. This performance corresponds to a failure rate of 19% and 9%, respectively. Failure rates below 20% are acceptable.Once an upside breakout occurs, how high does the price rise? On aver-
age, prices climb by 37% as measured from the low of the breakout to the
ing Tactics), I discuss details on how to do this.Substituting the bump height (the widest distance between the trendlineand price low, measured vertically) for the lead-in height, results in a performance drop to 67% of formations meeting the predicted price. This is still agood number, but if you depend on it as part of your risk-reward ratio, it mightdisappoint when your gains fall short.
Table 7.2General Statistics for Bump-and-Run Reversal BottomsDescription
Statistic
Number of formations in 500 stocks from1991 to 1966
360
Reversal or consolidation
161 consolidations, 199 reversals
Failure rate
67 or 19%
Failure rate if waited for upside breakout
32 or 9%
Average rise of successful formations
37%
Most likely rise
20%
Of those succeeding, number meetingor exceeding price target (measure rule)
271 or 92%
Average formation length
5 months (15 7 days)
Number of rounded appearing bumps
279 or 78%
Number of multiple bump formations
52 or 14%
Note: This formation sees prices rise 37% above the breakout, on average.
>90
Figure 7.4 Frequency distribution of gains for bump-and-run reversal bottoms.The relatively high number of large gains tends to pull up the average.
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Bump-and-Run Reversal Bottoms
Statistics
It takes about 5 months for the formation to complete, but this varieswidely. At a minimum, each formation is a month long as that is what isrequired of the lead-in duration. When you add in the bump phase, the duration grows.Three out of four times (78%), the bump appears rounded. Only 52, or14%, of the BARR bottoms have dual or multiple bumps. Dual or multiplebumps are significant declines after the main bump touches the trendline. Mostof the time, the second or later bumps do not decline to the low seen duringformation of the main bump. The actual number of secondary bumps declining below the main bump are few but not tabulated.Figure 7.5 shows a good example of a multiple bump BARR. The firstbump completes in mid-August 1993 when prices touch the down-slopingtrendline. If you purchased the stock at any time during the first bump, youwould have been toast. From the high of 223/4 on August 19, the stock declinedto 173/8 on October 1, nearly a 25% fall.After that, it is all uphill. The stock moves up smartly and crests at 28^2in mid-January 1994. From the bump low, that is a 64% move and a 33% risefrom the breakout. Figure 7.5 imparts a valuable lesson: Consider waiting forthe upside breakout before buying into a situation. Not surprisingly, this lesson applies to many formations, not just die BARR bottom.The dual bump is unusual in that the second bump is lower than the first.As mentioned, dual bumps are a rarity, occurring only 14% of the time. Of
109
course, that is scant comfort if you already bought into a situation and it beginsdeclining again.Table 7.3 shows breakout statistics. Of the 360 formations I examined,only 9% have upside breakouts with prices that fail to move meaningfully
(more than 5%) upward. I discovered no formations that break out downward,quickly turn around, and move meaningfully higher. That is not to suggestsuch a scenario will never happen; it simply means it did not happen on myshift. Upside breakouts occur most of the time (90%) with downside breakouts
responsible for the remainder.Once a stock moves above the trendline, it throws back to the trendlineabout a third (38%) of the time. To accomplish the maneuver, it takes slightlyless than 2 weeks. Some throwbacks finish within a few days and others takealmost a month before they touch the trendline and start rising again. Excluded
from the tally are throwbacks over 30 days as I consider them to be due to normal price action and not part of a throwback.
Once prices begin moving up, it takes slightly over 5 months (160 days)to reach the ultimate high. This sounds about right as a 37% average rise doesnot happen overnight.To gauge where in the yearly price range the breakout occurs, I excludeany formation that occurs less than a year from the start. Then I sort the gainsinto three bins each representing a third of the yearly price range. The resulting frequency distribution shows that most of the formations have breakouts inthe center third of the range. Only 20% fall into the high category.
Due to the way the BARR bottom forms, with a down-sloping trendline,one can infer that BARRs start near die yearly high, then move down in price
Inco Ltd (Metals & Mining (Div.), NYSE, N)
Table 7.3Breakout Statistics for Bump-and-Run Reversal Bottoms
May 93
Dec
Jan 94
Figure 7.5 A dual bump-and-run reversal bottom. Consider waiting to buy thestock until after it breaks out upward. Had you bought into this situation duringJuly, you would have lost money in the short term.
Description
Statistic
Upside breakout but failure
32 or 9%
Upside breakout
325 or 90%
Downside breakout
35 or 10%
Throwbacks
136 or 38%
Average time to throwback completion
13 days
For successful formations, days to ultimate high
5 months (160 days)
Percentage of breakouts occurring near the 12-monthlow (L), center (C), or high (H)
L38%, C43%, H20%
Percentage gain for each 12-month lookback period
L39%, C42%, H28%
Start high to bump low
28% decline
Start high to breakout low
17% decline
Note: Nearly all the BARR bottoms break out upward, with over a third throwing back tothe trendline.
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Bump-and-Run Reversal Bottoms
to the center range before the breakout. To test this assumption, I comparedthe price at which the formations start (the daily high) with the yearly pricerange. Over 8 out of 10 formations (82%) have their start at the top of the pricerange and decline into the center of the range. The implications of this statistic are significant: BARRs begin life near the yearly high. After reviewing thecharts, this clearly is the case. BARRs often start just after prices climb to a new
high. Prices drift lower and make another try at a new high but fail. The twopeaks, the first one higher than the second, set the stage for a down-slopingtrendline. Prices then move down and a BARR forms when prices suddenlydrop during the bump phase.Is there a difference in performance among the three price ranges? I
computed the gains for the formations that fall into each of the three bins.Formations in the center price range have an average rise of 42 %, followedclosely by the lower third at 39%. In last place is the highest third, with a 28%average gain.I expected formations in the lowest grouping to place first and they
almost did. I reasoned that the most beat-up stocks would rise furthest. On theother hand, failed momentum stocks, those that are in the highest third of their
price range, would have the most difficult time recovering. That is exactlywhat appears to be happening.How far down from the formation start are the bump low and breakout
% Difference from Start to Ultimate High
Figure 7.6 Price start versus ultimate high. Comparison between the ultimatehigh after a bump-and-run reversal bottom compared with the daily high at thestart of the formation. Does the stock rise up to the old high and stop? A value ofzero means the two points are at the same price level. You can see that manybump-and-run reversal bottoms have prices that are within 5% of each other.
points? The statistics say that, 011 average, die low that occurs during the bumpphase is 28% below the high. Since the breakout is above the bump low, it isstill 17% below the start.Many times, prices rise up to their old highs and stop near that level thendecline. Several formations base their performance on this assumption, including double and triple tops. I set out to determine if there is any significance tothe rise in the stock after a breakout when compared with the starting point for
BARRs. Figure 7.6 shows the results of the analysis. I compared the daily highprice at the start of the formation with the ultimate high after the breakout.Pictured are the results of a frequency distribution of the percentage gains inthe stock price as compared with the starting point. Positive values mean thestock climbs above the starting price (on its way to the ultimate high), whereasnegative values mean it falls short. There are a number of points with risesabove 25%, but each bin contains less than half the number contained in the2 5 % category and are not shown for clarity.
The graph suggests that 34% of the formations stop rising within plus orminus 5% of the starting price. Almost two-thirds (61%) are within 15% of the
start. Since these are averages, your results may vary, but it does suggest that ameasure rule based on the attainment of the old high would work well. If prices
rise to the formation starting point (or the nearest high), that may be as faras they go.Nine months after reaching a low, the stock in Figure 7.7 climbed to itshighest price but closed lower for the day. For the next 6 weeks or so, it moved
Feb93
Mar
Figure 7.7 Bump-and-run reversal that stopped rising within 15% of its oldhighs. Sixty-one percent of bump-and-run reversal bottoms perform this way.
m
112
Bump-and-Run Reversal Bottoms
\
in a descending triangle shape, with lower highs and higher lows, until late
Trading Tactics
113
General Housewares Corp. (Household Products, NYSE, CHW)
May 1993. Prices moved up marginally higher but were still below the peak in
-14
late April. Then parts began falling off the semiconductor stock. It plummetedover $4 to close at 233/4 on June 7. On high but receding volume the pricemoved lower until it reached a low of 203/8 in mid-June.After spending a few days near the low, the stock began climbing: It wasleaving the bump phase. On August 5 it intersected the down-sloping trendlinesignaling higher prices ahead, and that is just what happened. The price continued rising until it reached 325/s, just '/4 point below the old high. Its sojourn
there lasted for about 2 weeks before it began a new journey downward. Thedecline sent the stock lower and it did not stop until it hit 163/4, about half itsprior level, in early January 1994.
If you used the measure rule (see the Trading Tactics section), you wouldhave sold at the top, the day after the stock reached 32%. The target priceexactly matched the lead-in height added to the breakout price. This fact, coupled with matching the old high, reinforced the sell signal. Together, the twosignals would have taken you out of the stock before the 50% decline began,potentially saving you a bundle.
The last statistics table, Table 7.4, shows the results of the volume study.I examined the most important points in the pattern: formation start, bumpstart, and breakout. Volume at the start of the formation is 20% above the daybefore (or 120% of the prior figure), on average. This is only marginally higherthan normal and you might not even notice it, since volume tends to bouncearound a lot anyway. However, upon entering the bump phase, when pricesdecline drastically, the volume tells a different tale. It rises 75% on the day ofthe break and more than doubles (223%) the next day and remains high. Inmany of the charts that accompany this chapter, you can see high volume surrounding the bump phase. The breakout day also exhibits high volume, but itquickly tapers off. On the day of the upside breakout, volume is 39% above the
prior day, on average, and trends downward from there.Figure 7.8 shows a typical volume pattern. At the start of the formation,volume is quite high for a few days but quickly recedes. As prices move down,
Table 7.4
Volume Statistics for Bump-and-Run Reversal BottomsDescription
Statistic
Volume at formation start versus day before
120%
Volume at bump start and next 2 daysversus day before bump start
175%, 223%,
Breakout day (and succeeding days)volume compared with day before breakout
139%, 130%, 115%, 109%, 99%, 96%
Figure 7.8 Volume pattern. Volume is usually high at the start of the formation,
during the beginning of the bump phase, and during the breakout. Only duringthe start of the bump is the volume in this chart muted.
volume follows. Even at the start of the bump, volume is quiet. Once pricesbegin descending more rapidly, volume rises a bit overall, especially near theminor lows (late October and December). During the breakout, volume spikesupward and propels the stock higher. Enthusiasm is high enough that the stockgaps upward, not once, but several times. From the bump low, the stock climbsalmost 80%, or 50% from the breakout.
Trading TacticsTable 7.5 outlines trading tactics for BARR bottoms. After properly identifying a BARR bottom, you will want to compute how profitable the formation islikely to be. You do that using the measure rule. Compute the lead-in heightby measuring the widest distance from the trendline to the daily low, vertically,in the first quarter of the formation. This is before the bump phase. Add the
192%
Note: Volume is heavy during the formation start, bump start, and breakout.
difference to the breakout price to get the target price. Over 90% of the timeprices reach the target, and so the measure rule should serve as a minimummove estimate.The measure rule relies on knowing the breakout price. Even without thebreakout price, you can still see how profitable the formation is likely to be by
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Bump-and-Run Reversal Bottoms
Sample Trade
115
Table 7.5Trading Tactics for Bump-and-Run Reversal BottomsTrading Tactic
Explanation
Measure rule
Compute the lead-in height and add it to the breakout price (usethe daily low to be conservative). The result is the minimum priceto which the stock will rise.
Wait for confirmation
Waiting for the breakout improves investment performance. Theclose should be above the down-sloping trendline before you buythe stock.
Sell at old high
When prices rise to the old high, consider selling if the stockshows weakness.
Stops
Place a stop VB below prior resistance. As prices rise, raise the stop.
Note: Profitabilitiy improves if you wait for breakout confirmation.
computing the lead-in height as a percentage of the current price. If the number is small, consider looking elsewhere for a more promising trade.
Aug 91
Sep
Oct
Nov
Dec
Jan 92
Feb
Mar
Apr
May
Jun
If the stock looks as if it might be profitable, then it is wise to wait for breakout confirmation. The confirmation point is when prices rise above the trendlineformed during the lead-in phase. Should the price close above the trendline, buythe stock.A second corollary to the measure rule is to sell at the old high. I have discussed how often a stock showing a BARR bottom stops near the old high
Figure 7.9 A bump-and-run reversal bottom failure in which John invested. Hefinally sold the stock just 2 days before it reached its low.
(which is the start of the formation). Place a sell order near the price level of
moved lower. When it declined even further, John thought he recognized a
die old high. That will keep your profits intact should the stock then turndown. If you are reluctant to sell your holdings, why not sell half when thestock reaches the old high, then see what happens?As always, place a stop-loss order Vs below the nearest support zone.Move the stop upward as the stock advances. That way, when prices turn
BARR bottom forming. He drew a third trendline, parallel to the other two
decline was at an end. So, the following day he pulled the trigger and bought100 shares at 18'/4. He was pleased to acquire the stock a bit below the closing
down, you will not lose too much. There is nothing worse dian riding a stockup and following it all the way back down.
price for the day.For the next week, die stock shot upward and pierced the second trend-
Sample Trade
line. John was brimming with enthusiasm and believed that picking stocks wasan easy game, as he put it. As the stock moved into a consolidation period, Johnshowed no concern. Flat periods of trading often follow quick rises.
Perhaps the most interesting way to illustrate trading tactics is by example. Johnis new to investing and he did not take die time to learn thoroughly about BARRbottoms. As he flipped through his stock charts one day, he noticed an intriguing situation developing in the stock depicted in Figure 7.9. During August, thestock peaked, declined a bit, dien formed a second minor high. As the stockdeclined from die second high, John drew a tentative trendline down connectingdiem. Soon, he noticed that the stock was descending in a sort of channel. Hedrew a second trendline, parallel to die first, that connected the lows.
However, the stock soon pierced through the second trendline and
and lead-in height apart.
As the stock dipped below the lowest trendline, he believed that the
When the stock neared the top trendline, John calculated the target price.He computed the lead-in height by subtracting the daily low from the trendline at its widest part in the first quarter of the formation. He used the low ofAugust 20, at 24, and subtracted this from the trendline value of 26, measuredvertically. This left him with a lead-in height of $2. John believed that the stockwould likely break out at about 211A, so this gave him a target price of 23'/4,which is the lead-in height added to the breakout price.
John recalled diat this was a minimum price move achieved by the vastmajority of BARR formations, so he was confident that he could hold out for
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Bump-and-Run Reversal Bottoms
Sample Trade
larger gains. From his purchase point, he calculated that he would receive atleast a 25% return if everything worked out as planned.For about a month, the stock moved sideways but this did not alarm him.
117
Varfty Corp. (Machinery, NYSE, VAT)
He even expected the stock to decline a bit and recapture some of its quick
gains. Secretly, he hoped that the stock would soon break out of its tradingrange and head higher. He was confident that it would move up—it was onlya question of when.He was wrong. Indeed, the stock did break out of its trading range, but
it headed lower, not higher. After it approached the top trendline, the stockcontinued down and touched the middle trendline. John knew that a stockoften retraces 40% to 60% of its gains. He grabbed his calculator and computed the retrace value.The stock reached a high of 21.43 in a straight-line run from the low at18, a rise of about 31/? points. Now the stock was retracing the gains and hadmoved down to 183/4, a 78% retrace. Clearly, this was out of the realm of a simple retrace. John suspected that a trend change had occurred, but hoped thatthe pause he was seeing as it touched the middle trendline would give the stocksupport and call an end to the decline. For a while, it did. The stock paused for3 days at the trendline then started moving lower again. It quickly fell belowthe purchase price and headed down.Although John had purchased the stock as a short-term play, he convinced himself that he really liked the company and would not mind holding itfor the long term. Now, at least, that is what it would take for him to recoup
his losses and get out at break-even.The stock quickly moved down through the third trendline, heading
lower. The easy game was now turning into a disaster. John first considered selling on December 11, when the stock reached 123/4, for a 30% loss. He delayedthe selling decision by saying that the holding was a long-term one and heshould expect to come across such declines in the short term.The next day, the stock closed higher and it gave him renewed hope.
Indeed, it closed even higher the following day. But the 2-day recovery was anillusion and the stock declined again. As it plunged below 123/4, John threw uphis hands and told his broker to dump the dog. He received a fill at 12'A, thelow for the day. Two days later, the stock bottomed out at about 103/4. Fromthe buy point, John lost 35%.As upset as this made John, the stock was not finished tormenting him.
He continued to follow the stock and watched it move higher. He extended theBARR trendline downward (Figure 7.10) and noticed that a new, larger BARRhad formed. After suffering through the large bump, the stock moved higheruntil it touched the BARR trendline. Then, the stock followed it lower, unableto pierce the resistance line.
Figure 7.10 A bump-and-run reversal bottom on a weekly scale. After the breakout, the stock climbed over 350%.
During the week of March 27, 1992, the stock closed above the trendlinefor the first time in months. The BARR was complete and a confirmed breakout was occurring. Did John buy the stock? No. For several months, hewatched its progress as it moved higher almost week after week. Disgusted, hequit following the stock.
In April 1994, John took another look at the stock and was surprised tosee that it continued moving higher. It had just reached a high of 50'/8, a climb
of almost 370%. He grabbed his calculator and realized that his mistake costhim gains of over $3,000.
What did he do wrong? Several things. He did not wait for the BARR topierce the trendline and move higher. If he had, he would have purchasedcloser to the low, saving him precious capital. Next, he did not cut his lossesshort. After he bought the stock, he should have determined his sell point. The
middle trendline would have been a good place for a stop-loss order. In thiscase, it would have taken him out of the stock at about 177/8, a small decline
from the purchase price of 18'/4. Instead, he followed the stock down andchanged his investment philosophy from a short-term trade to a long-terminvestment.When he finally gave up all hope of recovering from this trade, the stock
was near the low. Apparently other investors felt the same way as the high
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Bump-and-Run Reversal Bottoms
8
volume peaks during late November and through most of December attest.That is a common scenario: Novice investors buy near the top and sell near thebottom, exactly the opposite of what they should be doing.But there is good news. John has learned from his mistakes. Since thattrade, he has learned to wait for a confirmed breakout before placing a tradeand now uses stop-loss orders to limit his downside exposure. Does this meanhe is a model trader? No. Now he is making other types of mistakes.
Bump-and-RunReversal Tops
RESULTS SNAPSHOT
Appearance
Prices rise steadily along a trendline, bump up, roundover, then decline through the trendline and continuedown.
Reversal or consolidation
Short-term (up to 3 months) bearish reversal
Failure rate
19%
Average decline
24%, with the most likely decline between 15% and20%
Fullbacks
39%
Percentage meetingpredicted price target
88%
See also
Rounding Tops
If you were thinking of buying stock in a company, wouldn't it be wonderful ifyou knew the purchase price would be less tomorrow? Of course! But how doyou predict tomorrow's price? That is the question I was working on when Idiscovered this formation. I was trying to figure out a reliable way to determineif tomorrow's price would be higher or lower than today's and by how much.
119
120
Bump-and-Run Reversal Tops
Identification Guidelines
I tried all sorts of mathematical games to boost the accuracy of the prediction with only limited success. Then I moved to the visual world. I drew atrendline along a stock chart and wondered if I could determine how far priceswould decline below the line. I looked at many stock charts and trendlines trying to see if there was a relationship between a trendline and the breakdown ofthe trend. That is when I discovered it: the bump-and-run formation—BARFfor short. I toyed with the idea of leaving the name as is but decided that theinvestment community would not believe the veracity of the new formation.So, I changed the name to bump-and-run reversal (BARR), a slightly moredescriptive and palatable acronym.
121
Fieldcrast Cannon Inc. (Textile, NYSE, FLD)
—
TourAs I looked at the various trendlines, I discovered that pronounced breakdownsshare several characteristics. Look at Figure 8.1, a good BARR example. Theoverall formation reminds me of a mountain range. The foothills at the start ofthe formation are low and subdued, not venturing too far above the up-slopingplain. Volume at the start of the formation is high but quickly recedes. The
mountains themselves rise up well above the foothills on high volume. Investorenthusiasm continues high as prices round over at the top, then diminishes onthe far side. When the mountains end, prices decline sharply and continue
moving down. That is a BARR. Prices bump-up, round over, and run backdown again. The formation is the visual representation of momentum. Thebase of the formation follows a trendline that always slopes upward. It signalsinvestors' eagerness to acquire the stock. As each day goes by, investors bidhigher to reluctant sellers and the price rises.Other momentum players eventually notice the rise in the stock price.Many jump on the bandwagon the day after a surprisingly good earningsannouncement. That is when the bump begins. Volume spikes upward alongwith the stock price. Quickly rising prices entice others to join the fray andthat, in turn, sends the stock even higher. As momentum increases, prices jumpup to form a new, higher-sloping trendline. Then things start going wrong.Upward momentum continues until supply catches up with demand. Asthat happens, the rise slows and the smart money turns cautious. Investorenthusiasm wanes and the war between supply and demand turns. The stockrounds over and starts heading down. When the smart money sees prices
falling, they sell and the decline picks up speed. Downward momentumincreases and returns prices to the trendline. At this point, buying enthusiasmmay increase and send prices back up for one last try at a new peak. Usually,however, prices do not bounce off the trendline but continue moving down.
Sometimes there is a pause and sometimes prices just plunge straight throughthe resistance line, as illustrated in Figure 8.1.
Nov93
Figure 8.1 Good example of a bump-and-run reversal. Prices move up along thetrendline in the lead-in phase, jump up during the bump phase, then crash downthrough the trendline during the downhill run. Volume at the start of the formation and again at the start of the bump is usually high but tapers off as the bumprounds over. About half the time volume picks up as prices pierce the trendline.
Once prices pierce the trendline, volume increases as investors dump thestock. This selling alarms more investors and the downward trend feeds onitself. Eventually, after several months of declining prices, the selling pressureabates and buying enthusiasm halts the downward slide. Prices tentatively levelout and perhaps even rebound a bit. Once the cause of the reversal fades frommemory, prices start rising again and the process begins anew.
Identification GuidelinesTable 8.1 outlines the various parts of the formation that are illustrated in Figure 8.1. In the figure, a trendline drawn below the lows in the stock extendsuntil it intersects prices as they decline in May. Volume is high at the start, andthe trend is up. That is a key consideration: Prices must be rising. The trendline should be approximately 30 degrees, but the degree of slope depends on thescaling used to view the chart. If the trendline is flat or nearly so, it is not a goodBARR candidate. A rising trendline shows investor enthusiasm for the stock.However, the trendline should not be too steep either. Steep trendlines (over 60degrees or so) do not allow enough room for the bump to complete properly.
122
Bump-and-Run Reversal TopsTable 8.1Identification Characteristics of Bump-and-Run Reversal Tops
Characteristic
Discussion
Rising trendline
A trendline connecting the lows rises steadily: no horizontalor near-horizontal trendlines. The trendline usually rises atabout 30-45 degrees (although this varies with scaling).Avoid trendlines that are too steep (over 60 degrees): Thereis not enough room for the bump.
Lead-in, lead-in height
Rounded bump
The lead-in is the section just before prices move up sharplyin the bump phase. Lead-in prices should have a range ofat least $1 (preferably $2 or more), as measured from the highest high to the trendline, vertically, during the firstquarter of the overall formation length. Minimum lead-inlength is 1 month with no maximum value.Prices rise up (trendline slope is 45-60 degrees or more) onhigh volume usually after a favorable event (unexpectedlygood earnings, an analyst recommends or upgrades thestock, higher store sales, that sort of thing). Priceseventually round over and decline back to the 30 degreetrendline. The bump must be at least twice the lead-inheight, measured from highest high to the trendline,vertically.
Downhill run
After returning to the trendline, prices may bounce back upand form a second bump or slide along the trendline.Eventually prices drop through the trendline and continuedown.
Focus on Failures
123
Volume during the lead-in phase is high at the start. Often this is due toevents that occur just before the formation begins. Volume drops off until thestart of the bump, when it suddenly rises. The higher share turnover andexpanding enthusiasm for the stock forces prices up. In Figure 8.1, this price
rise occurs on February 17 and is accompanied by volume that is the highest inhalf a year.Prices jump up at the bump start and quickly rise from a low of 26'/2 to ahigh of 34% during late March. Volume remains high throughout