often the first consequential moveaway from a Head-and-Shoulders Top or Bottom will carry through to thepoint (or a little beyond) implied by the measurement of the formation. But,the same formula applied to Consolidation Patterns of the Head-and-Shoulders form does not work out as well. Such patterns are usually quite “flat,”and the ensuing move generally extends well beyond the measurementimplied thereby, while, in some cases, it may not go quite as far. Consequently, the Head-and-Shoulders formula cannot be applied to Consolidation Areas with assurance that it sets up a definite and dependable objective;one has to look, in these cases, to a variety of other chart indications in orderto appraise the probable proportions of the move to follow.
AU3772_book.fm Page 204 Saturday, November 18, 2006 5:29 PM
204
28
Technical Analysis of Stock Trends
AMERICAN & FOREIGN POWER 2d Pfd A
FP 2d Pr
26241945
22Sales100’s
125100755025JANUARY FEBRUARYMARCHAPRILMAYJUNE6 13 20 27 3 10 17 24 3 10 17 24 31 7 14 21 28 5 12 19 26 2 9 16 23 30
FIGURE 117. A 1945 Head-and-Shoulders Consolidation in which both of theshoulders and the head took a “Saucer” form. Compare price and volume trends.Prices advanced to 31½ in July, came back again to 25½ in August, and then shot upto 40 in November.
Scallops–Repeated SaucersOur next chart picture differs from the Consolidation Formations previouslydiscussed, in that it does not constitute a more or less definite area of Congestion or fluctuation to which one or more critical boundary lines can beaffixed. We could, perhaps, take it up as well in a subsequent chapter underthe general heading of normal trend action. Yet it is a pattern so characteristicof certain types of stocks and certain types of markets, and so nearly relatedto the principle of Consolidation for further advance, that it may better betreated here.When a stock in which there is a large number of shares outstanding,and in which there is, at all times, a fairly active and “close” market emergesfrom a long-time Bottom (as exemplified by the past history of Radio Corporation and Socony Vacuum), it will often make a long Major Advance ina series of “Saucers.” These successive patterns, each of which resembles, inboth price and volume action, the Reversal Formation described in Chapter 7as a Rounding Bottom, are slightly uptilted. That is, the rising end alwayscarries price a little higher than the preceding Top at the beginning of theSaucer. The net gain accomplished by each Saucering movement will varyfrom stock to stock, but there seems to be a strong tendency for it to amountto about 10 to l5% of the price of the issue. The total reaction from the lefthand lip of each Saucer to its Bottom level is usually a little greater, from20 to 30%. And the length (duration) of the Saucers is normally 5 to 7 weeks,rarely less than 3. Thus, overall advance is slow but steady, in much the
AU3772_book.fm Page 205 Saturday, November 18, 2006 5:29 PM
Chapter eleven:
Consolidation Formations
205
14131211
MIAMI COPPER
MI
1945
10
9
Sales100’s125100755025
XD .25 ¢
8
JULYAUGUSTSEPTEMBER OCTOBER NOVEMBER23 30 7 14 21 28 4 11 18 25 1 8 15 22 9 6 13 20 27 3 10 17 24 1 8 15
FIGURE 118. Part of a genuine “Scallop” uptrend, typical except for the shortduration and relatively small decline in the October Saucer. The next Scallop, whichstarted in December, dropped prices back to 12½ in January, and then carried themto 18½ in February. A 4-month Saucer, from February 1945 to June, preceded thischart. Note position traders found themselves in, who bought at 9 on the “new highvolume” in June.
same sense as the progress of the man who eventually got out of the deepwell by climbing three steps for each two that he slipped back.The charts of stocks that take this sort of course show a picture of strikinglysimilar and Symmetrical Rising Scallops, one succeeding another with little orno pause between. Trading activity runs up to a peak at the latter stage of eachScallop, as the previous high is approached and exceeded, then diminishes intodullness as prices curve down and flatten out at the Bottom of the next Saucer,and picks up again as prices curve up into their next rise.The trading opportunities afforded by stocks of the Saucering habit hardlyrequire extended comment (although we shall set down some detailed specifications in the second section of this book). The Bottom level of each Scallopis usually easy to detect by watching price trend and volume, and so is thetopping out at the end. Yet it is curiously a fact that most “tape watchers”handle such stocks in the wrong way, becoming interested in them and buyingwhen they show activity (“make a new high on volume”) and neglecting thementirely when they are in the dull, rounding-out stage of their trends.
AU3772_book.fm Page 206 Saturday, November 18, 2006 5:29 PM
206
Technical Analysis of Stock Trends
36COMMONWEALTH EDISON CWE343230194528
Sales100’s
125100755025JULYAUGUST SEPTEMBEROCTOBER NOVEMBERDECEMBER7 14 21 28 4 11 18 25 1 8 15 22 29 6 13 20 27 3 10 17 24 1 8 15 22 29
FIGURE 119. Although the Scalloping habit characteristically appears in low-pricedissues, it is sometimes found in widely held, semi-investment stocks of medium price,such as “CWE.”
(Many boardroom tape watchers scorn charts with unfortunate consequences to their capital in the long run. Genuinely expert tape readers —those who are able to show fairly consistent profits in their trades — arereally extremely rare. EN: For “tape readers” substitute “day traders,” 99% ofwhom are unsuccessful. When you do meet such an individual, you will findthat he either, in effect, “carries charts in his head” or else takes a carefullook at the record before he buys on a ticker showing activity.)As a stock with the Scalloping habit finally works up in price to 15 orso, its pattern tends to become less regular; it begins to depart from thesmooth, narrow Saucer-like curve of the lower levels. Above 20, it is apt tobreak away entirely from the Scallop sequence and produce, from there on,more rapid straight-line advances, interspersed with sharp reactions andstandard types of Consolidation Formations, which are characteristic at alltimes of medium- and higher-priced issues. (There are exceptions: Somehigh-priced preferred stocks for which there is always a market, but whosetrends depend almost entirely on the gradual changes in prevailing interestrates and supply of funds for investment, have a persistent Scallop habit intheir Primary Upswings.)We have named rather specific price levels (15 and 20) in the precedingparagraph, but price is not, of course, the sole factor determining the departure of a stock from a Scallop Trend. The only safe assumption is that, oncesuch a habit is detectable, it will be continued until the chart shows a definitedivergence from it, and such divergence usually takes first the form of agreater-than-wanted advance arising at the end of one of the Saucers. Consequently, if you have previously taken a position in it at a favorable point(near the Bottom of a Scallop), you will unlikely be hurt when the stockfinally alters its action.
AU3772_book.fm Page 207 Saturday, November 18, 2006 5:29 PM
Chapter eleven:
Consolidation Formations
207
Very low-priced issues may persist in a Scalloping Trend right up totheir Major Bull Tops, and even attempt another Saucer Movement followingwhat turns out to have been the final high, which attempt then fails, ofcourse, to carry out the previous successively higher and higher pattern.Such failures are not difficult to detect; the change from previous patternappears before any appreciable damage is done to a properly assumedcommitment.
Modern vs. Old-Style MarketsWe have mentioned in our discussion of Reversal Formations that some ofthem have appeared less frequently in the charts of the 1960s than they didin prior years, and others more frequently. The same is true of ConsolidationFormations. Patterns of the compact, strictly defined sort such as Rectanglesand Right Angle Triangles are less common now. Symmetrical Triangles areapt to be somewhat looser than they were in the 1920s and 1930s — not asclean-cut and conspicuous on the charts. Typical profit-taking patterns suchas Flags and Pennants seem to be as common as ever, while “normal” trendpictures, including those formations associated with normal trend development(such as Head-and-Shoulders, Rounding Turns, etc.), are more common.The reasons for these changes are fairly apparent. SEC regulations,higher margin requirements, greater public sophistication, and a moreconservative — we might better say more pessimistic — approach to theproblems of investment and stock trading generally have all played a partin this evolution. SEC and Stock Exchange vigilance have done away withthe flagrant pool manipulations designed to take advantage of the “lambs”of former years. Nowadays, there is even very little of the more “legitimate”sort of syndicate operation planned to facilitate large-scale accumulation ordistribution.It is still possible, of course, for “insiders” to hold back for a limitedtime, or to prematurely release announcements of good or bad portent withregard to the affairs of a particular corporation, in order to serve theirpersonal strategic purposes. But the stock purchase and sales of officers,directors, and principal owners are now too closely watched to allow a greatdeal of “skullduggery.” (Nevertheless, the average investor had better stillbe a trifle skeptical as to the probability of any great advance in the marketfollowing publication of a good report.)Collusion between investment advisory services and trading pools hasbeen effectively outlawed. (It is safe to say that it never did exist as flagrantly,even in the 1920s, as many amateur traders seem to think.) The SEC (withthe thorough cooperation of the Stock Exchange) polices the investmentcounsel profession thoroughly, constantly, and most effectively. No wellestablished investment counsel can afford to indulge in deceptive or collusive practices even if the desire were there. Most of them go far beyond themost reasonable needs to safeguard themselves against any contacts which,however innocent or useful, might be viewed with suspicion.
AU3772_book.fm Page 208 Saturday, November 18, 2006 5:29 PM
208
Technical Analysis of Stock Trends
1918
INTERNATIONAL TEL. & TEL.
IT
1944
17161514131211Sales100’s25020015010050JANUARY FEBRUARY MARCH8 15 22 29 5 12 19 26 4 11 18 25 1
APRILJUNEMAY8 15 22 29 6 13 20 27 3 10 17 24 1
FIGURE 120. This chart shows the last 5 months of a broad, 13-month Saucer-likeConsolidation in “IT,” which followed its rapid run up from 3 to 16 in late 1943 andearly 1944. “IT” is an erratic actor, and its volume is apt to be particularly deceptivein day-to-day movements. Major Price Patterns in it, however, are dependable. Thisfinal phase of its long Consolidation (distribution and reaccumulation) took first theform of a Rectangle (with a premature breakout) and then an Ascending Triangle.Its 1945–46 Bull Market Top was a massive Head-and-Shoulders.
The old-time “plunger” hasn’t disappeared entirely, but high marginsand regulations preventing “Bear Raiding” have made present-day stockmarkets relatively difficult and unprofitable for him. The out-and-out boardroom gamblers (EN: Day Traders — whose rushing to and fro probably exacerbatesdaily volatility.) still come in, although high margins have cramped them too.In recent years, they have appeared in numbers only in the final stages ofBull Markets. EN: Note the Day Trading craze that infected the markets in the late1990s. Of course, their operations never did affect the charts much except toaugment activity.On the other hand, higher taxes and greater regulation have most certainly not provided safer, closer, or more stable markets for the small investor.Higher margins have not prevented Panic Collapses. If anything, marketshave been “thinner” on the downside, more vulnerable to rapid and drasticdecline, than they were prior to modern regulation. We still have the verysame sort of Bull and Bear Markets, and much the same sort of market trenddevelopment, that we had 50 years ago. The surprising thing is not that a
AU3772_book.fm Page 209 Saturday, November 18, 2006 5:29 PM
Chapter eleven:
Consolidation Formations
209
1918FLINTKOTE
17
FO
161941–1943151413121110
9Sales100’s5040302010S
O
N
D
J
F
M A
M
J
J
A
S
O
N
D
J
F
M
FIGURE 121. There are times when a Consolidation Pattern gives the only goodtechnical signal that a Reversal in an issue’s Primary Trend has actually taken place.Although cases of a Major Turn, particularly a Bottom, without some sort of recognizable Reversal Formation on the chart are quite rare, they do occur. This weeklychart of Flintkote illustrates such a phenomenon. A Bear Market low, from which itrose to 47 in 1946, was made at 8⅝ in December 1941. Without developing anyimportant technical foundation on either a daily or weekly chart, its first upswingtook it to 11⅞ the following April. From that point, it went into a 6-month SymmetricalTriangle, and then broke out topside at the three-quarters stage on increased volume.This action, plus the fact that it immediately thereafter burst up through an old andhighly significant Resistance Level at 12, was sufficient to mark it as being in at leasta strong Intermediate if not a full Primary Uptrend.The combination of technical developments illustrated in this chart — a largeConsolidation Pattern forming just under a Major Resistance and then a breakoutupside from both — is something to watch for when it appears that a Reversal froma Bear to Bull Trend is due.Resistance Levels will be discussed in Chapter 13.
few types of chart patterns that were, on occasion, produced by unregulatedtrading are now less common, but that the great majority of technical phenomena have been practically unaffected. The chart student of 1907 wouldbe quite at home with the charts of 1966. EN: And with those of 2000. That is
AU3772_book.fm Page 210 Saturday, November 18, 2006 5:29 PM
210
Technical Analysis of Stock Trends
why so little change has been necessary to bring Edwards’ classic account currentto the third millennium. EN9: A note to a note. Pools and manipulators disappearand are replaced by some new pernicious form of skullduggery. Specialists andmarket makers are hauled before the bar of justice for cheating. In the 21st centuryhedge funds proliferate like rabbits in Australia. For any exacerbation of volatilitythey cause they probably make up for in additional market liquidity. The samepatterns keep appearing because, computers to the contrary notwithstanding,humans are eventually responsible for pulling the trigger. It does seem that frequently patterns are not so neat as they were “in the old days.” Trend lines, especiallyhorizontal lines seem to be more “zones” than hard and fast lines and more judgmentmight be necessary in interpretation. But everything which Edwards says here mighthave been written in 2005 instead of in the mid-20th century.
AU3772_book.fm Page 211 Saturday, November 18, 2006 5:29 PM
chapter twelve
GapsA gap, in the language of the chart technician, represents a price range atwhich (at the time it occurred) no shares changed hands. This is a usefulconcept to keep in mind, because it helps to explain some of their technicalconsequences.Gaps on daily charts are produced when the lowest price at which acertain stock is traded on any one day is higher than the highest price atwhich it was traded on the preceding day. When the ranges of any two suchdays are plotted, they will not overlap or touch the same horizontal level onthe chart. There will be a price gap between them. For a gap to develop ona weekly chart, it is necessary that the lowest price recorded at any time inone week be higher than the highest recorded during any day of the preceding week. This can happen, of course, and does, but for obvious reasonsnot as often as daily gaps. Monthly chart gaps are rare in actively tradedissues; their occurrence is confined almost entirely to those few instanceswhere a Panic Decline commences just before the end of a month and continues through the first part of the succeeding month.
Which Gaps Are Significant?From the earliest days of stock charting, gaps attracted attention. These“holes” in the price trend graph were conspicuous. It was only natural thatobservers should attach importance to them, should try to assign somespecial significance to their occurrence. But the result was unfortunate, forthere soon accumulated a welter of “rules” for their interpretation, some ofwhich have acquired an almost religious force and are cited by the superficialchart reader with little understanding as to why they work when they work(and, of course, as is always the case with any superstition, an utter disregardof those instances where they don’t work). We refer to this situation asunfortunate not so much because the gap “rules” are wrong, but ratherbecause their blind acceptance has barred the way to a real understandingof a gap’s implications and the establishment of a more logical basis for itsuses in trading.The most common superstition is that “a gap must be closed.” Sometimes it is stated more cautiously in such words as: “If a gap isn’t closed inthree days, it will be closed in three weeks, and if it isn’t closed in threeweeks, it will be closed in three months, etc.” There are numerous variations,211
AU3772_book.fm Page 212 Saturday, November 18, 2006 5:29 PM
212
Technical Analysis of Stock Trends
but they all add up to the belief that a gap must be closed, and that the trendis not to be trusted until the gap has been covered. It is the latter inferencewhich leads to error.
Closing the GapBut first, what is meant by “closing” or “covering” a gap? Suppose a stockin an Advancing Trend moves up day after day, from 20 to 21, 22, 23, 24,and closes one night at the top of its range for that day, at 25. The nextmorning it opens at 26 and keeps right on moving up from there. This actionleaves a 1-point gap, between 25 and 26, on the chart. Then suppose the risecontinues to 28, halts there and is followed by a reaction in the course ofwhich prices slip to 28, halts there and is followed by a reaction in the courseof which prices slip back to 27, 26, and finally to 25. The return move hascarried prices back through the gap area (25–26); the gap has thereby beencovered or closed. In brief, a gap is closed when a subsequent price trendcomes back and retraces the range of the gap.Must a gap be closed before prices move very far away from it? Certainlynot! Will it be closed eventually? Probably yes. If it is not closed by the nextMinor Reaction, there is a chance it will be covered by the next IntermediateRetracement, and if not then, pretty surely by the next great Major Swing inthe opposite trend. But that may be years later — hardly a matter of interestto the ordinary trader. The investor who bought Chesapeake and Ohio sharesat 260 on October 21, 1929, counting on the closing of the gap which thatissue had made on the preceding Friday, 2 points down from 266 to 264, hadto wait nearly 7 years to get out even! Not until it neared the Top of the nextMajor Bull Market did CO attain an equivalent market value (65, since itwas split 4-for-1 in 1930). In the meantime, he saw his investment shrink in1932 to less than a sixth of his purchase price. As a matter of fact, there werehundreds of gaps made in the charts of the 1929 to 1930 markets which neverhave been covered since then, and many of them, it is safe to say, never willbe closed.If you will think the matter over for a moment, you will see that theprobabilities we have stated above for a gap’s being closed apply just as wellto a stock’s returning to any price range at which it has once been traded,gap or no gap.Another point: there are thousands of price gaps made in trading —some of them quite wide — which do not appear at all on the standard dailyrange charts because they are made during a single day and not between oneday’s closing and the next day’s opening. Such intraday gaps are ordinarilyoverlooked entirely; the gap theorists are oblivious of them, although theirsignificance is often greater than that of many interday gaps. Practically everyemphatic breakout move from a strictly defined Rectangle or Right-AngleTriangle is attended by a gap, but only those few show up on the charts thatoccur at the day’s opening gong.
AU3772_book.fm Page 213 Saturday, November 18, 2006 5:29 PM
Chapter twelve:
Gaps
213
16AMERICAN WATER WORKS & ELECTRIC
AW
1514194513
G
1211
G
10
9Sales100’s
25020015010050JANUARYFEBRUARYMARCHAPRILMAY6 13 20 27 3 10 17 24 3 10 17 24 31 7 14 21 28 5 12 19 26 2
JUNE9 16 23 30
FIGURE 122. The April–June Rectangle on this 1945 chart of “AW” contained anumber of insignificant Pattern Gaps. The two larger gaps marked “G” are of theContinuation or Runaway class. Note that prices closed at or near the top on eachday that made a gap. Neither of these was closed for 2 years.Also of interest in this chart is the Descending Triangle, which started to form inMarch, but was never completed — a deceptive and discouraging picture until theApril 7 gap was made.The Flag of mid-April “measured” the move from 9½ to 14. The gaps measuredthe two halves of it, on either side of the Flag.
If we seem to have “protested too much” in the foregoing, it is onlybecause we want our readers to study this topic with an open mind, freefrom preconceived notions as to any mystic qualities which gaps may possess. Turning to the other side of the picture, gaps — some gaps — havetechnical import. Some gaps are useful to the chart analyst in appraisingtrend possibilities. Let us see what we can make of them.
Ex-Dividend GapsFirst, however, we must eliminate from consideration the gaps that do notmean anything. An eighth-point gap obviously has no technical significance
AU3772_book.fm Page 214 Saturday, November 18, 2006 5:29 PM
214
Technical Analysis of Stock Trends
as it represents only the minimum permitted change in price. By the sametoken, a gap of a quarter of a point or even a half point in a high-pricedstock, such as Norfolk & Western (before the split), represents only a normal,in fact close, spread between successive bids. In brief, to carry interest forthe chart technician, a gap must be wider than the usual changes in pricethat occur under normal or prevailing trading conditions. A second class ofgaps that have no forecasting implications are those formed consistently andhabitually by “thin” issues in the medium- and higher-price brackets. Youcan spot them easily. If your chart of a certain issue shows numerous gapsas a regular thing, then no one of them is apt to mean anything special.Finally, gaps that appear on the charts when a stock goes ex-dividend(whether the dividend be in cash, stock, rights, or warrants) possess no trendimplications. They are occasioned not by a change in the Supply–Demandrelation which governs the trend, but by a sudden and irreversible alterationin the actual book value of the issue.Eliminating the technically meaningless types named above, we are leftwith the gaps which occur infrequently (and which are not occasioned byan ex-dividend change in value) in issues that are so closely and activelytraded as ordinarily to produce “solid” charts. A 1-point gap, for example,in the chart of New York Central would be an unusual event; it woulddemand attention; it would presumably have some forecasting significance.Such gaps, for the purposes of our study, may be divided into fourclasses: Common or Area Gaps, Breakout Gaps, Continuation or RunawayGaps, and Exhaustion Gaps.
The Common or Area GapThis type of gap gets its name from its tendency to occur within a tradingarea or Price Congestion Pattern. All of the Congestion Formations that wehave studied in the preceding chapters — both Reversal and Consolidationtypes — are attended by a diminution in trading turnover. The more strictlydefined sorts — the Triangles and Rectangles — show this characteristic mostconspicuously. Moreover, activity in these patterns tends to be concentratedpretty much at or near the top and bottom edges, their Supply and DemandLines, while the area in between is a sort of “no-man’s land.” It is easy tosee, therefore, why gaps develop frequently within such areas. You will findnumbers of good examples of Pattern Gaps in the charts illustratingChapters 8 and 9.Such Pattern Gaps are usually closed within a few days, and for obviousreasons, before the Congestion Formation in which they have appeared iscompleted and prices break away from it. But not always. Sometimes a gapwill develop in the last traverse of prices across the pattern area just beforea breakout, and in such cases, it is not closed for a long time, nor is thereany reason why it should be.
AU3772_book.fm Page 215 Saturday, November 18, 2006 5:29 PM
Chapter twelve:
Gaps
215
The forecasting significance of Common or Pattern Gaps is practicallynil. They have some use to the technician simply because they help himrecognize an Area Pattern — that is, their appearance implies that a Congestion Formation is in process of construction. If, for example, a stock movesup from 10 to 20, drops back to 17, and then returns to 20, making a gap inthe course of that rally, it is a fair assumption that further pattern development will take place between approximately 17 and 20. This is a convenientthing to know and may, on occasion, be turned to profit in short-term tradingpolicy.Pattern Gaps are more apt to develop in Consolidation than in ReversalFormations. Thus, the appearance of many gaps within an evolving Rectangle or Symmetrical Triangle reinforces the normal expectation that the pattern in question will turn out to be a Consolidation rather than a ReversalArea.
Breakaway GapsThe Breakaway type of gap also appears in connection with a Price Congestion Formation, but it develops at the completion of the formation in the movewhich breaks prices away. Any breakout through a horizontal pattern boundary, such as the Top of an Ascending Triangle, is likely to be attended by agap. In fact, it is safe to say that most of them are. And, if we consider whatgoes on in the market to create a Flat-Topped Price Formation, it is easy tosee why Breakaway Gaps should be expected. An Ascending Triangle, forexample, is produced by persistent demand for a stock meeting a largesupply of it for sale at a fixed price. Suppose that supply is being distributedat 40. Other holders of the stock, who may have intended originally toliquidate at 40½ or 41, see quotations come up to 40 time after time, stopthere and turn back. They tend, in consequence, either to join the crowdselling at 40, or else to figure that once through 40, prices will go muchhigher; they may either lower or raise their selling price. The result is a“vacuum” on the books, a dearth of offerings in the price range immediatelyabove the pattern. Hence, when the supply at 40 in our Ascending Triangleexample is finally all absorbed, the next buyer of the stock finds none offeredat 40⅛ or 40¼ and he has to bid up a point or more to get his shares, thuscreating a Breakaway Gap.As we remarked earlier in this chapter, gaps of this type actually occuron almost every decisive breakout from a Horizontal Congestion, althoughmany of them do not show on the charts because they occur during a dayand not between one day’s close and the following day’s opening. Breakaway Gaps also develop at times when prices move out of other types ofReversal or Consolidation Formations; they are not uncommon in connectionwith Head-and-Shoulders Patterns, for instance, and they even occur on thepenetration of trendlines, which we shall discuss in a subsequent chapter.
AU3772_book.fm Page 216 Saturday, November 18, 2006 5:29 PM
216
Technical Analysis of Stock Trends
120BETHLEHEM STEEL
BS
1121049688
GG
G
G
80
G
7672681937646056Sales100’s
25020015010050APRIL3 10 17 24 1
MAYJUNEJULYAUGUST SEPTEMBER8 15 22 29 5 12 19 26 3 10 17 24 31 7 14 21 28 4 11 18 25
FIGURE 123. The large up-gap