Back To Basics
Trendlines are probably one
of the oldest technical tools available today. They are easy to use, and
they are also an effective trading tool. For an up-trending
stock, a buy signal is triggered when the stock bounces off of the trendline. A sell
signal is generated when the stock bounces down from the trendline. One problem
with trendlines is that a stock does not always bounce from it. Often, a stock violates the trendline and reverses the trend. So, a natural question is:
Is it going to bounce this time or violate?
Here is a daily chart of Cabletron Systems (CS).
As you can see, the stock broke down below its rising trendline on heavy
volume today. Needless to say, you could short the stock as soon as it violated
the trendline.
But could we anticipate this violation? Actually, many traders expected it. A
healthy up-trend requires both higher highs and higher lows. Once this is broken,
the stock is warning us of a potential trend change. Take a look at the high set
on June 7. This is a lower high. In order for CS to up-trend strongly, the June 7
high had to exceed the May 22 high.
It pays to review basic trading concepts.