Trader’s Narrative

When the market is weak, it is actually a blessing in disguise because it become even easier to find strong stocks. Here are just a few stocks that I found that have nice looking charts and high relative strength:

BEAV
METH
RJET
AAWW
PRGX
TESOF
DWSN
HDNG
LSPN

Quite a few of them come from the aerospace/airline sector.

As the name suggest, Ascent Solar is in the burgeoning solar power sector and today it lighted up just about any sort of filter set for gaps or unusual volume or high trade count. By luck, ASTI was featured as one of the movers and shakers in the daily email I get from QCharts (at around 11 am). The news which propelled it to almost double from its close yesterday was a strategic aquisition of a good chunk of their shares by Norsk Hydro.

Things were ho-hum until the sixth candle which took price back up to the opening range high. The next two candlesticks were consecutively narrower in range, while remaining just below the opening range high (green circle). As price contracted, so did volume (green box).

Finally price broke up above the inside candle’s high (and the opening range high). It continued in an almost uninterrupted rise to reach almost $9 and close just under its high of the day. The combination of narrow range candles and a strong, enduring trend produced around an +8R. All in all, a textbook setup and trade.

Being in the battered autoparts sector, it wasn’t really a surprise when Borg Warner announced a downward adjustment in their future business expectations and adjusted to it by announcing that they would trim 13% of their workforce. The market reacted by opening their stock 6% below its previous close.

The first candle was wide range and had a rather longish lower wick (showing that price fell but was pushed back up above those levels). The next candle was a spinning top and true to its usual interpretation it signalled a change in direction. From there the third and fourth candles consolidated price into a tight range but all the while staying at the top of the opening range.

So far so good. Right? The fifth candle took price above the previous candle’s high and signalled a buy point at $51.50 with a stop loss placed below the consolidation range. But I didn’t take that signal because I looked at the Fibonacci retracement of the opening gap.

This showed that the entry point of $52.00 was very close to the 38.2% retracement zone ($52.54). Risking 1 R to potentially gain 1 R didn’t make sense.

But as you can see BWA continued to power ahead all day and eventually closed way above that level.

I’ve talked about this before so I won’t rehash it. When you’re met with unusual and fast market conditions you have to either step aside or adapt by drilling down to a smaller time frame to watch for potential entries.

Either a one minute or two minute interval would have worked as YHOO imploded today:

Here’s a tale of the one that got away!

Dollar Tree gapped up this morning on news of a great second quarter earnings report:

The first candle was wide range and although it closed up strongly, it left a rather long upper wick (red circle). The gap up and expansion in price were both on unusually high volume. The next candlestick was narrow range and it also closed up. Notice that trading activity dried up suddenly as price contracted.

But for some reason I didn’t really like the upper tail on the first candle and allowed it to persuade me to not take the trade as price broke above the second candlestick’s high (green line). I surmised that with price having been pushed back at those levels before, it might be again. This made me believe that the risk to reward wasn’t high enough to merit entering the trade (red line).

In hindsight of course, I should have entered long. As a discretionary trader, hindsight can be rather dangerous. After all, I can only apply my edge and wait for probability to give me the results.

One of the most important attributes of great traders is the selection of trades based on risk to reward. Tony Oz, for example, mentions that he will not take a trade unless he spots a 1:3 risk to reward ratio. Of course, there is no guarantee that once you take the risk a reward will be forthcoming - at all or in that proportion.

Yet, to maximize profitability (rather than making your broker rich), you should only participate where the size of the possible reward significantly outweighs the size of the risk.

And in the case of Dollar Tree today, with the R being $0.22 and potential resistance being less than 1 R away from entry… it just wasn’t worth the risk.