Momentum Precedes Price Chart Examples

Mar 11, 2007: 1:06 PM CST

I wanted to include a post that highlighted examples of the market principle: “Momentum Precedes Price”. It has been suggested that this principle be restated “Increases in momentum imply price will continue in the same direction of the momentum.”

I do not refer to the indicator “momentum” in this sense, but rather pure price action. A better word might be “impulse” which implies temporary, yet significant imbalance between supply and demand. Price moves in waves and when one wave is significant in scope, it is expected that the imbalance will continue to play out in the direction of the original disturbance of balance.

Nelson Elliot (of Elliot Wave Theory fame) coined the term “impulse” to describe marked increases in momentum and noted that following an impulse wave, there tends to be (at least) three pushes up in the trend direction (with two corrective waves). While I am not an Elliot Wave theorist, the idea behind his concept is applicable.

In the first few examples, the trade I’ve found that works best is the following:

After identifying a new momentum high AND a new price high (confirmation), look to ENTER the market on the first REACTION against the price high and play for a small target: the most recent price swing high (or just beyond). Your stop is placed a tight distance below entry, which usually corresponds with a moving average or prior swing low.

This drawing may help clearly see the pattern I am trying to convey. I call this the “Impulse Buy“.

-

Caterpillar. Weekly chart.

Point 1: Following a short consolidation period, we see a quick thrust of price upwards, creating our initial “impulse” condition. Our bottom panel indicator prints a higher high along with price. We look to enter the trade on the first reaction against this initial impulse. Your entry depends on your risk tolerance: aggressively would have entered at the moving average ($23 – green bars) while conservatively would have waited for price to turn-up (the yellow bars – also $23). Price “shook out” below the moving average in this case.

Stop placement is also dependent upon risk tolerance. Overly conservative may have placed stop just below moving average (and would have been stopped out) while overly aggressive would have placed stop below most recent swing low at $18.

If we look simply at price bars, notice the large expansive bars that occur upwards – range expansion also indicates an ‘impulse’ or momentum move may be underway.

The target is the most recent swing high (or just beyond) which formed just below $26.

Chart point #2 indicates our target which has been achieved. After a new price and momentum high, new price highs are likely yet to come.

Here are some other examples, but fewer comments. The play is the same. Identify impulse (range expansion or new momentum high), wait for pullback, play for the most recent swing high. Exit.

Some observations: The charts are purposely simplified to highlight the impulse and momentum conditions, and it would be wise to look at larger charts to see these moves and add volume analysis.

Commentary:

A) DIA Weekly Jan 2005: Impulse and two-bar range expansion out of consolidation. Entry: $104. Target: $108.
B) GOOG Daily Sept 2006: Gaps helped serve as initial impulse, along with momentum readings, consolidation, and then retest (and beyond) recent swing high
C) CTSH Daily Aug 2004: Gap and two-bar expansion (along with momentum reading) serve as initial trigger. Target of recent swing high achieved.

The idea behind these patterns is that an initial impulse move will result in a corrective reaction against this move (to shake out the weak hands), yet price will reassert itself (temporarily) in the direction of the impulse and retest (or exceed) the most recent high.

For me, I have found more success in these patterns when I play simply for the retest only. If you get greedy and expect a new swing higher, you may be disappointed. It is best to enter your position, enter a hard stop, and enter a hard profit target. This keeps emotions at bay at trade entry, trade development, and trade exit.

The type of trade discussed here is a cross between a “trend retracement entry” and a “retest” entry, so be aware of the distinction and how they overlap.

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38 Comments

38 Responses to “Momentum Precedes Price Chart Examples”

  1. Lauriston Says:

    Your site has been up only a few days and already you have exceeded the best educational sites! Concrete, solid and actionable stuff, thanks for the effort. “Momentum precedes price” is another gem of an article, great way to profit from new trends when the first few impulses are in play.

  2. Corey Says:

    Lauriston:

    I am so thankful and deeply humbled by your comment. I wouldn’t dare call myself in the same league as some other wonderful bloggers and informational sites for which I hold the deepest respect and have benefitted from their insights and analysis. I am hoping to share my experiences and continue to learn from others as a develop as a trader and hope I can provide links and resources so that other traders can do the same. Again, thank you so much for the comment and compliment. I promise to continue to provide quality information as best I know how.

  3. Trich Says:

    Thanks, simple and very helpful.

    Can you please specify what MA you were using for the examples?

  4. Corey Says:

    Trich:
    Thank you for the comment and compliment.

    For these examples, I am keeping “chart clutter” to a minimum to illustrate the point but I am using the 20 Period Simple Moving Average. In trading, I prefer to use the 20 period Exponential, 50 period exponential, and 200 period simple. Moving averages (for support and resistance) work best in trending environments only.

    The white lines above and below are Keltner Channels (set to 2.5 times the Average True Range [14 period]). I actually should have removed them for this example.

  5. Richard Says:

    Corey, Just found you this weekend. Excellant site and very clear communications. This post on Momentum trading is very clear, with good charts. I also like your basic idea for the blog, it is something that we all have to deal with, each in their own way. Please keep up the good work. Regards Richard

  6. Joe Says:

    Joe…

    I always enjoy coming to this site because you offer great tips and advice for people like me who can always use a few good pointers. I will be getting my friends to pop around fairly soon….

  7. Corey Rosenbloom Says:

    Hey Joe,

    Thank you for reading and for the comment! I appreciate your support – please let me know if there’s anything I can do to be of assistance.

  8. Corey Rosenbloom Says:

    Richard,

    Thank you for the comment! It seems like we either struggle to overcome fear or greed as we trade the markets – I just struggle more with the fear part more. There are different strategies to deal with both and I’m not always sure which is ‘better.’ :)

    But I appreciate you reading and let me know if I can be of assistance.

  9. Manoj Says:

    hey corey,
    I use macd 12/26/9, the oscillator u using for that can i change my settings to 3/10/16 and plot as histogram??will the resultant oscillator be same as the one u using?
    Thanks and Regards,
    Manoj

  10. Lester from Bcn Says:

    Hello Corey, Congratulations for your excelent blog! Honestly, I teach on a regular basis and I would love to have the communications skills that you show here man. Very clear and concise information. Excelent job!
    One question…do yo use trade stations only for charting (if that is possible obviously) or do you use their trading platform as well?
    Thanks in advance for your answer.
    Lester

  11. Corey Rosenbloom Says:

    Lester,

    Thank you for reading and the compliments!

    I use TradeStation for practically everything now – research/testing, trading, charting, etc. Yes, I use them as my broker.

    I use StockCharts for display on the blog and text annotations because those charts are clearer, more understandable to the public, and more concise. If I could, I’d display TS charts here but it’s just not as clean.

    Good question!

  12. Chase Says:

    I have got to hand it to you. I know zero about the stock market and charts and trends but you have broken down this example to the point that anyone would be able to understand. Thanks for your information and time.
    Regards,
    Chase

  13. Anonymous Says:

    What do the color codes of the price bars mean (green, yellow and red). Are they based on the direction of the MACD histogram, MA or both. ie red when both are sloping down, green when sloping up and yellow when sloping in opposite directions?

  14. Tommy Says:

    Cory,
    Stumbled apon your blog just minutes ago, what I have ben reading so clear, (or at least much clearer), than anything I have read so far, laymans terminology for us newbies, you can be sure I will be a regular visitor.
    Cheers.

  15. Corey Rosenbloom Says:

    Anon,

    The colors are a function of the Average True Range (ATR) indicator. The program identifies a swing high or swing low and then adds 2.5 times the current ATR to change the color from red to green. It’s a volatility function added to swing highs and lows to quantify ’swings.’

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  18. Tropiclean Dog Shampoo Says:

    The idea behind these patterns is that an initial impulse move will result in a corrective reaction against this move (to shake out the weak hands), yet price will reassert itself (temporarily) in the direction of the impulse and retest (or exceed) the most recent high.
    Thnaks

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  22. ajay kumar Says:

    Read the stock chart's volume for the day the stock chart was made. The
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  37. Firoz Says:

    Momentum is highly important as if we get that correctly then we could make great income consistently but if we get into the negative mindset then we could be set for losing heavily. I love to trade with OctaFX broker and they give me great chance of making profits since they offer 50% bonus on all deposit which allow me to be successful and create great momentum for been successful plus they have also very friendly and helpful customer service.

  38. Firoz Says:

    Momentum is highly important as if we get that correctly then we could make great income consistently but if we get into the negative mindset then we could be set for losing heavily. I love to trade with OctaFX broker and they give me great chance of making profits since they offer 50% bonus on all deposit which allow me to be successful and create great momentum for been successful plus they have also very friendly and helpful customer service.