How to Trade a Sideways Market

Well on the face of it, today was certainly no exciting day.  With under a million minis traded (including the overnight Globex session) and a day session range of just 8.75 handles (1118 low with a 1126.75 high), most people would think there was no way to make any money today.  Luckily Volume Spread Analysts are not most people!  In fact, today was just as profitable as any other day, and I’ll show you how.

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Starting with A, we see strength entering the market with very high volume on down bars closing off their lows, and the third bar also having high volume and closing near its highs.  While this may seem like bottom picking to some (and maybe it was), but with the strength coming in with the preceding bars, having a bullish view for today, my moving averages getting so stretched out, and the parabolic SAR confirming an up-move, B made for a nice no supply entry.

I generally look for 1.5-2 points on my trades, which we get with a trade on B.  At C, we start to notice supply hitting the market (high volume, closing in the middle), which would make me wary of taking a test bar at D.  Depending on your stop loss, risk tolerance, etc. that may be a trade you’re willing to take, but that is a decision each trader will have to make for himself/herself.  With potential weakness at C, I decided to let it play out.

We end up selling off a bit until E, which marks a nice reversal.  This is actually pretty common – what happened was that since we had that high volume on the last (green) bar marked at A, the market came back to this level and tested for supply. As you can see, we sell down to this level on light volume and then at point E, we get heavier volume as the market bought it back up.  While not a trigger on its own (at least for my trading style), it is a confirmation of strength.

The next entry comes just several bars later, at F.  This is your typical test/no supply bar.  While we do trade sideways for a bit here (likely due to the high volume at C and wanting to make sure the supply was gone), we have a quick shakeout to the downside before we jump higher for another successful trade.

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Market Outlook for the Week of 8/9/10

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Above is the daily chart for the SPY, a highly traded ETF of the S&P 500.  Shortly after the May 6th “flash crash,” we can see the trading range (cyan rectangle) we’ve been trading in, including an area of resistance (marked “old resistance”), which happens to coincide with the closing price on May 6th.

From there, we get a Wyckoff spring (something covered in the Volume Spread Analysis Rules post), which is a break below support in a trading range during an accumulation phase, designed as a shakeout to pull more supply out of the market and to encourage fresh shorts to enter the market.

It is important to note that the first two red bars close off their lows, indicating buying stepping into this weakness, and then the third red bar has high volume and while being a down bar, closes up near its high, indicating some very bullish activity entering the market.

Another bullish sign (marked bullish confirmation) is a very important area, as it is the first reaction low since the rally after the Wyckoff spring, confirming the strength of the market and setting it back on the bullish path by marking its first higher low.

We’ve had a strong rally since, and as it’s been mentioned several times in recent posts, the professional interests have been continuing to accumulate and add to their long positions as the “bad news” has shaken out more of the retail traders.

This past week has been a very interesting level, coinciding with the area marked “old resistance” and the closing price of May 6th before it.  Often when the market revisits an area of resistance it will basically “pause” and trade sideways as it works through and absorbs the supply here before turning higher.

Friday marked a very important day, as we tested and confirmed our upward trend line yet again, initially selling off to the unemployment report and Goldman’s announcement that they were lowering GDP expectations (yeah, I bet they have nothing to gain by getting retail traders to hit the panic button and then swooping in to buy off the lows).

In fact, this is exactly what we saw take place.  Over in the e-mini S&P, we rallied 16 handles off of our 1104 low to close the market at 1120!  This is a very bullish indicator which has helped shake out the supply in this previous area of resistance, and it has shown us that professional interests are still interested in higher prices.  With all of the strength in the background, I would look to break out of this range shortly with some more strong movement to the up-side.

Volume Spread Analysis Rules and Principles at Work

Today was another strong day in the market, and this afternoon I witnessed (and traded!) one of the best examples of volume spread analysis rules and principles that I’ve seen take place in the market.  What was surely a choppy and confusing afternoon to many retail traders was both fascinating and profitable to the VSA/Wyckoff analyst.

For background, this morning’s ISM non-manufacturing numbers came in better than expected, which was sold into.  What happened this morning was that the professionals are (and have been) bullish on this market, but they want to buy as low as possible, which is why they’re not going to buy on good news.  They’re going to use the opportunity to book some profits and even short the market to put those retail longs under pressure and force them to sell out of their positions, allowing the professionals to buy the market back at a lower price.

In fact, we actually had a great spring this morning off of the lows following this sell-off, where the market rallied slightly off of the low and then came back down to grab stops and further accumulate before they took the market higher.  So with that in mind, let’s get into the action this afternoon . . .

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As you can see, we entered into the lunch hour in an upward channel that had begun to hit some serious supply in the market.  It is important to note that our background is strong, and that the market sentiment is strong.  Now, we need to think like the smart money – while you’re bullish on the market, you still want to buy as cheap as possible.  So rather than buying your way through this supply, it’s a much better idea to encourage these people to sell, that way you can buy even more at low prices while clearing a path higher.

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Gold a Buy? Maybe Not so Fast …

I’ll admit that I’m not a gold bug by any means (in fact, I’m just an ES trader who happens to enjoy looking at other charts), though I did correctly think that gold was way overdone at 1240 (thanks Dennis Gartman! </sarcasm>).

Lately I’ve been hearing bullish talk about the gold trade being back on, so I decided to pull up a chart of GLD, the popular gold ETF (click for full-size):

After taking a look, I don’t like buying GLD, physical gold, or any other kind of gold trade at this point.  The overall look of the chart has that crowning over that happens in distribution (unlike the bowl shape that we see in accumulation – check out US Steel’s chart in this post for more information), which is what happens as a market transitions from an upward channel to a downward one, and now we’ve got a very well defined downward channel.

Also of concern is that in the past few days as we’ve rallied up to the supply line of the channel, volume has been decreasing along the way.  While we definitely had some demand step in on the 27th (the day with the very large red volume bar), I don’t think I’m ready to call this a bottom, by any means.

Only time will tell, and perhaps this thing might find some more robust support at its 200 day moving average, but I just don’t see a bottom here.  At best, I think it’s a preliminary support, which is only the beginning of an accumulation phase.  I could be wrong, but I just can’t say that I really like the looks of this chart.

If you want to see a detailed PDF report on Wyckoff analysis of accumulation and distribution phases, I ran across this earlier today and found it to be quite informative.

Market Recap for 8/3/2010

Given the unexpected length of yesterday’s trade setup review, that may be something I do once a week.  I mean I that was only 4 trades, and I took 8 today!

The overall story today was accumulation on the “bad news” this morning, some midday distribution, followed by a late afternoon re-accumulation.  Given yesterday’s large gains, it’s common to have an inside day with a little give up.

I trade a 2 minute chart so to be honest, I’m not very concerned with the longer term direction of the market, but we’re still in an up-side bias.  Up until several weeks ago, the market was discounting every bit of good news (distribution was occurring into good news) and would sell off sharply on any bad news, and now we’re in the opposite position, where any bad news is bought into (accumulation).

I mean if pending home sales were that bad (CNBC’s website said they “plunged”), why did the 10am announcement mark the low for the entire day (with exception to the bar at 10:14 that dropped just below the 10:00 bar, a stop catching maneuver forming what’s known as a Wyckoff spring)?  You can view this below (click for full-size):

While I generally like to stick with the trend (which I use Wyckoff channels and Parabolic SAR to help determine), I’ll take a Wyckoff spring (or its inverse, the upthrust) any time I see them.

Consider it from the professional side of the market: If you have other (retail) traders getting long with you, these positions represent potential resistance to higher prices, as they can take profits before you and force you to buy from them at higher prices in order to continue your rally.  So if you can first drop the market just below the previous low (where so many uninformed traders place their stop loss), you can trigger their stops and take them out of the market (and also take the buy side of these sell stops, grabbing more contracts at an even lower price) and remove the resistance from above you, clearing the path for higher prices.

Remember that this is a counter-trend trade though, so you may wish to shorten up your profit target a bit.  You can also still wait for a no supply bar for a more conservative entry, which we do get.  The 10:24 isn’t exactly textbook, as there’s still a little supply in this area, but instead of taking a market order on this bar’s close, you can choose to place a buy stop above its high to put you into the market if we move up.  However even if you are a very conservative trader, we have a great test at 10:40 with an immediate move up.

I’m interested in seeing how tomorrow morning’s non-manufacturing ISM numbers look, but again, I’d be very reluctant to short this market on bad news and would look for signs of professional accumulation instead.  Of course if the numbers do turn out great, it may present an opportunity to get long.  It’ll obviously be higher risk due to the volatility that occurs around news events, but I’ll just have to see how I feel about it when the time comes.

Volume Spread Analysis with Stocks – Interesting Setups

While I only trade the ES (although I am considering currency futures at some point in the … well, future), I enjoy flipping through daily charts of stocks and ETFs, especially ones in the news.

If you’ve seen any of the YouTube videos put out by Gavin Holmes and TradeGuider, or even just as a student of VSA, you know how professional selling (distribution) has to take place on retail buying, and how professional buying (accumulation) has to take place on retail selling.  So while I don’t trade these instruments, I find it interesting to look into them and to try to spot the Volume Spread Analysis principles at work.

Above is a daily chart for DuPont (click for full size), which originally came to my attention on the afternoon of their Q2 earnings release.  With the TradeGuider video on JPM’s sell-off on great earnings (twice, and at the same price!) on my mind, I pulled up the DD chart.

First, for a bit of reference, that top on the left side of the screen was from their Q1 earnings release.  Want to guess what the news was? Try “DuPont Profit More Than Doubles; Forecast Raised.” (!!!)  Once again, smart money distributed onto the unsuspecting herd in the wake of terrific earnings.

Since that time we’ve had several periods of accumulation, all leading up to their Q2 earnings release.  The first thing I noticed was the strong gap up on that day, conveniently bypassing any possible retail selling at a point of resistance (indicated by the red line).  One of the important lessons that I’ve learned from Tom Williams, Gavin Holmes, and the TradeGuider guys is that one way to keep weak hands from selling as price finally comes back to their entry point is to gap up price right over them and as their panic turns to elation, they’re much more likely to stay in their position now that it’s turning a profit.

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Review of Trade Setups for 8/2/2010

Today was a very slow day in terms of trades taken, but it was still a profitable day.  First, my indications of a gap up on market open yesterday (Sunday) were confirmed. We had major accumulation at the close of cash equities on Friday, which tend to point to a gap up the next day.  This is shown in the image below (click for full view):

Coming off of a hard upthrust at market highs (which provided a nice short), the market appeared to dump its holdings at the close of cash equities (not too uncommon, especially with a weekend coming up), which smart money was only too happy to snatch up, as you can see by the highlighted bar closing on its highs on absolutely massive volume.

And on the right side of the image, you can see the gap up on Sunday evening as the futures opened up, which again was telegraphed by the rapid nature with which they scooped up those contracts before the close on Friday afternoon.  Of course I had no idea I’d wake up this morning to the market up more than another 10 handles!

I generally don’t care for days like today, where the market is already up so high before the US open, as I feel it leads to less-than-exciting trading.  I find that we end up in these ranges where we aren’t going to go any higher in a single day, yet there’s no reason to really sell.  Luckily we had ISM manufacturing numbers come out in the morning, which was able to provide some further market action.

ISM didn’t disappoint, as we rocketed up past R2 on huge volume, closing down a bit on R2.  With it being a news event, we could obviously count on exceptionally high volume, but given the fact that we closed a bit off the highs, it was obvious that there was supply present on this bar.

A common point of confusion with Volume Spread Analysis (VSA) is that it is taught that ultra high volume on an up bar is a sign of weakness, yet sometimes it can be a sign of strength (which is called absorption volume).  As you can see in the bars following the 10:00 bar we did have a test on low volume, but I generally don’t feel comfortable getting long here, as sometimes I find that the market ends up in a period of consolidation where the bars alternate up and down, all on low volume.

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