The Importance of Confirmation to Identify Setups

When it comes to technical analysis, laziness leads to loss.

It doesn’t matter how oversold your relative strength (RSI) indicator may be, for example, if you fail to confirm it, you could set yourself up for a loss.

There’s an easy way to fix it, though.  For one, don’t rely on just the RSI. Look for confirmation.

Add in Bollinger Bands, Money Flow, Fibonacci retracements, Williams’ %R and even MACD to help figure out if the trade is more than likely to move.  It’s a process.  And once you begin to rush it, you open yourself up to potential loss.

Other times traders will try to get a quick jump on a trade with confirmation.

They’ll buy a breakout without confirmation, not realizing that up to 70% of breakouts are likely to fail.  But there’s an easy way to correct that error, too. 

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Once a break above prior resistance occurs outside of the consolidation pattern, it’s critical to watch the next price close carefully.  What we want to see is a close above the pattern over multiple days prior to buying what appears to be a break out.  If we fail to confirm the break is real, we stand to lose money.

Without confirmation, we don’t know if the stock has simply gotten ahead of itself or if it’s actually breaking out at all.

Or, let’s say we spot a potential golden cross on a chart with the 50-day crossing above the 200-day moving average.  We don’t just want to buy that because the lines crossed.  We want to first confirm that potential pivot lower by looking at other indicators, too. 

Look at the golden cross on the Dow Jones Industrials in August 2016, for example.  Around that time, the 50-day crossed above the 200-day (golden cross).  However, around that time, RSI, MACD and Williams’ %R were all in overbought territory.

Buying at the point where the 50-day crossed above the 200-day turned out not to be a great move.  While the cross was there, the other technical points told us to be wary of an over-extension, which eventually gave way to a 500-point drop in the market.

So, again, it’s essential that you pay close attention before buying anything.

It’s even more important that you consistently confirm your findings.  Unless you enjoy losing money to this market…

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