Thursday, March 26, 2009

Preparing for the Trading Day: Questions to Ask Yourself


The hourly chart of the ES futures for the last few days shows us near multi-day highs in pre-opening trade, above the 20-period volume-weighted average price (green line). This multi-day pattern is an important context for the day's trade and thus should be a major focus of your pre-market preparation. Some questions you'd want to think through prior to the open:

1) If we get a decisive breakout to the upside, what would be my price target(s)? On average, the longer the period of consolidation, the more significant the subsequent breakout move, as traders leaning the wrong way over time need to cover positions. What's your plan for taking full advantage of a significant upside break?

2) What kind of GDP and jobless claim numbers at 7:30 AM CT might spark an upside break or a reversion into the multi-day range? What is the consensus looking for?

3) Treasury Secretary Geithner is talking today. What could he say to rattle the markets or inspire them? What topics are money managers most interested in hearing about, and what would they act upon? (Hint: my Twitter links to articles often tackle themes that are on the minds of large traders; see the 6:33 PM CT post from last night).

4) We moved below 800 in the S&P 500 Index yesterday and then violently reversed that downmove. What does it mean when a market moves through an important price level and then violently rejects that move and returns sharply above that level? Longer term, are we building value at higher or lower prices? Did the market want to build value below 800? If we *now* get a move below 800, what would be the longer-term significance of that influx of new sellers (and that downside breakout move)? How would I play such a downside break? What targets would I look for?

5) If we are going to remain rangebound in today's session (i.e., within the multi-day range), what volume clues would I look for early in the trade? What is the volume-weighted average price for the day and for the range that would help me set a target for a fade at range extremes? What are the pivot prices for the last three days (from the Twitter posts) and what does it mean that they're almost identical? Would I want to be playing the market if we're hugging those average prices in a slow market? It helps to plan your market inactivity as well as your activity ;-)

6) If I look back at the new high-low data from the Twitter postings, is the market getting stronger or weaker each time it approaches the upper end of the multi-day trading range? What kind of sector behavior would I look for if the market is strengthening on a test of range extremes? Weakening? What sectors would I expect to lead market strength or weakness? (Hint: Note how weakness among small caps and financials were good tells for the recent retreats from the upper end of the range).

The trader who sits down in front of the screen several minutes ahead of the open, heedless of the above questions (not to mention their answers), can only go by immediate price action to guide trading decisions. They miss the larger picture and thus the larger trades. Even the excellent short-term traders such as the ones I recently mentioned pay attention to the context of the trading day and prepare themselves accordingly. Even when you're cutting down one tree at a time, it helps to know you're in the right forest.

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5 comments:

leon t said...

hi: the post adresses the conditions as they exist now. what woud you include or emphasize , in order to alert to the possibility of the market reaching a point where it would retrace. i mention this because other sources i,e , tim ord seem to point out that rsi is at a high, mcclellan summation is extended, and volume is declining.

so how would you prepare for that eventuality?. i think, it goes back to price action. as well as to schwagger's and al brook's mantras of " when the market is supposed to do one thing and it doesn't. do the opposite".

what is your opinion?.

ikshahar said...

I am using a simple backtest price percentage. The tick chart and the a/d line makes sense. macd and relative strength oscillators are a close eqivalent.

dfx said...

excellent post and exactly what I wanted to read today. thanks!

OKL said...

Brilliant stuff again Doc, just magnificent.

Heck! My younger bro's studying psychology, I might get him to read your books and use me as a case study!

Brett Steenbarger, Ph.D. said...

Hi Leon T,

I look for shifts in the distribution of volume at bid/offer (Market Delta) and in the distribution of NYSE TICK to detect retracement. Often, we can detect retracement by identifying and tracking leading sectors--

Brett