Trading What I See

After yesterday’s TREND DAY down, some sideways movement today was not a surprise. And once again, drawing trendlines and channels gave some structure to the movement.

We started with a small gap down, bounced for two bars, and then dropped again. There was always the possibility of two trend days in a row, but remember my basic philosophy — I look for places on my trading chart where a reversal might occur, and then wait for some sort of trigger entry. And this morning’s bottom was such a spot.

A week ago Friday I posted charts from several timeframes, including one where I showed a channel inside a larger channel, with all the trendlines parallel. I make it a practice to look carefully at a daily chart before the market opens. On November 16th we turned down from the outer channel. This morning we bounced exactly off of the inner channel. Show that one to the non-believers.

Does that mean we are going back up? I have no idea. I just try to trade what I see.

After our bounce off the trendline we made a 78% pullback. A key point about first pullbacks — they occur before the crowd believes there has been a reversal. That’s why they usually reach or exceed 62% of the first rise.

There were several ways to be sure you didn’t enter too soon. The first green Dunnigan bar was a possible entry. So was the break through the short moving average. Either way, the move carried right to the blue parallel, where you expect either a pause or a reversal.

When there is a second pullback more traders are convinced that a new direction is in force, so they buy earlier. First pullbacks are often around a Fibonacci 62%. Second pullbacks are more likely to be 38%. And that’s where this one stopped.

The next signal, whether or not you took the last rally, was what I introduced as a Wyckoff Spring. We broke to a high and immediately reversed, accompanied by a divergence in the Stochastic. But then notice how the move down forms a converging trend channel. To me that is a strong warning.

There were several potential bad reversal entries as we dropped through the lunch hour, but converging lines tell me to wait for multiple signals before an entry — like perhaps a nice divergence at the same time we hit a Fibonacci number. Have you noticed that the Russell seems to like 78% during congestion periods?

The rest of the day is a Measured Move, with the first rally matched by the second. If you caught the pullback, your exit was probably the parallel trendline which came a little earlier. Tomorrow we’ll find out whether the daily internal channel really holds, or if this was just a bounce in a larger downtrend.