False Breakout

Yesterday I mentioned the possibility of a breakout today, and it looked like it was happening — for a few minutes. We started with an almost five point gap on fairly good volume. Price opened above the highs of the last two days on the Russell, which has actually been the weakest of the indexes I follow. Three minutes later we were on our way down. Predictable? Not by me. But the move gave two different short sale setups within a few minutes of the open.

The first setup is most easily seen on a longer term chart. While many watch an hourly chart, I don’t really like them. If you are trading stocks, there are 6 1/2 hours to the trading day. Index futures have 6 3/4 hours. In either case the last hour of the day is shorter than the rest. Am I being picky? Probably. For that general time frame I use a 45 minute chart for futures, and there are exactly nine of them in a trading day. (I used to use 65 minute charts for stocks. With computers, you can make the rules.)

The setup is from Victor Sperandeo. If you haven’t read Trader Vic — Methods of a Wall Street Master, you’ve missed a great trading book. The pattern is called the 2B SETUP. I won’t go into much detail, but the essence is that a trendline break followed by a new high and a failure is almost a definition of a trend reversal. It’s easiest explained with a picture, so here it is. This pattern alone is worth much more than the price of the book.

The second setup, occurring at exactly the same time, comes from Larry Williams. He calls it the Oops! pattern. It requires a gap above the previous day’s high that can’t hold. In other words, it fails soon after the gap is made. And all the traders that took the breakout say “Oops!” He trades it as a one-day trade, holding until the next day’s open. We won’t find out until Monday if his trade works. I take my profits a lot earlier.

The Oops! pattern doesn’t really require a chart to understand, but you’ll still want to look at this one. Once you had convinced yourself that the true direction was down there were multiple patterns, Fibonacci measurements, and pullbacks for trade entry and exit. Too much to explain in one post, but this is what the Trading What I See Blog is all about.