Quick Profiles in Breakout Trading Stocks CAT XOM and F

Nov 4, 2010: 11:06 AM CST

Ahhh breakouts – while most traders love them, they can be frustrating to trade for others.

Given this morning’s activity, I wanted to do a quick profile on three leading stocks breaking out to new 52-week highs and revisit the “Popped Stops” logic from this morning’s post.

First, I’ve been very interested with Caterpillar (CAT) at the $80 level for a “Break or No Break” situation – this morning, we broke hard to the upside which created an opportunity for those ready to take it.

To me, this is trading at its finest.  It’s a throw-back to the Mark Douglas style of trading/analysis as described in Trading in the Zone where he states you should formulate trades based on massive support or resistance areas that price HAS to break one way or the other.  Your trade is then the direction of the resolution – downward from resistance or upward on a break.

No one can deny that $80 was an important level for Caterpillar.  And, the stronger (and more accepted) the level, the more definitive the break will be once price ejects from the resistance – or powerful the downside move will be when resistance holds.

Why is that so?

In part, traders and investors are taking real-life bets on whether price will break through or break down from resistance (not including fundamental analysis reasons why investors believe share prices should be higher or lower due to valuations – a whole other story).

For the technically oriented traders, those desiring to short-sell Caterpillar at the $80 level thus place stop-losses above $80 or $81 in the event price does break through – they don’t want to be caught in a breakout move short.

So, WHEN price breaks through to $80 and $81, they are forced to BUY-BACK their shares to cover – and this creates upward fuel for a rally.

At the same time, there are vested buyers pushing share prices higher who now rush in to purchase shares on a clean breakthrough of resistance.

Thus, a “Positive Feedback Loop” develops where short-sellers rush to BUY to cover, which triggers sidelined buyers to jump off the sidelines and buy shares, which may trigger those already with a position to add MORE shares, which triggers more short-sellers (with stops at $82 or $83) to cover, which … and so on.

This is the logic of the “Popped Stops” play which have become increasingly common in today’s technically-focused (charts) market.

And beyond Caterpillar, we see the same logic playing out today across the market, as seen in market leader Exxon-Mobil:

Without getting too deep, there was actually TWO big chances to play breakout moves in XOM – the first being late September/early October with the triangle (pattern) trendline break, then the break above the $63 prior high level and so on.

Then there was the mini-break above resistance at $67 in October.

And today gave traders another chance to position long for a quick “Popped Stops” feedback loop of sellers buying to cover at a loss and bulls rushing in off the sidelines to buy.

The feedback loop will continue as long as those two forces interact.

Finally, we see the same sort of thing in Ford (F) but its shares actually broke strongly higher yesterday:

Similarly, we had the opportunity the first time on the October breakout from the August high at $13.25 then a similar situation yesterday on the break to new highs beyond $14.50.

This is a concept that is real, is applicable, and that can make you money if you understand it.

The key is NOT to believe that resistance HAS to hold (is required to hold) and to approach the chart with an open mind, not imposing your will on the stock.

The Popped Stops play takes advantage of those who refuse to stop-out on the initial breakout, and thus lose MORE money by holding on and eventually capitulating (buying to cover) later.

The same logic works in reverse for big downside breaks of support.

Learn this concept and study these charts and understand the dynamics of supply and demand as shown on charts – it can both save you money and – if you are aggressive enough to play breakouts early – can make you money.

Corey Rosenbloom, CMT
Afraid to Trade.com

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

4 Comments

4 Responses to “Quick Profiles in Breakout Trading Stocks CAT XOM and F”

  1. CumbucoTrader Says:

    love the CAT breakout. I'm even tempted to buy some calls, and I don't play options much. Lots of stocks to like: IRS BUCY ELP YONG BEXP STLD CGNX, I think lots more.

    I'm interested in NEWN here, a Chinese litium ion battery producer that was recently uplisted, trading now at a P/E of 6.1. Up 11% on huge volume today. I did a write-up here for those interested: http://www.cumbucotrader.blogspot.com

  2. ibiza2000 Says:

    Agreed on the “trading at its finest” sentiment when it comes to popped stops. It's easy for me to get lost in the charts and forget that trading is in fact competition, it's one trader profiting from another trader's loss. When you're looking for potential popped stops zones in advance you're looking for places where other traders would take losses, and planning to profit from that.

    Not that profiting from an indicator entry signal is any less worthy, of course! But when part of your plan is to look for pitfalls that other traders could stumble on you're really tuned in to what trading is all about!

    Popped stops have not been kind to the bears of late. I think it's fair to say that the last 18 months have been bear hell.

  3. Gary_UK Says:

    All of them popped stright over their bollinger bands. Won't stay there, it's the classic headfake pop exhaustion end to a rally.

  4. pennystocks Says:

    I'm interested in NEWN here, a Chinese litium ion battery producer that was recently uplisted, trading now at a P/E of 6.1. Up 11% on huge volume today. I did a write-up here for those interested: