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Your Complete Guide to Consistent Trading Gains
Trading Tip #1: Trade the Triangle for Profits
When you learn how to spot potentially profitable chart patterns, you’re taking the very first step toward becoming a consistent trader. One of the best bullish trading patterns out there is called an ascending triangle. Today, I’m going to show you what it is — and how to trade it for gains. To demonstrate just how powerful this pattern can be, I want to show you an actual trade I outlined to my subscribers over the summer. On June 20, 2012, I sent a watch list alert to my readers along with a chart of a company called Inventure Foods Inc. (NASDAQ:SNAK): The stock was displaying an ascending triangle — you can see it highlighted by the two blue lines in the chart above. An ascending triangle has two key features: rising support below the current price (bottom line) and horizontal resistance (top line) above it. In this example, both of those levels are clear as a bell — resistance at $6.75 accompanied the rising support line under the stock’s recent lows. As a reminder, resistance is like a sort of price ceiling for shares, and support is like a price floor. Here’s what I said at the time: “A significant break of $6.75 will trigger a trade.” That’s exactly what happened. I alerted to buy as soon as the pattern moved above that resistance level at $6.75. Here’s how it played out. My readers were able to buy on July 10 and ride the momentum for the next three weeks. When all was said
and done, they had the opportunity to sell and book gains close to 11% in just 21 days when I issued a sell alert on July 31. It’s that simple… As you’ll find out, small consistent gains like that are the lifeblood for some of the most successful hedge funds in the world. And strung together, they’re enough to turn a $1,000 starting investment into $5,240 in just one year. Now that you know what an ascending triangle looks like, I want to reveal why this pattern works so well. First, it’s important for you to understand that examining trading patterns is one of the best methods for accurately identifying stock trading opportunities. Chart patterns can quickly show you whether a stock is likely to be headed higher or lower. Patterns can also help you determine whether it’s time to buy and sell shares. But this is important: Trading patterns aren’t just random shapes on a chart that magically point to profits. Instead, you should think of chart patterns as a set of rules that you can follow to help produce consistent trading gains. The secret to understanding how ascending triangles and other patterns really work really just comes down to buyers and sellers. Using our SNAK trade as an example, you can see how shares approached $6.75 multiple times only to turn lower soon after touching this resistance area. In real terms, that’s because there were more sellers who saw $6.75 and decided it was time to sell and book gains from the last few months than there were buyers who wanted to keep buying. So as sellers flooded the market, the price retreated lower. But remember, the ascending triangle is a bullish pattern. In order for the ascending triangle to properly form at this point, the stock needs to continue to make higher lows. That means buyers need to step in and begin to pick up shares to stop the falling stock. A series of higher lows shows us that buyers are more willing to buy shares as they pull back from resistance at higher and higher prices. This effectively squeezes the stock closer and closer to something called a “breakout” — that’s what we call it when a stock moves through a support or resistance level. The breakout above resistance is our buy signal for an ascending triangle pattern. That’s because at the breakout point, buyers have become eager enough to absorb all of those shares held by the gains-taking sellers and have to bid higher and higher prices to get their orders filled. Taking out that “price ceiling” can be quick and strong, giving the stock the momentum we’re looking for to book consistent short-term trading gains.
Your strategy for trading triangles is straightforward. Once you identify a stock displaying this pattern, watch for a close above the horizontal resistance line. That’s your buy signal. Strong volume should accompany the “breakout” to confirm the move.
Trading Tip #2: Trade Breakouts for Profits
Exploiting “breakouts” is the cornerstone of our trading strategy — and it’s one of the best ways to produce repeatable gains that can quickly grow your brokerage account. I’ll show you how a breakout works and how to trade them to produce consistent gains. First, let’s discuss the definition of a breakout. A breakout occurs when a stock’s price moves through a resistance or support area. A breakout can occur to the upside or the downside (a downside breakout is usually referred to as a “breakdown”), and both are viable trading signals on the long and short side. Here’s what a breakout looks like on a chart: I don’t want you to worry about the chart pattern in this example. Instead, concentrate on how the stock’s price clearly moves above resistance to signal the breakout. Again, as a trader, this is your signal to buy the stock. The concept of a breakout is simple. Remember our discussion on resistance — the resistance area forms because more shareholders were willing to sell at that price then buyers were willing to buy at that price. Once buyers scoop up all available shares at the resistance zone, they have to bid higher and higher prices to get their orders filled. That’s what creates the powerful move higher. Once a stock breaks free of its resistance level, it changes the mindsets of the shareholders. Since the stock is posting new near-term highs, everyone who bought the stock recently is sitting on open gains — and therefore more inclined to hold onto shares in anticipation of higher prices. This helps fuel the breakout stock’s momentum. Now that you understand the basics of breakouts, I want to show you how to properly trade them using three important rules:
Breakout Rule No. 1: Breakouts do not guarantee gains
If you only remember one thing from trading tip, it should be this crucial rule. There are no guarantees when it comes to breakouts — or any trading signal, for that matter. Nothing works 100% of the time.
Breakouts are one of the best trading signals available. But they can’t predict the future. So when you enter one of these high-probability set-ups, you have to remember that it could fail and the stock could move lower. That’s why successful traders always plan ahead and set stop-losses. That way, you won’t have any big losers to offset your winning trades.
Breakout Rule No.2: Price Matters Most
Remember, you need to think like a trader when buying breakout stocks. Fundamental information— such as a company’s revenue, earnings, or growth— are not factors in your trading decisions when you’re using technical analysis techniques. Price is king. Investors might care about a company’s fundamentals, but when using technical analysis, your only interest lies in exploiting price movement. There are other indicators traders use to help confirm the validity of a breakout—such as expanding volume. But even though confirmation data can be important, it still takes a backseat to price. Sometimes, you’ll even see a breakout where volume does not expand until several days after the initial move higher. If you sit around waiting for every single move to display perfect confirmation, you could miss out on potentially profitable trades. Price is king in the practice of technical analysis. Let it lead you to gains…
Breakout Rule No. 3: Anticipation Leads to Losses
It might be tempting to jump into a trade “early” — but a move like this can spell disaster. No matter how good a chart pattern or trading set-up might look, you should never under any circumstances buy early in anticipation of a breakout. Plenty of new traders are hypnotized by the bigger potential gains if they buy a stock before a breakout. Don’t make this common mistake! Think back to our first rule: breakouts are NOT guarantees. If you buy early, the breakout might not even occur. Then you’re stuck with a sinking stock and a broken chart. That’s a quick way to lose a lot of money. In short, you’re not dealing with a high probability trade until the breakout occurs. I know it might sound crazy to buy a stock while it moves higher and sell as it moves lower. After all, this idea might be totally different from what any value investing strategy might have taught you. But think of it this way: Wouldn’t you rather own a stock exhibiting a rising price — as long as that price continued to move higher? Using technical analysis, you can find these names and exploit them for short-term gains. As you can see, identifying and trading breakout stocks is an important tactic for every trader’s toolbox. If you remember to follow these simple rules, and you’ll be well on your way to mastering breakout trades.
Trading Tip #3: Five Minutes to Trading Profits
Five minutes. That’s all it takes. For some reason, spending hours upon hours researching investments is treated like a badge of honor. Famed mutual fund manager Peter Lynch once bragged in an interview that he worked 70 hours a week — an extra 20 hours more than his average competitor.
If I told you that you could be a profitable trader in less than five minutes a day, you’d probably think I was nuts. But it’s true, and, I want to show you how. Earlier you were introduced to technical analysis. I showed you why price is the only input that technical traders use to make buying and selling decisions — and I showed you why charts are such powerful tools for finding important price levels. There’s a good reason why, as investors, we’ve been conditioned to believe that investing is a lot of work. And if you’re purely a fundamental investor, it certainly can be. When you’re scouring the news looking for anything that could impact a company’s financial performance, or when you’re trying to manage a portfolio of more than 1,600 stocks (like Peter Lynch was over at Fidelity), then it’s no surprise that investors can make a full-time job out of watching the markets. But technical trading doesn’t have those same requirements. Instead, the charts give us a shortcut.
Price Discounts Everything for You
You may have heard the expression that “price discounts everything”. A simpler way of saying that is, “price already has everything else factored in”… A stock’s price is the result of thousands of market participants (those buyers and sellers) looking over mountains of information — everything from a company’s financial statements to what kind of car its CEO drives. But instead of focusing on that information itself, traders focus on price alone. There’s a very good reason for that: as an investor, price is the only thing that makes me money. I can try to forecast sales, I can calculate whether a stock looks “cheap”, I can guess the effectiveness of a new CEO — but all of those factors are still a level removed from pure price action. I can be right about a company’s bullish sales forecast, but if all the other market participants had unrealistic expectations, the price could still drop. There’s a difference between being right and making money. Ultimately, you can’t retire on “being right.” Technical trading gives you the tools you need to make money.
Getting a Shortcut From the Charts
As traders, charts are a powerful tool. That’s because even at a glance they can give us a very good grasp of what’s going on with a stock’s price action. Take a look at the chart of Lumber Liquidators (NYSE:LL) below – my guess is that it’ll only take you a second to figure out how investors feel about it: Lumber Liquidators is in a huge uptrend since the start of 2012. Shares have tripled since the start of the year — everyone who has bought is sitting on gains. People who own this stock are happy, and that has everything to do with how it’s trading. Buyers are clearly in control of LL right now.
When you look at a chart, there’s one question you need to ask yourself: “Where are the buyers and sellers?” That’s what the support and resistance levels show you. They help you to identify the places where there are gluts of buyers (support) or gluts of sellers (resistance). At the end of the day what, how much buyers are willing to pay for shares and how much sellers are willing to sell them for are the only things that matter.
What You Need for Your 5-Minute Analysis
Technology has become the great equalizer for traders. Trading for consistent gains doesn’t require access to pricey charting software, memorizing hundreds of chart patterns, or trading tons of stocks every single day. Instead, you can perform excellent analysis quickly with free tools like StockCharts.com. When you’re scouring for stocks, the key to 5-minute analysis is getting a lot of charts in front of you at once. One free tool that I like a lot for that is the screener at FinViz.com. It lets you pull up 20 charts on a single page, with simple trend lines already drawn on them by a computer (don’t get too caught up by what the computer draws, however — humans are much better at spotting patterns). You can play with other filters to reduce or expand the number of charts you can look through. Remember, when you pull up any chart you’re looking for buyers and sellers — so you want to keep an eye open for the support and resistance lines, and stocks whose prices are currently coming up on those key levels. Obviously, the first time to go looking for trading setups, it’s going to take more than five minutes. Even with tools like the resources we’ve given you and the 10 Tradable Chart Patterns report sitting in front of you, getting a feel for trading setups takes some experience. But do it consistently, and you’ll have no trouble spotting whether or not a stock is worth adding to your watch list at a moment’s glance. Then, you can move onto figuring out how you’re going to actually put your money to work.
Trading Tip #4: Stop Loss Secrets
Being a good loser is the hallmark of a good trader. That may sound crazy, but bear with me… You see, the most successful traders I know are the ones who are most psychologically prepared to cut their losses and book gains early. They enter a trade knowing what their maximum risk is, and when it’s time to walk away. Honoring your stops sounds easy when you’re dealing with hypotheticals, but when real money is on the line, it’s rarely as simple as selling off shares once they reach a preset level. Selling a position that you’re mentally committed to is tough. I want to touch a bit on the mechanics behind why stops work — and show you how to make sure that you’re not leaving money on the table when you get stopped out. Simply put, a stop loss order is a way of protecting yourself when the market moves against you. It’s an order that triggers when shares fall below a specific, predetermined price (in the case of a short position, stops trigger when shares move above a predetermined level). By putting stops in place, you’re essentially locking in the maximum loss you’re willing to take on a position before you throw in the towel.
It’s important to remember that, for traders, stops aren’t an admission of failure... Instead, there is a way to protect against “what ifs” that may spring up. Experienced traders always have a failure rate built into their trading systems — they know that even in a perfect world, a given percentage of trades aren’t going to play out as planned. The million-dollar trader knows that losing occasionally is a necessary evil of trading. Once amateur traders realize that, the mental side of honoring stops becomes much less daunting. Understanding the virtues of being a good loser is only half of the equation. The other half is knowing where to place your stops. After all, traders who use poorly placed stops aren’t going to be long-term winners. Keep these three factors in mind when placing your stop, and you’re much more likely to find success…
1. Stops Should be Technically Relevant
Stop loss levels shouldn’t be arbitrary — just because you’re willing to lose a maximum of 5% on a stock doesn’t mean that a 5% stop loss is a good idea. “Buy and hold” investors can only base their stop loss levels on how much pain they’re willing to take — but you shouldn’t.That’s because using your “maximum pain threshold” for a stop completely ignores the cues that the market’s giving you about the likely price behavior of the stock you’re trading. Instead, your stops should be technically relevant. In practice, that generally means placing stops right under important support levels. That way, once support has failed for your setup (which indicates that the buyers are gone), you’re automatically out of the trade. Keep in mind that the support level you choose can coincide with a maximum risk you’re willing to take; technically relevant support is just the more important of the two. Once you figure out where support is, you can size up your position so that a stop out at that level doesn’t exceed your comfort zone.
2. Stop Outs Should Be Material
All too often, I see cases of traders who do a good job of honoring their stops (and closing their positions), only to leave money on the table when the trade rebounds. The problem is that they’re being too strict with their stops. Remember, support prices aren’t absolutes — a stock can easily move a few cents below the support level you’ve spotted without being a “failed” pattern just yet. To combat that, I recommend avoiding hard stops (i.e. stops placed with your broker, that trigger automatically). When possible, you should be watching the near-term price action of any stocks you’re trading. That way, you’re able to override your specific stop price if shares fail to penetrate it in a meaningful way. Knowing what’s meaningful takes some experience, but honestly it doesn’t take much.
3. Stops Should Hold You Accountable
If you’re having trouble pulling the trigger when it’s time to sell a stop out, you need to be accountable to your stop loss orders. One of the easiest ways to do that is to be explicit about them: consider
posting your trading levels on a public forum like a blog or Twitter. (This may not be an ideal solution if you’re trading smaller, low-volume names and you don’t want to “show your hand” to those on the other side of the trade.) A more private solution is to keep a trading journal that clearly defines your stop loss price for any stock. This requires you to review your trades that fell below those levels. There’s no question that taking a loss is the trickiest part of being a trader — but in my experience, it’s also the common thread between the most successful traders. Master the art of the stop and you’re well on your way to generating substantial gains in any market...
Trading Tip #5: Real-time Tactics to Pick Price Targets
“The trick of successful investors is to sell when they want to, not when they have to.” — Seth Klarman, Margin of Safety With all the time investors focus on buying stocks, it’s no surprise that the selling often gets ignored. But that’s a huge mistake. Most experienced investors agree that selling is the real challenge for folks trying to do battle with the markets — it’s not that buying is that easy, mind you, only that knowing when to sell is so hard! So it’s with that in mind that we turn to a reader question that we got about Thursday’s Trading Tip on trading the ascending triangle pattern: “… I can see the ascending triangle. Question now is when do you sell after a breakout? What was you rationale in making the decision to sell at or around 7.66 bucks? What were the “clues” to convince you to sell?” Technical analysis is probably one of the best tools we have to figure out when to sell. But I’ll be the first to admit that it’s tricky to put into practice. Now, I want to help you avoid the confusion by showing you a couple of tricks you can use to pick your price targets quickly and effectively… Part of the reason why selling is such an afterthought is that most investors have been conditioned as traditional buy-and-hold investors. Warren Buffett is famous for claiming that his favorite holding period is forever. Even if that’s not exactly true (Buffett is more of a trader than his public persona lets on), it helps to explain why selling is an afterthought for most investors. Let me say this in no uncertain terms: As a trader, you need to know your exit strategy before you even look at the “buy” button. By that, I mean you have to ask yourself what price a stock has to hit to let you know you’re right and what price it has to hit to let you know you’re wrong. Figuring out those prices is the trick — we’re just looking at the price that tells you you’re right (figuring out if you’re wrong is actually a lot easier — we covered it earlier.). Classical technical analysts that focus on an arsenal of price patterns typically have a set of price target rules called “minimum measuring objectives” that they apply to each price pattern they use. But
knowing all of those rules takes a lot of rote memorization — I’ll show you a quicker way. To start, we’ve got to set the scene. Let’s say that you’re taking a look at a stock that you think has potential as a trade. Before you buy, you’ve got to pick your price target. I’ll show you two simple ways:
1. Look for Resistance
The simplest way to pick a price target is by looking for the nearest overhead resistance level. The chart below offers a pretty good example of that (I’ve removed the ticker symbol because it isn’t important in this example — we’ll call the stock XYZ here):
As you can see, this stock is currently forming a rectangle pattern and just starting to break out. So looking for resistance, we can spot a level at $5 and then another at $5.40. The fact that there are two nearby resistance levels in this stock is a good thing — it means that if XYZ busts through $5 without losing momentum, the stock is likely to move to $5.40. When you look for resistance levels, you’re basically looking for pockets of sellers. Resistance prices are places where sellers have previously been more eager to sell and take gains (or get out of a losing position) than buyers were to buy, so they make good potential stumbling points down the road. After all, how many shareholders in this stock have been telling themselves, “I’m selling if it gets back to $5” for the past few months?
2. Measure the Pattern
Another simple method of determining price targets is measuring the height of the pattern. For our XYZ example, it looks like this:
Basically, we’re measuring the height of the pattern and then projecting a move of that same height. That’s based on the rule that bigger patterns have bigger trading implications, an idea that makes a lot of real world sense because larger price setups come with larger volatility. It’s also the basis of many of the classical measuring rules I mentioned earlier. In XYZ case, measuring the pattern also matches up exactly with the $5.40 alternative price target that we got using the first method — that means $5.40 is a very strong price objective. It also gives this stock around a 19% upside potential from the time I took those screenshots. We’ll see how the trade unfolds… While it’s not uncommon for both methods to give you a single price target, you shouldn’t count on it. If they don’t match up, I recommend using the more conservative target price.
Small Gains, Huge Profits
Finally, I want to leave you with an important example. Despite what most investors believe, you don’t need enormous gains to retire wealthy. What if I told you that you could retire with 1% average gains? As implausible as that sounds, the truth is that averaging 1% gains could yield substantial profits — even if you don’t have a million-dollar account. It all comes down to the power of compounding… You see, only knowing that we booked average gains of 1% doesn’t really tell us anything at all. That’s because there are really two components to performance numbers: gain size and duration. Each is equally critical to measuring just how much your portfolio grows. Think about it this way: If you could guarantee a 1% gain each trading day, your average gain at the end of the year would be that paltry 1%. Hardly anything to write home about. But because your holding period is so short (just a day), in a single year, your portfolio would have gained 252% cumulatively (since there are approximately 252 trading days a year).
If you’d factored in compounding, that same 1% average gain would have left you with 1,127% profits by the end of the year… So if you had a $10,000 portfolio, those compounded 1% average gains would translate into singleyear trading earnings of $112,740.02. Now, if you missed your 1% benchmark, you’d take home less, and if you hit an occasional 5% home run, you’d bank much more. The point, however, is indisputable — small, repeatable gains can turn a modest portfolio into a windfall. Obviously, this is an extreme example, but the takeaway is what’s important: even if the price targets on your trades don’t look massive, your profits can become massive over a relatively short period of time. Even though picking price targets can be tricky, it’s critical to understand before you put your money on the line. As you might expect, the more you trade, the better you’ll get at spotting likely moves.
Frequently Asked Questions
We’ve been getting some stellar questions from you. I’d like to answer a few of the most common ones: Q: Is there a way to identify the likelihood that the breakout may be false and what action should one take to protect against the possibility of a false breakout? A: False breakouts occasionally do occur, which is why it’s important to always have a stop loss in mind when you trade. If you find that you’re getting stopped out frequently due to false breakouts, you might want to consider waiting for the stock to close above a breakout zone and buy the next morning. Oftentimes, a stock will tease traders by moving above resistance intraday, only to fall back below the resistance area before the close. Waiting for a meaningful close above the breakout zone is your best protection against getting faked out. Q: I assume sharevolume tradeplays an important role? A: Correct. Volume can be an important tool for confirming a trend. If a stock is moving higher, you want to see volume moving with the trend. That means more shares traded on days when the stock is doing well, and less volume on days shares are pulling back. For breakouts, higher than normal volume helps prove that the breakout is legitimate. It shows that other traders and investors are interested in the stock, and it can help increase the momentum of the new move. Lastly, you should always check volume before you make any trade. It’s usually best to only buy stocks that trade regularly. Stocks that only trade a couple of thousand shares a day can get you into trouble — because it could be difficult to sell your shares. Stick to liquid names — those where hundreds of thousands (if not millions) of dollars trade every day. Q: Can these patterns can also be found in other markets, such as the foreign exchange and commodities markets? A: Yes! That’s the beauty of technical analysis — you can apply it to any market where price is determined by supply and demand. Remember, when you look at a chart, you’re trying to identify the buyers and the
sellers. Since markets like forex and commodities are priced purely by those buyers and sellers, price patterns are one of the most effective ways to trade them. Q: Could you explain why you wouldn’t want to buy a stock before it goes through a resistance level? You’d have bigger gains if you bought it at a lower price. A: That’s a great question — especially for people with value investing backgrounds who think that lower stock prices mean a “better deal”. Remember, though, resistance is a place where there’s a glut of sellers that’s previously been strong enough to push prices lower. If you’re about to buy a stock, would you rather buy it when it’s about to hit a brick wall or after it’s already broken through the brick wall? Psychologically, value-focused investors don’t like the idea that you should buy when a stock gets more expensive. Believe me, I get it, but that’s the wrong kind of thinking. Instead, think of it this way: I’m more that happy to buy a stock when it gets more expensive as long as it keeps getting more expensive before I sell it. Until a breakout happens, we don’t have a high probability trade — so it doesn’t make sense to be a buyer. Q: Over what time period should I be looking at a chart in order to judge what pattern is seen? Do I look at the past month? The past 6 months? Or is it just whatever time period seems to present a pattern? A: The answer is all of the above. Markets are “fractal” — that means that you can actually find price patterns in all timeframes as you zoom in and zoom out of a chart. But, bear in mind a longer-term pattern is going to have longer-term trading implications. If a stock forms an ascending triangle setup in the very short-term, the pattern isn’t going to be as powerful as the same pattern over a longer-term time horizon.
Here, you’ll find a number of free trading resources that you can use over the course of the experiment.
StockCharts.com — This website is the go-to for scores of amateur and professional traders alike. The simplicity and the ability to annotate charts with the click of a mouse make it one of our favorite places to get stock charts. FreeStockCharts.com — While this site is a bit less user friendly than our first option, the fact that it offers free real-time charts in intervals as low as one-minute makes it a stellar option for more advanced traders. Beware, though, the added features mean that computer requirements are heightened.
Google Finance — If you’re looking for simple, real-time stock quotes, it’s hard to beat Google Finance. This site offers a wealth of information simply by typing a ticker — and even though we’ve got more powerful professional systems at our disposal in our trading room, we still find ourselves using Google’s free option more often than not.
Yahoo Finance — By and large, there aren’t huge differences between the amount of information you can find at Google and Yahoo Finance. That said, personal preference might send you to this alternative instead. FinViz — This innovative financial visualizations site offers useful technical screening tools and more intuitive visual ways of grouping stocks together. While we think that our charting tools above offer better ways to analyze charts, investors looking for screening capabilities visit take a look at FinViz.
Paper Trading Tools
STORM Signals — Whether you’re a newbie, an experienced daytrader, or a long-term value investor, you can put the strategies from STORM Signals to work from day one. Using the power of our exclusive STORM System, readers have the opportunity to unemotionally select the best potential stock trades and put them to work before the market knows what’s what. At the helm of STORM Signals are Jonas Elmerraji and Greg Guenthner, technical traders with a bent for quantitative analysis. Jonas and Greg are your guides to wringing gains out of the market with the STORM System. paperTRADE — This full-featured trading platform from tradeMONSTER offers newbie investors the chance to experience stocks and options trading on a realistic trading platform. PaperMoney — thinkorswim’s virtual trading system is simply their award winning real-time trading platform with virtual money. This is another system that offers investors the advanced features you’d expect from a real broker.
Finally, if you’re looking for a new broker, the Penny Sleuth’s 2012 Broker Guide is a good place to start. It provides a fee and feature breakdown for around 20 of the most popular brokerage firms out there today.
© 2012 by Agora Financial, LLC. 808 St. Paul Street, Baltimore, MD 21202. All rights reserved. No part of this report may be reproduced by any means or for any reason without the consent of the publisher. The information contained herein is obtained from sources believed to be reliable; however, its accuracy cannot be guaranteed.
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