When Do You Know Not To Trade?

• November 7, 2001
• Dave Floyd

I receive a
lot of e-mails from readers asking me “When do you know not to
trade?” My standard answer has always been if the moving average is moving
sideways, as opposed to sloping up or down, you dramatically decrease the odds
of success trading that chart pattern. Traditionally, sideways price
action occurs during the mid-morning session (8:30 a.m.-11:00 a.m. PST). In
fact, my trading desk is empty each day after 8:30, as traders take a long break
before the afternoon session.

Yesterday, however, offered a glimpse
of just how slow the opening can be. It only took me three trades to know that
unless the upper or lower end of the range was broken, there was no need to
trade. I saved myself not only commissions but also the frustration on trying to
“make” things happen when in fact there was nothing going on.
Recognizing these times will prove invaluable. 

Here are the
characteristics which are indicative of this pattern:

1. Moves of less than 3 points

2. Sideways moving average

3. The tight range being
controlled by two key technical levels

Remember, you do not have to be the
hero that finally catches the breakout. Sure, you will make more money on the
trade than if you waited for the breakout and then played the pullbacks or sold
the rallies afterwards, but if you go back and determine how much you wasted in
trading losses and commissions, the big kill on the breakout will probably only
offset the earlier damage, not give you a net gain.

The charts below indicate areas of
entry on
(
EMC |
Quote |
Chart |
News |
PowerRating) while also showing the S&P futures which helped
determine the entry point.

Point A was my first trade of the day,
I went long thinking the market had enough “gas” to get through 1103.
You will notice that the S&Ps ran less than a point and a half before
stalling. Needless to say, I made very little on that trade.

Point B was the opposite situation. It
felt as though the market had enough momentum to go through 1100. Again, the move
was brief with no follow through. A scratch was had on that trade.

Point C basically is the same idea. We
could not break support so perhaps the market had legs to get through
resistance. Another scratch. At this early stage of trading, if
moves cannot be sustained, there is either a lack of participation by
institutions, or you have big buyers and sellers fighting it out.
Yesterday morning was more a case of no interest.

The afternoon session offered another
case study in unique trading scenarios. In essence, technicals, with the
exception of KTNs were disregarded (i.e., oscillators, moving averages,
stochastics, etc.), it was a buying frenzy with no pullbacks to be had. It
truly was one of those situations where you had to go with your gut and
recognize that it was a feeding frenzy and no offer seemed unreasonable to take.
The one-minute chart of the last hour of trading will illustrate quite clearly
the lack of pullbacks and relentless buying. It was these areas of
consolidation that offered you ideal entry points. Newer traders who are
sticking to a methodology (i.e., buying pullbacks) may have missed those trades,
and that is OK. You stuck to your plan and that is so important.
Experience is what got traders in on the moves yesterday afternoon.

Intraday trading aside, it is time to
take a look at where we stand from a position trading standpoint. I will go over
individual stocks tomorrow, but let’s first review a few things. Despite the
absolutely horrible economic reports of late and the earnings reports released
by the best “spin doctor” accountants money can buy, the market is
taking all this news in stride. Technically, the market looks incredible
when compared against the economic backdrop. And as long-time readers
know, that is the basis for trading decisions. Opinions and fundamental
analysis take a back seat. Up until the last week in October, both
fundamentals and technicals were weak, as a result, I made the case for being
short certain issues in specific sectors. Many of those positions have
been stopped out and a few more are on the verge.

The point of all this is simple. The
market, whether correctly or incorrectly, is recognizing something that is
unclear to me, and many other traders. While I find it puzzling, I have no
choice but to move on and re-evaluate, and lick my wounds. I will let the market
play out a few more days before I begin to dip my toe back in from a position
standpoint.

Key
Technical Numbers

As always, feel free to send me your
comments and questions. I will be in TradersWire periodically
sharing my thoughts and observations.

Dave