Trading What I See

Today was an up day with minimal pullbacks, but it certainly looks like more consolidation on a longer term chart. Starting with a 45 minute time frame (today is only the last nine bars) we stalled at a downtrend line just as we reached a possible “C” top at 62% of the “A” move.

That’s the normal turning point for a weak move, and notice the declining volume. Of course a breakout tomorrow morning would change this pattern, but it will be a shortened trading day followed by the holiday on Wednesday.

I have a tendency to distrust the setups around a holiday, but usually when I look back at them later they will often work just as well as during normal trading periods.

On the trading chart (3 minutes) there was a pullback after the gap opening, followed by an up to sideways day — profitable if you could figure out a safe entry. I don’t really see one unless you took the break above the first bar’s high. The external retracement of the lunchtime pullback turned at 162%, just as we hit the downtrend line on the longer chart.

Unless something surprising happens tomorrow I probably won’t post a commentary.

For the third day in a row the first hour range has contained the market’s overall movement. In each case, lacking a good setup during this period I can find no compelling reason for taking a trade.

As you can see from the chart, the Fibonacci measurements are still working even if the market is not going anywhere. There were two A-B-C patterns, each turning at 62%, showing a lack of conviction in either direction.

Sometimes, during periods of indecision, the market will make an early move and then spend the rest of the day oscillating around the center point of that range (blue arrow.) As happened today, that’s where the market will often close.

Boring trading, but remember — when the market puts enough traders to sleep it can suddenly wake them up with a surprise move.

I wasn’t thinking about Monday being a holiday until I looked at the first hour of trading. I hope most of you made this into a four day weekend. However it’s surprising how regular the movements often are on a narrow range day.

After a small gap, the first hour had a trading range of under five points, and because of the holiday weekend the day’s entire range was only a little over six. The market made an early pullback and then rallied with a small A-B-C Measured Move that completed a larger A-B-C pattern that began yesterday. That gave a double Fibonacci signal for the high of the day.

From the top, a Measured Move down (100%) created the first leg of a larger A-B-C. It ended with a Stochastic divergence at the same time the market tested a pivot from earlier in the morning.

A rally of 50% set up another reversal, and then it was down again in an A-B-C Measured Move to set up a bottom pivot. This was the third touch of a support level shown by the blue horizontal line, the third Measured Move of the day, and it completed a larger A-B-C that ended at a Fibonacci 62%. Lots of tradable setups but unfortunately no range to work with. Have a nice long weekend.

Yesterday I said that we had reached a logical level for a pullback. Actually I was anticipating an A-B-C pullback from the closing level followed by another five wave rally. Correct on the pullback — wrong on the rest. The “rest” was based on an Elliott Wave concept.

I no longer trade Elliott Waves, although many of the setups I use are based on them. I watch the patterns form and take signals from Fibs and trendlines if they match the patterns, but I don’t pretend to actually trade the waves themselves.

For those that haven’t studied Elliott, a reversal that starts as a five wave pattern (marked in yellow numbers between the magenta “X” and “A”) will usually have a pullback A-B-C (from magenta “A” to “B”) and then continue to make new highs for the move.

When Elliott Waves work as advertised, they are amazingly accurate. But when they don’t fulfill their promise I find that they have given me a strong directional mindset, and I lose more money when I’m wrong than if I just trade Fibs, trendlines, and chart patterns.

So instead of the rally I was expecting we ended up with an inside day. Since we didn’t exceed the 162% level I marked at yesterday’s close, my rally bias is no longer in effect. But you’ll see from the chart that some good setups still appeared.

Much of my knowledge of Fibonacci came from studying Elliott, and I recommend that traders at least have a general idea of the structure of impulse waves. I’ve included a link below to the most understandable of the many books on Elliott Wave.

Robert Prechter’s Elliott Wave Principle

Today was an inside day with little movement, and the few setups that occurred couldn’t manage a break of the first hour’s range. As I’ve pointed out before, a narrow first hour often keeps me from trading unless the market changes character during the session.

The small move up from the open looks as though it stopped at the 127% retracement of yesterday’s last drop, but it was actually higher than that during pre-market trading. There was little volume as everyone waited for the ISM report at 7:00, and evidently that was a minor disappointment.

By the time the report was released we were too far from the pivot for a close stop, so I waited for a pullback that never occurred. Once a narrow first hour range is set, the market will often respect that high and low for the rest of the day. My procedure is to wait for either a breakout or a good setup that looks as though it may break from the range. End result — no trades today. But there still are some examples of setups that I like under better market conditions.

Although the yellow trendlines look like a triangle, I never trust one that keeps going sideways to the apex. They seldom turn into successful trades. But during the lunch hour we broke the bottom trendline and made a 50% pullback. Pullbacks to broken trendlines allow close stops, and often become nice trades when the trend continues. I also like them when the pullback reverses at moving averages that have just changed direction.

Of course we were stopped by the first hour’s low and a longer term trendline that was visible on the 15 minute chart. When the market couldn’t go down it decided to try the other direction. Notice the same setup as we broke another trendline and pulled back into the cup formed by the moving averages.

I use the same rules for trendline breaks that I use on patterns — if the break is to the upside it must have increasing volume; to the downside volume isn’t that important. And of course they shouldn’t occur in congestion like we had today.

Yesterday closed with a Test of Top in the Russell 2000, and today opened with a failure of that test. Nothing serious — just another inside day, but when a market makes new highs and can’t continue there is a serious threat we may head in the opposite direction.

The first chart today is the 15 minute timeframe, and it shows a large rectangle formation. This gives a good picture of how much congestion there has been in this shortened trading week. Criss-crossing moving averages are another good indication that trading opportunities will be hard to find.

With no reasonable trade setups today, lets review two types of retracement patterns that, under better conditions, I watch for potential entries. The first, marked in yellow, is a normal Fibonacci retracement. This is the one most people recognize, where the market pulls back to give traders a second chance at entering a change of trend. It is often 62% of the original move, but other Fib numbers will occur.

The retracement marked in magenta is less well known. It has several names, but I like to call it an external retracement. This is a retracement that goes farther than the original move, and will often reverse direction at 127% of the first move.

Neither of these are automatic trades, but since they can be drawn long before price reaches them, they give lots of time to look for confirming signals. The two levels also work well together, since a purchase at the 62% level can often use the 127% level as a first target.

You can see how that would have played out today — if we hadn’t been in congestion. If someone is new to Fibonacci measurement, these are the two levels I would have them watch first.

Yesterday’s 16 point range raised hopes that the market was finally moving again. The rectangle (magenta) created during the day should have acted as support if we were to move higher. Instead we gapped completely through the rectangle and then went sideways for the rest of the day.

There were Fibonacci retracements that I’m sure some traded, but here is why I ignored them. The first drop was to a Fib 38% retracement of yesterday’s entire range. But notice that the moving averages are flat rather than rising. Normally a 38% retracement happens late in a move, and the moving averages have a wide separation. In fact price is usually still well above the moving averages.

Then there is the simple matter of pivots. An uptrend will have higher highs and higher lows, and the opening price created a lower low. Not a good sign.

We pulled back up to the moving averages, and if they had both been declining it might have been an acceptable short entry. But the long MA is very flat, making the entire structure look like congestion.

When we dropped again, price stopped at a 127% external retracement of yesterday’s last rally, and it even had a nice Stochastic divergence. But where are we going? Right back into the congestion area.

The final drop of the day again stopped at a normal Fib retracement, this time 62%. If you look at the larger picture we have sideways moving averages, sideways moving prices. That means low probability trades.

When I think we are in a trend I’m looking for excuses to take trades. But when I have doubts about the trending action, I’m doing the reverse — looking for reasons to watch. Today I watched.