February 15, Market Analysis and Trading Plan.

An Excerpt from the Timely Trades Letter.

The market moved up about seventy points last week, on below average volume. This small movement, and light volume pattern, is normal following a bounce from the lower Bollinger Band. As noted in previous Letters; the normal pattern after dropping quickly to the lower band is to either bounce, or move sideways for a few days. The nice hammer pattern noted in the last Letter is another indication that a small bounce is likely, so the trading plan called for protecting profits and being cautious about entering new short positions.

The market showed distribution just before braking below the January topping pattern, and additional distribution as the market continued to retrace from the top. Moving down on strong volume is also a sign of weakness, which is why the trading plan called for taking profits on longs and looking at new short positions in mid January. The light volume on last weeks bounce from the lower band, following the hammer pattern on 02/05, is an indication of continued weakness; even though the market has moved up slightly.

The market has dropped to the lower Bollinger Band and then bounced three times since the middle of January. The bounces have been short lived, and the market has been making lower lows and lower highs. As long as this pattern continues I will be interested in picking up new short positions (or inversely correlated ETFs) when the bounces stall out, and taking profits when the market moves down and approaches the lower Bollinger Band again. Since the lower band often provides support in uncertain markets, I want to close the positions when it is approached, regardless of how long I have been in the position.

Long positions are interesting on bounces from the lower Bollinger Band, or if the market starts moving up on strong volume, or shows an accumulation pattern. The market shows minor horizontal resistance in the 2195 area, which may contain the current light volume bounce. Strong volume bounces generally run for awhile, light volume bounces are often turned back at the first resistance area. If the current bounce stops in the 2195 area and the market continues back down on increasing volume, I will add new short positions (or inversely correlated ETFs, or both). If the market breaks above the 2195 resistance area on strong volume, I will close any open short positions and look at a couple of new long triggers. The reason is that a move above the 2195 area would break the current pattern of lower highs and lower lows, which would indicate a change in behavior. This does not imply the market would immediately start going up, it may set up a trading range first, but it would indicate a change in the current downtrending pattern. The way to play a change in the markets pattern is to try a few positions when the change occurs, and then give the market a day or so to make its intentions clearer, and then add to the positions if the market is in fact establishing a new trend.

During last weeks action the market moved from the middle of the range between horizontal support and horizontal resistance to the top of that range. The best time to trade is when the market is bouncing off support or retracing from resistance. Trading when the market is in the middle of the range between support and resistance carries additional risk, since it does not have as far to move before a likely reversal at either support or resistance. Now that the market is back near the top of this trading range it will either retrace, in which case short positions are interesting; or it will break above resistance, in which case new long positions are interesting. The setup from the last Letter was clear based on the hammer pattern and the bounce off the lower Bollinger Band. This week the most likely thing is a continued retrace due to the light volume bounce and approaching horizontal resistance. If the market follows the normal path and retraces (continues down) I will be looking at trading shorts. If the market does the unusual thing and breaks above resistance, I will close any open shorts and look at picking up longs. The focus is on watching the market, and then adapting to what it is doing, not on making predictions.

Trading is about managing risks and I use the current market conditions to determine how many trades to be taking, and the appropriate position sizing to use. Setups with more room to run are prioritized above ones with little room to run. Room to run is the distance from the entry to the next resistance area. Setups triggering on stronger volume compared to the previous days volume are prioritized above ones with lower trigger day volume. Setups with shallower pullbacks are prioritized above ones with deeper pullbacks. I then look at the setups that are triggering and start from the top of the prioritized list and work down until I run out of setups or fill the number of positions I am interested in.

There are no risk free trades. I want to manage risk by looking at each setup and asking, ‘what is the lowest risk way to enter this trade?’ I then want to compare that risk to what my other choices are. I am not focused on one stock, I am looking to manage units of risk by looking at all available trades, the various entry techniques, and the potential risk to reward that each trade yields. I then take the best of what is available, within the constraints of the trading plan. I do not focus on watching for triggers to within the penny. I am looking at all the potential trades and then picking the ones that are best. All trading involves risk, there are no sure bets.

Steve Palmquist a full time trader who invests his own money in the market every day. He has shared trading techniques and systems at seminars across the country; presented at the Traders Expo, and published articles in Stocks & Commodities, Traders-Journal, The Opening Bell, and Working Money. Steve is the author of, “Money-Making Candlestick Patterns, Backtested for Proven Results’, in which he shares backtesting research on popular candlestick patterns and shows what actually works, and what does not. Steve is the publisher of the, ‘Timely Trades Letter’ in which he shares his market analysis and specific trading setups for stocks and ETFs. To receive a sample of the ‘Timely Trades Letter’ send an email tosample@daisydogger.com. Steve’s website: www.daisydogger.com provides additional trading information and market adaptive trading techniques. Steve teaches a weekly web seminar on specific trading techniques and market analysis through Power Trader Tools.

Money-Making Candlestick Patterns: Backtested for Proven Results. I wrote this book because I found that many candlestick patterns were poorly defined and there was no information on how well they worked and what market conditions were best for using the different patterns. I also wanted to know how results varied with additional filters such as volume and length of the shadows. I wanted to know what worked and what to avoid, so I backtested a half dozen different candlestick patterns in various market conditions and also tested them using different price and volume filters. This book not only shows how to use popular candlestick patterns, it outlines how to develop and test trading patterns. This book is available throughTraders Library.

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