Trading What I See

When you talk to a non-technician about the market they’ll often say something like “If you draw enough lines on your charts, of course price will bounce off one of them.” They say the same thing about Fibonacci retracements and extensions. Let’s look at today’s chart with decision-making in mind, and I’ll show you one way I use trend channels and moving averages to tell me which lines to ignore.

We started with a push up through yesterday’s high (green horizontal line.) If you’ll remember from yesterday, we turned twice at the 127% retracement of a move. And a few days earlier I pointed out a gap right into a 127% retracement that failed. And what do we have at the open? A push to exactly 127% of yesterday’s last pullback.

No to be too repetitive, 127% is an important Fibonacci retracement number. The push through resistance fails — we’re at a Fibonacci number — time for a short sale. And where does it try to stop falling? 127% of the previous move up. (OK - after a 15 minute stall it drops a little lower at point #2, but I think you get the idea.)

As we pull away from point #2 you can draw the lower blue trendline and then the blue parallel, and when price turns away from the parallel we have a down channel defined. I’m a little worried about a sideways day at this point, but my risk is only breaking the blue trendline, and my potential reward is much greater — the bottom of the channel.

Here is where I draw my “multiple” lines, and my thinking as we reach each of them. I measure the distance between points #1 and #2, and multiply by 0.618, 1.0, and 1.618. Measuring from point #3 gives the Halloween orange lines (sorry - couldn’t resist.) These are the Fibonacci extensions, and I’ll evaluate each if price goes that far.

If the overall short term trend is still up, we will probably stall or reverse at the 0.618 line. If we are going sideways, the move will probably carry to around the 1.0 line. And if we are moving downward, the 1.618 line is the probable target. Predictions? Not necessary. We’ll just watch what happens at each level.

Point #4 didn’t hold at the Fib number, but just in case, I’d use the blue 13 period moving average for protection. Really short term traders could even use the pullback to that moving average as an entry point. We also have a way to go before hitting the lower channel boundary, so I’d consider a hold here.

Point #5 is a bit different. We are almost at the channel bottom, so here is where I’d take partial profits. A reversal wouldn’t surprise me, because this is a Measured Move (equal to the first drop.) But I also don’t like to completely close a trade early, so again I’ll use the blue moving average as a stop level for the rest of my position. And down we go - through the lower trendline.

Next stop? I’m hoping for the 1.618 level, but any strong push through the moving average will get me out. And what happens at the Fib line? A nice Stochastic divergence allows an exit on the first green bar, just off the bottom.

What if the 1.618 Fibonacci level didn’t hold? On really strong moves it won’t. Then you can draw the 2.618 and 4.236 Fib levels. The last is where we often reverse after “panic” moves. I don’t try to tell the market what to do. I just try to make logical evaluations at points where experience has told me to expect possible trouble. For me, that’s what trading is all about.