I was quite impressed by the strength of the bears in swiping the US Indexes lower on Wednesday, giving the bulls only a marginal chance for any sort of retracement.  I recommend saving today’s charts for the files under “strange price action” for future review.

Let’s look first at the DIA:

Price made its intraday high just above yesterday’s close, which formed a shooting star (bearish reversal) candle pattern.  After consolidating into the 11:30 time slot, the market broke to the downside and consolidated in a slightly rising formation (actually flat on the SPY) which broke sharply and quickly to the downside.

Bulls only neutralized selling pressure, and did not overcome it, as evidenced by the strange ‘flat-line’ price action into the 2:00pm hour before the bears took full domination of the intraday price action, pushing the indexes to new lows on surging volume before making one final push downward to close near the session lows.

In terms of ideal trades, one could have entered short on the shooting star candle at yesterday’s close at 10:30 and targeted the 200 period moving average.

One could have ‘gotten short’ again when the Bollinger Bands narrowed at 1:00 and entered playing for a breakdown in price with a stop above the key moving averages.

A second such trade could have been entered around 2:00 (actually any time before that once you recognized the price retracement and flat-line price action - akin to a rectangle).

Price breakdowns can give you large targets, and with the swift action, you may have been tempted either to take a small target or try to fade the action when you felt it ‘bottomed’ but momentum often precedes the price and the new momentum (and price) low at 2:30 was a clue that the actual price low was likely yet to come.  Indeed this was the case.

I focused on the rectangle consolidation patterns on the SPY chart below:

It’s unusual to have two rectangle consolidation zones back-to-back, and also unusual to see price form such a clean stair-step pattern without meaningful retracements against the prevailing trend.

File this day for your future reference and study price action to gain greater clues into your own interpretation.

Are the Indexes at Support or Resistance?  Today’s action would lend to the “Resistance” camp, but let’s take a closer look.

Let’s start with the daily chart of the Dow Jones Index:

With this chart, I have Resistance plotted via two areas:

1.  The declining 200 day moving average

2.  The horizontal trendline via prior support/resistance

I have Support plotted also via two areas:

1.  Rising (up-sloping) trendline beneath price action

2.  The Rising 20 and 50 day moving averages

So which is it folks?

Let’s look at the S&P for a similar situation:

In this, I’m showing sort of a ‘rising wedge’ potential pattern.  Generally, rising wedges are bearish patterns, but it’s difficult to draw an exact converging trendline pattern that makes up the wedge.  It’s more akin to an upward sloping trend channel, but still a break beneath the lower trend AND the moving averages would be bearish and set up a potential retest of March lows.

Let’s pull the daily chart back just a bit and compress the bars to see how many valid trendlines we may be able to draw on the Dow Jones (and similarly in the S&P 500) Index:

At first glance, you may be asking what I have done on this chart.

I’ve drawn two (current) resistance lines (red) and two support lines (black).

Notice that three of these lines converge - along with the 50 day moving average - at or near 12,700.

There is a lot more going on than I’m showing on this chart, but even still, there are a variety of trendlines that can be drawn (not to mention Gann and Fibonacci retracements as well).

It’s best to keep your analysis simple, but it’s interesting to not how many seemingly ‘obvious’ chart points are setting up now.  It will be interesting to see and trade the resolution!

Although it’s not discussed extensive, the Yield Curve has now normalized to levels that have historically preceded large bullish moves for the overall market. The last time this pattern occurred was in 2003.

Bill Luby at VIX and More recently identified this pattern as well with a good, brief analysis in his post “The Yield Curve looks like May 2003.“

Let’s look at the current (and past) Yield Curves and see what may be in the cards for the broader stock market.

Yield Curve Basics

The Yield Curve refers to the different yield values on different fixed income vehicles, specifically the difference (plotted as a line graph) of the 3 Month, 2 Year, 5 Year, 7 Year, 10 Year, 20 Year, and 30 Year yields.

“Normal” Yield Curves form when the 3 month yields are far beneath the 30 year yields (which reflects normalized conditions) meaning you’ll take less income (yield) from a 3-month commitment (such as a CD or short-term T-Bill) than you will with a 30-year commitment (such as a bond). The value of yields increases at each successive type of vehicle.

A “Flat” Curve occurs when there’s little to no difference between short term and long term yeilds.

An “Inverted” Curve occurs when short term yields are higher than long term yields. In this case, it would be to your benefit to lock in your capital for short-term rates (perhaps 3 months to 1 year) at a higher yield than locking it up for 30 years. Also, on the other hand, higher interest rates on loans are more expensive for businesses which cut into profits.

Typically, “Normal” or steep yield curves precede bull markets (as the Fed controls shorter term rates easier than longer term, and lower rates are beneficial for consumers and businesses).

You can learn more about these conditions at a variety of web links, including an explanation from Fidelity Research.

Let’s look at the current “Yield Curve” courtesy StockCharts.com:

Let’s look at the “Yield Curve” in March 2003 and put it into perspective relative to the S&P 500 in 2003:

To flip the perspective, let’s look at two “Inverted” Yield Curves in 2000 and 2007:

Now, let’s look at the most recent “Inverted” Yield Curve which permeated throughout most of 2007 (before the “fall”):

Are bullish times ahead? Uncertain, but the conditions - at least from the yield curve - are more favorable than they were thanks to the Federal Reserve aggressively slashing interest rates to stimulate the economy.

Continue to watch this for more insights and potential clues for the future.

Wow!  What an interesting day it was for active traders.  Yet another gap was filled and a sort of unexpected trend day emerged.  Let’s look!

Dow Jones ETF (DIA) 5-minutes

Today opened with a sharp intraday gap down, which spent the first 10 minutes continuing downward.  I prefer to wait for 3 bars (15 minutes) before entering a gap-fade trade and I have increased confidence of a fill when the gap is less than $1.00 (100 Dow points).  Today’s gap was just over $0.50.

I typically place a stop 1/2 the distance to my target, which is always yesterday’s closing price.  As I showed earlier today, the odds favor a gap fill, but the odds of filling decrease along with the size of the gap.

Nevertheless, this is always the first trade to place with a decent gap-fill fade trade.  The trade achieved its target with only a small pullback just after 11:00am.  It would have been fine to exit the trade at a 50% retracement, which corresponded with the falling 50 period moving average (or at least take ‘half off the table’).

Strong-willed traders held on for the full fill, which typically produces a powerful retracement (or reversal) back IN the direction of the gap.  When this doesn’t happen, it often signals a more powerful trade (or signal) in the opposite direction, which was the case today.

Price supported at yesterday’s close (purple spotted line) and then rose to form a momentum divergence which then pulled back again to yesterday’s close and the rising 50 period moving average.

If you expected a trend day based on the price action up to this point, this would have been an ideal point to add to a core trade or go on leverage with a high-probability scalp trade.  Price gave you this scalp before faltering and closing near (or just on) the highs of the day.

Bears were strongly discouraged today as bulls claimed yet another victory.  The market is clearly climbing the proverbial “Wall of Worry.”

For reference, here is the action on the S&P 500 ETF - SPY.

As I always recommend, print out the daily action and locate the key trades you feel provided excellent opportunities via your understanding of price action and market structure.  Annotate the chart by hand to get a better feel of price action and incorporate these patterns into your experience so you can recognize them better in real time.

For additional ideas, join the Market Club (which has been very popular as of late) for scans, signals, analysis, and commentary across different markets.

Today marked yet another opening gap that filled in the major US Stock Market Indexes. Gaps are one of my favorite opening patterns to play because they can provide a dual edge for traders. By ‘dual edge’ I mean they can provide a higher % win rate and also generate more profits when correct than losses when incorrect. Let’s look at the statistics for smaller index opening gaps and then view a chart of the whole spectrum.

Previously, I examined Large Opening Gaps on the US Indexes (specifically the DIA, or Dow Jones ETF) from January 3rd 2000 to the present (n=2,065 trading days) and found the following:

37% of DIA gaps (n=121) greater than $1.00 filled (which generally creates a negative edge depending on your stop-loss strategy)

44% of DIA gaps (n=16) greater than $2.00 filled (which creates a positive edge if your stop is around $0.50 to $1.00 or less on losing trades)

67% of DIA gaps (n=3) greater than $3.00 filled (which creates the dual edge concept)

But what about smaller gaps?

60% of DIA gaps (n=1,087) of at least $0.25 filled (again, creating a potential dual edge)

57% of DIA gaps (n=839) of at least $0.35 filled (potential dual edge)

52% of DIA gaps (n=507) of at least $0.50 filled (slightly with a dual edge)

43% of DIA gaps (n=237) of at least $0.75 filled (eroding the dual edge concept)

38% of DIA gaps (n=188) of at least $0.85 filled

The following chart shows $0.05 increments and the corresponding percentage of gaps filled for each gap:

(click for larger image)

The % of gap fills decline as the size of the gap increases, but around $1.50, the trend reverses (due to the fact that fewer gaps occurred at these levels which skews the percentages).

Keep checking back for more insights about the classic Gap-Fade strategies and other statistics and charts from previous decades on how this strategy performed.

Afraid to Trade has recently partnered with Tradecision and Alyuda Research to provide superior analytics and strategy development for retail traders. I wanted to give an overview of the software and how you might benefit from using this new and powerful software technical analysis tool.

Tradecision may be best known for its ability to design “Neural Network” trading strategies. Neural networks base their assessments on the price data patterns discovered by mathematical algorithms. Such strategies are becoming more popular as technical analysis moves further into the quantitative (and objective) arena.

Tradecision states: “Unlike any other nets you may have seen or tried before, constructive networks are new, state-of-the-art nets. These networks grow and train themselves during iterative price data analysis.”

I’ll be discussing more features of the software as time progresses and I learn more of the many possibilities available to you through the software. For now, I wanted to provide a quick overview.

In addition to Neural Network technology, Tradecision also allows standard Strategy Testing and Optimization, similar to TradeStation, Wealth Lab Pro, and other programs. Its programming language is extremely simple and can even import strategies from TradeStation’s EasyLanguage code.

As if these were not enough, the software also comes with powerful technical analysis parameters, indicators, and tools, some of which are difficult to find in standard platforms.

Examples include:

One-Click Elliott Wave Count notation

I’ve loved using this feature, as the software has embedded code based on the strict, mathematical rules contained in Elliot Wave Theory and calculates the dominant wave count based on these algorithms. You can edit the count if you like, or create an Elliott alternate wave count as well.

Cycles Analysis

The software has a handful of analytical tools that determine the primary and secondary cycles that are affecting the stock or market under analysis. Finding the dominant cycle can allow price projection parameters and targets into the future.

Fibonacci and Gann toolkit

Tradecision takes Fibonacci and Gann to the next level and provides one-click analysis or complex analysis of these almost ‘magical’ indicators. Create resistance lines, Gann & Fibonacci Fans, Time Arcs, Retracements, Projections, and more features with these mathematical tools.

Tandem Studies

The essence of Tandem study is an in-depth juxtaposition of two adjacent market phases - the Primary and Secondary. For each phase, the medium, extreme or accumulated value of the phase parameter is calculated, which can reflect the momentum, energy, acceleration/deceleration, buying/selling pressure, volume or volatility.

A typical problem Tandem Study is designed to solve is answering the question how strong a new market phase will be after the completion of the current phase and what the duration of the new phase will be.

Deep Market Scanner - “NeatScan”

Assess predetermined conditions or create your own parameters based on a host of Technical Analysis parameters to find opportunities with high profit potential.

I strongly recommend visiting their site and learning more about the broad capabilities of this software and how it may be of great benefit to you as a trader.

As part of the partnership, Tradecision extends a 15% discount to readers of the Afraid to Trade.com Blog, which can be accessed via the link on the homepage or here through this link (or image).

I have been using the software for a month now and firmly approve of the program, and strongly believe it will help you as a trader. I have been able to test new ideas and strategies (including gap fade statistics and momentum parameters) and am just beginning to scratch the surface of this powerful platform.

I’ll be happy to answer any questions you have about the software and strongly encourage you to check it out and perhaps purchase it for yourself. It’s a lifetime license and there are no monthly fees to pay.

I also want to thank the folks at Tradecision and Alyuda Research for offering this opportunity to you and for allowing me to test-drive the software, which I am becoming more dependent upon each week.

Microsoft officially withdrew its offer to acquire Yahoo, after Yahoo continued to hold out for a higher offer.  The fall-out from this decision has already begun.

AP Business writer Michael Liedtke reported Yahoo (YHOO) stock plunged 15% this morning, yet it is recovering some of its gains.

“The sell-off wiped out nearly half the gain in Yahoo Inc.’s stock price since Microsoft Corp. made its initial offer on Jan. 31 in an effort to challenge online advertising and search leader Google Inc. The downturn left Yahoo’s market value about $14 billion below Microsoft’s last offer.”

Liedtke also wrote a news story Sunday night which I found interesting, entitled “Yahoo CEO on the Hot Seat after Rebuffing Microsoft’s $47.5 Billion Bid“.

Liedtke, like so many others, anticipated a large drop in Yahoo’s price Monday morning:

“It will be a daunting challenge [to convince others his company is worth more than Microsoft offered], as Yang will be pointedly reminded Monday when investors are expected to show how little they think of Yahoo without a takeover bid on the table. Faced with resistance from Yang and the rest of Yahoo’s board, Microsoft withdrew its offer over the weekend.”

“Disillusioned shareholders are bound to question whether the rejection of Microsoft’s sweetened $33-per-share offer was driven more by emotion and ego than sound business sense.”

“Clearly there’s frustration,” said Darren Chervitz, co-manager of the Jacob Internet Fund, which owns Yahoo stock. “I am not even sure if Yahoo cares about its shareholders because they didn’t show much regard for shareholders’ best interests in this process.”

Let’s see the fall-out on the charts, which has proceeded as expected so far (expectation:   Yahoo plunges, Microsoft trades higher, Google surges higher):

First, the intraday action shows this to be the case:

Let’s look at their individual daily charts for any clues:

Yahoo Inc (YHOO):

Microsoft Corp (MSFT):

Google Inc (GOOG):

Remember that when there’s a take-over offer, the following pattern is expected:

Company MAKING the offer :  Usually Declines in a gap
Company BEING ACQUIRED:    Usually Rises (surges) in a gap

Also, any other companies directly affected move as well (for example, they were teaming up against Google’s search engine dominance).

In this instance, when a take-over attempt FAILS, then the unwinding of this pattern occurs, which is what we are seeing today.  Each stock also attempted a ‘gap fade’ after the initial overnight impulse.

This is such an interesting story, and one that has taken on new urgency now as the fall-out could be large from these developments.  Let’s continue to watch the situation unfold.