Whenever I return from a road trip my neighbor’s German Shepherd always chases after my motorcycle. He is a great dog and very friendly and is allowed to roam the neighborhood freely. It struck me that he is a lot like a novice trader chasing prices in the markets.
If I am driving slowly the dog will catch me and I can reach out and pet him. Of course, I have to be careful that he doesn’t run in front of the bike and cause me to crash. Similarly, novices can catch prices easily when they are in a slow moving trend; but they must be careful because they may make profits, but only until too many of them are on board and the stock price collapses.
When I drive past the dog at a slightly higher speed he cannot catch me but will still run after me. Once he was running too fast and when I stopped to turn into my driveway he ran into the back of the bike. Unfortunately, I have seen way too many traders chase a fast moving trend, just to catch it at the top or bottom of that trend. This is financially disastrous.
You could also equate price chasing to climbing a flagpole. If one person were to climb to the top of that pole it would hold their weight. This is the professional trader who buys near or at the beginning of the trend. As more and more people climbed up to the top of that same pole, eventually it would bend and break from the added weight. Prices are similar. Stock prices rise because of demand. The demand being greater than the supply causes buyers to outbid each other and climb the pole. At some point, the buyers have exhausted themselves and everyone who wanted to buy has already done so or is prevented from buying due to the high cost.
Prices start to fall as fear takes hold. Most investors and traders will start to panic when the price starts moving against them or their stops will be triggered. If there was a lot of buying pressure and large green candles going into the supply level, there will be few buyers to stop the collapse and catch the supply being dumped onto the markets from stop orders being triggered.
Compare this with a gradual climb that features smaller green candles and some small pullbacks to shake out weak traders. As prices fall away from a supply level in this scenario, they will be met with less stop orders and more buying pressure as the demand was not exhausted on the way up.
Arrival to demand zones are also important. If you arrive at the demand with large red candles signaling panic and fear, you are likely to have a bigger and better bounce. The large red candles signal that everyone who wanted to sell has now exited the stock. When buyers step in they must raise their bids quickly to attract a seller who may still be around.
This is a part of Online Trading Academy’s Odds Enhancers. In order to be successful in your trading and investing you need to use strategies and tools that are proven and profitable. To learn more about these Odds Enhancers and the Core Strategy be sure to visit your local Online Trading Academy Center and enroll for one of our trading courses. Until next time, trade safe and trade well!