January 9, 2017
When it comes to trading, none of us have a crystal ball.
We can’t tell you with obscene accuracy what’s coming next.
But what we can help you do is attempt to gauge the possible intentions of buyers and sellers. One of the best ways to do just that is with charting… where you’re looking at a consolidated view of the forces of supply and demand.
Here are some of the best charting patterns that help us do just that.
Of course, we can always rely on Bollinger Bands, moving average convergence divergence (MACD), relative strength (RSI), Money Flow (MFI) and Williams’ %R (W%R), there are three other key charting patterns that can help us.
No. 1 – Support and Resistance
When we look at a double (or triple) top or bottom, we’re able to see where traders are struggling. These are the points at which things may begin to shift at prior points of resistance and support.
When prices begin to fall, we want to find areas of prior support, which represents the point when buying begins to overwhelm the selling. When prices begin to rocket higher, we want to identify prior points where resistance has stopped a prior run higher.
The more times a stock bounce off support and resistance, the stronger these support and resistance lines become. If something repeats itself over and over, that trend becomes a much more reliable indicator of trend change.
Netflix (NFLX) is a great example.
No. 2 – Gap Trading
All of a sudden, there’s a hole in the chart of your favorite stock.
Surprise news, earnings, something unexpected caused a bout of extreme optimism or optimism that merited the move.
These occur when the price opens higher or lower that than previous days close, and can include Breakaway Gaps, Exhaustion Gaps, and Continuation Gaps.
Breakaway Gaps represent a gap in a stock chart that is supported by high volume. These can be indicative of a new trend. These don’t happen out of the blue.
Usually there’s some kind of hot news that sends buyers into a frenzy including an earnings report, an exciting announcement, improved sales, or even upgrades. Some of these will fizzle out with time, but if you find a breakaway gap on a fundamentally sound company in a market in strong uptrend, it could continue.
NVIDIA is the perfect example. The semiconductor space is red hot. Earnings are solid. And there’s plenty of reason to get excited. So when we see gaps like we see here, each was sustainable given the underlying fundamental strength.
We can also look at exhaustion gaps, which occurs after an incredible gap up or down that’s not beginning to fade and die off. A great example of that is with FedEx (FDX) or even Bristol Myers (BMY), both of which are now beginning to fade as sellers, or in the case of FDX buyers become exhausted.
Once the gap has exhausted itself, we can look to then profit from a potential gap refill.
If we look at BMY for example, this is a company too big to fail. It simply fell on a rough patch. Gap downs here are typically met with partial to full gap refills. Here, the stock gapped from a high of $76 to less than $50, where it found support and bounced. It’s now partially refilled a prior bearish gap and could refill at $76 with patience.
Or, we can look at FedEx (FDX), which gapped higher on news of strong online holiday shopping, which would require their shipping expertise.
If you can identify such patterns you increase your odds of success.
If you have any questions, comments, or anything that would add to this conversation, please let us know. We’re all ears.