NL showed a suspicious downtick – it is losing strength. Taking the two together, we come to a conclusion: “we are in a bull market, but with the strength dissipating we’re nearing a pullback: be sure to tighten your stops.”
This is how weekly and daily charts work together.
BUY DEPRESSION & SELL HAPPINESS
A Member from Australia writes: “In today's post, Alex mentioned: ‘Happy markets fall and frightened markets rise.’ It would be much appreciated if you could expand on the crowd psychology behind this statement.”
Dr. Elder responds: Your question goes to the heart of how markets work. The amount of money that can be thrown at any given stock is somewhat limited by competition from other stocks. As bulls push up a stock, they eventually start running out of money. Early bulls start taking profits and clever short sellers appear on the scene, creating a top. As growing numbers of bears push a stock down, they eventually shake out weak buyers until only strong holders remain. Early shorts start covering, smart bargain hunters appear on the scene, and a rally begins.
The optimism is at its highest at the tops and pessimism is at its deepest near the bottoms. That’s why peaks of optimism signal potential selling opportunities and bottoms of pessimism potential buying opportunities. The majority of traders may be correctly positioned during market trends, but the majority always misses market turns.
Let us look at a few recent examples …
Figure 2-03 AAPL daily
One of the simplest tools for identifying excessive optimism or pessimism is an envelope or a channel. Take a look at this daily chart of Apple Computer (AAPL) with Autoenvelope (drawn using an elder-disk for TradeStation). Between January and May the stock fluctuated in the $325 - $360 range. Autoenvelope clearly showed when the crowd became overly optimistic (above the upper channel line) or pessimistic (below the lower channel line). A calm and disciplined trader has several tools at his or her disposal to identify such extremes and trade against them.
Figure 2-04 RIMM 25-minute chart
Channels help identify the areas of extreme optimism or pessimism in all timeframes. Here’s a 25-minute chart of RIMM which was my stock pick last weekend.
Some technical tools help us identify trends, while others mark the extremes of public optimism and pessimism. Some people like to follow trends, but my preference is to trade against the extremes. Markets oscillate between extremes of optimism and pessimism. If we can identify those extremes, then we can buy upside reversals at market bottoms and sell or sell short downside reversals near the tops.
Prices reflect mass consensus of current value, while some of our indicators reflect the power of market moves. When the emotion gets high but power of the trend falls, it is time to get ready for a reversal.
Figure 2-05 DJIA weekly
This weekly chart of Dow Jones Industrials had reached an all-time high in October 2007 – that was the peak of mass happiness. A week later MACD-Histogram and MACD Lines ticked down. Their massive bearish divergences – lower indicator peaks while prices rallied to a new high – were saying, in effect, that was a fool’s happiness. One of the worst bear markets of a century followed…
In March 2009 the Dow fell to its lowest level in nearly two decades. The masses were not merely frightened – they were terrified. A week later MACD-Histogram and MACD Lines ticked up, as did Force Index. They all completed bullish divergences – higher indicator bottoms during lower bottoms in prices. That was a sign that the fearful were wrong and it was a buying opportunity.
One of the key goals of SpikeTrade research is to identify situations in which mass hysteria is pointing one way while reality points in the opposite direction.
LIVE DATA
A Member from Quebec asks: “In order to achieve better entries and exits, should I use real-time data?”
Dr. Elder replies: Think of real-time data as a double-edged knife (sharp at both edges). It can be useful, but dangerous to handle.
The risk is mostly psychological. A beginning trader who is just learning to trade is often seduced by real-time data into impulsive actions. It is much safer to learn how to make your first steps using end-of-day data. For an experienced trade, live data is very useful.
DEFINING TRENDS
A member from Illinois writes: “What’s the best way to determine trends, especially the current trend?”
Kerry replies: The basic structure of an uptrend is a series of higher lows. The basic structure of a downtrend is a series of lower highs. Keep this in mind, and you won’t get lost in the thicket of various indicators and intraday charts.
Figure 2-06 SPY daily
It pays to look at the market stripped down to its simplest form. Let’s take a look at a chart of closing prices only, but smooth them with a simple 3-bar moving average (SMA).
This is a chart of SPY, an ETF of the S&P500. I have removed all information except the 3-day SMA. The line is colored green when rising and red when falling.
When SMA turns red, I mark its high point with an H. When it turns green and begin to rise again, I mark the low with an L. If it turns down without reaching the previous high, I marked that point LH, indicating a lower high. If prices continue to make lower highs, the market is in a downtrend. A new uptrend can only form when prices can make a higher low, marked with HL. There are times when a higher high forms first after a low is made. I marked these instances with an HH.
At the bottom of the chart I shaded the timeline on the basis of these formations: green when the market was in a confirmed uptrend and red when it was in a confirmed downtrend. At the right edge of this chart the S&P500 is in a downtrend. It recently made a higher high but has not yet formed a higher low to confirm a trend change. Trends can last from a few weeks to many months.
Until the market can form a higher low it cannot be in an uptrend, while the market that cannot form a lower high cannot be in a downtrend. Now, if we could only know the expected duration of these trends, trading would be simple.
DIVERGENCES
A Member from Australia asked for a definition of divergences and how to trade them.
Dr. Elder responds: In technical analysis, a bullish divergence occurs when prices trace out a negative pattern, while some important indicator traces out a bullish pattern at the same time. It indicates that bulls are stronger than they appear and an upside reversal is likely. The key word here is ‘likely.’ It is not ‘certain,’ and you must use proper risk management, in case this signal fails. Divergences do not fail often, but you can never take them for granted.
Figure 2-07 GOOG daily
This daily chart of Google (GOOG) shows that at point A, prices fell to a new multi-months low and so did the indicator, MACD-Histogram. In area B, this indicator rallied above its centerline. I call such crossovers ‘breaking the back of the bear.’ Once I see such a crossover, I begin watching that stock on a daily basis, waiting for the indicator to decline below zero again and then show an uptick. At point C GOOG fell to a new low, but MACD declined to a more shallow low and then ticked up, completing a bullish divergence. It gave a signal to go long, with a stop below the latest low.
Figure 2-08 AMZN daily
A bearish divergence occurs when prices trace out a higher top, while an important indicator traces out a lower top at the same time. It indicates that bulls are weaker than they appear and warns that a downside reversal is likely.
This chart of Amazon (AMZN) shows a confirmed uptrend at point A, with prices and MACD rallying in gear with each other. At point B, prices retreat and MACD-Histogram falls below zero, ‘breaking the back of the bull.’ At point C prices rally to a new high, but MACD rises to a much lower level. When it turns down (marked by a red arrow), it completes a bearish divergence and flashes a sell signal: let’s go short, with a stop above the latest high.
Pay attention to the point B on both charts: MACD-Histogram must cross its centerline between the two bottoms or the two tops. If there is no crossover, then there is no divergence.
Figure 2-09 Shark warning
In conclusion, I want to share with you this photo, sent from Hawaii by a long-term Member. Let it remind us that no matter how attractive a pattern, no matter how confident you feel, you still need to protect your positions with proper stop-loss orders.
LONG-TERM TRADES & DIVERGENCES
A Member from Moscow writes/: “How would you manage a long-term long trade when a bearish MACD divergence appears on the weekly chart? How to evaluate the odds of the upcoming decline being a pullback or a reversal? How should that situation be handled?"
Kerry replies: The answer depends on your long-term plan. A trend-follower should be willing to follow the trend until it ends. A swing trader will aim to exit before a pullback. You need to decide when you enter a trade whether you’ll hold it like a trend trader or jump like a swing trader.
If you plan to hold until the trend ends, then do not even attempt to identify a top. A divergence does not necessarily mean the end of the major trend. No technique can tell us which divergence will end a trend and which will only produce a pullback.
A negative divergence says that the upward momentum is becoming exhausted and the probability is high that a pullback to or below the average is likely to occur. Prices may also fall precipitously and break the trend. We may use a simple tool, such as the slope of a 200-day moving average, to identify trends.
Figure 2-10 BIDU weekly
Let’s take a look at a weekly chart of BIDU with a 200-day MA. We can see four bearish divergences that formed since BIDU crossed above its 200-day MA. Each produced a pullback (highlighted in yellow), but the trend continued until recently, when prices pulled back, then failed to make a higher high, and then closed below the 200-day MA. The uptrend began to end when prices failed to make a higher high and was confirmed ended on a close below the 200 MA, when prices made a lower low.
Have a clear idea what type of trader you are: trend follower, swing trader, a trend or a countertrend trader, etc. Then select tools that best fit your style. There are many ways to define trends. Select an approach with which you’re most comfortable and which fits your risk tolerance.
A swing trader may be shorting divergences for a move back to value, while a trend follower will be willing to embrace the drawdown in order to stay with the trend until it ends.
IMPULSE SYSTEM TOLERANCES
A Member from New Hampshire writes: “For the Elder Impulse signals, we look at changes in the exponential moving average and MACD-Histogram. Is there a tolerance you use to define a meaningful change for each?”
Dr. Elder replies: The Impulse system is a censorship system. It doesn’t tell me what to do but rather what I’m not allowed to do. I select trades based on my favorite signals, such as false breakouts, divergences, and especially false breakouts coupled with divergences. When such patterns begin to develop, I wait for the change of color of the Impulse system simply as a release mechanism.
If I want to buy a false downside breakout, I am not allowed to go long while the Impulse is red. I wait for it to change from red to blue (‘to go off red’) – and then hit the order button. It works most of the time, although nothing works 100%. Waiting for the Impulse color to change, I sometimes feel like a dog on a leash, waiting to be released for an attack. Adding a filter to the Impulse system would only delay me and cost me more than it would save.
NH-NL – HOW DID THE SPIKE GROUP GET ITS NAME?
A member asks about the origin of the SpikeTrade name.
Dr. Elder replies: A spike is an extreme data point, far out of the normal range of numbers. Several years prior to the formation of our group I discovered the “Spike signal” on the charts of the New High – New Low Index. NH-NL is the best leading indicator of the stock market, and the Spike is its most reliable buy signal. This is why, when forming our group, I chose the name that represented something exceptional and far away from the usual.
If you’re interested in the New High – New Low Index, you should read the e-book Kerry and I wrote and published in 2012. You can also read our nightly commentaries on NH-NL at SpikeTrade.com. If you’re new to the NH-NL, here’s a brief summary.
New highs are the leaders in strength, while the New Lows are the leaders in weakness. The daily New High – New Low Index equals new highs minus new lows for the day. The weekly New High – New Low Index is the sum of the previous five days’ NH-NL, which allows us to calculate it every day of the week.
One of the best tools for identifying an unsustainable level of depression which occurs only at major stock market bottoms is the NH-NL spike. Whenever the weekly NH-NL falls below minus 4,000, it identifies a great buying opportunity. What is unique about this rule is that it works in both bull and bear markets.
What is the rationale behind this rule? A minus 4,000 reading of weekly NH-NL reflects a huge paroxysm of fear and dumping shares. In order for the weekly NH-NL to drop to minus 4,000, the daily NH-NL must fall to at least minus 800 for five days in a row. That reflects an extreme panic level. Huge numbers of stocks hit new lows because there are tons of sellers and not enough buyers. When the weekly NH-NL drops to -4,000, a flashing light comes on – it is time for us to step in and perform a social service – buy stocks from the poor souls who keep dumping them and cannot find enough buyers. The upturn is around a corner.
Figure 2-11 NH-NL weekly
For example, after the ‘tech bubble’ burst in 1999-2000, a vicious bear market began. As it hurtled towards its low in July 2002, the weekly NH-NL fell below -4,000. The rally began the following week, lasted for four weeks and saw the S&P rally 20% from its low.
After that rally the S&P slid again, falling seven points below its July low in October. The weekly NH-NL spiked below -4,000 again, giving a new buy signal. This rally lasted twice as long, for eight weeks, and lifted the index 24% off its low. At the final bottom of the 2000-2003 bear market there was no Spike but a bullish divergence which we reviewed in Series 1.
Notice another very worthwhile buy signal, the one that works only during bull markets. When the weekly NH-NL declines to a minus 1,500 during bull markets, it identifies a minor panic and a high-quality buying opportunity. You can see three of these signals marked by purple vertical dashed arrows. They do not occur at every bottom, but whenever the weekly NH-NL falls below -1,500 during a bull market, it gives a very worthwhile buy signal. We always announce such signals in SpikeTrade posts. Return to the Top
OTHER METHODS & MARKETS
SpikeTraders use a wide range of methods, not limited to technical analysis. Longer-term traders tend to value fundamental analysis, and we answer their questions, as well as questions about many other methods.
At the time of this writing our trading competition focuses on US-listed equities, but we know that many of our members are interested in other markets as well. While adding other markets to the competition may occur later, we keep sharing our knowledge about such markets as we answer our members’ questions.
FUNDAMENTAL ANALYSIS
A member from Spain writes: “How much weight does fundamental analysis have in a medium- term trade? It looks almost irrelevant for intra-week trades, except for earnings reports, of course.”
Kerry replies: The shorter the timeframe, the less relevant its fundamentals. The longer the timeframe, the more important it is to have a sound fundamental story behind that stock.
For example, in some stocks I like to swing trade two thirds of my position and trend follow the remaining third. Because of that I’m looking for stocks that may trend for months or years. These companies need to have good fundamentals and a good story.
I like having a basket of 10 stocks that I like fundamentally and believe they will be leaders for years to come. Some of the criteria I look for are low debt, good cash flow, a good story behind the company, and its leadership of an industry. If I know something about the management, all the better. A good example for several years has been Apple.
Figure 3-01 AAPL weekly
AAPL has been a strongly trending stock for most of the past seven or eight years. Since the 2009 bear market lows it has held a steady uptrend. One day it’ll break it and the story will no longer be what it is today. All good trends must come to an end, but until then I want to try and ride these trends.
In summary, if you’re day-trading or swing trading for a few days, the fundamentals are less important. If you’re looking to ride a long-term trend for several months and years, then you want to have a good fundamental story behind that stock.
Remember that the chart will deteriorate and weaken before the fundamental story changes drastically. Find good companies with a good story and use technical analysis for timing your entries and exits. You will catch the change of trend before the fundamental story changes. All good long-term trends form with a good fundamental story but not all good fundamental companies trend well, which is why chart reading is critical.
[This message was posted in 2011. Between April and October 2012 Dr. Elder and Mr. Lovvorn made multiple posts in SpikeTrade and published a series of articles at Marketwatch.com identifying the top in Apple and repeatedly recommending shorting – Editor.]
EARNINGS RELEASES
Two questions, with contradictory views came in recent days.
A Member from Quebec writes: “My pick PMCS was going in my direction, I entered at 7.25 and exited at 7.39, to avoid holding during an earnings announcement. After the announcement the stock gapped up and opened at 8.10, I left a lot on the table...”
A Member from Austria writes: “Some time ago I was caught in an earnings release of CSCO as I overlooked that date. That loss hit me badly, and it took some time to get over it and continue trading.” He added a chart (see below).
Figure 3-02 CSCO intraday.
He continued - “As earnings were released and crazy folks moved in, there were 35 minutes of greed, followed by 25 minutes of fear. Do you think CSCO had $3.9 billion more value at 16:35 compared to the market close?”
Dr. Elder replies: The arguments for getting out of a stock before earnings or holding through earnings never end. There were times I have gotten out before earnings and others when I held. There were times when I benefited from the earnings and at other times I have been hurt by the earnings (more often than benefited).
Now, I tend to get out before earnings. Why gamble? The only situation in which I may hold into earnings is a very cheap stock that I think is making a major bottom. It has already fallen so far, not much risk left.
But overall, if you want to run your trading account as a business, I think it is generally better to get out. And have no regrets. Regrets are such a useless, corrosive force. Be happy with your gains and move on.
By the way, there are several websites where you can check when any company is scheduled to make its earnings announcement. I like Earnings.com and you can also use Briefing.com and Finviz.com
FIBONACCI
A member from Florida writes: “I’ve been experimenting with the use of Fibonacci retracement lines to measure support and resistance levels. Can you comment on your view and use of the Fibonacci retracement and fan lines?”
Dr. Elder replies: I am very skeptical about Fibonacci. Years ago I researched those numbers, ratios, and retracements. Going through any chartbook, I could find a number of spectacular examples when these numbers worked – and a hugely greater number of instances when they didn’t. Throw enough lines on any chart, even simple horizontal lines, and some turning points will occur right on those lines…
I think that trying to use Fib numbers to anticipate support or resistance is based on a premise that there is a hidden order in the markets and that someone who finds a key can unlock it. I think this is a fantasy: ‘the hidden order’ is wishful thinking.
DAY-TRADING
A Member from Australia writes: “Do you consider a daily chart for day-trading or only 25- minute and 5-minute charts? Do you wait for Impulse to turn blue on the short-term chart? Could you please comment on your management of such trades?”
Dr. Elder replies: First of all, day-trading is NOT the primary focus of SpikeTrade.
Still, many members day-trade, and both Kerry and I do it when circumstances warrant. When Kerry and I ran our Live Trading workshop recently in Alabama, both of us day-traded, each making three trades. Very pleasantly, all six were profitable, even though one of us was bullish on the stock market, while the other bearish (we were buying and shorting e-minis) – proving once again that trade management is more important than trade selection.
Figure 3-03 Euro/dollar daily
Let me share with you one of several day-trades I did yesterday, buying the Euro currency futures.
I usually begin by glancing at the daily charts, looking for extreme points. For example, the previous night I thought the Euro was struggling after its rally to the value zone and I used intraday charts to short it in the night market. After becoming sleepy, I covered, took 10 ticks profit, and went to bed. The Euro crashed that night while I was dreaming sweet dreams – but in the morning it appeared vastly oversold and ready for a bounce (both situations are marked on the chart). To repeat: the daily charts help me orient myself, similar to what monthly charts do for swing trading.
Figure 3-04 Euro/dollar 25-min
The 25-minute chart – my long-term screen – showed a wild decline below the lower channel line. The angle of that decline had diminished, and when the Impulse System turned blue, it gave me permission to buy. Then I turned to the 5-minute chart. [Notice a gorgeous bullish divergence near the right edge – it prompted me to get long again]
Figure 3-05 Euro/dollar 5-min
When the 25-minute chart gave me permission to buy, the 5-minute chart showed a set of bullish divergences. I went long at 1.3575 and sat through a period of bottom-building with a stop 11 ticks below the latest low, a fairly wide stop. My target, set on the 25-minute chart, was slightly above value, at about 1.3625. When I saw the 5-minute chart starting to stall, I decided not to be greedy and sold at 1.3605.
That was just one of several day-trades I did yesterday, all of them in Euro. You certainly do not have to be a day-trader to be in SpikeTrade, but this kind of game is good for sharpening one’s skills for swing trading. I don’t day-trade often, but use these skills for entering and exiting swing trades. If this sort of trading appeals to you, perhaps one day you’ll join Kerry and me in one of our live trading workshops.
INDUSTRY GROUP CHART
A member from North Carolina writes: “How are the up changes and down changes configured on the Industry Group chart? Do the down changes of -175 foretell a continued decline?”
Kerry replies: Industry Group charts are a unique weekly feature of SpikeTrade. We apply the Impulse system to 239 Industry Groups & Subgroups in TC2000 software and compare the numbers of green (bullish), red (bearish) and blue (neutral) groups. This helps us gauge the strength or weakness of the market.
Figure 3-06 Industry groups & subgroups
The minus 175 reading means that the number of bearish groups and subgroups exceeds the bullish number by 175. It reflects the power of bears and suggests that the low of that week is likely to be exceeded. It doesn’t forecast how low prices may go. The market tends to form a bottom within a few weeks of a minus 175 reading.
A downmove rarely ends with a -175 reading. We typically see a violation of that low and then a tradable bounce. When a subsequent decline bottoms out at a higher level than minus 175, that divergence calls for a bottom. We typically see a washout of price lows with fewer than -175 down changes, usually fewer than -100. A subsequent uptrend is confirmed by more than 175 up changes.
When I see a -175 reading for the week, I expect those price lows to be violated. I use any intraday bounces or rallies to look for shorting opportunities.
THE DEVIANCE OF MANY ETFs
A trader from New Zealand writes: “I’ve been looking at some of the smaller indexes such as LIT (lithium), SLX (steel) and URA (uranium). Are they based on underlying stocks or are their values created by the market and take on a life of their own? I would like to work on a strategy based on measuring component stocks, but this would be of no use if the value of the index is not based on underlying stocks.”
Dr. Elder replies: First of all, let’s be very clear about terminology: what you call ‘indexes’ are actually ETFs (exchange traded funds). The indexes reflect baskets of relevant stocks, but this does not always apply to ETFs, which are created by private firms ostensibly to track those indexes. Some of them do, while others move scandalously differently from underlying indexes.
Figure 3-07 VIX index and its ETF
For an egregious example of an ETF not tracking an index, take a look at this chart of Volatility Index (VIX, on the left) and the ETF that is supposedly tracking it, VXX. Compare their bottoms and the tops. Their discrepancies scream at you from the charts.
Figure 3-08 Japan index and ETF
Take a look at another scandalous pair – the Nikkei Index of the Japanese market and the EWJ (Japan ETF). Compare their highs and lows as well as their actions during the Fukushima disaster (blue arrows). Would you trade EWJ as a proxy for Japan? I wouldn’t. I used to trade it and made money on it, but set it aside after becoming aware that the ETF has only a remote relation to reality.
Some traders will say – but there are good ETFs. Undoubtedly – but looking for them would be like looking for a clean book among many dirty ones. Why not go to the shelf with clean books?
PS: after this post appeared, I received a message from a Member in Tallinn, Estonia: “Hello Alex,
I would like to add some comments about VXX. I found out that VXX is actually not an ETF, but ETN (Exchange Traded Notes). But the main reason why VXX is not 100% tracking VIX, because it's not an index tracking instrument, but a short-term futures tracking instrument. VXX short-term moves are correlating with VIX, but in the longer run this correlation vanishes.
It is essential to understand the composition of every instrument and how its price is formed. It may be easier to understand and trade single stocks than complicated ETFs and ETNs. But if you are an experienced trader and want to take advantage of the spike in volatility in the next 1-3 days, then VXX may be the right choice.“
TRADING FOREX
A member from New Jersey writes: "When US equity markets are uptrending, position sizing and trend following strategies work well. When markets are choppy or downtrending, such strategies are a lot of work for little return. Shorting seems to have a different logic which does not work so well with my current technical tools. Would it make sense to find another market, uncorrelated with equities and play it using our technical tools until conditions become more favorable in the US equity market? How about currencies? They’re a totally different market with loads of liquidity. Any thoughts?"
Dr. Elder replies: I think currencies are quite tradable, if you keep several important points in mind. Currency futures offer a clean and transparent market, quite different from the horrors of ‘forex houses.’ You have a choice of futures contracts for all the major currencies and even mini-contracts for the Euro and the Yen.
Keep in mind that currencies trade around the clock. The bulk of trading takes place when you’re away from the screen. These markets lend themselves well to day-trading but are more challenging than stocks for position trading.
If you keep these points in mind, you should be able to transfer your stock trading skills to this market. As always, trade a small size in the beginning while you learn the ropes.
FOREX RESOURCES
A Member from California writes: “Can you recommend good books on Forex trading? I am doing OK in the stock market, but I tried some forex trading and wow, it's a very different animal. High leverage allows for high gains and losses... I have a few questions:
1) forex can move very quickly, do you make your trades very short? like day-trade? 2) they allow 40x leverage, but how much leverage is prudent to be on the safe side? 3) when trading stocks, I am looking at weekly and daily charts... in forex, I tried using 15-mins and 30-mins. Please let me know what time frame you normally use for forex?”
Dr. Elder replies: First of all, I am sorry to say that there is not a single book on trading forex I can recommend. I asked SpikeTrade members the same question, and received not one single recommendation.
Second, I stay as far away as I can from forex houses. I think that ‘industry’ is a hotbed of dishonesty, basically bucketing orders, not transmitting them anywhere, betting against their clients. Even though I speak at conferences worldwide, several years ago I stopped accepting invitations from forex firms, to protect my good name.
At the same time, I love trading currencies, and do it often – using currency futures. I always have the Euro and the Yen futures in my quote window. I use my TradeStation platform to trade them and do full-size contracts. They also have mini-contracts, which are safer for learners. Read Angell’s ‘Winning in the Futures Markets’ – a good intro for beginners.
With all this crazy volatility, I rarely carry my currency futures trades overnight – the bulk of them are day-trades. I use 25-minute charts for my long-term view and 5-min for the short-term.
Let me show today’s Euro futures charts which I watched although did not trade (I was busy day-trading the S&P e-minis and do not like having two day-trades going on at the same time).
Figure 3-09 Euro/dollar futures, 25-min
The 25-min chart offers strategic guidance – to be a bull or a bear. I like to short when I see an upmove starting to choke up.
Figure 3-10 Euro/dollar futures, 5-min
The 5-min chart shows a bearish divergence, an excellent shorting signal. There were two good profit-taking zones: the first near value, when the 5-min Impulse went from red to blue, and another one near the lower channel line.
Be sure to keep a diary of your trades and make it your learning tool!
DARK POOLS
A Member from California writes: “I’m confused about the benefits and risks of so called "dark pool" trading platforms. Would you please give a brief outline of the advantages vs. the disadvantages of using so called "dark pool" venues?”
Dr. Elder replies: Having lived in these markets for more decades than I care to count, I’m keenly aware that once every few years a new magic method emerges. It promises, for a fee, a revolutionary, modern, scientific, technologically superior, never before available tool. That tool allows one to rise above the unwashed masses and profit in the markets.
The latest magic method one hears about these days is “dark pools” (what a great name – someone had real flair for marketing).
All of these magic methods eventually become discredited and fade away: Elliott Wave, portfolio insurance, neural networks, black box trading, etc, etc.
So I do not worry too much about light pools or dark pools or even medium pools, because history tells me that soon they’ll be drained.
This morning I saw an article in The Wall Street Journal:
“Trust in all dark pools takes a hit as the industry reacts to SEC charges.
Buy- and sell-side firms are wrestling with the revelations that dark pool operator Pipeline Trading Systems filled the vast majority of customer orders through an affiliated trading entity that it owned – and not by matching against other customer orders, as advertised. The controversy not only raises questions about Pipeline's operating model, but also about the routing and business practices of dark pools in general, which match buy and sell orders away from the public markets.” It looks like pool marketers themselves have been scammed. Beware of magic methods! Return to the Top
ENTRY AND EXIT TECHNIQUES
As the duration of A trade becomes shorter, your entry and exit techniques become more important. An investor whose holding periods are measured in months or even years may not care whether he buys or sells near the high or the low of the day. For a short-term trader, the quality of entry and exit may well spell the difference a between winning or losing trade.
The duration of one round in SpikeTrade competition is a week. Some members carry their trades for multiple weeks or even months, but most are in and out within a week and are highly interested in entries and exits. We receive a fair number of questions about these techniques – and answer them for our group.
BUY TRIGGERS
A member from California writes: “Kerry refers to his V-1 trigger. Could you explain what it is?”
Kerry replies: I call my favorite entry technique a V-1 Buy Trigger. It occurs when price moves below the prior bar’s low, reverses, and moves back up, above the prior bar’s close. It leaves behind a false break of the prior low.
Figure 4-01 V-1 buy trigger
Please remember that I don’t buy simply because of the V-1 trigger – it is the final step in taking a trade. For example, if I find a stock in a squeeze [described below – Editor], I only buy after I get my entry trigger – either V-1 or V-2 combo trigger, shown below.
Figure 4-02 V-2 combo buy trigger
A V-2 combo trigger creates a similar pattern, but it takes three bars rather than two. The second bar breaks the low of the first bar, and the third bar closes above the close of the first bar.
These aren’t theoretical charts. The V-1 example above is a weekly V-1 buy trigger for AAPL. The V-2 buy combo trigger shows a signal for BIDU on a weekly chart. Of course, these triggers can be found in all timeframes – from weekly to daily or even intraday.
These V-1 and V-2 triggers save me from jumping into a trade too early. They show when sellers have become exhausted and buyers attempt to push prices back up. I used to have a bad habit of buying too early and found V-1 and V-2 by searching for patterns that tell me when it may be the time to buy.
Of course, these triggers don’t guarantee a winning trade; they also can fail, but I found that they keep me out of a lot of losing trades and help guard against overtrading.
In addition, these triggers help identify sensible risk levels for placing stops. If a trade is going to work, it isn’t likely to drop below the low of the second bar, suggesting a logical spot for placing a stop.
ENTRIES IN THE FIRST 30 MINUTES OF TRADING
A Member from England writes: “I’m a big fan of the V-1 trigger. I prefer not to trade during the first 30 minutes after the market opens, but the V-1 trigger often seems to occur in the first few moments of a trading day. Please comment on whether these early triggers should be trusted.”
Kerry replies: I enter all my trades following a price pattern I call a trigger; my favorite is a V-1 Entry. It occurs when prices trade below the prior bar’s low, then reverse and trade above the prior bar’s close, leaving behind a false downside breakout.
I prefer not to enter trades within the first 15 to 20 minutes of the day. If I get a price entry trigger during that time, I tend to ignore it unless the washout of the prior bar’s low has been extreme. I follow only the most compelling V-1 triggers during the first 15-20 minutes. Let’s review an example, using a 5-minute chart.
Figure 4-03 V-1 trigger on a 5-min chart
The first 5-minute bar of the day washed out the previous day’s low, raiding the stops. It also occurred near the bottom of the channel, indicating an oversold condition. The 4th bar of the day closed above the previous day’s close, completing the V-1 trigger and signaling an entry.
If I see a clear violation of the previous low and not just a cent or two, I’ll take the V-1 entry trigger soon after the opening, especially if the longer charts are near significant support. I love entering after an attempted break of a support level. That’s where many stops get washed out, getting rid of weak holders, and now prices can rise with greater ease.
We saw this action this morning in the S&P500 (SPY)
Figure 4-04 SPY 15-min
The opening washed out stops and created a short-term oversold condition. When prices bounced back above support, they triggered an entry into a long trade.
TIMING AN ENTRY
A member from Ohio writes: “Regarding the V-1 trigger in day-trading, do you wait for the entire 39-minute bar to be completed and the V-1 to be "official" or, as you see it setting up, do you look for the entry on a shorter-term chart? I find that if I wait for the V-1 on the longer timeframe chart to be complete, I miss quite a bit of action on the shorter timeframe.”
Kerry replies: The question is: how much information one needs to execute a trade. When monitoring 39- minute bars, the closer to completion the better. I definitely don’t want to take an entry on the first few ticks. This is a matter of finding your preferred balance, and I don’t have a hard and fast rule for this. It’s part of my discretionary approach to trading. At times I get the balance right and others I fall off the balance beam. Over time you develop a feel for what seems to be the right balance.
Figure 4-05 S&P e-minis, 39-min
Whenever I see a potential trigger forming on a longer-term chart, I try to visualize what must occur in the shorter timeframe to help complete that trigger. For example – if the 39-minute bar begins to form a sell trigger, I turn to the 25,000 share bar chart, where each bar is formed by 25,000 shares traded, usually a few minutes.
Figure 4-06 S&P e-minis, 25,000-share bars
If the trend of the shorter timeframe is down, I know that it must continue and not reverse into an uptrend. If the trend of the shorter timeframe is up, then I must see it form a lower high before taking the trade. The sell trigger cannot confirm on the 39-minute chart if the shorter timeframe does not break into a downtrend.
I use the Triple Screen method to understand what must form in one timeframe in order to move the higher timeframe. If the shorter timeframe takes a different turn, it is time to recalculate.
Use the Triple Screen approach (introduced in Alex’s book Trading for a Living) to understand what one timeframe must do for the other timeframe to continue in the direction which will trigger your entry. This will not guarantee a successful trade but it will keep you from entering prematurely and increase your odds of having a winning trade.
BREAKOUTS FROM LOW VOLATILITY
A member from California writes: “Ever since you discussed trading breakouts from very tight consolidations, I’ve been watching for stocks where the price action and MACD lines really dry up and flatten out. Have you found it makes a great difference if the MACD lines consolidate just above or just below the zero line?”
Kerry replies: When prices trade in a tight consolidation for a while, the momentum diminishes and MACD flattens out. Volatility runs in cycles, and the Squeeze play is a strategy that aims to catch sharp moves that emerge from periods of low volatility. This is why I eagerly follow low volatility setups.
Figure 4-07 XOMA daily
When searching for low volatility setups, it pays to compare that market’s recent Average True Range (ATR) to its historical ATR. The flatness of MACD confirms that the market’s gone flat and its pulse has slowed. It does not necessarily help identify whether the break will be to the upside or to the downside. The position of MACD above or below its zero line doesn’t help with this.
WHAT’S A GOOD TIME TO SELL
A member writes: “What’s a good time to sell your position?”
Kerry replies: Successful trading calls for having a plan that includes much more than simply an entry and an exit. You need to have an idea of how your trade should unfold. What’s the path this trade should take to arrive at its estimated target? Since I’m a huge believer in trade plans, my first sign to sell comes when a position is no longer working according to my plan.
Say we want to buy Dolby Laboratories (DLB) for fundamental reasons. This company plays a major role in developing and licensing technology for much of the audio equipment we buy and which is used in most cinemas. DLB is a leader in its field, sits on lots of cash and has virtually no debt. Its founder holds a majority stake in the company – there is true ownership there.
In that case we would need to sell whether the story changes in a major negative way. Have a plan of action if the founder no longer owns this company. If he dies and new management abruptly has to take over, you should be ready to sell [this is what recently happened with Apple Computer – Editor]. If DLB begins to deplete its cash reserves and goes on a debt binge, it’ll be a sign to sell. Same if it loses its patent on a major product or loses its leadership role to a new competitor. Technical analysis will allow you to see the signs of trouble on the charts before the fundamental story is known by the masses. Let’s look at technical signs which suggest selling.
Figure 4-08 DLB daily
DLB’s product, management, and lack of debt translate into positive technical signs. This daily chart shows that DLB recently bottomed out, with a retest of support after a washout. Its daily trend has changed from down to up. Let’s say we buy at the right edge of this chart. What will be our exit plan? We’ll know it’s time to sell when the reasons why we wanted to own the stock begin to change.
The stock will fluctuate, but its general uptrend must persist. If we bought this stock because we thought a new uptrend was being established, then if that trend fails to continue we should exit our position. We will recognize this change if DLB closes below the minus 1 ATR (average true range) on a daily chart. That will be a sign that the daily trend turned down, telling us to sell.
The next decision will be how to exit. Will we exit intraday or wait for a closing price to confirm our exit plan? Will we use a hard stop or we just set up an alert to remind us to exit? All choices have their pros and cons, and you should choose the exit technique with which you’re most comfortable.
This is just one example of laying out a plan for riding a newly formed trend. There is no telling how long the uptrend will last, but with a plan we’ll know what signs to look for in order to exit. Know the reason for being in the trade and when that reason no longer exists, it is time to sell. Return to the Top
CURRENT MARKETS
SpikeTrade.com is live and up-to-date, but an e-book doesn’t change over time. Still, we decided to include our answers to questions about ‘current markets’ – current at the time each question was asked. We think this will help you see how serious traders handle markets in the atmosphere of uncertainty, at the hard right edge of the chart.
This is the only chapter where we show the date each question was asked. If you would like to dig deeper into it, open your charting program and see what the US stock market did in the weeks and months following our answers.
WHAT DO YOU THINK OF TODAY’S DECLINE August 4th, 2011
After today’s decline we received several emails from anxious traders, asking: “What do you think of this market?”
Dr. Elder responds: Let us take a look at several charts, starting with the big picture on a monthly chart…
Figure 5-01 DJIA monthly
A bull/bear market cycle tends to run about four years, with the bull market taking up the bulk of that time. A bull market keeps being interrupted by corrections during which prices decline to or below the slow EMA (the yellow line). Notice shallow pullbacks of monthly Force Index during those corrections – and its completely different behavior in a bear market, where Force Index crashes.
Figure 5-02 DJIA weekly
The weekly Dow has touched its lower channel line today. Compare its behavior and that of the weekly Force Index with the previous correction, which began in April 2010. Notice that for a couple of months after the initial hit the bears kept shaking the tree, making slightly lower lows, as strong hands accumulated stocks for the next rise.
You can be sure that tomorrow’s papers will be full of scary headlines. Talking heads will pump out hot air about a double-dip recession. I would like you to isolate yourself from such random but anxiety-provoking input. These charts indicate that so far we are in a normal bull market correction.
SECULAR AND CYCLICAL MARKETS May 17th, 2011
Several Members asked to explain the difference between secular and cyclical markets.
Kerry replies: Secular markets are driven by large-scale national and worldwide trends. The forces behind secular trends cause prices of assets to rise or fall over long periods of time, sometimes over a decade.
A secular bull market includes corrective bearish periods, while a secular bear market includes corrective bullish periods. These mini-bear and mini-bull markets within secular trends are called cyclical markets. They are shorter, lasting from several months to a couple of years.
Figure 5-03 DJIA monthly
A secular bull market spanned the decades of the 1980’s and 1990’s. Although it included the 1987 crash, the 1990 correction, the 1994 correction, the 1997 Asian Crisis, and the 1998 Russian default, those were all corrections within a secular bull market – cyclical downmoves.
Secular bear markets are interrupted by cyclical bullish moves which can be quite sharp. Secular bear markets often form wide trading ranges with lots of short-term volatility, sharp selloffs and rallies.
Human emotion is a major driving force behind secular trends. Emotions are upbeat in secular bull markets: there is a major party going on, with an occasional break to nurse a hangover. In a secular bear market the mood is largely negative and sour. People are reluctant to go out and party as hard as they did in a secular bull market.
Think of the late 1960’s thru 1970’s: the overall mood was negative and sour during a secular bear market. To the contrary, overall mood of the 1980’s and 1990’s was upbeat and alive.
During the latest decade, the overall mood has become more negative. The chart shows a wide trading range, with no ability to break above its upper edge. Once the market demonstrates such ability, the secular bear trend that is currently in place will be over. The general mood will begin to shift to a more positive note and a new secular bull market may begin.
If you recall the period of 1980 – 1982, just before a new secular bull trend, the overall mood was highly negative. Interest rates were historically high and many businesses were struggling to survive. The world was dealing with turmoil in Iran and trying to heal from negative effects of Vietnam. By 1984 the markets had broken the secular bear market pattern and the overall mood began to improve until the party became wild by 2000, which in turn gave birth to a new secular bear.
During our current secular bear market, we’ve had cyclical bull market rallies. It is too early to tell whether this cyclical bull will encounter another big drop. If this secular bear market is to last for the usual 200 months, then this cyclical bull is in a danger zone.
IS THIS MARKET STORMY OR CALM? October 7th, 2011
A Member from the UK describes his learning curve and a series of recent losses (all small, thanks to strict money management). He writes: “It’s been a little frustrating, but after a lot of thought I’ve come to the conclusion that perhaps there's nothing majorly wrong with my trading methods. It's just that they aren't suited to this type of volatile market we are in right now. I have decided to stand aside, keeping money in the accounts; I’m going to wait for the markets to develop into either a new bear market or continue into the next leg of the bull market.”
A Member from Canada writes that he was repeatedly stopped out, just before the trend moved in his direction. He concludes: “I think the only way to overcome this is: 1. Set a plan in the beginning – Keep trying for at least three times after stopped out (if my original signal is still intact); 2. Put in a smaller size (1/3 or half) in the first attempt and get ready for being stopped out on it.”
Dr. Elder comments:
Let me share a chart and some thoughts with you…
Figure 5-04 VIX weekly
This weekly chart tracks VIX, the volatility index. Markets go through periods of low and high volatility. Most traders are aware that prices are somewhat cyclical. We need to keep in mind that volatility is cyclical as well.
You can see that for the past two years VIX, the volatility index, has been quietly oscillating between mid-teens and the low 20’s. Those were peaceful and pleasant times. Once a year or so volatility explodes – and right now we are living through one such explosion, with VIX screaming towards 50, triple its normal level.
Just as a day follows night and summer follows winter, this high volatility will die down – you can bet on it. This current storm is terrifying weak holders, prompting them to sell in a panic – just before the market gets ready to enter a new trend.
Of the two approaches suggested by Members quoted above, the first appeals to me more. There is a storm out there – it is safer to sit it out indoors. I keep my core holdings, but being largely in cash is a legitimate position. When I do trade these days, it tends to be in a day-trading mode and a fairly small size. You can’t run a sailboat under full sails in a storm!
All the while, I try looking ahead. This storm will die down and a new beautiful trend will emerge. Let’s make sure we are not traumatized by the storm in order to be ready to trade smoother trends.
WHAT DOES IT MEAN THAT LEADERS HAVEN’T DECLINED MUCH? August 11th, 2011
Several members asked: “What do you make of the fact many leading stocks are holding up pretty well relative to the general market?”
Dr. Elder replies: In recent days, as we tracked the mini-crash, I kept urging you not to panic. I kept warning you not to sell or sell short in the bottom area. I also repeated several times that the most likely scenario going forward is a sharp rally, followed by a slow grinding decline to a lower low a month or two later – a fairly usual pattern for a bottom retest, after which the bull market will be ready to resume.
I think that the behavior of market leaders plays into this scenario. Let’s take a look at some of them…
Figure 5-05 AAPL weekly
AAPL: the weekly chart shows a false upside breakout, a bearish divergence, and the weekly Force Index that has not yet declined below zero, into its usual buy zone.
Figure 5-06 AMZN weekly
AMZN: a sharp pullback following a bearish divergence, Force Index low but not yet panicky.
Figure 5-07 GOOG weekly
GOOG: could not break above resistance, severe bearish divergences, but Force Index still positive, has not declined into its bottoming area.
I own no crystal ball to foretell the future, but based on my experience it looks like the decline has not yet completely played out. These relatively high prices of recent leaders indicate that the panic has not been totally pervasive. I would expect to see a deeper decline in those leaders during a retest of the recent market bottom. As a matter of fact, their decline towards the lower channel lines on the weekly charts would indicate the final capitulation – and a buying opportunity.
I don’t like going far out on a limb and peering into a distant future. Fortunately, the structure of SpikeTrade allows me to share my views with you on a much more frequent basis, as the situation develops. Return to the Top
RISK CONTROL
It’s painful to see bright individuals blow up their accounts. Even if a trader has a brilliant system, his account is doomed if he doesn’t control his risks. It is a pleasure to see many winners among SpikeTrade members who carefully control risks and use protective stops.
If trading is a race between a hare and a turtle, our money is firmly on the slower guy with a hard shell on his back. We keep stressing the importance of risk management in our answers to members’ questions.
MOVING STOPS TO BREAKEVEN
A member from Washington State asks: “How soon do you recommend moving a stop to breakeven once a trade is profitable?”
Kerry replies: There is no standard answer to this question. It depends on your strategy and style of trading. I prefer to use Average True Range (ATR) channels for setting targets and adjusting stops.
Figure 6-01
This is a trade based on my Squeeze strategy. I buy after prices bounce off the minus 1 ATR channel and set the initial stop just below that channel. Once prices hit the plus 1 ATR channel, I move my stop to breakeven. This means that once the first target is hit, you lock some minimal profit and it becomes a free trade.
This is just one concept, based on a specific strategy. A longer-term trend follower would need to play with a wider stop to stay in the trend while a shorter-term trader will need to protect profits quicker. Your approach can vary depending on style and type of trading. It is not a ‘one size fits all.’
MOVING STOPS
A member from Nevada writes: “From time to time a negative news item comes out prior to the opening bell, as it did last Friday with the unemployment report. In the past I’ve often been stopped out of good trades, only to have the market recover later on in the day. I’ve seen instances when Spikers temporarily lower or even remove their stops prior to openings with negative news. Do you agree with this type of play and if so what criteria do you use to determine whether the news is just a temporary setback at the opening?”
Kerry replies: This is a great question, and the answer depends on how advanced the trader is in his or her discipline.
The general textbook answer is that we should honor our stops and exit the trade. The trade did not work, and we should take our loss and move on to the next trade.
However...
Let’s say I’m long in a swing trade that’s going to open down on bad news. This stock will gap below my stop, creating a larger loss than planned. Another option is to use my day-trading skills to manage the trade from the breakdown point.
This switch from a swing trade to a day-trade is acceptable only if it is a part of your emergency plan and not just a game of hope. Once you switch to such emergency strategy, manage the trade accordingly. If it turns back up, you can return to your original swing trade plan and continue to hold it, otherwise you exit the way you would exit a day-trade gone bad.
Psychologically, you have to treat the emergency tactic as a brand-new trade and handle it as such. I wouldn’t recommend removing the stop if you haven’t prepared an emergency day-trade strategy in advance. Then it is best to exit the trade and clear the mind.
To summarize:
* Only an advanced trader with solid discipline and a clear plan may consider suspending a stop. * You need to have an emergency tactic to manage the trade from the breakdown point. * If the trade reverses after hitting the suspended stop level, continue with the original trade plan. * A trader with weak discipline or lack of experience should not suspend stops. * If in doubt, get out.
HOLDING RISK OVERNIGHT
A member from Spain writes: “What happens if a stock opens with a large gap against our position, a gap that exceeds our stop level? If you use a simple stop, you’ll be stopped out with a big loss. If you use a stop limit, you’ll still be in, but with a potential big loss that you might never recover. Please look at an example into the chart attached.”
Figure 6-02 TLB daily
Kerry replies: This is a risk we all take when we hold a position overnight. I always evaluate current market conditions to determine the level of risk and decide whether to hold overnight. I examine trends, market internals, and volatility. When volatility rises, I prefer to move into more of a day-trade mode and carry less risk overnight.
The gap down on your TLB chart was due to an earnings report. In swing trading, I recommend not to hold through earnings. Holding through earnings is a crap shoot. [Elsewhere in this e- book co-authors recommend several websites for checking the dates of earnings reports – Editor].
GUARANTEEING STOPS
A member from Ireland writes: “I’ve been meticulously applying risk management rules and even lowered my maximum risk per trade to 0.5% and risk per month to 4% of my account until I get more confidence and the markets become less volatile. Is there any way to avoid a situation when a stock gaps against you, based on a big news event? A way to guarantee the stop price?”
Kerry replies: In trading, even after we do all our due diligence and flawlessly execute a plan, we can still lose money. This is the risk with which we must live.
I think you’re asking about a situation in which one might be short a stock and overnight an acquisition is announced and the stock pops up 20 – 30% against you. Or you may be long a stock and an accounting scandal hits the wires, causing the stock to gap down 50%. In either case the stock will open the next day well beyond your stop price.
There is no way to guarantee your stop. If you use a stop market order you will be filled on the open. If you use a stop-limit order, you will stay in that trade and possibly incur deeper losses.
One could manage risk by buying out of the money calls or puts, depending on trade direction. This is like buying home insurance: you pay the premium and hope never to have to collect on your insurance, but glad to have it if you ever need it. There are several options strategies which get highly complex, not to mention expensive.
I prefer to keep my trading as simple as possible and not to use complex options strategies for reducing risk. I do my due diligence and accept losses that may occur. Driving my car, I’m always at a risk of an accident, but this does not keep me from driving. I use caution when driving and due diligence when researching my stock ideas. Keep one thing in mind. Whenever you reduce risk in trading, you always reduce the upside. There is no such thing as no risk or unlimited upside.
DO NOT SIT ON LOSSES
A member from Queensland, Australia writes: “I am a new trader, and when I buy I decide where to enter, set a target and a stop. I’ve read that both Kerry and Alex say, "If a trade starts going against you, run fast." But this seems to contradict working out where to put your stop loss, i.e. if you had decided to place a stop loss $1 below the entry price for a Long, are you saying that you would then watch the price after entry and if it, say, drops 20 cents get out and sell?”
Dr. Elder replies: Good question – it’s good to see even a beginning trader focusing on stops. Most people do not pay attention to them until after they’ve lost a painful amount of money (I’m afraid this was true of me at the early stages of my development).
I think the difference between what you do and what I wrote is only in words. What I mean by “run fast” is to do your thinking before you enter a trade, plan a stop, and then cut and run when the market hits that level. A beginner must use hard stops, actual market orders. There are situations in which a more experienced trader may use mental stops. Whatever stop you use, execute it as planned, do not move it away, never ‘give the trade more room.’ That’s what I meant when I wrote ‘run fast.’ Return to the Top
FINDING GOOD DATA (MINI-ENCYCLOPEDIA)
SpikeTrade members as a group possess an enormous wealth of knowledge and experience. Many are extremely generous in sharing what they know. No matter what question a member asks, answers pour in from every corner of the earth.
Most answers in this chapter have been sent in by our members. In reading them you’ll see what an amazing group it is – and we hope that one of these days you’ll bring both your questions and your knowledge to be among us.
TRADING US STOCKS FROM THE UK
A Member from the UK writes: “I'm looking for feedback from fellow Members who live in the UK or Ireland and trade in the US markets. Do they have a trading account in US dollars with some US broker or do they trade in the US markets via a UK broker? What brokers would they recommend? What are the tax implications?”
Dr. Elder responds: After posting this message, we received six extensive replies, shown below.
***** I am based in the UK and hold an account with Interactive Brokers. IB gives you the ability to hold your funds in a "Base Currency" of your choice. For example, you hold your base currency in Sterling. When you put on a trade IB "loans" you the funds and you pay them interest on this loan. Alternately, you can change your base currency to US dollars by purchasing US dollars at the exchange rate at that time. Then you do not pay any loan interest on the funds traded.
Something to bear in mind: if you change your base currency from GBP to US dollars, when you withdraw funds from your account, you will obviously gain or lose depending on the exchange rate at the time of the withdrawal as you will need to change US dollars back to pounds. If you maintain your base currency in Sterling, you don't have to worry about exchange rates, but you do pay a fee.
My preference is to maintain GBP as my base currency and have found that over a period of time I have both earned interest (short) and paid interest (long) and have found the costs to be negligible. IB support UK residents and there is no additional paperwork.
Barry S
***** I live in the UK and trade the US markets. I use TradeStation (US Broker with account in USD) as my broker as I like their low commissions (I took the scaled fee plan and not the fixed plan). TradeStation has excellent day-trading software and I find the matrix particularly helpful. I did try to get an account with Interactive Brokers who also have the same rates as TradeStation but they required a reference brokerage account with a minimum of 100 trades on it which I could not provide. Bottom line in my opinion would be to find a brokerage with low costs during your learning stage and then move your account if you so desire.
You can get the Elder disk for TradeStation which is a big plus. I am not sure what software is provided by Interactive Brokers. With TradeStation you do need to be aware that the software is only free if you trade more than 5,000 shares per month. The downside of trading with a US brokerage is that you move all your funds into USD and in my experience the USD just gets weaker against the pound all the time.
Tax implications: you must declare your profit/loss for tax purposes in the UK as well as any dividends earned. In the UK foreign earnings are regarded as UK earnings and you must pay tax in the UK on them regardless of where in the world they originate. You are not charged tax in the US on trades but will be charged US tax on dividends, so I believe (I never trade shares during earnings periods so have not earned any dividends to verify this).
Garry
***** I use three different brokers: 1. Interactive brokers – cheap and US$ account – charting tools very poor though 2. IGIndex spreadbet account – tax free and charting tool is good for my simple needs 3. Charles Stanley – telephone based for more specialist markets, e.g. I buy some small exploration stocks on the TSX venture exchange in Canada.
Dave
***** I use IGINDEX. This allows me to spread-bet tax free. The prices for US stocks are reasonable but not as good as a US broker. I have found this a great way to learn to trade as I do not have to trade large amounts of shares. If I was to get serious, I would open an account with TradeStation which has a UK office.
The final thing that I would like to recommend is the Traders’ and Investors’ Club. They meet on the second Tuesday of each month and there are people you can talk to face to face, especially in the pub afterwards.
Tony S
***** I do not fully fit to your target group as I live in Austria but guess there are many things in common for traders working from within the EU.
Interactive Brokers: it is my main broker for US equities and I was trading FX and futures with them as well. I sometimes trade European and Asian equities with them. They’re a US broker with affiliates in several continents. My account is with their UK branch. Their European support center and I guess most of their back office is now located in Switzerland. Accounts can be in any currency.
TradeStation Securities; a pure US broker who recently enabled trading of German equities and futures. Account and all the services are from the US. As far as I know, you can only hold USD accounts.
Infinity Futures; is a pure US Futures broker. They are specialized in the US market and I only use them for specific futures trading. Accounts can be in any currency even if you only trade USD Futures.
Brokers that I don't use anymore:
Saxo Bank: a Danish broker for futures, FX, equities and CFD's. Several of the local European Banks offer online trading of US market but in my experience the tools were poor and commissions high. One broker I am currently looking at is SINO AG, they are located in Germany and connected to HSBC. They specialize in servicing small professional traders.
Best regards from Vienna
Heinz P
***** At the moment I trade my Spike Picks using either my CFD account, with CMC markets, or my spread betting account, with IG Index.
The CFD deals are obviously transacted in dollars, with CMC taking care of the FX conversions into my £ Sterling denominated account. Normal UK capital gains tax rules apply. With the spread betting account, which is tax free in the UK, transactions take place in GBPs based on movement in the underlying shares dollar values. I also invest in US stocks in my SIPP [Self Invested Pension Plan] using Selftrade, an execution-only broker. I am currently considering opening a TradeStation account to take advantage of the product's strategy and scanning tools.
Allan D
MANAGING A RESTRICTED 401K ACCOUNT
A Member from North Carolina writes: “I have a 401k account that can only invest in certain popular mutual funds, including a money market or cash equivalent fund. Trades can only be done at the close and you cannot place stops. How can one best manage such an account?”
Dr. Elder responds: First of all, this account seems incredibly restrictive. Can you possibly move it to another house that would allow you to do a bit more with it?
Under present conditions, I would do a couple of things.
First of all, I would use long-term market analysis to decide whether it is bullish or bearish. In terms of Triple screen, I’d use a monthly chart of key indexes for strategic decision and a weekly chart for tactical ones instead of the usual weekly and daily combo – and if their position is less than bullish, I’d go to a money market.
Second, I’d set up the list of available funds in my analytic software and review them once a week, using normal technical analysis to see whether any switching might be in order.
PS – the following comment came from a long-term member after reading my post: "After terminating employment with the employer sponsoring the 401K plan the individual should be able to roll over the 401K account funds into an IRA, which will permit active trading in all respects (including stops) except short sales (but even this limitation in IRA accounts can be overcome to some degree by trading short ETFs. For what it’s worth, Schwab has several superb trading platforms that can be used with Schwab IRA accounts."
PPS – another comment was sent in by Patricia P., CFP: “401k plans are tricky because Congress, the IRS and the Department of Labor make them so. There is a possibility that the plan cited has a provision for an "in-service" withdrawal. These are also tricky. Some plans allow only a piece; if you take an in-service withdrawal, then some plans will not allow you to continue contributing (and thus receiving employer matching contributions); but some will allow a significant withdrawal which can be handled as a direct rollover and will still allow full participation. The way your questioner can find out about his/her specific plan is to request the "Summary Plan Description". This is a document required by the Department of Labor, to which every plan participant is entitled. It’s supposed to lay out the terms of the plan in plain English. The section to look for is "in-service withdrawals."
AUSTRALIA AND INTERNATIONAL MARKETS
A new member from Australia writes: “You said the US bull market was still intact as the 2010 low has not yet been breached. However, the Australian ASX S&P200 (XJO) breached its 2010 low of 4,175 on the weekly chart twice in the last two weeks. On the first occasion it closed below 4,175 and the following week it went lower again but closed above 4,175. Based on my understanding, the Australian market is now bearish, what are your thoughts?”
Dr. Elder replies: We do keep an eye on the Australian markets in SpikeTrade. Each weekend we update weekly and daily charts of Australian New High – New Low Index. You can find them on our main page – just go to the Trader Education tab and under Resources click on World NH-NL.
The world has become smaller. Just as you want to find the most promising stock in an industry group, you want to find the strongest country when looking to buy a country fund.
Figure 7-01
Looking at the weekly chart of All-Ords, the Australian index, several negative signs com into view:
* The rally from the 2009 low was weaker than in the US and many other markets * There was a nasty combo earlier this year – a false upside breakout, coupled with a bearish divergence (vertical dashed arrow) * Last week the index penetrated its 2010 low, while indicators traced out very deep bottoms, indicating bearish strength.
It would be highly unusual for a serious bottom to occur on such low readings. A temporary bottom – quite possibly, but then likely to be followed by a break to a new low. That may create bullish divergences – but we will cross that bridge when we come to it.
Figure 7-02 Australia NH-NL
This weekly chart of Australian NH-NL comes from our Resource section (many thanks to Vladimir D, a Brazilian Member, for updating all international charts on a weekly basis.) You can see a much deeper decline in NH-NL this month than in 2010. The downside leadership is much stronger.
Is this a sign of a coming bear market? Possibly, but cannot tell for sure. The quality of the next rally will help provide the answer. I would use any rally to trade out of remaining longs and wait for the bottom to be retested, then buy again if it holds.
Figure 7-03 Korea KOSPI index
In conclusion, let me show you what a really strong market looks like. The US market has not taken out its 2010 lows, which is good, Australia has, which is not too good, but take a look at Korea! First of all, its rally from the 2009 bottom was over 100%, much stronger than the US and vastly stronger than Australia. It fell along with the rest of the world in August, but not anywhere near its 2010 lows. It still has some bottoming work to do, but if you are thinking of getting into some country funds, it is this kind of pattern that should attract your attention.
Remember, relative strength is important not only for individual stocks, but for the country markets as well.
TRADING ON A MAC COMPUTER
A Member in Colorado writes: “I'm a Mac user and wonder whether you’re you familiar with any good trading platforms that are computer bilingual? I'm using TradeStation on a PC and love that platform, but willing to learn another if there's something equally powerful that I can run on my Mac.”
Dr. Elder responds: Posting this question on the SpikeTrade website brought in a wealth of replies. We reprint them here in the order received.
***** I use Parallels on my Mac which adds the ability to run Windows-based software on the Mac as either a virtual machine within the Mac or seamless, so it looks like a Mac application. One gets the best of both worlds in one box.
Most of my trading software is web-based. I haven’t found anything that runs 'native' on a Mac, as most brokers, charting software suppliers, etc. aim for the bigger market provided by Windows users.
Mark M
***** Since you're already familiar with the Impulse system and Trade Station, my suggestion is that you get Fusion and a PC operating system for your Mac – that way you can move back and forth between platforms and still stay with TradeStation. Personally, I do everything in the Mac world – iPhone, MacBook, etc. I also use a charting system for Mac called Hotline, which is very good. However, it doesn't have the Impulse System, so that’s a real fault if you’re following Alex. I suggest you stick with the PC and the Impulse system – it's an excellent way to trade the markets.
Grant C
***** I am a Mac user as well. Not a single PC around me ;-)
I was testing many different applications for trading and charting. Unfortunately, most of them don't run natively on the Mac, but all I tested worked perfectly using Parallels desktop on the Mac. With this, you can have all the advantages of a Mac and still use the best charting software. Here’s what I can tell you:
Native Mac: Interactive Brokers TWS – my favorite order entry and brokerage software – is Java and runs perfectly on a Mac. TC2000 V_11 – a nice charting software, I only use it from time to time but it works fine on Mac (but only the Version 11+). ProRealtime – a Java charting software, I don't use it anymore but it is working fine.
Running fine in Parallels desktop: TradeStation 9 – my main platform for charting for swing trading, all Elder Indicators available Trade Navigator – my main platform for Charting and for day-trading
Other platforms I was using in Parallels Desktop before and worked well: Ninja Trader – a very nice charting software with trading capabilities. MetaStock; a well-known charting software with all the Elder Indicators available. Bloomberg – the information and charting system for everything on this planet, for people who like spending almost $2,000/month.
Heinz P
***** I’d like to trade on a Mac, but the entire eco-system for off-the-shelf financial applications is still Windows-centric. One of the “geeks” at my local Mac store, who apparently had some experience in converting investment firms from PC to Mac, told me the only solution for his clients is basically running Windows (and the financial applications written for Windows) on Mac, either under Apple’s Bootcamp, or via Fusion or Parallel under Mac OS. My investment- related workflow, which involves TradeStation, Bloomberg, and Excel, is done in Windows 7, under Bootcamp, on a MacPro.
Tom K
***** I recently switched from Windows to Mac and found that Freestockcharts.com as well as TC2000.com run equally well on Mac and Windows. It’s also possible to run Windows from within Mac OS through a program called Parallels Desktop, which would enable one to use TradeStation or any other PC charting/trading software. Boot Camp is built into Mac OS X and doesn't cost anything extra.
Rasmus S
***** I run TradeStation with Windows 7 Professional running VirtualBox under Linux. I believe one could do something similar on the Mac. I bought an OEM copy of Windows 7 Professional from Amazon.
VirtualBox is free and very well documented. I just followed the instructions on the VirtualBox web site to install Windows 7. VirtualBox may well be available for the Mac and there are other virtual machines available for the Mac. have heard Parallels mentioned favorably.
One reason I installed Windows in a virtual machine rather than on a dedicated Windows machine is that the Windows image can survive a disk crash or a computer upgrade (it can be moved to other physical machines). Another reason is that I prefer to work from my main machine.
I work at my main machine at a treadmill desk, where I share the desktop of my main machine. Later in the evenings when I don't want to stand or tread, I sit in another room at a small, under- powered computer (a netbook) with a big monitor and continue to run my main machine via the netbook. So far I have been pleased with this setup.
Frank S
FINDING STOCKS TRADING BELOW THEIR 52-WEEK HIGH
A member from Washington asks: “How can I find stocks that have retraced more than 50% from their 52-week highs?”
Kerry replies: This depends on the platform you use, but a simple free website provides a very nice screener for finding answers to such questions. That site is Finviz.com, and I use it often.
Figure 7-04 Finviz.com
Here the screener uses the field “52-Week High/Low” to select stocks that are trading more than 50% below their 52-week highs. You can select other criteria as well, which will help you reduce the number of stocks you track to a manageable number.
FREE STOCK ALERTS
A Member writes: I’m looking for a free real-time stock alerts website. The only ones I could find either have 20 minute delayed data, or they charge a monthly fee that comes with a charting package which I don’t need.”
Kerry replies… I use alerts with my charting package and brokerage accounts. If all you need is alerts, you may want to check out this new service I found doing some research with a client recently. It is called Zignals.com and it may provide what you’re looking for.
EFFICIENT SCANS
A member from England writes: “What is the most efficient way to search for picks”
Kerry replies: A trader must know what conditions he is interested in. Before you begin to scan it is better to pre-select a basket of stocks on which you’ll run your scans. This will be your personal list of potential trading candidates, where each stock meets certain minimal criteria.
Here’s what I use to select my scan candidates for long positions:
Price > $5 --- I avoid very cheap stocks Volume > 500,000 shares/day --- I avoid thinly traded stocks Average True Range (ATR) for the last 63 days > 2% of price --- I avoid low-volatility stocks ATR for the latest 5 days > .25% of price --- Same as above Exclude high volatility groups such as Biotechs Operational Margin > 0 --- A healthy margin is essential for a company to be able to pay its bills
These pre-selection criteria, applied to many thousands of stocks traded on the US exchanges, narrow down the list to about 700 or 800. This is the number on which I run my scans, based on any conditions I’m interested in at the moment.
The pic below is my Radar Screen in TradeStation, showing a scan that looks for stocks that maintain a weekly uptrend but have recently pulled back on the daily chart.
Figure 7-05 TradeStation Radar Screen
When writing scans, I try to limit them to no more than three or four search criteria. I use TradeStation to run my scans and then sort them using TradeStation’s Radar Screen. I may spend 30 to 60 minutes a night running selected scans and looking at about 25 or 35 charts that they deliver.
Scans are a great time saver, TradeStation offers a great way to scan and sort stocks, even though there are many other programs that can do this job.
Teaching how to write a scan is outside the scope of this book. This complicated topic deserves its own book. If you need help writing a scan, please keep in mind that I do work with traders helping them develop and improve their trading styles and systems. You’re welcome to contact me for a free 30-minute consultation.
TRADING SOFTWARE FOR CANDIAN STOCKS
A Member in Canada writes: “I am using the web (read “free”) version of Stockcharts.com but am willing to subscribe to a paid service with more features, if it has the ability to track Canadian stocks, which are my primary domain at present. I would appreciate any guidance you could give me in this regard.”
Dr. Elder responds:
Posting this question on the SpikeTrade website brought in a wealth of replies. We reprint them here in the order received.
***** I'm based in Edmonton, Alberta and use StockCharts all the time. It covers all Canadian stocks. However, when you put in the ticker symbol, you have to add the exchange code. For example, if you want HZU, the Canadian silver ETF, you have to type in hzu.to
Lorne S
***** I am also a Canadian user. I subscribe to Worden Brothers' TC2000. Their recently released v.12 covers all Canadian stocks and indices on TSX. It is very good and gives intraday data with a 15- minute delay. Lots of Indicators, including Elder Force, etc. and easy scans. Worth a look. They have a trial subscription.
Gordon K
***** Stockcharts.com certainly does provide data on Canadian stocks, including a real-time option. There are different plans depending on what you need. I am not familiar with these because I stick with US stocks. However I am a big fan of Stockcharts.com.
Jim O’C
***** The paid Stockcharts.com site tracks Canadian markets, I believe in real time. There is a fee and an additional fee for real time. They also track Canadian dollar futures and have just added a market technician who specializes in the Canadian markets.
I find it well worth the expense, though I just use it for US stocks. It allows me to track Elder Impulse and Force Index in real time.
Jim M
***** I'm based in Northern Ireland, UK and I use Freestockcharts.com from Worden. Browsing through the different pre-defined watchlists available on the website, I can see the following:
* Canadian Common Stocks * Canadian Indexes * Canadian Market Indicators
For being a free tool I find it’s decent and good enough as you get with it:
* Real-time data in different timeframes (Monthly, yearly, daily, intra-day charts) * Loads of technical indicators including multiple charts and layouts that are saved under your profile on the web and that can be accessed any time (as long you have an internet connection and a computer from any part of the world * Multiple watchlists * Basic scan functionality * Create alerts * Save images of charts
Jose E Return to the Top
ANSWERS TO YOUR QUESTIONS
We created this e-book for serious traders who want to become more disciplined, knowledgeable and successful. We knew that our answers to SpikeTrader members could be useful for everybody.
What should you do if you have more questions? We invite you to join our group – first for a Trial and then, if you like what you see, as a member.
Even Trials have free access to our archive – the Q&A files, stock picks, the video vault, everything. Members are welcome to send us their questions, which we answer – some privately and others in the Q&A section of our website.
Trading is a life-long pursuit. Doing it in good company will help you reach your goals faster. We wish you success and look forward to seeing you among our group!
Alex & Kerry Dr. Alexander Elder & Kerry Lovvorn New York & Alabama February 2013
Books by Dr. Alexander Elder & Kerry Lovvorn The New High – New Low Index (e-book)
Books by Dr. Alexander Elder Trading for a Living (with Study Guide) Rubles to Dollars Come into My Trading Room (with Study Guide) Straying from the Flock Entries & Exits: Visits to 16 Trading Rooms (with Study Guide) The New Sell & Sell Short To Trade or Not to Trade: A Beginner’s Guide (e-book) Two Roads Diverged: Trading Divergences (e-book) Additive Manufacturing, 3-D Printing, and the Coming Stock Market Boom (e-book) Return to the Top