Orderly Pullback or Something More Sinister?

May 10, 2007: 9:29 PM CST

The Nasdaq fell 1.7% and the Dow fell 1.1%. Not only is this by no means surprising, it is also not a huge decline given the rally we have experienced.

There is irony I discovered at least in the Nasdaq. Tuesday and Wednesday, the Nasdaq gapped lower, signaling a possible trend down day. Instead, price closed at the highs of the day both instances. The market reversed. Thursday, the Nasdaq gapped UP… but then fell through the rest of the day and closed on its lows. These fake-outs had many traders confused and positioned incorrectly.

Things are not always what they seem… but in the market, things are rarely (if ever) what they seem so it helps to be prepared. As Mark Douglas teaches, be prepared for anything (keep a truly open mind) because anything can happen. In fact, what happens is often what the overwhelming majority of participants least expect.

nas-may-10.png

  • Momentum is flattening and declined today.
  • Price tagged the rising 20 period Moving Average
  • Volume increased on today’s “trend down” day (relative to the past few days)
  • The market is still in a strong and powerful uptrend UNTIL proven otherwise

The reason I hint to the ‘sinister’ side is that the Nasdaq sits firmly at the 20 period moving average, a key turning point in the battle between the bulls and bears. If this is broken, odds favor a retest of the 50 period moving average around 2500 (a drop of 40 more points). Aggressive trend traders can initiate a new long position (especially in the QQQQ’s) with a tight stop and play for a retest of the most recent high. Note my usage of the word aggressive.

At the firm this afternoon, a trader popped his head in and informed us “This is it! This is the top of the market!” I don’t know that yet, and I don’t think anyone would be wise to try to nail the exact top. I do know that there is still a lot of bearishness and people are celebrating this snap decline. Let the market tip its hand and confirm before celebrating, I warned.

Remember, making money is not about being right and not about 100% accurate predictions or observations. It’s about playing the highest probability set-ups, taking small losses when wrong, and larger profits than losses within a system/structure of money management.

Be safe!

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Link: Own the Zone – T. Lo

May 10, 2007: 9:07 PM CST

Teresa Lo posted recently regarding insights from Mark Douglas, one of many traders’ favorite authors.

In it, she discusses fear, biological responses, pain, edge, seven principles for consistency/success, and other insights. I have attached two key points:

five-truths.jpg pr-of-consistency.jpg

I recently finished reading The Disciplined Trader (Mark Douglas) and was completely impressed, especially with its constant handling of fear and beliefs.

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Link: TraderFeed – What Makes a Professional Trader

May 9, 2007: 7:31 PM CST

Dr. Steenbarger recently discussed five major differences between professional traders and novices based on his experience in working with professional traders.

Here are a few highlights:

  • Pro traders think about the big picture – they monitor intercorrelated markets and observe relationships between them (and trade them!).
  • Pro traders also think ‘small,’ in terms of returns. Do you see any professionals who achieve consistent 100% or 300% returns? They carefully control their risk and know what to expect (hint: it’s more realistic than doubling your account in a year). They set goals and the goals are reasonable.

Dr. Brett: “The best traders I know spend significant time generating trade ideas, researching markets, and staying on top of developments world wide.”

The underlying point is to approach trading professionally, like a business and take a multi-faceted approach (one that goes well beyond picking great stocks).

Check out the entire article for deeper insights.

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Can the Rally be Stopped?

May 8, 2007: 8:32 PM CST

“Make hay while the sun still shines” or so the saying goes.  It’s not often we see such strength in the market, especially with dark clouds on the economic front upon us.  Maybe that’s exactly why we see market strength, from a contrarian perspective.

The Dow Jones Industrial Average has risen 24 out of the last 27 trading sessions, which ties the record set in 1924!  Folks, that’s amazing.

Today, we had a morning sell-off above 60 Dow points which rallied to close just under 4 points where it opened.  To me, that’s amazing.

Folks trying to short this market keep getting buried.  Price action is key, and we must follow it.  Nevertheless, I am amazed at the recent action.

dow-may-8.png

My hat’s off to you, bulls.  It’s very rare when either the bulls or the bears win so decisively, as we have seen within the last few weeks.  When will it end?

Why try to anticipate the end?   Many shorts have been stampeded trying to do this.  Join the bull crowd and stop doubting this move.  When it’s over, it will end, but until then, odds favor continuation and it is nearly impossible to predict the absolute top so my advice is not to try.

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Multiple Momentum Divergences in SHLD

May 6, 2007: 7:41 AM CST

Readers, I know I discuss momentum divergences very frequently but they work (are effective) on so many levels.

Primarily, they set up trade ideas, and I take many of my swing trades based on momentum divergences. They work better than average for day-trading but not as well as swing trades off daily charts (in my opinion).

Second, they can provide warning signs for a trade you are managing – momentum divergences can be an early warning sign that the profit potential for your trade has eroded and price is likely to reverse on you.

Third, they can give you basic idea of the market structure in terms of supply and demand.

View this chart of Sears Holding (SHLD) and focus only on the highlighted momentum divergences. Click to view the full-size image.

shld-may4.jpg

Also, ignore the most recent action (the severe gap down through the moving average). We had a strong momentum divergence forming that may have kept longs out of the recent slaughter if they heeded the signal of declining momentum.

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