Knowing how the market (or a stock) opens in relation to yesterday’s trading can give you a clue about what’s likely to happen for today’s trading. What are the three types of openings and what might they mean?

1. No Change

This is the most typical opening, where today’s open is either equal or very close to yesterday’s close.

When this happens, it increases the chance that the day will be more neutral or rangebound, and decreases the chance that the day will be a trend day.

2. Gap, But Within Yesterday’s Range

When a market gaps up or down, it is indicative that there has been some sort of supply/demand imbalance that has changed overnight. Perhaps it was a news announcement or some other stimulus, but the gap is not too distant from yesterday’s close.

It is often better to trade against the gap, betting that it will ‘fill,’ which can establish an early morning trade. These instances increase the odds that a gap will fill.

Also, odds still favor some sort of consolidation (or rangebound) day, but the odds for a trend day are slightly higher than for the typical (no change) opening.

3. Gap Outside Yesterday’s Range

Gaps of this nature show potentially significant supply/demand imbalance, or that a major announcement or event has changed the calculus of traders’ expectations. Perhaps one side is being ’squeezed’ and that the other side is showing dominance.

Gaps outside yesterday’s range have lower odds of filling, especially if they occur significantly outside yesterday’s range.

Such gaps increase the odds that the day’s trading will lead to a trend day, where the market (a stock) will open at one extreme and close on the other extreme. The odds that the day will resolve into a trading range are much lower than the other types of openings.

The type of morning opening gives you clues about what is likely to happen (or not happen) for the rest of the trading day.

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In a surprising move, Blockbuster Inc (BBI) offered over $1 Billion to buy Circuit City (CC) to create a potential “game-changing retail concept” to merge media content with electronic devices.

MarketWatch (and other sources) reported today the announcement which has the approval of Carl Icahn, an activist shareholder with a seat on Blockbuster’s board.

According to the article, “Jeffrey Logsdon of BMO Capital Markets downgraded Blockbuster to market perform from outperform following the announcement, saying the bid creates a two-front war.”

The proposal comes on the heels of a vast restructuring at Circuit City, which has shaken up its management ranks, overhauled operations, slashed expenses, and boosted its customer-services efforts in an effort to keep up with rivals like Best Buy (BBY).

“We fail to understand the strategic value of the company’s hostile bid for Circuit City and believe the combination has the potential to divert management and financial resources from the company’s nascent recovery,” he said in a note.”

Interestingly enough, the article challenges how Blockbuster will finance this large transaction, which is over 5 times the amount it has reported in cash as of last quarter (Blockbuster reported having $184 million in cash as of last quarter).

Margaret Brennan at CNBC raised concerns with her brief report entitled, “Blockbuster’s Offer… There are So Many Questions.” In her article, Brennan asks,

“Why would Carl Icahn choose to finance the $1 billion Blockbuster bid?”

“Why bid for retail brick and mortar space at a time when the video industry is going digital?”

“Now that Circuit City appears to be in play, who else will enter the arena?”

Let’s look at the charts of the stocks in play. As expected, the company MAKING the offer suffered a decline while the company potentially being acquired experienced a large upside gap (almost +50% at the intraday high):

Blockbuster (BBI) Daily:

Blockbuster (BBI) Weekly:

Circuit City (CC) Daily:

Circuit City (CC) Weekly:

Keep in mind other stocks such as Netflix (NFLX) and Best Buy (BBY) may also be affected in the short or longer term by this announcement and take-over should it succeed.

With Microsoft (MSFT) offering to buy Yahoo! (YHOO) and AOL/Time Warner offering a counter-measure (TWX), and the ramifications for Google (GOOG), it’s enough to keep the news traders busy for quite some time!

Let’s take a quick peek at the US Dow Jones Index and what may be in store for next week:

The market has broken beneath key support coming from the flattening of the 20 and 50 period moving average, as well as the bottom trendline of an ascending triangle pattern.

The market is in an overall consolidation phase at the moment, and it wouldn’t surprise me at all to see a little more downside – perhaps at least to 12,000.

There appears to be strong resistance at the 12,800 level, and relatively strong support about the 11,800 level, giving us a 1,000 point range.

Let’s also take a quick glance at the AMEX SPDR sector performance over the last week:

The biggest loser was the Industrial Sector (-5%) followed by the Financial Sector (-4.5%).

Only two sectors gained ground last week – Energy (+0.25%) and Utilities (+0.26%).

The broad based S&P 500 index lost 2.74% last week.

Here’s a peek of the Dow Jones Weekly Chart:

Again, resistance comes in about the 12,800 level, only now the weekly chart shows key resistance via the 20 and 50 period moving averages.

If the market travels lower, key support may come in between 11,500 and 11,750 via the 200 period moving average and previous support.

Let’s keep our risk low and see what the market gives us this week!

Friday’s action was clearly a ‘trend day down’ in all classic definitions of the concept. How so? And how might you profit if this situation occurs again in the near future?

First, let me give some generalizations for a ‘trend day’

Trend days often begin with an overnight gap

Breadth is extremely skewed on a trend day (from the start)

Volume is often noticeably higher on a trend day

The TICK often reaches extremes and fails to retrace far below (or above) Zero

The shorter (20 period, especially) moving averages serve as barriers for price

Here are some Tips for Trading Trend Days

A large overnight gap is your first clue that we may have a trend day.

Failure to retrace the gap (or even a 50% retracement) is your likely confirmation. At this time, assume that we have a trend day underway.

Next, trade only in the direction of the original gap – do not attempt to ‘fade’ a trend day at any point of the day. Use retracements only as places to ADD TO or establish new positions – never try to profit from retracements against a trend day.

Once you believe we have a trend day (in the major indexes), it is best to establish a ‘core’ trade (even a small position) that you plan to hold until the end (close) of the day. If it is truly a trend day, price will close either at the daily low, or very near it.

Use pullbacks to the 20 period exponential moving average either to add to your core position or put on a large position (perhaps on leverage) and play for a small target with larger size. Your personality and risk-tolerance will determine your exact strategy here.

Unless you have a strategy (or system) that accounts for trend days, it is often best to eliminate all your indicators and follow key moving averages only as entry points and risk management (stop-loss placement). Example: What if you had entered each time the market retested the falling 20 period moving average and placed your stop above the 40 or 50 (shown) period moving average? Do you honestly need additional indicators to help you identify better trade location?

Relax, and do not try to over-think or over-work the day’s action.

Trend days are normally ‘rare’ occurrences, but in this current market environment, they are certainly becoming more frequent.

If you have not done so already, try to make an exception in your strategy (or an addition) to account for, and successfully trade these wonderfully profitable ‘market gifts.’

Take a moment and educate yourself on what a “doji” is and what it might mean.

A standard doji is a type of candlestick pattern that is comprised of a single ‘candle’ where the open and close price are equal (or very close) but the high and low of the candle are distant from the open and close.

The following images demonstrate what it is and what may have happened in the intraday action to cause the pattern.

There is a virtually infinite set of patterns that can create the pattern, but the goal is to understand the basic ‘psychology’ of the concept that creates the doji.

Traditionally, dojis are known as “indecision” patterns, or sometimes that the market is “confused” or even “tired.” In terms of the ’struggle between bulls and bears,’ a doji would represent a sort of ‘tie’ between the two ‘armies.’

Doji candles often gain significance when they appear after a long trend move up or down, or if they appear at a support or resistance level (such as a trendline).

Dojis can appear on any timeframe, but the pattern gains significance if it occurs on longer timeframe charts, especially if there is a true ‘battle’ between supply and demand.

In the recent crude oil chart I posted, there are a few examples of the doji candle at key turning points in the market:

A word of warning – dojis may have powerful predictive power, but they are never to be traded in isolation. Always check the price structure and any indicators you follow for confirmation/non-confirmation. They can be one more tool in your trading arsenal, but – like everything else – they are not the Holy Grail pattern.