The next report will be posted on Wednesday, August 23rd.
Trading Pullbacks using Three Indicators
A classic trading technique is to look for short-term oversold conditions within longer term uptrends. Short-term oversold conditions provide opportunities to partake in the long-term uptrend. In theory, the long-term trend is the dominant force at work and it will prevail over the short-term pullback. This is trading in the direction of the bigger trend.
Sometimes short-term pullbacks are brief and the uptrend resumes fairly quickly. Sometimes, however, pullbacks extend and oversold conditions remain. This is the risk. It is very difficult to predict which oversold conditions will lead to quick reversals and further upside – and which will extend and result in losing trades. The key, as always, is to plan your trade before placing the buy order and then trading according to that plan.
The chart below shows SPY with the Momentum Composite becoming oversold in mid December, early March and here in mid August (red shading). The oversold condition alerts us to an opportunity because there was a pullback. We now need some sort of upside catalyst to suggest that the pullback has ended and an upswing is starting.
Chartists can look for bullish candlestick reversals, short-term breakouts or a bullish momentum thrust. The oversold example in mid December was followed by a StochRSI (10) pop above .80 in late December (green arrow). This short-term momentum pop preceded the resistance breakout in early January (blue arrow). The March example shows a StochRSI pop with the long white candlestick on March 16th. SPY went on to break resistance in early April.
The StochRSI pop is often the early signal, which means it is also the most prone to whipsaw (bad trade). The next chart shows QQQ with an oversold setup and signal in December. The ETF pulled back into March, but the Momentum Composite did not become oversold for an alert. Traders had to rely on the price pattern (falling flag) and breakout.
Staying with the chart above, this brings us to mid August and an oversold condition in the Momentum Composite. QQQ surged 1.6% on Monday and this pushed StochRSI above .80 for a short-term momentum thrust. This is the early signal for QQQ. I am marking short-term resistance with the August 14th high and a break above this level would provide the second signal.
The red dash at 353.12 is the ATR Trailing Stop, which is two ATR(22) values below the 21-August close. I used “two” as the multiplier to place it just below last week’s low. A close below this level would trigger the stop and make for a losing trade. The stock will trail higher should QQQ advance further.
The Momentum Composite and ATR Trailing Stop are part of the
The next chart shows IWM becoming oversold as well.
