Intraday Retracement Divergence Combo Lesson Feb 13

Feb 14, 2012: 11:26 AM CST

I wanted to highlight one of my favorite intraday trading “combo” set-ups that occurred twice on February 13th.

It’s the “Retracement plus Dual Divergence” set-up that develops on all timeframes.

Let’s take a quick moment to study this set-up as it appeared on the intraday frame and how we can apply it to other situations.

First, here’s the SPY 5-min intraday chart from Feb. 13, 2012:

In trending markets, we want to look for retracement or pullback entries to give us low-risk entries into a developing trend.

While you can simply trade a classic pullback to support – like a bull flag pattern – you can enhance your execution and trade management by dropping to a lower timeframe to see what’s happening on the lower timeframe chart.

For example,  Trade #1 pulled back to the rising 20 EMA and 200 SMA after a strong up-opening and initial retracement.

Trade #2 similarly pulled back in ‘bull flag’ style towards the lower Bollinger Band and $135 “round number” support.

Again, both were classic retracement trade entries on the intraday (5-min) frame and both trades were successful in the context of the bullish trend day that ultimately developed.

However, let’s take it a step further and look specifically at the 1-min lower timeframe chart that developed in real time with both of these classic ‘higher timeframe’ retracement trades.

Here’s the 10:00am CST trade as seen on the 1-min chart:

The lower timeframes give us a clearer or more detailed picture of what we’re seeing on the higher frame charts.

In this case, in the context of a 5-min chart pullback to support, the 1-min chart developed a “Triple Swing” positive dual momentum and TICK (internal) divergence.

We’re seeing the 3/10 MACD Momentum Oscillator with the NYSE TICK Market Internal – the divergence developed when price pushed to new session lows while both indicators formed higher lows.

Divergences often precede reversals in price – as was the case here – and the trick is to put the pieces together.

To combine the two charts, we have:

A)  A 5-min chart pullback/retracement to EMA support

B)  A 1-min multi-swing positive dual Momentum and TICK Divergence

For traders who need a little more information or ‘proof’ before putting on a trade, combining timeframe (charts) like this may be a very good solution.

The official ‘breakthrough buy’ signal triggers when price breaks through the falling trendline or EMAs on the lower frame.

Keep in mind this logic works not just for the 5-min and 1-min combo, but for any type of higher plus lower timeframe set-up (though market internals tend to be clearer on intraday frames).

This is the type of “Creating Trades” information I’ll be discussing at my upcoming live webcast session Monday, February 20th at 8:00am EST at the Traders Expo New York.

The “Retracement Plus Dual Divergence” Set-up above is a good example of this type of trading tactic.

In general, most pro-trend retracement trades set a minimum target of the prior swing high or ideally a spot just beyond the prior high.

The stop often goes under the expected swing low, which would be under $134.80 in this example.

Depending on your risk-tolerance, the aggressive entry occurs INTO the expected support line on the higher frame while the conservative entry occurs AFTER price has bounced up off the expected support line, often on a break of a falling trendline.

Let’s see the picture on Trade #2’s similar support retracement at 12:00pm CST:

We can’t always know in advance how well a trade will work – Trade #2 outperformed the first retracement set-up.

The 1-min chart at 11:45am CST reveals a dual positive divergence (momentum and TICK) as price retraced on the 5-min chart to the likely support of the $135.00 “round number” area (1,350 in the S&P 500) and 5-min lower Bollinger Band.

Again, very aggressive traders can enter a buy order as price tests (trades) near the $135 area while conservative traders can enter a trade once price “proves itself” by rallying off the expected support price and then breaks above a falling trendline or 1-min EMA structure.

This time, price traded well above the prior swing high at $135.25 – a minimum target – and on to peak at $135.50 before reversing into the close.

While I’m using the SPY as a lesson example, this same logic applies to the @ES futures, as seen in the chart below:

If you’re thinking “The profit targets are so low in this example,” then it’s due to the small timeframes of the intraday 5-min and 1-min charts.

If you see this same Higher Timeframe + Lower Timeframe Divergence set-up on a Weekly and Daily chart of a stock or ETF, then of course the profit target (and stop-loss) would be much larger.

The logic would be the same no matter what stock or market you trade – I’m just showing the active intraday market for this particular example.

To sum up the quick lesson:

When you’re looking to trade a potential retracement set-up to a possible support area on a higher timeframe, it can be helpful to take a moment to drop to a lower timeframe to see what the lower chart reveals.

If the lower timeframe shows positive momentum, internal, or other indicator divergences, then you can have additional confidence in the trade.

Plus, you’ll be able to fine-tune your precise entry (often on a trendline or EMA breakthrough on the lower frame) and manage your trade more efficiently.

There’s no guarantee that any trade will work perfectly, but in general, the more you put in your favor (without being overwhelmed or paralyzed by analysis), the better you’ll be.

This type of “Retracement plus Divergence” logic may be something you can add to your developing trading strategies.

Corey Rosenbloom, CMT
Afraid to Trade.com

Follow Corey on Twitter:  http://twitter.com/afraidtotrade

Corey’s new book The Complete Trading Course (Wiley Finance) is now available!

5 Comments

5 Responses to “Intraday Retracement Divergence Combo Lesson Feb 13”

  1. Dominick Says:

    Great lesson Corey, thanks.

  2. Naveenkumar1977 Says:

    Hey Hi Dear Corey ..excellent coincise to the point ,great work dude !!!  Would Appreciate if you could do some similar work on Indian stock indices and post it for for your indian friends .. Thanks

  3. mrstair Says:

    THX for the great lesson Corey ….  I have been trying to duplicate the (last) chart setup and have 2 questions:  1) ma for $TICK (10?) and 2) the closest I can come on TOS charts is the MACD Histogram 3,10,10ema – (fast,slow,MACD length,ma type)  Did not look like I was getting divergences as dramatic.  Pls advise.

  4. Emirav2 Says:

    on TOS try LBR_ThreeTenOscillator study.

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