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Gary "Gar"
Crandall
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Glossary
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Dumb
Money Gap
Lunar
Bounce
Staircase to Heaven
Breakout
Trap
Door
Section
6: Winning
Chart Patterns
In this section, you will learn how to
spot various patterns that lead to trading opportunities. Essentially, this is
where you will finally begin to put all the theory learned in previous sections
to use in the "real" trading world.
OracleTrader Reference
- Wherever you see this icon, instructions are
given on how to spot the winning pattern using the OracleTrader.
Required
Materials
To apply the techniques discussed in this
section, you will need the following materials. For more information on any of
these items, review the section Tools
of the Trade.
- A quote streaming system (such as eSignal, or money.net, or any
streamer that lets you set up spreadsheet-like lists of stock tickers and
their changing prices as the market moves).
- Ability to quickly access real-time, intra-day charts, including
volume, for any stock ticker on the NASDAQ or NYSE. By real-time is meant
that the stock chart data must not be delayed. You must be able to view 1,
2, or 5 minute intervals.
The OracleTrader client application (optional, but highly recommended).
The Oracle will help you locate most of the winning patterns
outlined below.
The
Dumb
Money Gap Down
The Dumb Money
Gap Down
This is one of the most
powerful trading techniques you can employ, and it is particularly useful
for making a "quick buck," once in the morning. It is called the
Dumb Money Gap Down, or "DMGD" for
short. It is when a stock opens substantially lower than its previous close,
or plummets sharply soon after the opening bell.
The technique is based
on the fact that inexperienced ("dumb") investors will frequently
buy or sell stock before the market opens. If such pre-market action is to
the sell side, the stock will gap down, which means it will open below where
it closed in the previous session.
Although we refer to
stocks that gap down (open lower), a DMGD includes a stock that opens flat,
or even slightly higher, but quickly plummets during the first few minutes.
Whether this occurs right at the bell or shortly thereafter, the theory is
the same: the "dumb" money sold the stock.
Why
"DMGD" Works
The theory of the "DMGD"
is that no real professional would ever sell stock first thing in the morning
without a compelling reason to do so. Hence, any sharp action in either direction
is due to inexperienced traders. And, more often than not, the "smarter"
money frequently swoops in to drive it back up. Using proper timing, you can
usually catch the bounce and make substantial gains in only a few minutes.
Another reason that stocks
gap down sharply is that the less experienced traders and investors will overreact
to news, or to an analyst downgrade, etc. The interesting point about this
is that the DMGD strategy tends to work even if the stock is gapping down
for a "reason." More often than not, a reaction to a negative event
is overdone, sometimes blatantly so. (Remember what you learned in the previous
sections: The market always overreacts).
What
to Look For
A stock has to fall quickly
and sharply, preferably within the first 5 minutes of trading, to qualify
as a "DMGD" play. A stock that drifts lower and lower on a downward
slant is not a candidate—the gap down has to be shift and acute,
like a "spike" on the chart. It has to almost appear to be a panic
selling situation, or as if some large shareholder lost their cool and dumped
a massive amount of shares.
There really isn't any
fixed amount the stock has to plummet, like "falling more than $1"
or "falling at least 5%". Rather, it just has to be sharp and shift,
it has to be more than it has recently shown, and it has to be obvious. A
good test for whether or not the stock fell enough is to ask yourself how
you would be reacting if you were a shareholder of the stock. If its downward
spike would have given you great cause for alarm, then the stock has fallen
sufficiently to qualify as a potential play.
Fine Tuning
the DMGD
On the surface, the "DMGD"
appears almost too easy. It would seem that anything as obvious as a stock
bouncing off of an unreasonable low would attract the attention of so many
traders that it would lose its workability. There is a grain of truth to this,
except in actual practice, not every stock that gaps down is necessarily a
good trade, and you could lose money in a hurry by playing these gaps unconditionally.
To maximize success,
there are certain rules to apply before a stock qualifies as a solid "DMGD"
play.
Rule 1: The
stock must fall substantially from its recent close.
A large part of the reason
why the DMGD play works is because bargain-hunting traders jump all over a
plummeting stock to exploit its weakness. It goes without saying, then, that
if the fall is not very substantial, it won't be as attractive to the same
traders. Without a rush of buying interest, an early morning gap-down won't
bounce.
Or, sometimes a stock
will gap down slightly from "profit taking". This is when a stock
showed strong gains in the previous session, reaching its high near the close,
and investors are taking the opportunity to lock in gains by selling the stock
in the early going. Unless the stock gaps down quickly and substantially,
other traders will not perceive a "bargain," because the stock still
runs at a relatively high level from its recent activity.
Two examples are shown
below, one that fails to attract bargain hunters, and one that does.
The difference between
the two cases above is the amount that the stock fell at the open, relative
to its previous range. In the first (left) case, the stock only falls a fraction
of its total range from the previous day, while the second case fell over
100% of its range. Notice the clear difference in buying interest, with the
first case showing light volume, while the second case shows massive, bargain-hunting
action. Needless to say, the stock on the left made little gain, if any, while
the stock on the right ramped up quickly and handily.
Determining whether or
not the stock has fallen low enough is relative—its plummet must be compared
to its previous performance levels. As a rule, the stock should fall at least
50% below its previous session range to qualify as a DMGD. The session range
is, of course, the price range that occurred in the previous session.
For instance, if the
stock had a low of $20 and a high of $25 in the previous session, then its
range was $5. To qualify as a valid DMGD, such a stock would need to fall
at least 50% of its range, or -$2.50 in price.
Although you will find
exceptions, this should be the rule, which will minimize your risk of failure.
Remember, you are betting on the speculators! It is what they will
perceive that matters.
 |
A
stock has to gap down far enough to attract bargain-hunting traders.
You can determine what "far enough" is by comparing its
gap down to its recent performance. A rule of thumb is to eliminate
stocks that do not fall at least 50% from their previous session
range. |
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Rule
2: Wait for a confirmation.
Very often, a stock that
gaps down will continue to fall after the opening bell before it reverses.
In many cases, a stock opens lower, continues to sell off for 20 or 30 seconds,
and then makes its rapid, upward move. On some occasions, the stock will continue
to sell as long as 5 to 10 minutes before attracting buyers. How do you know
when it is time to enter the trade?
The answer is that you
wait for a confirmation. In the case of a DMGD, a confirmation consists
of a halt to the stock's decline, followed by a price reversal and accompanied
by up volume. "Up" volume can be seen on two-tone charts, and it
indicates that more buyers than sellers are trading the stock.
Keep in mind that waiting
for a confirmation can be tricky business, because this kind of action can
go very, very quickly. It is not uncommon to have only 2 or 3 seconds to decide
that a stock has reversed and is ready to advance. But you will get better
at this the more you practice, and you will begin to develop a "sense"
for it.
For this part of your
trade, a 1-minute, two-tone, real-time chart is a must, because that is the
only way you can confirm that a stock has halted its decline with any amount
of certainty. In the example below, the confirmation is indicated by a distinct
change in directional volume.
Notice the "magnified"
price and volume action in the gap-down for CSGS above. After the open, the
first four volume bars show continuous selling, not only indicated by the
"red" bars, but indicated by the price decline. Then, after the
price halts its decline, the volume shifts to the upside—indicated by
"blue" bars and the rising price. This is a classic confirmation
that the early plummet has halted, and the stock is reversing.
Needless to say, the
stock went on to gain 13% from its low.
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By
waiting for a confirmation of a reversal, you may miss some early
gains, or you might miss the trade altogether, but you will substantially
reduce your risk of a loss. |
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Rule 3: Avoid
stocks that have a legitimate reason for gapping down.
Any stock that gaps down
usually has a "reason" for it. But all bad news is not created equal,
and you need to learn when the reason why a stock is selling off is so bad
that it should be simply left alone.
As a rule, any news that
can substantially and immediately dilute the value of a company's shares or
future earnings is a legitimate reason for a stock to sell off in earnest,
and these should be avoided. Among the most common events that can cause a
"legitimate" sell-off are as follows.
"Legitimate"
Reasons for a Gap-down
- The company announces
a secondary stock offering. This almost always plummets a stock, because
offering more shares to be publicly traded dilutes the price of the shares,
and investors know that. When a company makes such an announcement, you
should avoid the stock when it gaps down.
- The company announces
an acquisition. This is similar to announcing a secondary offering,
because acquisitions or mergers usually involve diluting the shares of the
company doing the acquiring (it does not affect the company being
acquired). You should therefore avoid these stocks.
- The company has
issued a very negative profit warning. This one is tricky, because not
every such warning is bad enough to avoid the stock, and in fact, this happens
quite a bit during "warning season." But if the warning was particularly
grave, such as the earnings outlook "looking extremely challenging"
or "expecting to miss by a substantial amount," avoid the stock.
Also, if a company issues a warning about earnings while others in its industry
group do not, then something is specifically wrong with the company and
you should play it safe and avoid the trade.
- The company is
being investigated for financial fraud, or financial "irregularities".
This kind of news spooks investors so much that you probably don't have
a prayer catching a bounce, at least not right away. Note, however, that
the fraud investigation has to be financially related; if they are
being investigated for something else (like the CEO was caught driving drunk,
or whatever), you can still play the stock.
Just about any other
news that isn't one of the above disastrous events can be ignored. Remember,
almost every time a stock gaps down there will be some negative information
causing it to sell off, so don't abandon the ship on every piece of "bad"
news. Some of the typical news or events that you can ignore are as follows.
"Non-legitimate"
Reasons for a Gap-down
- An analyst downgrades
the stock. This almost always trashes the stock at the opening bell,
but the smarter money often realizes that analysts know nothing of any real
substance. These are still good plays (provided that you wait for a confirmation
of a reversal).
- The stock ran up
high the day before, and people are "taking profits". These
are good plays if you wait for the stock to plummet, then confirm a reversal.
- Another stock in
the same industry group has bad news. Even if the news is one of the
disastrous types above, if a stock is falling in sympathy (because it is
in the same group), this is not a legitimate reason for the decline. These
are often very good opportunities!
- The whole market
(or the sector the stock is in) is selling off. Remember, most stocks
follow the market's lead, so this actually presents some of your best opportunities.
While you normally don't want to buck the market trend, a stock that gaps
down along with the market—and for no other reason—has an excellent
chance of bouncing sharply, even if only temporarily.
The bottom line is that
you should check a reliable news source before you risk trading a stock gapping
down. If it isn't as severe as the selling would otherwise indicate, you have
a potential play!
|
Not
all "bad news" is created equal. While most stocks that
gap down have some "reason" for doing so, some news is
so bad that the stock should be selling off, and trying to
catch the bounce is too risky to consider the trade. |
|
Rule 4: Don't
play a "DMGD" on a super strong open.
The one time when the
Dumb Money Gap Down will probably fail is when the market opens sharply to
the upside in a furious, bullish manner. This is because any stock gapping
down during this kind of open probably has a good reason to lag behind, and
you will probably lose on such a trade.
Knowing when to back
off for this reason is tricky business, because there can still be good plays
when the market opens high, even strongly to the upside. But when you want
to avoid playing a gap-down is on that rare occasion when the sentiment is
super bullish, and almost every stock on the exchange gaps up to the moon.
How do you know when
it is too bullish to play a gap-down? For one thing, the market has to be
on fire for a known reason. It could be some economic report that had
an upside surprise, or a couple of high-profile companies making very optimistic
comments about their future, or whatever. For another, the market futures
(on the bottom-right of the screen on CNBC) should be very, very high before
the opening bell.
But the easiest way to
know if the market is opening too high to play a gap-down is that you simply
can't find many potential trades. On days like this, it seems that just about
every stock is gapping up, and the very few that are not will probably have
a reason for losing, and those should be avoided.
|
- Using the OracleTrader to locate the DMGD.
To
locate gap-down
candidates,
simply select
the Gap-down
/ Gap-up list.
Make sure you
also have Autosort
checked, and
Descending not
checked.
Note
that gap-down
candidates in
this list will
only be available
before the opening
bell. Once the
market opens,
you will need
to locate stocks
that plummet
using some other
method such
as the Trap
Door.
|
The Lunar Bounce
One
of my favorite strategies is when you choose a stock right near the closing
bell that is likely to bounce in the following session. I call this strategy
the Lunar Bounce.
This
is when you locate a stock that is near or at its session low, right at the
closing bell. What you will usually discover is that stocks that sell off
viciously, picking up downward momentum near the close, are highly likely to
gap up or bounce sharply in the morning. The idea is to pick up the stock as
close to the bell as possible, and sell into the likely strength in the
following session.
I
find that the Lunar Bounce works best on days that have a lot of downward
pressure, especially when the previous sessions have been positive. Remember,
however, that the stock has to be at or near its session low at the close. If
it rallies in the last few minutes, all bets are off—the stock does not have as
much of a chance to bounce.
Example of the Lunar Bounce
play. Notice how MRVL not only hits its session low at
the close, there is one
final burst of selling, making this stock an ideal candidate.
Notice how the
stock soars in the next session.
The Steps
- Choose a day when the market is trading flat or to the downside
(do not try the Lunar Bounce on days when the market is rallying
sharply).
- About 15 or 20 minutes before the close, locate stocks that are
well into negative territory, and are at or near their low for the
session.
- If there are many of them, favor the stock(s) that have shown
strength in recent sessions, or if none of them show this clearly, favor
the ones that are building the strongest downward momentum (increasing
volume to the downside).
- As close to the closing bell as possible, pick up a stock that is
right at (or very near) its session low. Although not required, the ideal
candidate will have one final, climactic burst of selling (see
illustration above).
- Hold overnight, then sell into early strength after the start of
the next session.
The
most important thing to remember is the stock must not rally into the
close. If it rallies, it ceases to be a candidate. It is imperative that the
stock has its worst level, or very close to its worst level, right near the
closing bell.
Why the Lunar Bounce Works
The
theory behind the Lunar Bounce is that when a stock sells off in earnest,
anyone who really wants out of the stock will have gotten out, waiting to the
last minute if necessary. If you think about it, very few shareholders who
really want to dump a stock would ever consider holding until "tomorrow".
They figure that things can only get worse, and will want out before the close.
Hence, a stock that plunges to its low right near the bell can be assumed to
have purged out most of its sellers, and therefore it has nowhere to go but up
in the next session.
Furthermore,
other traders have a chance to see the excessive weakness, and ponder the
"bargain" overnight (hence, "Lunar"), and many line up at
the buy window first thing in the morning. Adding even more fuel to the fire is
that fact that many traders may have shorted the stock (sold borrowed shares in
hopes of a decline), and they might move it to cover (buy) in the morning. When
the stock does bounce, you sell into the early strength.
The
reason the stock has to be at or near its low at the close is because any show
of strength tends to attract more sellers. Those who are still holding, seeing
the stock show strong gains at the close will be too tempted to sell into
"strength," and dump shares first thing in the morning. There has to
be blatant, spiking-down weakness to be a worthwhile play.
Lunar Options
You
can also play call options on a stock that qualifies for a Lunar Bounce, the
only difference is that options take about 10 to 15 minutes to settle down when
the market gets underway in the morning. So if you decide to trade options for
this end-of-day strategy, remember to wait a few minutes in the morning before
taking any gains.
The Risk
The
one downside to the Lunar Bounce is that it contains more inherent risk than
the other strategies, mainly because you lose control over the trade between
sessions. In other words, there is always a chance that a stock that you held
could gap down even further, not giving you a chance to abandon the trade until
the market opens, at which time your losses could be steep. Whereas, if you
bought a stock during the day (such as a morning gap-down), you could always
jettison the trade if it headed south. For a Lunar Bounce, you could lose more
than you would normally allow yourself to lose.
However,
the Lunar Bounce can produce such magnificent gains that it is often worth the
risk. And, you can reduce the risk factor by adhering to the following
guidelines.
- Adhere strongly to your allocation rules. When trading options, for instance, never
trade more than your usual allocation (which is recommended to be between
1/10 and 1/5 of your whole account). Never “load up” on one of
these trades.
- If the stock gaps down in the morning, let it ride for a few
minutes (unless it keeps
heading south to an unacceptable level). This requires a bit of nerve, but
sometimes there are still a few sellers lurking about, causing the stock
to worsen right out of the gate. Usually, however, the stock turns around,
and then makes its rapid journey into profitable territory. Of course, if
the stock just keeps tanking, you would have no choice but to cut your
losses (I cut them at 2 or 3% below the opening price), but the point is
that you should not panic-sell the stock until you give it a chance to
bounce.
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- Using the OracleTrader to locate the Lunar Bounce.
To
locate Lunar
Bounce candidates,
simply select
the Lunar Bounce list.
Make sure you
also have both Autosort
and Descending
checked. All
stocks will
be sorted by
their Lunar
Bounce-ability.
Note
that gap-down
candidates in
this list will
only be available
30 minutes before
the closing
belll. The idea
is to catch
a stock near
its low as close
to the session
close as possible.
.
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The Staircase to Heaven
The
strategy discussed above (the Lunar Bounce) works best during negative, or
"bearish" market environments. But what trading strategies can you
employ during strongly positive, bullish days?
One
answer is the Staircase to Heaven. This is when a stock shows sufficient
early strength and the proper indicators to rally higher and higher. The rules
for the Staircase to Heaven are fairly simple.
- During the first 15 minutes of the trading session, watch the
level and direction of the Dow and NASDAQ. If they are running well into
positive territory without signs of decay, proceed to step 2. Otherwise,
you do not have a potential Staircase to Heaven play.
- Examine a 1 or 2 minute chart for stocks that are trading in
positive territory. Observe the volume compared to the previous session.
If the volume is visibly higher than yesterday's volume, note the
stock as a possible trade.
- About 30 minutes after the bell (10AM-EST), trade the stock that
is at its session high. More often than not, the stock will
continue to rally for the remainder of the day.
It
must be clearly noted that the Staircase to Heaven needs to have both
factors, which is (a) High volume, relative to yesterday's session, and (b) At
its session high 30 minutes after the opening bell. Additionally, the market
has to have a general bullish tone and running in positive territory.
A storybook example of the
Staircase to Heaven. After the first 30 minutes,
the heavily traded stock is at
its session high. Notice how it takes off for the remainder of the day.
Notice
the example of a classic Staircase to Heaven play in the above illustration.
After very heavy volume (relative to the previous session), GENZ reaches its
session high about 30 minutes after the open. The stock proceeds to ramp up for
the day for a cool 3% gain.
Below
is yet another example of the Staircase to Heaven the occurred in the same
trading session.
In
the above example for ADSK, volume is visibly heavy, relative to the previous
session. After trading for 30 minutes, ADSK is at its session high, so it
qualifies as a Staircase to Heaven. Notice how it takes off, reaching a
whopping 7% gain from the point you would have entered the trade to its high.
Why the Staircase to Heaven
Works
The
Staircase to Heaven is a way to locate where the big investors are putting
their money. Generally, the inexperienced ("dumb") money enters the
market near or at the open, and in most cases, the stock will go in the
opposite direction as the "smart" money exploits the action. If a
stock gaps down at the bell, for instance, smarter traders swoop in and drive
it back up. Similarly, stocks that gap up (open higher) are frequently
exploited by short sellers, and the price decays.
In
the case of the Staircase to Heaven, however, the fact that the stock improves
during the same time period, and with heavy volume, indicates that there is a
genuine interest in the stock from the heavy hitters, and the money is not
coming from the inexperienced public. Had the stock been trading only with
early, "dumb" money, it would be trading at lower volume, and/or it
would have been unable to make a session high during the first 30 minutes. (The
next page will show some examples of stocks that fail to rally, because they
did not have the proper signals).
One
additional reason why the Staircase to Heaven is effective is that other
traders, noticing the increasing momentum, join the bandwagon, and the stock
takes off. Hence, this particular strategy can produce excellent results during
very bullish sessions.
When
the market turns bullish, there are usually stocks that are tempting to play in
the early going, yet if they do not show the proper signals, your trade is
likely to fail.
The
following is an example of a stock that is "almost" a Staircase to
Heaven play, except it fails to reach a session high after the first 30 minutes.
Example of a failed rally. While
JCOM (above) had heavier volume than
usual, it failed to make a new high during
the first 30 minutes.
Notice
the failed rally for JCOM in the above chart. Although it qualified with high
volume, it failed to make a session high after 30 minutes of trading. This
indicates that the big ("smart") money is not that interested in the
stock, and JCOM goes on a decisive downslide.
Another
interesting point about JCOM (above) is that this failed rally occurred on the
same day as the two winning examples (GENZ and ADSK) .
Another
example of a possible Staircase to
Heaven that fails to qualify (volume is too low).
The
above chart is another example of how the Staircase to Heaven will fail if it
does not meet both qualifications. In this example, BSTE hits a session high,
but its volume is very weak (relative to the previous session). This indicates
that the big money is not all that interested in the stock. Notice how the
stock promptly tanks for the better part of the session, immediately after it
hit its "high".
Again,
BSTE (above) occurred on the same day as the winning plays shown on the
previous page.
|
- Using the
OracleTrader to locate the Staircase to Heaven.
To locate Staircase
to Heaven candidates,
simply select
the 10AM Highs
& Lows list.
Make sure you
also have both Autosort
and Descending
checked. All
stocks will
be sorted by
their closeness
to a session
high at 10AM-eastern.
Note
that this
list will only
be available
at 10AM-EST
and on. The
idea is to catch
a stock that
has reached
its session
high around
that time.
|
The Breakout
One
of the most popular trading patterns that astute investors look for is the Breakout.
Simply stated, a breakout is when a stock clears a resistance level (a price
that the stock has had consistent difficulty rising above), under heavy buying
volume.
In
the purest form, a stock is said to achieve a Breakout if it clears its
uppermost resistance level, and soars to new highs, but for the purpose of
short-term trading, a breakout is any significant movement to the upside, in
which a stock performs all three of the following.
- Clears a pattern of resistance. By pattern of resistance
is meant that a certain price has been acting as a "ceiling",
and the stock has shown continuous difficulty rising above that price.
- Breaks the resistance with relatively heavy volume. A solid
breakout occurs if the stock clears its resistance level while trading at
much higher volume than it normally trades.
- Trades in the upper range of its yearly chart. Breakouts have a
higher probability of success if the stock is trading closer to its yearly
high than to its yearly low.
If
a stock is trading in the lower range of its yearly chart (closer to its yearly
low), there is less of a chance that a Breakout will succeed. This is due to
the presence of disgruntled shareholders (disgruntled because they have ridden
the stock all the way down to its lowest levels), and any upward movement of the
stock can be met with waves of selling pressure to "get even". The
term for this selling pressure, when a stock attempts a comeback, is known as overhead supply,
or overhead
resistance.
The
chart for Mylan Laboratories (MYL), above, shows a storybook breakout, as all
three conditions are met: (1) The stock clears an upper resistance level
(denoted by the blue, horizontal line), (2) soars under very heavy volume, and
(3) has been trading in the upper range of its yearly chart.
Trading the Breakout
Obviously,
it won't serve traders well by examining breakouts in hindsight. Rather, a
breakout needs to be spotted just before—or very shortly after it occurs—to
take advantage of potentially magnificent gains. The key is to watch for the 3
conditions (above), but in the reverse order, namely:
- Keep your eye on stocks that are trading in the upper range of
their yearly chart.
- Watch for heavy trading volume occurring intra-day with any of
the stocks you are watching.
- Watch for the stock, trading under heavy volume, to clear an
upper resistance level.
The
chart shown above was chosen from a recent fundamental watch list (a list of
stocks that have top fundamental properties such as earnings, potential growth,
etc.), and could have been worth watching for a breakout since it is trading in
the upper end of its yearly chart. Notice that the stock suddenly bursts
through a level that it has had difficulty overcoming for the last several
weeks, and it trades with its highest volume of the year.
Upon
closer inspection, a 15-minute chart (below) indicates what you could have
easily seen when the stock began breaking out. This would have been a classic
trade, riding the stock to a 9% gain in a single trading session.
APPX trades “sideways” for
several days, with relatively flat volume. Suddenly, it breaks
out of its range
with heavy volume. This stock could have been easily spotted as a breakout.
Why the Breakout Works
A
stock will generally hit resistance levels because shareholders tend to sell at
certain prices. For instance, if a stock has trouble rising above $20, that
usually means that people tend to unload the stock at or near that $20, putting
undue pressure on any upside.
But
if a stock finally breaks through an upper resistance level, it is said that
the sellers have been "flushed out", and the stock is now free to
move much higher.
Furthermore,
if the stock is trading in the upper half of its yearly chart, there are fewer
unhappy shareholders, and that, in itself, eliminates undue pressure on the
stock. Finally, the fact that the breakout is a known pattern to traders and
investors alike, a bandwagon effect is created, and the stock builds momentum
to the upside (as depicted by the heavy volume).
The Caveat
There
is one steadfast rule to remember: Breakouts tend to fail in bear markets,
or on days of bearish sentiment. While some breakouts occasionally succeed, you
must never play a stock moving to new highs if the overall market sentiment is
negative. Unless the market is predominately positive, nine times out of ten,
the Breakout will fail, because most stocks follow the lead of the market.
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- Using the OracleTrader to locate Breakouts.
To locate Breakout candidates,
simply select
the Breakouts list.
Make sure you
also have both Autosort
and Descending
checked. All
stocks will
be sorted by
the degree they
show a breakout
pattern.
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The Trap Door
Every once in a while,
you will be watching a stock, perhaps it is trading "sideways" (unchanged),
or slightly down, or mildly to the upside. Then suddenly, the stock plummets
in one massive downslide, usually accompanied by a large burst of volume.
While this is not an everyday occurrence, when you do run across this phenomenon,
you struck pay dirt, because in almost every case of this out-of-nowhere plummet,
the stock bounces sharply—for windfall gains. I call this the Trap Door
(because it appears that the bottom has dropped out from under the stock).
The only real liability
of the Trap Door play is that you have to almost "accidentally"
spot it, and you have to act very, very quickly. Another way of stating this
is that the stock rebounds so quickly, that if you aren't there to see it,
you will miss the trading opportunity.
The
above illustration shows a classic Trap Door. BEBE trades normally for most
of the
session, then suddenly, it plummets in a steep spike down. Traders
jump in and drive the
stock up for an 8% gain, in minutes.
How
Low is Low?
The other difficulty
you may have with the Trap Door is to determine how low the stock has to plummet
to qualify as a play. Unfortunately, there is no definite answer (such as
"it must fall 3%" or "it must fall to half of its gain",
etc.). But it has to appear like an incredible anomaly, almost out of place,
and a sharp "spike" on the intra-day chart (see above example).
One effective method
that I find useful is to pretend I am a shareholder of the stock. As a shareholder,
if seeing the downslide would have given me cardiac arrest, then I have a
play. I am not sure any better way to describe it.
One ironclad rule that
you must observe about the Trap Door is that the stock must plummet in one
fell swoop, or at least not take longer than 1 minute to fall. This strategy
does not apply to stocks that are selling viciously and on a steep downtrend.
The Trap Door is when an otherwise normally trading stock has the floor that
it sits on fall out from under it.
Why
the Trap Door Works
The reason why the Trap
Door is effective is because a single shareholder has unloaded a relatively
massive amount of shares, and it causes the stock to spike to ridiculous depths
(if it were a larger group of sellers, the stock would exhibit entirely different
behavior such as going on a downtrend, over longer periods of time). Because
there is no additional selling pressure, the stock rebounds almost immediately.
Adding fuel to the fire, other astute traders notice the sudden weakness,
and they swoop in to drive it back to its normal trend line.
The idea is to join the
astute traders, and ride the stock back with them!
Speed
Trap Door plays are mostly
noticed by "accident," i.e., you almost have to be watching it just
before it happens. When you see it, realize that you only have 30 seconds
(if not less than that) to make a move, or you will probably miss the bounce.
It may take some practice,
but the gains you can make on the Trap Door are second to none, so it is well
worth mastering.
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The
Trap Door strategy might require that you develop an "eye"
for how low is low enough to pick up a plummeting stock. The general
guideline, however, is that it must fall sharply and steeply, and
appear like an incredible anomaly, occurring out of nowhere. |
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- Using the OracleTrader to locate Trap Doors.
The Oracle is excellent
for locating Trap Doors, because you can turn on the Trap Door alert
and have it locate candidates for you the moment they occur.
The
Trap Door alert
is located in
the upper-right
of the main
window. The
menu choices
are the percent
drop you want
the stock to
fall before
alerting you.
A decent number
is 1.5, shown
in the illustration.
Once a Trap
Door is located,
it will be instantly
added to your
watch list and
you will hear
an alert sound
being played.
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