Lessons from the Pros


Trend Change Warnings

I had a busy week in the Extended Learning Track (XLT) for Stocks last week. We had some great trading sessions, but where I think students benefited the most was in Tuesday’s Student Trade Review. This session is an opportunity for XLT students to submit trades they have taken or were considering taking for review by one of our instructors. This is an excellent way to confirm what you are doing in your trading is correct, or to find areas in which to improve.

One of the traders submitted several excellent trades on the ETF: TZA.  TZA is a leveraged ETF that seeks to offer performance that is three times the inverse of the Russell 2000 index.  If the Russell 2000 drops by 1%, then TZA should be up 3% for the day.  It can be a volatile security and is not designed for holding overnight.

While reviewing the trade, I was able to identify and explain a signal that offers a warning sign before a trend change.  I wanted to share this with you.  The stock was initially in a downtrend after having gapped up and collapsing.  The lower lows and lower highs were intact.  But as soon as price made a higher high at about 10:50am, it was breaking the definition of a downtrend.  This is a warning of an intraday trend change.

bwendell 20121211 - tza pic

We can see the follow up action where the morning bear changed to a bullish trend.  The bull is confirmed with a higher high after a higher low.  Of course nothing lasts forever, especially trends, and we reversed to a bearish trend with lower highs and lower lows after lunch.

bwendell 20121211 - tza 2 pic

This warning is not just reserved for intraday trading.  With a daily chart of the SPY, we can also see warnings before trend changes.  After the major low in June of this year, SPY made a higher high in mid-June.  This was a warning for traders before the official bull trend began with a higher high after a higher low in July.

bwendell 20121211 - spy highs and lows

The bears started growling in late September when price made a lower low.  This was well in front of the lower low after the lower high in October that officially started the bearish trend.  I am carefully watching the November $144 high to see if the bears may be weakening.  Should price break that level, it would be a higher high and the likely end of the current downtrend.

So listen to price and trust your charts.  They often offer clues as to where price will be heading.

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