11⁄4 points respectively. PCLN, however, solddown 13 points from the open. Therefore, unless we played PCLN, wewould have stopped out on our open shorts. The next move we look foris the resulting bounce from PCLN’s bottom. It gave us 11 points on
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potential. QWST, after running 2 points, sold down 4 points with a 1 3⁄4bounce and then down another 3 with strength into the close. SNRZ rose11⁄4 points with a 1-point sell-off from that top. Therefore, we note thatour second-day gainer pattern of open shorts had mixed action and weneed to be very careful on doing open shorts on the next day. The bottoms on these stocks were worth looking for as the upside potentialshould have been enough to cover at least one if not two stops on them.Our first-day dumper was FEET. Note that your tracking sheet willhave more stocks to get a better feel of the overall group. Remember thatwe need value buyers in this group to create momentum on the upside.We will know how strong the value buying is by how many bottoms ourdumpers make. FEET had one bottom (showing strength in value buying) going down merely 3⁄8 points and went up 2 3⁄8 points off that bottom.Therefore, our pattern shows us that one bottom is good enough to ridegains on. With this rise of 2 3⁄8 points, we can expect our dumpers to giveus 11⁄2 to 2 points in potential, depending on how long you want to riskholding the stock. Also, it is well worth the risk of taking a stop or twoon. We also notice that FEET was flat into the close of the trading day,not making it a high-percentage gap candidate as we like to see buyingstrength into the close.Our second-day dumper was RSTO. Remember that we expect someweakness from the open and then we need to see if the resulting bottomwas worth the risk of taking a stop. RSTO went down 1⁄16 points from theopen and then made a nice climb, giving 7⁄8 points potential before sellingdown 3⁄8 points and then becoming flat into the close. Therefore, we needto be careful of expecting weakness in this group from the open whilelooking for a bottom that won’t cost us more than one stop.We’ve just compared our stock’s action to the current patterns thatwe have. Let’s recap what we have. On first-day gainers, the first up-tickswere worth the potential of playing. The pullbacks on these stocks werealso worth the play if you wanted to wait for a pullback. THDO was ourexception of the group. Second-day gainers were not safe open shorts,as we had two of three make small downticks from the open with strongruns. However, the resulting bottoms on the stocks were worth thestops. The first-day dumpers show us strong value buying is present asour stock only made one bottom and rose 23⁄8 points off that bottom. Oursecond-day dumper shows us to be careful on the weakness at the openand the upside potential off a bottom is worth looking for.
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FORMING EXPECTATIONSNow that we have analyzed our patterns and compared today’s stockaction to our current patterns, we can begin to form expectations fortomorrow’s trading. These expectations will be the beginning of yourgame plan for the next day. This game plan will be a great aid in developing confidence in your trading. Once you become familiar withrecognizing patterns and what potential each pattern is currently offering, then you are ready to form expectations. We should only enter atrade that we have expectations on. We should not simply enter a tradeblindly or follow someone else’s call. We must have a firm grasp of howthat stock can react, the potential it can have, and what to do if it beginsto trade against us—this is called an expectation.When we trade on expectations, we begin to gain a higher percentage of trading. Gaining a higher percentage of trading requires that youenter trades that you feel will have enough potential for profits even ifyou are required to take one or two stops. It will also keep you out ofstocks that you either cannot read or see, or, worse, cannot enter and exitexpeditiously. By trading on expectations, you inherently miss hundredsof trades a week. You miss thousands of trades a year. However, youcatch the four, five, or six trades a day that have a greater potential toattain your expectations. Therefore, you have a better chance to attainprofits on the stocks you do trade.Another benefit of trading on expectations is that you can tellwhether or not you are in sync with the market and what the market istelling you. If you simply guess that a stock will go up and it does, youare lucky. If you guess that the stock will go up and it goes down, thenyou are simply wrong. You cannot enhance guessing skills becauseguessing is simply a flip of the coin and gambling. If you have done yourtracking, analyzed your patterns, developed an expectation of the trade,and expect the stock will go up and it does, then you have done the rightthing for the right reasons. It wasn’t simply a guess. If the stock goesdown after all that preparation, then you stop out and simply look for are-entry point or tell yourself you are out of sync with that trade andleave it alone. Those who guess have no idea how far it can go down orback up. Those who guess have less percentage of a chance of makingmoney in this market than those who have a solid understanding of themarket and prepare for it every day.Do not let a bull market lead you to believe that trading stocks is aseasy as throwing darts to find stock picks. When and if this market turns
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bearish or sharply corrects, those who are guessing can really be hurt.Each day we see wild swings in stocks, sometimes 25 points or more.Those who have expectations will be more likely to exit the trade andsave capital for the next play.Let us form expectations for tomorrow based again on our trackingsheet. We’ve determined that on first-day gainers, the first up-ticks weresafe to play. So we begin to divide our stocks into price range levels. Thethree stock levels that we play are• Under $10• $10 to $100• $100⫹As we can see, the stocks that were priced under $10 were REGI andTHDO. REGI offered 3⁄4 points off its first up-tick. THDO offered 5⁄8 pointson its first up-tick. Therefore, tomorrow we can reasonably expect a stockthat is trading under $10 to not give us more than 1 point in potential offits first up-tick. Now playing a stock with under a point in potentialrequires excellent timing and execution. Traders like to play more shareson trades like this so that they can take profits conservatively as it climbsor sell half lots as it reaches the first target on our expectations. Sellinghalf lots means that if I bought 1,000 shares at 10 and I expect 10 3⁄4 to bethe high on it, I can sell 500 of my shares at 10 1⁄2 and sell the remaining500 at 10 3⁄4 if it gets there. Notice how expectations on our stocks let usdetermine exit points. If the stock starts to sell below 10, we can immediately stop out and look for a re-entry if we still believe 10 3⁄4 to be ourtarget.QLGC was a stock in the $10 to $100 price range. Now we need tolook at this stock with a bit more skepticism. I would not expect moststocks in this price range to run 14 points from the open, so we need toscale our expectations back to be a bit more conservative. However, wecan set a conservative target and if it hits it, we can again sell a half lotand save the other half to see if it rises more.AMTD and EGRP are in our $100⫹ group. AMTD offered us 5points from the first up-tick and EGRP offered 4 points. Therefore, wecan expect 5 points or less in this group off the first up-tick. We set a conservative target of maybe 2 to 2 1⁄2 points, sell a half lot there, and see ifthe stock rises more. Notice again our expectations are helping to developexit points. We have just developed expectations for the next day of trading in first-day gainers.
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We have two second-day gainers, QWST and SNRZ, in the $10to $100 range. Both stocks sold down only 1⁄16 points before rising 2 and11⁄4 points respectively. Therefore, we have to be careful of open shorts inthis dollar range. However, we can short the first top, which gave us 4points potential on QWST and 1 point in potential in SNRZ. You may tryto play a bottom off that first high. However, note that because ourbounce was only 13⁄4 on QWST and only about 1⁄2 point on SNRZ, we needto be very conservative on taking profits if we choose to play a bouncein this group. We may even consider not playing the bottoms as theupside may not be worth the stops trying to find them.PCLN was in our $100⫹ group. It sold down 13 points from theopen with an 11-point bounce. Then it ended near the low. We can expectbetter weakness in this group so we can hold our shorts a bit longer andwe can also be more aggressive in this group when looking for the bottom as the 11-point potential is well worth one or two stops and possibly even three.Our first-day dumper, FEET, was in the $10 to $100 range. FEETgave us 23⁄8 points off its first bottom. So off the first bottom we can expectat least 11⁄2 to 2 points in potential. We expect this potential to be worthtwo stops at the most. We also sell as it reaches that 11⁄2 to 2 target, eitherwhole lot or half lot if you want to hold it closer to 2.Our second-day dumper, RSTO, was also in the $10 to $100 rangeand it went down 1⁄16 from the open with a 7⁄8-point rise. We need to be abit more cautious of this group as the volume tends to be lighter. Wewould be weary of jumpy price levels and would be selling the wholelot as fast as we could as it rises over 1⁄2 point.Now we have expectations on our stocks for tomorrow. This is nowour trading plan for tomorrow. Again, by developing these expectations,we leave a lot on the table; however, we play the highest percentagetrades. We get out with the surest of profits. We stop out with the leastamount of loss as possible (according to our execution abilities). I do notknow too many traders who go broke taking profits. You need to understand that not every trade will be a home run. Those 14-point climbs donot happen every day, nor can you always catch them. Because we tradeon expectations, we rarely take the full 14 points as it climbs anyway.However, we are taking the best stock that we can based on our expectations. Again, by trading on those expectations, we take out the hopingand guessing. It is from that discipline that we stay in this business. Thelast piece of the tracking puzzle is applying market dynamics to ourexpectations.
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RELATING MARKET DYNAMICS WITH TRACKINGYou’ll remember that on our tracking sheets, we entered in the data foreach of our three indices: Dow, S&P 500, and Nasdaq. We also enteredin the figures for our futures in relation to fair value. This is our first indication of the overall market tone every morning when we awake. Wecompare the indices figures from yesterday to the day before, to themonth before, and so on. We assess what market we are currently in. Wewant to know if our market is inclining, declining, or short-termcorrecting. We look for fair value and assess our futures number in relation to that figure to gauge positive, stable, or negative tone in the market. This is the most basic and unreliable look into the strength andweakness of the market because index figures are based on a macro viewof the overall market. We need to become more focused on the next microlevel below the overall market. This next level is sector momentum.We can group our sector momentum by using four or five stocks ineach sector to provide a better look into the micro-dynamics of the market. For example, for our Internets, we can use such stocks as YHOO,AMZN, EBAY, PCLN, and so on. For the Tech sector, we can use AMAT,INTC, TLAB, DELL, SUNW, and so on. For brokerages, we can use NITE,EGRP, AMTD, and so on. The point is that we can find four or five stocksto place in each sector. We use sector as an indicator because we need tofind a leader to show us strength and weakness. If our Internets are reaching new highs, we can expect the others to follow. We need leadershipto show us the way. Now that we can see how our sectors are doing asa whole, we can begin to focus on individual stock in that sector.We need to be more aware of the market mood before the marketopens. We cannot simply use the futures numbers as they are based onthe macro view and can be easily skewed. The way we begin to assessthe market strength at the open is by the gapping in the stocks in our sectors. If we are gapping up, then we are seeing positive tones in the market. If we are seeing little if any gaps up, then we are seeing a nervousmarket with unpredictable direction. If we are seeing gaps down, thenwe are seeing a negative bias at the open. Next, we assess the gaps inour other sectors and find out how strong or weak each sector is. We aregaining a more micro view of the open as we get closer to it. The onlypiece missing now is our traders and how they are going to react.Our traders will either take a stock from 4 to 40, from 40 to 4, ormake a stock sit at 20 all day long. It is their willingness to buy and sellstocks that gives us the best micro view of the market. If you see a stock
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go from 4 to 40, then we can see a crazy buying market. If we see a stockgo from 40 to 4, then we are seeing a panic in the market. If we see a stockmake nice easy climbs or profit-taking on stocks from 20 to 24 or from24 to 20, then we have more stability in the market where overwhelming buying or profit-taking do not occur either way. It is in this aspect ofmarket dynamics that we can begin to make true assumptions of the market and base our expectations upon them.Again, let us use the tracking sheet to fully assess the next day oftrading. This time we can apply our market dynamics. So we have firstday gainers. We’ve already made our expectations. We expect a goodpattern of buying off the first up-ticks to be worth some good pointpotential. For tomorrow, we need to be aware of the market open. If wesee the stocks in our sectors stable in their gaps, we can reasonably expectour first up-ticks to behave like our patterns have shown us. If we seemany of our stocks gapping down at the open, we have to be more cautious about going long aggressively. Negativity will make the buyersmore cautious in the market and that negativity can affect the upsidepotential in our gainer groups. Note how the market dynamics can shiftour thinking on our expectations.If we saw gapping down in our stocks, we would begin to thinkmore conservatively on the upside. We can now elect to stay out of firstday gainers ifwe feel the negativity would not offer enough potential onthe upside or we could lower our expectations from 5 points on $100⫹stocks to nearer 2 to 3 points. Then we can take more conservative profits at nearer 1 to 2 points or sell half lots at that price and hold the otherhalf for more.On our second-day gainers, if we see some weakness or gaps down,we expect more weakness at the open and for our open shorts to be highpercentage plays. We would also be more inclined to not go long off thebottoms as the negativity can affect our upside potential. If we see manyof our stocks gapping up, we can still note open shorts at the open.However, this is very dangerous as the bottoms can be fast and the upsidepotential can easily regain and overtake new highs on the day. We wouldalso be more inclined to play the bottoms on these stocks as the upsidepotential would be more reasonable when expecting an up morning. Aswe understand how our market dynamics function, we can adjust ourexpectations accordingly. We also understand now that market dynamics will be the determining factor in changing our patterns.Patterns will change—they always do. When they do change,we will be making less money on our trades. In some cases, we willlose money. This is where our stops become the most crucial. If we have
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excellent expectations based on our patterns and our understanding ofmarket dynamics and the stock still goes against us, then we have thepreparation to stop out immediately. We can reassess the market, thepotential of the stock, and our ability to re-enter the trade if we feel theupside potential is still present. Never fight a stock—it will always finda way to win.
TRACKING SUMMARYBy now, we should have learned to develop patterns, analyze our patterns to develop expectations, and apply our expectations to marketdynamics. Once we master this process, we can begin to write a tracking summary. A tracking summary is simply a collection of all yourthoughts, put on paper, to prepare you clearly for the next day. A tracking summary must include how the stocks in each group acted. You cansimply transfer the information in the Stock’s Action column of yourtracking sheet to the tracking summary. Then you can note your expectations that include each scenario.For example, if our stocks are gapping down this morning, I willhave certain expectations about our first-day and second-day gainers. Ifour stocks are stable to up in the morning, I will have a different set ofexpectations about our first- and second-day gainers. I will be expectingour first-day dumpers to be good off the first bottoms and 11⁄2 to 2 pointsfrom that bottom. I would look for more volume on our second-daydumpers if we want to play that first bottom and expect to take profitsat anything over 1⁄2 point.Please follow along with the tracking sheet to gain a sense of howto write a summary that best fits your style. Remember that you are theonly one who will be reading this summary and trading from it.Therefore, it must be accurate, true, and readable for the next day of trading. If your tracking summary includes those three characteristics, thenyou are ready to trade from your tracking summary.
WRAP-UPThe more time you invest in tracking, the better you will begin to understand, develop, and refine your tracking abilities. When you do this, youcan begin to add groups to your tracking sheets. You simply need to track
176
+ 13/16+ 1/16+ 4 13/16
- 4 3/8
+ 3/16
Second Day GainersQWSTSNRZPCLN
First Day DumpersFEET*
Second Day DumpersRSTO
10:00
13 1/16
13
89 1/236 1/16144 1/4
81 3/47 3/47 1/2112 7/8110 1/4
13 7/8
12 5/8
90 9/1636142 3/4
93 5/88 1/87 5/8118113 1/4
13 1/2
14 1/2
88 1/836 1/2133 1/2
90 1/287 5/8113 1/2110 1/4
10:30
+1.7
-4.5
Open
Futures
Fair Value
9 - 1
13 7/16
15
89 1/837 1/4138 1/8
937 3/47 3/8108106 1/8
11:00
13 1/2
14 1/4
86 7/836 3/4134 3/4
957 3/47 1/4112 1/2111
11:30
12:00
13 1/2
13 7/8
88 5/836 1/2138
92 1/87 5/87 1/16114 1/2111 3/8
13 9/16
14
90 1/836 3/8142 3/4
91 3/47 1/87115 1/2111 3/4
12:30
+12.95
+84.77
S & P 5001,345.00
DOW11,031.59
*FEET wasn't really a dumper on this day and is for informational purposes only.
+ 37/8+ 1/2+ 5/8+ 4 3/8+ 5 3/16
Gap
First Day GainersQLGCREGITHDOAMTDEGRP
May 7, 1999
F I G U R E
13 3/8
14
88 5/836 3/8136 5/8
91 3/476 15/16113 1/2110 1/4
1:00
13 1/2
13 7/8
90 1/836 1/4141 1/4
89 7/877116110 5/8
1:30
+31.34
2,503.62
NASDAQ
13 3/8
13 3/4
88 5/836 5/16135 3/4
92 3/86 7/87115 1/8109 1/2
2:00
13 9/16
13 7/8
9036 1/4133 1/2
91 1/877 1/8113 1/2109 1/8
3:00
13 1/2
14
88 7/836 1/2132 5/8
887 1/87113110
3:30
13 1/2
14
90 1/1636 1/2130 21/32
90 1/167 1/67114 3/4110 3/8
Close
Down 1/16 from the open, then ran 7/8 points and then falling near 3/8 points flat into the close.
Up 2 3/8 off the first bottom. Flat into the close.
Small downtick from open. Up 2 then down 4 points. Bounced 1 3/4, then down 3 and strong into the close.Down only 1/16 from the open. Rose 1 1/4 points from the bottom. Then down 1 from that high.Down near 13 points from the open with 11 point bounce. Ended the day near the low.
Went up from the open ~14 points. Then down near 7, up near 5.Went down 5/8 from the open. 3/4 bounce. Weak rest of day.Went up 5/8 from the open, then down the rest of the day.Up 5 from the open. Down 11 from the high, then up 7 1/2 and strong into the close.Fast bottom, down 3/4 points. Up 4 from the bottom, then down 7 and up 5 3/4. Buying into the close.
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these the same as you would any other stock. This is how new patternsare found. You may be able to find other patterns that I have not discussed in this book. If you do, contact me, I would love to see what youhave discovered.As you begin to enhance your tracking sheets, you need to be looking for interesting movements in the stock’s action. For instance, see ifyou can spot a general time of day the stocks sell down at or move up.See if you can use the groups to signal a pattern change or a possibleshort-term reversal in the market mood. To do this, simply assess the ending prices of the stocks using the mid-range rule. The mid-range of astock is simply the difference between the high of the day and the lowof the day divided by two. So, if the high is 42 and the low is 40, then42 – 40 ⫽ 2 divided by 2 ⫽ 1. 40 ⫹ 1 ⫽ 41, so 41 is our mid-range.If the stocks in your group have been ending at or above the midrange and the market indices look positive, then we can reasonablyexpect our stocks to move up tomorrow too. If we see our stocks endingbelow the mid-range, then we can expect more selling pressure in ourstocks on the next day. If we have been experiencing several days wherethe stocks have been ending below their mid-range, then we get a daywhere our stocks end above the mid-range and we can spot a possibleshort-term reversal. If the next day our stocks do the same, we have confirmed it and we expect our gainers to do well again off their bottomsand first up-ticks. We look to our tracking to develop our expectationsof how those gainers might do. As you finally refine your skills in tracking, taking into account every piece of the puzzle and applying this datato market dynamics, your winning percentages will increase.The ultimate goal of tracking is to take this intra-day informationand begin to apply it in a general sense. This way we aren’t spendingcountless hours on the tracking sheets but rather getting an overview ofthe action so we know what to expect. Remember, although we canderive many expectations for our stocks, it is the individual price actionat that given point in time that we have to assess. We should only useour expectations as a guide. The more familiar you become with the stockmarket, the less specific tracking you will have to do on individual stocks.This will slowly wean you off the spreadsheet-tracking diary and intomore of a notebook-type journal where you can record your thoughts andexpectations on what happened to the groups on that day.
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10
C
H
A
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E
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TIME OF DAYAs I discussed in previous chapters, momentum provides predictability. Momentum can be defined as slow in stocks that are being accumulated by institutional traders, or they can be defined as fast, as activetraders in numbers take a position in the stock when interest is createdby news or a related event. Slow-momentum stocks are best traded byindividuals that are able to identify key buyers and sellers in the stock.I will discuss a tape reading of this nature in the next chapter, whichshould shed some light on this issue.Fast-momentum stocks tend to be traded by those active traderslooking for the faster and smaller profits. They tend to be harder to execute and therefore smart traders will take profits into the strength of thedirection that the stock is moving. Beginning traders tend to buy thesestocks with much added risk. The first added risk relates to executionability. Because the stocks are harder to execute, traders tend to buy atprices that are farther away from the best price that was available whenthe position should have been entered.For example, if a stock makes a bottom off 40, the trader may buythe stock as high as 40.50 or sometimes a full point higher near 41. In ourrealm of trading, this is referred to as “chasing the stock.” Buying thestock farther away from the real bottom or shorting it farther away fromthe real top is chasing. Chasing a stock normally leads to a trader entering a position near the end of its momentum move. If a trader were toenter the stock at 40.50 and the stock moves to 40.75 and pauses, thetrader will have to try to exit as it climbs to 40.75. However, rememberthat the stock is hard to execute due to its fast momentum. This makesexiting near 40.75 relatively tough. The trader will more likely take a losson this type of trade.
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The trader that bought the stock near 40.25 or lower would be ableto take the profit as the stock clears 40.50 into the strength as it movescloser to 40.75. In this example, the trader that chased took out 75-percentof the profit potential. The trader that bought nearer to 40 offered themselves near a .50 point in potential and kept the risk relatively lower. Themain point is that on fast stocks, a trader needs to understand his or herexecution abilities. If the stocks bottoms off 40 and you can’t enter efficiently nearest to 40, then leave the stock alone. If you are unable to enterefficiently, there is no reason why you should expect to exit efficiently.The other risk that beginners tend to make on fast stocks is turninga profit into a loss. This occurs mainly when the stock makes a climb of1 to 1.50 points and the trader expects more in potential, so they hold itlonger. Just as fast as the stock moved higher, the stock can move downwith the same velocity. The old saying of “exit when you want to, notwhen you have to” applies here. Many times a trader will see the stockthat climbs 10 points off an intra-day bottom. He will then associate thatstock’s climb with the stock that he currently owns a position in. Histhinking is that he does not want to miss that kind of momentum moveif it happens in his position. Remember that the majority of the stocksare mutually exclusive. Just because XYZ moved 10 points does not guarantee that any other stocks will perform in the same fashion.A trader must watch the price action on each individual stock, andif it suggests that selling is about to hit, take the profits. Once the validity of the trade is no longer present, the exit strategy must be in placewith the understanding that on fast selling, the exit strategy may haveto include prices that are not at inside levels. On fast momentum issues,reading such price action is much harder. Market Makers and ECNs areconstantly jumping on and off inside levels, not giving a clear picture asto their true intentions on being buyers or sellers. Without this knowledge, you are relying solely on momentum.If momentum is up and you are long, great. If you are long andmomentum is down, look out below. So if the stock begins to weaken andfast selling comes in again, you may turn a 1- to 1.50-point gain into aflat to .50-point gain stock. Worse yet, you may freeze with indecisionand disbelief that the stock is not climbing 10 points and turn that 1- to1.50-point gain into a loss on the trade. Under no circumstances shoulda profit of .50 point or more turn into a loss on the trade. If it does, youeither are trading a stock that is out of your execution ability or you arenot executing your decisions well enough. Remember, exit when youwant to, not when you have to.
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Momentum in a stock can happen at any time. News alerts or chatroom alerts can be a catalyst for such a move. With respect to momentum during the normal trading day, traders need to be aware of distinctmomentum periods in order to enhance their trading plans. Over theyears, I have found that nearly 90-percent of my trading potential to befound in the first 2 hours and the last hour of the trading day. Generally,the l