Trend Day Down after Trend Day Up

Feb 14, 2008: 7:45 PM CST

Surprisingly, the market punished traders with a trend day down following yesterday’s trend day up. Usually, we expect some sort of consolidation after a major trend day, rather than a trend day in the opposite direction, which confuses swing traders to no end. Intraday traders often fare better, because many swing trading systems trigger buy signals at the close of a major up day, and then the next day (today’s) negative price action places their trades squarely underwater.

Let’s glance at the DIA 5-minute chart:

I have annotated this chart to show possible trading opportunities, and to highlight the use of moving averages as trade location zones and support/resistance areas.

In a downtrend (as established by lower lows and lower highs, and confirmed by the most bearish orientation possible for the moving averages), we expect moving averages to serve as resistance levels, from which one can enter a low-risk trade.

The arrows represent struggles in the battle for control between buyers and sellers.

Notice the prolonged momentum divergence which occurred all day as price trended lower. New price lows were not confirmed with new momentum lows – in fact, momentum continued to make higher lows, suggesting hidden strength in the market.

Let’s see the opposite pattern that occurred on the 15-minute chart:

Notice the prolonged negative momentum divergence that preceded today’s action.

I have drawn dotted red horizontal lines to correspond with new price highs that were NOT confirmed with new momentum highs.

Remember that momentum precedes price, both in new momentum highs (or lows) and in divergences (indicative of losses in momentum).

Although today is Valentine’s Day, the market saw red… but it was not the red color associated with love!

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