Constricted ranges dictate countertrend trading plays. This classic swing strategy uses clearly marked boundaries to buy weakness and sell strength. When S/R draws strong congestion, sell short as price tests resistance and go long when it falls into support. Use the charting landscape to guide low-risk execution levels. Keep in mind that the first thrust into S/R usually offers the best fade position and that odds will deteriorate on repeated tests. And remember that swing entry is always very price sensitive.
FIGURE 1
Short-term volatility shakes out intraday traders during these six hours of choppy Nextel action. Meaningless price swings of 2 to 2 1/2 points masks the underlying downtrend, squeezes shorts and relieves weak hands of their stock positions. Many intraday trends respond to conflicting intermarket cycles that ensure a bumpy rise for the momentum crowd. Look for convergence between indices, futures, and equities when trading short-term momentum.
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| Countertrend trading |
Focus the intended execution near a single price level and stick to it. Never chase entry and always maintain a tight stop loss. Countertrend trades must execute with minimum slippage right at or close to known S/R. The swing trader should stand aside if conditions don’t allow for this narrowentry. These setups manage risk through small losses taken when positions violate specific S/Rzones. A series of larger losses due to poor execution will eliminate a very good profit.
Target reward through examination of the local features. If possible, carry the position until price approaches the other extreme of the range. Broad congestion likely mirrors intermediate S/R that inhibits a quick price thrust across the pattern. Many swing traders find that single direct price moves without retracement provide the best conditions for a profitable exit. Consider getting out as price jumps into that first boundary. If this is the chosen style, the original reward:risk evaluationshould confirm that this price target carries enough profit to make the trade worthwhile.
Buying bottoms and selling tops carefully applies countertrend strategies. Major highs and lows attract interest more than any other charting landscape feature. This ensures a large supply of participants but also invites more whipsaws and unexpected outcomes. Apply this primary rule at tests of prior highs and lows: fade the first test after a significant pullback but trade in the direction
of the extreme on subsequent tests. Price tends to break out of ranges on the third try (second test of a high or low).
Use small reversal patterns in the chart below the holding period to fade entry near S/R extremes.
Adam and Eve patterns and double tops/bottoms present simple formations that apply this 3D
technique. Short sales depend on price violating the bottom of the smaller top pattern, while long
positions signal when price surges through the top of the smaller bottom pattern. This original
method allows low-risk execution close to the larger high or low in anticipation of a favorable price
move.
Victor Sperandeo’s 2B trade in Methods of a Wall Street Master and Raschke and Connor’s Turtle
Soup in Street Smarts both trap the crowd as it leans the wrong way right after price violates a high
or low but reverses immediately. As smart traders adopt these contrary tactics, many price extremes
face increased danger of a swift reversal after the initial breakout or breakdown. The safest 2B fade
strategy lags the crowd before position entry. Let the price action break through key levels but don’t
execute in the opposite direction until it pops back across support or resistance.
Trade 2B setups defensively. The market may still want to break through the barrier. Ride the
subsequent pullback to the first natural swing level and then exit. After a good reaction the trend
can reassert itself quickly and take out the old extreme. This follows the wisdom to fade the first
test of an old high or low but follow the trend on the second test. Apparent triple bottoms and tops
often yield to significant breakouts or breakdowns.
Watch out when a new high or low retraces and forms congestion close to the price extreme. Simple
continuation patterns can quickly ignite into new trend thrusts. Stay away from small pennants and
short pullbacks when planning 2B entry. The best reversals for this pattern come when a sharp
retracement occurs after the first high or low. The subsequent test should then print more price bars
than the decline that precedes it. Also pay close attention to lower-pane indicators as the event
approaches. The trade cross-verifies when oscillators diverge from price direction just as the old
high or low breaks.
Pullback entry into a strongly trending market represents a major category of swing tactics. This classic setup buys the first sharp decline into support or sells the first bear rally into resistance. Exit depends on many factors, including personal trading style, holding period, and available capital.Subsequent swings also offer safe entry, but risk increases as trends evolve and reach overbought-oversold conditions. In other words, each pullback after the first one has higher odds of being areversal rather than a continuation pattern. Chapter 8 examines this bread-and-butter swing trade in greater detail.
Central tendency presents high reward: high risk opportunities at the extremes of price action. These tactics work best in congested markets or in the extreme volatility near climax events. The strategy fades price when a long bar thrusts out of a Bollinger Band extreme more than 50% of its entire length. In rangebound markets, odds for success improve substantially when the top orbottom band aligns horizontally just before the violation and price thrusts into known resistance (other than the band itself).
FIGURE 2
The 2B reversal (1) traps participants that sell short into a violation of the last intermediate low. This classicscenario also appears at double tops right after new highs. Enter the reversal as soon as price jumps back within the prior S/R. This Broadvision example also illustrates a clear stop gunning exercise just before the market moves substantially higher. Note how both (2) and (3) offer logical long side entry for the subsequent rally.
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Countertrend trading |
Consider this trade at the end of parabolic rallies and selloffs. The bands will turn close to vertical as these events progress. Look for an intense burst of energy that forces the bar to break halfway or more through the band. This signals the possible climax and invites countertrend entry. Butsuccessful execution requires both a skilled hand and excellent timing. Some blowoffs can issue aseries of these bars before a violent reversal. Use cross-verification and tight stop loss to managerisk. And master other setups before attempting this dangerous trade.
Countertrend trading
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