This post was contributed by a guest author, and does not necessarily reflect the views of Richard or MovetheMarkets.com
On Wallstreak yesterday, there was some discussion about whether scalping short in the StreetSmack method is just attempting to call the top in a move. There are an infinite number of potential tops in a move, but only one true top. Your odds of getting it exactly right are slim. Better to short a weak stock.
This is all true. However, there is more to a parabolic short than that! You only want to enter a short if there is a convergence of several things:
1) Momentum divergence, meaning price made a higher high but momentum made a lower high.
2) Potential overhead resistance is being reached. This can be a pivot point from a daily chart, an upper trendline from a price channel on the 15 min, a 200 day MA, a 52 week high, etc. Anything that could potentially offer resistance to further price movement.
3) Price action up to the resistance point must be parabolic! A slow uptrend or any consolidation at the resistance is just as likely to break out as break down, and there’s no edge at that point. A parabolic rise, however, is probably not sustainable and will likely be repelled by the resistance as it is already overextended.
The question becomes “How do you define parabolic movement?” There are a number of ways, from eyeballing, to actually calculating a mathematical formula for a parabola. My method is this: Compare the price movement to a moving average on a higher timeframe. Say the price on a stock has spiked up $2 in the last 15 minutes. If a fast moving average is not able to keep up with the move, then this is a parabolic move. Price usually does not get far from the 5-ema without retuning to it (or at least close to it). So if price gets too far away, it’s likely (not guaranteed) to return to it. So my definition of parabolic is an extreme move away from the 5-ema on a chart with a higher timeframe.
Even with all of this, you still don’t want to enter a short yet! You can scale in a very small position here. As price goes down (or up) you can scale in and out to dynamically change the average price of your position. But you still haven’t really entered yet.
The cue to finally enter and pile in big for your full position size is a big downward break. You wait until it’s obvious that there will be a collapse. If it never comes, you never fully enter. You’re not shorting the top, you’re piling in to a stock that is in a confirmed downtrend on a very short timeframe. That’s the difference.
These charts of my trade in RIO show each of the above elements–Momentum divergence, nearby overhead resistance, parabolic upward movement with respect to the 15 min chart 5-ema, and a confirmed downtrend before the big entry.
Just to make a point, I traded one more time today while writing this (I lost -4.5% today in 7 losing trades with only 3 winners. I’m killing myself by forcing trades. I took good setups, but they didn’t work. But RIG did (which I didn’t trade), and it was just like trades I took in HANS and AGIX; go figure).
Anyway, I traded very small, scalping URBN short, so it was basically just a practice trade. This is a poor example, but it’s the best I could do on a Friday before a holiday weekend, okay? :P It shows all of the elements outlined above:
This post was contributed by a guest author, and does not necessarily reflect the views of Richard or MovetheMarkets.com
August 31st, 2007 at 3:40 pm
whether it is or not, streetsmack is pretty darn good at it…keep your head up prospectus…hopefully, next week will be better
September 2nd, 2007 at 10:04 am
Prospectus - thanks for taking the time to post this. I agree that the 15 minute candle was a parabolic move but not necessarily a move where buyers (or sellers) are desperate. I am certainly not an expert but just wanted to add commentary to your post…In looking at the 1 month RIO chart, I see a huge spike down on August 16. I remember watching this as I got an alert from Trade-Ideas when it happened. (I didn’t trade it though because I was busy managing another trade). It looks like there was a huge seller that just sold it at market and the price went down big. I think this would be a good representation of a parabolic move (downward). I say this because it was:
1.) Scary
2.) Already had 3 days of downside
3.) Exceeded ‘actual true range’ by a sizable amount
3.) Huge volume (great than other days) like a big seller just said screw it, I’m unloading it at market.
Regards,
September 3rd, 2007 at 12:54 pm
@Skyb0x: Good analysis on RIO. A parabolic move doesn’t necessarily have to be a capitulatory move, at least not on a larger timeframe. Capitulations happen on all time frames, and the largest ones are the ones that stand out on a daily chart (like the Aug. 16th move in RIO). That was an important longer-term capitulation. On my RIO daytrade, there was a parabolic move into overhead resistance. More often than not a move to resistance (or support) will only break through with any staying power if there is a consolidation or basing near the level. A parabolic move is likely to be repelled by the level, and will likely retrace to a prior support or consolidation level. It’s not guaranteed, but the odds are in your favor, and that’s an edge. That’s the principle I look for in parabolic short scalps. I don’t care what happens after the retracement to the target “mean” value. In the case of my RIO daytrade, price actually went back up for the rest of the day, so the parabolic move was not a long term capitulation. In your RIO daily move, the spike down WAS a significant long term selling capitulation, and price has rebounded significantly from that point, and has not returned back there yet (though you’d have no way of knowing that this was the case at the time it happened).
I guess my message is that it all depends on your timeframe, as to whether the capitulation move (or parabolic thrust) is significant or not, and you gotta judge the risk / reward to see if there is an opportunity there. On any particular setup, there may be a great opportunity for one trader, where another trader only sees a dangerous money sinkhole.