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The Traders Wheel
5/30/98 by Alan Farley

Launching Pad

Short-term traders discover great rewards in uncharted territory. Stocks at new highs generate unique momentum properties that ignite sharp price moves. But these dynamic breakouts can also demonstrate very unexpected behavior. Old battlegrounds of support/resistance disappear while few reference points remain to guide entry and exit. In this volatile environment, risk escalates with each promising setup.

The final breakout to new highs completes a stock's digestion of overhead supply. But the struggle for greater gains is far from over. Issues reaching new highs often undergo additional testing and preparation before resuming their dynamic uptrends. The chartist can follow this building process through the typical pattern development expected during these events.

Price may return to test the top of prior resistance several times. This can create a variety of stepping or basing ranges before the trend finally moves sharply upward. Other times, stocks will immediately go vertical when new highs are printed. The challenge for the trader is deciding which outcome is more likely.

Use accumulation-distribution analysis to predict whether new highs will escalate immediately or just mark time. Price either leads or lags accumulation. When stocks reach new highs without sufficient ownership and buying pressure, they will often pause to allow these forces to catch up. Other times, accumulation builds more strongly than price. The initial thrust to new highs confirms this accumulation. The breakout triggers a new round of buying interest and price immediately takes off with no basing phase.

On Balance Volume (OBV) and similar accumulation-distribution indicators are essential tools for evaluating the strength of new high breakouts. Expect an immediate upward thrust when OBV draws a pattern more bullish than the price chart. Alternatively, when multiple accumulation-distribution readings show ownership limping behind price, prepare for an extended basing period. But always use caution with NASDAQ stocks. They double count each volume transaction, leading to occasional false OBV readings.

 

aol2.gif (6966 bytes) Accumulation-Distribution analysis provides an effective filter to avoid new high whipsaws. When AOL moved to a new high in its 1997 rally, Farley’s ADA immediately stalled. It then printed its own congestion and breakout pattern, matching the development of the stock's eventual parabolic rally.

 

 
Article contributed by The HARD Right Edge, which presents highly original workshops, tutorials, strategies and resources on multi-trend technical analysis and and short term trading. Article reprinted here with permission, which presents highly original workshops, tutorials, strategies and resources on multi-trend technical analysis and and short term trading. Article reprinted here with permission.
 
 

 

 
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Last modified: April 02, 2001

Published By Tulips and Bears LLC