Toward A Fresh Vision of Trader Coaching and Mentoring

Before moving forward with a fresh framework for the coaching of traders, let's review the key ideas from recent posts:

* Markets communicate patterns of supply and demand at all time frames; following and responding to these patterns is similar to a psychologist's following and responding to the communications of others in counseling;

* Effective trading requires an ability to listen to markets; most psychological trading problems occur when personal needs, reactions, and biases interfere with an open-minded processing of market communications;

* Markets can be understood, not only by what they do, but also by what they fail to do. A market that fails to follow an expected historical pattern, for instance, is communicating something of importance regarding current supply and demand;

* The optimal coaching of traders can be conceptualized as a supervisory process, much like the training models in psychiatry and psychology by which therapists are developed over time. This is significantly different from coaching models that are grounded in weekly individual or group talk time (therapy model) or time-limited workshops/seminars (education model).

* Because competence and expertise typically develop over years of practice and supervision across all performance fields, models of coaching that are highly time-limited and not grounded in actual trading practice are not likely to be successful in facilitating the learning/mastery process required of traders.

So, if we draw upon the structure of training programs in such fields as medicine, law, performing arts, athletics, and military, what might an optimal coaching program for traders look like?

* It would start by building a fund of knowledge - Traders who try to learn the ropes by immediately placing their capital at risk are like rock climbers who try to learn by immediately tackling the highest mountains. As I stress in my performance book, there is no "minor leagues" of trading; no exchanges where everyone participating is either inexperienced or an idiot. From day one, traders always trade against pros. For that reason, traders begin by learning about how markets operate, how they move, why they move, and how traders read their movements.

* It would teach pattern recognition before intervention - A medical student first learns pathology and introductory clinical medicine before ever working on a patient. You can't heal if you don't know the difference between health and illness. Similarly, a student of the markets needs to learn patterns of supply and demand and various structures to market days and weeks before developing and executing trading plans.

* It would emphasize mutual learning and mentorship - Observing actual trading and the decision-making of more advanced students would precede one's own real-time market activity. Just as a junior medical student follows a senior student and beginning resident (intern) around the hospital, a junior trader would observe the learning and performance of more senior traders.

* It would entail ongoing supervision and performance review - In the military, there is always an after-action review to learn from operations that have been undertaken. Similarly, the work of medical students and residents is always supervised and reviewed by experienced attending physicians. In team sports, players will often break into groups for drills that are overseen by coaches and assistant coaches, with immediate corrective efforts as needed.

* It would combine group-based learning with individualized training - Learning in groups allows students to see the mistakes (and strengths) of others and learn from those via observation. Individualized learning enables students to identify and work on strengths and weaknesses unique to them, focusing on specific performances.

* It would be affordable - The beginning levels of training, focusing on fund-of-knowledge and pattern recognition, can typically occur in large didactic settings. For example, at my medical school, the entering class was about 150 students and all students took the same introductory courses in large lecture halls. Later, the training became more individualized in clinical rotations (group based) and work with individual supervisors. By delivering material in the best possible format according to a structured curriculum, training can be educationally and cost effective.

Perhaps the best model for training and development can be found, not in medicine or athletics, but in the spiritual disciplines. Think about the learning process that occurs in monasteries, Yeshivas, ashrams, and even martial arts centers. These involve several elements that have been crucial to their long-term success:

1) They are structured as committed communities, in which everyone is both student and teacher;

2) They are led by one or more accomplished individuals who provide the community with a sense of values and direction;

3) They involve a degree of withdrawal from the everyday world to facilitate a daily commitment to learning;

4) They are not primarily commercial entities, but instead seek mutual "profit" in self-development and participation in the development of others;

5) They develop multiple leaders and teachers, encouraging diversity of learning and thereby becoming self-sustaining. This is what differentiates true learning communities from cults that focus on a single "guru" leader.

The beauty of intentional trading communities is that, in seeking self and mutual learning and development, participants also profit and prosper financially. There is no dichotomy, so often seen in present educational efforts, between the learning needs of the participants and the financial interests of the educators. This is because the participants are the educators and the educators are the participants.

At one time, the barriers to the development of intentional trading communities and training programs were technological. It is not practical for people to uproot their lives and relocate to communities that may be located across the globe. At present, however, the tools for online learning and communication make it possible to sustain communities across national boundaries and far-flung time zones and markets. All that is needed is vision, values, and a curriculum that joins participants in mutual student/mentor roles.
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Sneak Preview of The Daily Trading Coach

My new book, The Daily Trading Coach, was written explicitly as a self-help trading psychology resource for traders. It consists of 101 short "lessons", covering everything from behavioral techniques to regulate emotion to strategies for managing a trading business. Material on risk management, the use of Excel to identify historical trading patterns, and self-coaching perspectives from leading blogger/traders will be new, even to regular blog readers.

Thanks to publisher Wiley, a free sample chapter of the book is now available. The volume will be available in March and is being nicely discounted on the Amazon site. My goal was to write a highly useful guide for traders that would also be highly affordable for developing traders. I appreciate the cooperation between Amazon and Wiley in making the text available for under $30.00.
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Combating Recency Effects in Trading

This morning's trade offered a nice example of how an understanding of historical market patterns can help put a brake on cognitive biases that lead to poor trading decisions.

We moved sharply lower during pre-opening trading hours, breaking below the multi-day trading range. I noted in my morning Twitter comments (free subscription via RSS) that an important issue for the day was how we traded around the market's opening price.

The recency effect is a cognitive bias in which we overweight the most recent events and allow them to unduly color our future expectations. Understandably, traders caught up in the pre-opening weakness might anticipate further downside market action early in the day, particularly given the downside breakout.

At such times, I like to check my biases against actual market history. Since 2007 in the S&P 500 Index (SPY), for example, the correlation between overnight market moves and moves during the day session is only .06. In other words, these function as largely independent trading periods. Indeed, we've had 59 occurrences of SPY opening more than 1% lower than its previous day's close; the market's subsequent day session was up 27 times, down 32 times, for an average loss of -.21%. That compares with an average loss of -.06% (236 up, 247 down) for the remainder of the sample.

So, yes, particularly during a period of lower market prices, there can be downside follow through to overnight weakness. This is hardly a significant edge, however. Knowing that a different category of traders participates in the day session vs. the overnight helps us avoid the recency bias of assuming that overnight moves will continue into the day.

RELATED POST:

Recency Effects and Bloggers

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Looming Crisis for Insurance Companies?

With indications of needs for continuing bailout at AIG, the spotlight has turned from banks to insurance companies as potential sources of crisis. As we can see from the insurance index above ($KIX), that sector has been more than cut in half since September and is now sitting at bear market lows, below its declining 40-day VWAP (green line).

One economic factor that could turn recession into depression for millions of families would be the loss of life insurance and retirement annuity benefits that many families depend upon. With financial ratings of life insurers being cut and no clear indications of government support, this may be the unappreciated side of the current financial crisis.
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From Education to Training: Developing the Success of Traders

The recent post on coaching traders as a supervisory process suggested that learning to read and respond to markets might be similar to the process that psychologists undergo when they learn how to read and respond to people in counseling. Readers of my book on trader performance will recognize that this is a process in which novices first learn to develop competence and later cultivate specialties and expertise.

It is significant that the training process in psychiatry is a four year sequence, not including any fellowships or sub-specialty training. Similarly, those with a Ph.D . in psychology typically train for four years after college, followed by a fifth year of full-time supervised internship.

The progression of the years takes the form of "see one, do one, teach one." Beginning students of psychology and psychiatry take courses and observe others doing therapy. Their initial attempts at working with others are conducted in courses through role play, minimizing the risks of making mistkes. Only in later training do student-therapists see their own clients in training clinics, under close supervision. Still later, they help to supervise beginners, sharing their competence and growing expertise with more junior peers.

No one in the mental health field would suggest that teaching, supervision, and the development of competence (much less expertise) could take place in a matter of days or weeks. We know from studies of expertise development--from sports to chess--that the cultivation of expertise typically takes years. It is no coincidence that Olympic contenders--themselves superior athletes--continue to receive coaching and mentoring years after they developed competence in their work.

Education--in trading as in other fields--is valuable, but it is different from coordinated curricula of training. Isolated seminars, workshops, and learning experiences cannot substitute for the "crawl, walk, run" training that moves students from "see one" to "do one" to "teach one".

We commonly hear that 80% or more traders fail at their pursuit. Might that be because they lack the training structures typically available to athletes, professional soldiers, and performing artists? Yet how could such training be offered in a way that is affordable and logistically feasible? I will be addressing these significant challenges in my next post in this series.

RELEVANT POST:

Self-Coaching Linkfest

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Coaching Traders as a Supervisory Process

The last several posts have suggested that successful traders follow markets much like psychologists track the conversations of people they see in counseling. This implies that trading success is not so much a function of beating the market--and certainly not fighting the market--but rather listening to the market's communications. The effective trader attends to what is happening in markets--and what is not happening--in order to read patterns and themes in those market communications. What derails traders, like psychologists, is reacting to these communications in personalized ways, allowing one's own ego to get in the way of truly hearing the meaning of what is being communicated.

If this analogy holds, then the ideal coaching of traders might be less like conducting a counseling session than conducting a supervision session with a therapist in training. When a psychologist learns therapy in graduate school or a psychiatrist learns it in residency training, a core part of the learning experience consists of individual and small group supervisory experiences. An experienced faculty member reviews audio or videotapes of counseling sessions with the trainees, pausing at crucial junctures to point out what was communicated, what was done well, and what was missed. Typically, the supervision concludes with specific ideas of what to pursue in the next week's session, based upon the case review.

This supervisory process sensitizes the therapist-in-training to several things: what to listen for, how to generate ideas about people's core themes and conflicts, and how to intervene effectively at the right times (when people are most ripe for change). Such listening, conceptualization, and timing skills are surprisingly similar to the challenges that active traders face. Clinical supervision is a time and labor-intensive process, not unlike apprenticeships in the trades. It is, however, a time-tested framework for teaching performance skills that cannot be acquired simply by reading textbooks.

I am not convinced that the common models for coaching traders, which structures the learning process more like counseling sessions than supervisory ones--which treats the trader more like a client than a professional in training--is the ideal one. Might it be the case that we could meaningfully improve trader success by providing traders with "clinical" supervision, grounded in market and performance review? More on this topic to come.

RELEVANT POST:

Learning to Trade Linkfest

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Tracking Markets by Attending to What Isn't Happening

I was at the airport this morning following the market via laptop and thought I'd add just a few observations to the recent post on listening as a key trading skill.

The good psychologist doesn't just listen to what is said, but also attends to what *isn't* communicated:

* A man says he's doing well, but pointedly leaves out any mention of the problems discussed the previous week;

* A woman talks about being taken advantage of by a friend, but expresses no feelings of hurt or anger;

* A person in trouble refuses to ask for help, afraid of being rejected.

Many times, it's what isn't expressed that offers the best window into the inner workings of a person.

Similarly, what *doesn't* happen in markets is often as meaningful as what does:

* After rallying solidly the previous day, the market cannot trade above its previous day's high;

* In the opening minutes of trading, even on attempted rallies, buying interest (NYSE TICK) fails to reach a single significant reading of +800 or greater;

* The market never trades above its opening price range of the first 15 minutes;

* Volume never expands on attempted rallies, as large traders don't participate in the upside.

It's often helpful to know what markets usually do, because that sensitizes you to those occasions when they behave atypically. When markets fail to provide their usual communications, they're usually communicating something important.
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Listening as a Core Trading Skill

The recent post on "following the market like a psychologist" drew upon the analogy between tracking markets and tracking social or counseling conversations. Central to this idea is that people and markets operate in particular states. Shifts in these states are meaningful, reflecting the processing of real-time information. Reading markets is not at all unlike reading people, with all the challenges of imposing our own meanings onto conversations, overreacting to communications, and missing the essence of what is being communicated.

Social competence--or emotional intelligence--is largely a function of being able to seamlessly assimilate and respond to these state shifts. When a person lowers her voice and talks about a loss she experienced in her family, only a socially tone deaf individual would continue a prior banter. The socially competent individual picks up on both the shift in voice and the meaning of what is communicated, processes that in a personal and empathic way, and responds with concern and condolence.

Similarly, the competent trader will observe a shift in markets--a breakout from a range, a slowing down of trading--and adjust expectations and actions accordingly. The trader who enters the market with a fixed directional view and sticks with that view through minute after minute, hour after hour of contrary evidence is not unlike the bore who dominates a conversation by talking exclusively about what interests him. The emotionally intelligent person is one who talks with people, creating an intricate dance--not the person who talks at people, heedless of their reactions and communications.

Many traders don't trade with markets; they trade at them. Their failure is not simply one of communicating, but of listening. The socially skilled conversationalist does not barge into a party conversation by immediately talking. Rather, she will hold back, listen to the ongoing conversation, and then find a point to join the flow. An emotionally unintelligent trader will not first listen to markets; his job is to trade! Like a conversationalist who thinks his only job is to talk, the trader who thinks his only job is to trade will naturally operate outside of the market's rhythms. In a very real sense, he is not trading the markets, but his need to dominate markets. Little wonder such traders experience frustration when the markets don't yield to those attempts!

So often, educational efforts at trading begin with how to trade: how to recognize "setups", how to place orders, etc. That's like teaching counselors and therapists how to talk to clients before you've shown them how to listen--and what to listen for. The challenging--and fascinating--part of being a psychologist is figuring things out when you're *not* talking: letting a person's unfolding story reveal its patterns and meanings. Many an inexperienced counselor jumps the gun with advice, rather than waiting with empathic listening and figuring things out before speaking.

It sounds a bit strange, but empathic listening--the capacity to hold back, process information, not personalize it but relate to it--may well be a core competency for discretionary traders. It isn't so much emotion that derails good trading as any interference that takes us out of the flow of market conversation, leading us to react to our own impulses and feelings rather than the messages laid out in front of us.

RELEVANT POSTS:

Emotional Intelligence and Trading - Part One, Part Two

Somatic Markers and Trading Decisions

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Following the Stock Market Like a Psychologist: Catching Shifts in Market Behavior

When a psychologist listens to a client in therapy, he or she focuses on the flow of conversation. Attention is paid to both what is said and how it is said. For example, let's say I am talking in a friendly, informal way with someone to start a counseling session and then ask about the person's marriage. Immediately the person shifts position and posture in the chair and adopts a halting tone of voice that is very different from the tone of the previous conversation. Without even attending to *what* the person is saying, I can detect from that radical shift of posture and tone that this is not a comfortable topic and that there are issues to be explored.

These shifts occur in subtle ways and not so subtle ones in all conversations. Rate of speech, volume, inflection, gestures, the richness of language used--all of these are indicators of a person's inner world. When a person is angry (without even acknowledging it), those shifts manifest themselves as changes in muscle tension and vocal intensity. When a topic changes in a conversation and we see such shifts, we know that the topic is emotionally loaded for that individual.

Markets produce their own streams of "conversation" in the form of price and volume movements that evolve through the day. Volatility, directionality, choppiness: these are some of the market's "body language". Just as a person's tone or posture can shift over the course of a conversation in response to meanings and what they stimulate, the market will alter its patterns of movement through the day, particularly in response to news events, economic reports, rumors, and the sentiment of traders.

Much of success in short-term trading is a function of being able to read the market's body language and respond promptly and appropriately. A good conversationalist is one who picks up on nuances of meaning and responds to those in his or her own speech and mannerisms. Similarly, a good trader is attuned to market communications and responds to these flexibly.

Consider the ES futures during the early part of the trading session today (top chart). Moving in a range, they drifted away from their opening price, only to be pulled back toward it. A bit after noon, however (second chart from top), the market moved violently higher on expanded volume and significant volatility. You can see from the size of the bar and its break to new highs that this was a shift in trading pattern.

In the third chart from the top, we see the result of this shift: the market never looked back and trended higher into the afternoon: a range market had morphed into an uptrending one.

Notice how the NYSE TICK distribution (the distribution of five-minute bars around the blue zero line, bottom chart) changed from balanced to distinctly bullish prior to the breakout bar. If you look at the energy (XLE) and especially the financial (XLF) stocks, you'll also see that they broke to new daily highs ahead of the breakout. These subtle pieces of body language--the sentiment of traders, the behavior of leading sectors--are important clues to those who follow markets like a psychologist. For the trader as for the shrink, it isn't necessary to predict shifts; rather the challenge is to identify them in real time and know how to respond.

RELEVANT POST:

Emotional Intelligence and Trading

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Recognizing Significant Buying Pressure in the Stock Market

The previous post took a look at significant selling days in the stock market, based upon one-minute readings in which the NYSE TICK hit or fell below -1000. What we saw was that selling meaningfully expanded on the break below 800 in the S&P 500 Index, validating that breakout move.

Above we see the flip side: the frequency of strong buying minutes in the stock market based upon one-minute readings in which the NYSE TICK hits or exceeds +1000. Once again, this is a rare reading, as it requires 1000 or more issues to trade on upticks at the same time. Only significant buying pressure from institutional participants can generate such a reading. By cumulating the strong buying minute readings over a one-day moving average period (pink line above), we can see how such sentiment has correlated with movement in the S&P 500 e-mini (ES) futures (blue line) since the start of 2009.

What we see is that the peaks in the strong buying minutes have been diminishing; with each rally, we've had fewer strong buying minutes. This suggests that institutional buying has waned, even as we've seen a pickup in institutional selling per the previous post. Note also an interesting pattern in which the frequency of strong buying minutes tends to peak ahead of price on intermediate-term market rallies.

A rising market needs significantly more strong buying minutes than strong selling ones; a falling market requires the reverse. By catching the distribution of extreme readings in NYSE TICK, we can make a reasoned assessment as to whether buying or selling sentiment are dominant, or whether they are relatively balanced.

An interesting exercise would be to take extreme readings in Market Delta (the proportion of volume traded at offer minus that traded at bid) and see if similar distributions occur in trending and non-trending markets. I hope to address this at a later juncture. In the interim, I will include observations about the distribution of NYSE TICK values in my morning real time market comments via Twitter (free subscription via RSS).

RELEVANT POST:

NYSE TICK and Significant Buying and Selling in the Market

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Recognizing Significant Selling Pressure in the Market

If you review this morning's Twitter comments and follow the NYSE TICK for Monday, you'll see how a weak market sustained weakness through the day and hit one price target after another. These downside trend days are notable in that they generally open near the price high for the day, move steadily lower on very weak NYSE TICK and average/above average relative volume, and stay below the day's volume-weighted average price for the vast majority of the session. Recognizing the structure of a day early in the session is a cardinal skill for short-term traders: it determines whether you fade strength/weakness or go with it by playing counter-trend bounces.

In the chart above, we take a longer-term view that illustrates the significant weakness of the current market. The dark blue line represents the S&P 500 e-mini (ES) futures during 2009; note the breakdown below the 800 level, as represented by the horizontal light blue line.

The pink line is a one-day moving average of the number of minutes that hit -1000 in the NYSE TICK. I call these "strong selling minutes". A reading of -1000 or lower means that 1000 or more stocks are trading on downticks at that moment. That represents very broad market selling pressure. Readings of -1000 or less are rare; they are almost 2 standard deviations below the median low TICK reading for all minutes since the start of October, 2008.

Another way of looking at the significance of that weakness is that the median number of strong selling minutes during a trading day is 11, with a standard deviation of 21. On Monday, we closed with 66 minutes hitting that level--more than two standard deviations away from the norm.

What is significant in the chart above is the elevation in the number of weak market minutes (i.e., minutes where we had TICK readings of -1000 or lower) as we broke the 800 level in the ES contract. That tells us that this was a significant breakdown, with broad participation to the downside. Only the selling pressure of large institutional traders can sustain such negative TICK readings. As individual traders, we want to follow the path of those that move market, not stand in the way.

As long as we see so many stocks trading on downticks, it is premature to expect a durable market rally. Recognizing this strong selling sentiment is important to staying on the right side of these downtrend days.

RELEVANT POSTS:

Recognizing and Trading Upside Trend Days

Recognizing and Trading Range Days

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Indicator Update for February 23rd

Last week's indicator update found sector and indicator weakness, but stressed that we were not at an oversold level and remained in a wide, choppy trading range. With the break of the 800 level in the S&P 500 Index early in the week, we moved below that range and stayed below for the week. That brought the Cumulative Demand/Supply Index (top chart) into oversold territory, though not at that -30 level that has marked recent intermediate-term market bottoms. The weakness has been broad, extending across all sectors, suggesting that the bear market remains intact as long as we stay below the prior, extended trading range mentioned above.

Another indication of the breadth of the market weakness is the expansion of stocks making fresh 20-day lows across the NYSE, NASDAQ, and ASE (middle chart). We are seeing fewer new lows on a 52-week basis than we saw late in 2008, and not all sectors have seen fresh bear market price lows. Similarly, while we were notably weak in Cumulative NYSE TICK this past week (bottom chart), we remain above the November lows. The same is true for the advance-decline lines specific to NYSE common stocks and S&P 500 issues. These divergences would become much more important in my estimation should we sustain a broad rally that keeps the S&P 500 market above its violated support at that 800 level.

As I emphasized the last couple of weeks, the peaks in the Cumulative Demand/Supply index have occurred at successively lower price highs; each rally in this bear market has failed to surmount the one previous. As long as that is the case, and especially as long as we're seeing weakening Cumulative TICK and expanding new lows, it is premature to be pounding the table on the long side.

I have posted the daily and weekly SPY target levels to Twitter (free subscription via RSS) and will update the indicators each morning prior to the market open. The market's relative volume--how current volume compares to the average volume for that particular time of day--is very helpful in gauging market volatility and the odds of hitting these targets. The relative volume norms for this week's S&P 500 e-mini market appear below:

8:30 - 234,993 (62,792)
9:00 - 199,589 (48,899)
9:30 - 152,938 (48,688)
10:00 - 136,174 (65,293)
10:30 - 117,904 (59,114)
11:00 - 104,818 (40,222)
11:30 - 90,351 (33,155)
12 N - 110,937 (37,560)
12:30 - 121,941 (46,688)
1:00 - 125,444 (58,883)
1:30 - 140,481 (61,592)
2:00 - 175,042 (50,129)
2:30 - 230,477 (84,999)
3:00 (15 min period) - 99,318 (25,438)

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Sector Update for February 22nd

Last week's sector review concluded, "Clearly we've weakened since last week and now are testing major support in the 800 area of the S&P 500 Index. We closed Friday with new 20-day highs across the NYSE, NASDAQ, and ASE at 492; new lows were 596. As long as we cannot sustain a plurality of new highs, I expect the market to breach that 800 level and test the bear market lows of November."

We did, indeed, sustain a plurality of new lows and have moved toward the November lows on strong selling pressure. As noted in my recent post, the over 4000 new 20-day lows observed on Friday was a level of weakness seen only 11 times since late 2002.

As we look at the Technical Strength of the eight S&P 500 sectors that I follow each week--a proprietary short-term measure of trending--we can see further evidence of this broad weakness:

MATERIALS: -440 (14%)
INDUSTRIAL: -440 (2%)
CONSUMER DISCRETIONARY: -440 (8%)
CONSUMER STAPLES: -180 (15%)
ENERGY: -440 (0%)
HEALTH CARE: -360 (31%)
FINANCIAL: -480 (1%)
TECHNOLOGY: -340 (11%)

Recall that the Technical Strength of each sector varies from -500 (very strong downtrend) to +500 (very strong uptrend), with values of -100 to +100 indicating no significant trend. As we can see, the sectors are mostly in a strongly downtrending mode, with only the defensive Consumer Staples group showing less weakness. In the recent past, such highly negative readings have represented oversold conditions that have led to short-term rallies.

When we look at the percentage of stocks in each sector closing above their 20-day moving averages (in parentheses), as noted by Decision Point, we find that all sectors show fewer than half of their components above that benchmark. Only the defensive Health Care sector shows a meaningful percentage of issues above their moving averages. The Energy sector has shown particular deterioration in the last week, and Financial issues are notably weak.

In sum, we continue to see broad market weakness, though a bounce from oversold conditions would not be surprising. It is not just the weakness, but the pattern of sector weakness--with relative strength in defensive sectors and relative weakness among economically-sensitive ones--that suggests that we have yet to turn the corner on the bear.
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Random Thoughts and Observations for a Sunday Morning

* Not So Preferred - I talked with a Dow Jones Newswire reporter on Friday about investor fears regarding bank nationalization. One psychological indicator of those fears is PGF, the ETF specific to preferred shares of financial institutions. As we can see from the chart above, PGF has been cut in half since the start of the year, as fears mount that preferred shareholders may recover little in any government assumption of equity.

* StockTwits - I recently began participating in the StockTwits site, which features conversations among traders who communicate via Twitter. One feature I like is the ability to filter "tweets" by stock symbol, so see what the chatter is regarding specific names.

* Trade Signals - I continue to follow Henry Carstens' mechanical trading signals via Twitter; it's interesting to see which signals do and don't fit with my own market judgments. One more piece of data for discretionary traders to integrate into their market views.

* Frugality - I found the N.Y. Times article on consumer retrenchment in Japan to be quite interesting; Iceland is seeing similar frugality, and the relative outperformance of WMT and MCD suggest that the meme has taken hold in the U.S. as well. Given that this represents a sea change in sentiment and behavior, not a fad, a number of pairs trades might follow from the theme: long the company that offers perceived value, short the company that offers perceived cachet.

* Ideal Coaching Service for Traders - The last few days I've been pondering the question of what an ideal coaching service for individual, developing traders might look like and how that might be delivered in a highly affordable way. I'll be posting ideas on the blog this coming week.

* Where Value Might Be Found - I recently posted a review of Janet Tavakoli's book that dealt with Warren Buffett's value investing. Here's a post that reviews Buffett's positions: where he is finding value in the current market.
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When Markets Are Broadly Weak

I noticed on Friday that we had an explosion of stocks making new 20-day lows across the NYSE, NASDAQ, and ASE. New 20-day lows hit 4129, a level we've seen only 11 times since late 2002.

Interestingly, when we've had more than 4000 new 20-day lows, there has not been an intermediate-term bullish bias. Indeed, 30 days later, the S&P 500 Index (SPY) has been up 5 times and down 6, for an average loss of 3.0%.

A more interesting observation, however, is that--of the 11 occurrences of 4000 or more 20-day lows--all but one (5/10/04) has occurred since the second half of 2007. During the bull market, pullbacks led to an excess of new 20-day lows, but not such broad weakness. When markets have been broadly weak, it's been an indication of bearish trend conditions and we haven't seen a bullish edge going forward.

An interesting topic for research is whether extremely weak or strong markets differ qualitatively from normally weak or strong ones. It may well be that rising or falling tides that lift or drop all boats show greater odds of continuation, whereas less broad moves are more likely to encounter reversal.

Note: I post new 20-day highs and lows each morning before the market open via Twitter (free subscription via RSS).
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Profiting From Our Trading Mistakes

A frustrated reader asks:

How do you handle getting scared out of a position only to be wrong and as the days and weeks go on you keep counting how much money you could have made had you not panicked? I guess the question is how do you let go of a mistake? I had a bearish put spread on the DIA and I let the 1/28 rally spook me into thinking we were about to get a hard and fast counter trend rally. I dumped my position at 3:45 pm EST and here we are 10 points later and lower.

The novelist philosopher Ayn Rand used to advise readers to "check their premises." A premise embedded in the trader's question above is that getting stopped out of a trade that eventually proves profitable is, indeed, a mistake.

If markets expand their volatility, it's not difficult to be stopped out of a position due to mere market noise. You may set your stop just above a trading range, and the market will move well above that point before reversing and trapping the longs.

In such an event, is it getting stopped out that is the mistake, or is the mistake not re-entering the position once it is clear that we can't sustain prices at new levels of value?

The reader is right to point out that not letting go of the feeling of having made a mistake is costly for traders. Consider the recent post on learning from losing trades. If a trader can't let go of the loss, it's difficult to stay market focused and re-enter the trade. In fact, I generally find that such trades are better risk/reward propositions on re-entry, because they have given you validation that they cannot sustain a move against you. It's difficult to see that, however, if you become self-focused at the very time you need to be market focused.

An excellent addition to any trading plan would be a "what if" scenario that spells out what would have to happen to put you back into the same trade. As any soldier knows, it is much easier to take the right actions in the heat of battle if they have been planned and rehearsed.

On the psychological side, not letting go of mistakes is an example of internal dialogues going wrong. Those who have read the Psychology of Trading book will recognize the issue from Chapter Thirteen; in addition to the techniques outlined there, the cognitive restructuring methods laid out in Chapter Eight of the Enhancing Trader Performance book can be quite helpful.

The gist of these efforts is to recognize your thought process as a conversation that you are having with yourself. Once you become aware that many of your internal conversations are actually ways of venting frustration and anger, you can consciously adopt a different tone of conversation in your self-talk. Changing your self talk is like changing any habit pattern; it requires initial effort and repetition; the payoff is that you are then freed to stay market focused at times when other traders are focused solely on themselves and their P/L.

Ultimately, the only way to let go of losing trades is to learn from them. Maybe the trade teaches you something about how the market is trading: information that can help you frame the next trade. Maybe the trade teaches you something about where you place stops and how you manage risk: that will help you avoid future losses. And maybe the trade will teach you to work on yourself and the relationship you have with you when the chips are down.

Losing trades can be the best learning experiences, but only if we're not mechanically repeating our losing psychological patterns.
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Learning From Good, Losing Trades

The top chart (click for detail) is a three-minute chart of the ES futures. You're at the 13:12 PM CT bar and you observe that we're in a downtrend. The trend of the NYSE TICK has been down; VWAP (40-period MA) has been downtrending and price remains below the 761.75 level from which a high volume decline launched at the 11:48 AM CT bar. The market has bounced, volume has pulled back on the bounce, so you decide to sell in anticipation of at least a test of the day's lows. At 759.25, you're risking 2.50 points in hopes of making at least 6.75 points on a retouching of the day's low. Not the worst trade idea one could generate.

Now we advance one bar and we see in the bottom chart (click for detail) what happened. The market has screamed upward on volume that has more than doubled the expanded volume on the market decline. Whether it's the President reassuring the market about bank nationalization or a surprise news or earnings announcement, these rogue events are apt to occur from time to time.

You've had your stop in place and your risk/reward set, so you're blown out of the trade well before the three-minute bar is complete. It's frustrating, but hardly something that needs to ruin your day or week. You compose yourself, pull back from the screen briefly, and return to watch and size up your opportunity.

Another trader did not set a stop. He watches as the bar expands away from his entry, hoping for a pullback to break even. The market marches ten full S&P points against him before the hour is up. That can easily wipe out a day's or week's worth of effort, leaving him in a bad mental state to start next week.

A third trader sees the stop hit on expanded participation from large traders. The market is now soaring above the point where significant selling had begun, so the trader concludes that this is a major shift in demand. We've seen the day's low, he concludes. He waits for the first pullback in TICK, notes the reduced volume on the pullback, and buys the market around 765. He is rewarded with a near-immediate gain that more than offsets the loss on the first trade.

The failing trader does not set or honor stops and is left with a deteriorating position. The good trader sets a stop and limits his loss. The excellent trader extracts information from the losing trade to generate profits.

A losing trade is not necessarily a bad trade. When markets don't pay you for a good trade, they are telling you something important. It's difficult to listen, however, if you're holding the loser or consoling yourself about the loss. It's the trader who quickly accepts the loss that is able to stay market-focused, learn from the reversal, and find the next opportunity.

RELATED POSTS:

Risk Management and Placement of Stops

Drama Creates Trauma

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Featured Book Look: Dear Mr. Buffett by Janet Tavakoli

"Only when the tide goes out do you discover who's been swimming naked," Warren Buffett once observed. Janet Tavakoli's book Dear Mr. Buffett is less about the Oracle From Omaha than the various naked swimmers in the recent financial markets. The essence of her argument is that the recent financial turmoil is not the result of unpredictable black swan events; rather, it is the consequence of out and out malfeasance on the part of those who take risk and those who are charged with regulating it.

"At its core," Tavakoli observes, "the mortgage crisis is no more sophisticated than a schoolyard swindle, and the SEC is the principal." She effectively contrasts the imprudent use of leverage across investment banks, government sponsored enterprises, and hedge funds with the value investing philosophy of Warren Buffet, driving home the point that much of our recent economic activity has been destructive of wealth. "Price is what you pay," Buffett explained, "Value is what you get." Our recent financial system, Tavakoli asserts, has paid high prices for little value.

Her book is an excellent, readable overview and explanation of what's gone wrong and also a warning about what may be to come. She explains:

"As long as Wall Street enhances revenues with leverage to prop up kingly bonuses, as long as there are few personal consequences for CEOs (and board members and other top executives) for shoddy risk management, as long as CEOs are allowed to walk away with millions, nothing will change. The fact that shareholders are wiped out is no deterrent, and moral hazard will live on (p. 206)."

Indeed, Tavakoli maintains, we have compounded such moral hazard by putting billions of taxpayer dollars at risk in bailouts without clear, effective accountability.

To be sure, even value investing undergoes painful drawdowns during bear markets. It is only after those downdrafts that portfolios reveal the value purchased for the price. Buffett has advised that people only buy things that they'd be happy to own if markets closed down for ten years. That may well be good advice for those looking to be well positioned in the next decade; if so, the bear market will have fulfilled its function and returned wealth to its rightful owners.

I will be periodically reviewing interesting blog sites and trading-related books as part of a new feature to this blog. All reviews are initiated by me and uncompensated. If readers have suggestions of sites and books worthy of review, by all means email me at the address listed in the "About Me" section of the blog page.

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The Proposed Securities Transaction Tax: Punishing the Wrong Group

I want to thank a number of readers who have raised the issue of the recently proposed securities transaction tax and its impact upon traders. The goal of this proposal is "To amend the Internal Revenue Code of 1986 to impose a tax on certain securities transactions to the extent required to recoup the net cost of the Troubled Asset Relief Program."

The bill indicates that "This Act may be cited as the ‘Let Wall Street Pay for Wall Street’s Bailout Act of 2009’". As many traders have pointed out, this is not at all a situation in which Wall Street would pay for its own bailout. Rather, ordinary traders who had nothing to do with the malfeasance associated with the securitization of questionable mortgages would be punished for the bailout of the offending organizations.

The bill explains that "This transfer tax would be on the sale and purchase of financial instruments such as stock, options, and futures. A quarter percent (0.25 percent) tax on financial transactions could raise approximately $150 billion a year." The net effect of taking 25 basis points out of every trade would be to put high frequency traders out of business and reduce the liquidity of markets. Capital would then flow out of the U.S. to exchanges that do not impose such taxes.

There is an online mechanism for writing your Congressional representative about this and other bills; shout out to Forex Factory for pointing that out and highlighting the issue. It may make sense to require the financial industry to recoup taxpayer bailout monies. Placing that burden on the backs of independent traders and threatening the liquidity of U.S. markets is not the way to accomplish that goal.
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Pivot Price Target Based Historical Investigations

As blog readers know, I post each morning before the market open a series of proprietary price targets for the S&P 500 Index (SPY). These Twitter posts summarize the prior day's Pivot level (an approximation of the day's average trading price), as well as three upside targets (R1, R2, R3) and three downside targets (S1, S2, S3). The targets have been empirically derived to adjust for recent market volatility so that, back to 2000, approximately 75% of all trading days will hit either R1 or S1; 50% will hit either R2 or S2; 33% will hit either R3 or S3.

Days--and periods of days--where we don't hit any of these targets are range bound days. These tend to cluster, given serial correlations of volatility. Thus we'll have periods of time in which we hit one or more targets and periods of time in which we'll stay closer to daily pivot levels. Much of the skill of trading, across any time frame, is identifying when we're in a directional market environment (and thus likely to hit the price targets) or a range environment (and thus likely to oscillate around pivot levels and/or volume-weighted moving averages).

Once we define the pivot and price target levels for a particular day, we can ask some rather sophisticated questions. For instance, if we hit R3 or S3 in yesterday's trade, what are the odds of hitting the R1 or S1 level today? If we do not hit either R1 or S1 in today's trade, what are the odds that we'll have a directional move (i.e., one that hits one or more price targets) tomorrow?

Notice that, the segmentation of market moves into R1/R2/R3 and S1/S2/S3, each adjusted for that market's level of volatility, provides us with an objective measure of a day's directionality. We can then ask whether stronger up or down days (those that hit R2/S2 or beyond) are more likely to lead to reversal than days that only hit R1/S1.

Such investigations are likely to uncover trading patterns that provide a possible edge to traders. For example, did you know that the market two days from now (e.g., Monday's market) has a 43% chance of touching today's (Thursday's) pivot level? If we factor relative volume into the mix, those odds rise substantially. Knowing that we have high odds of a range market over a swing trading period could be quite valuable to both day traders and those holding overnight.

To get even more ambitious, imagine that we calculate similar pivot and price targets for various sector ETFs and stock indexes. We can then ask such questions as, "What happens when the S&P 500 Index touches R1/S1 today, but financial stocks (XLF) do not hit their R1/S1?" If a sector hits its R1 early in the trading day, what are the odds that the S&P 500 Index will follow and hit its R1 target? Do certain sectors tend to lead the S&P 500 in hitting their targets?

All of these investigations offer potential decision support for traders, and Twitter is an ideal mechanism for blasting the results of these investigations to traders in real time. More to come--
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Trading and Mental Flexibility

One of the least recognized trading strengths is mental flexibility: the ability to keep an open mind to the evidence of the evolving marketplace and revise views and strategies accordingly.

Once a view becomes ours, we are prone to confirmatory biases, seeking information that supports our preconception. If, however, we can formulate multiple "what-if" scenarios, we're no longer attached to any one outcome.

A directional move that cannot hit the R1 or S1 profit targets is not a trending move on a day time frame. Failure to reach the first of the targets is a characteristic of range days.

At some point in time, a directional move will look like an uptrend or downtrend day. Evidence will accumulate that the move is not being sustained. The market will return to its prior range. Instead of trading for price continuation, you'll want to trade for reversals back to a volume-weighted price average.

The transition from directional trade to range trade often begins when buying/selling pressure cannot generate new price highs/lows and incremental volume. Look at the ES trade around 9:55 AM CT. The 9 AM market was directional; it looked like the start of a trend day. By 10 AM, selling pressure (very negative TICK) could not generate fresh price lows; volume tailed off.

Switching in an hour's time from a trend view to a range view, a continuation strategy to a mean reversion strategy: That is the mental flexibility required of the active trader.

RELATED POST:

Trading Psychology Observations

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Momentum Leads Price: What Happens After Strong Downside Momentum?

Long time readers of this blog are familiar with the proprietary indicator that I call Demand and Supply. It is my favorite measure of stock market momentum; the cumulative running total of Demand minus Supply is a staple of my weekly indicator updates and is my favorite overbought/oversold measure.

Demand is an index that captures the number of NYSE, NASDAQ, and ASE stocks that close above the volatility envelopes surrounding their short-term moving averages. Supply assesses the number of those issues closing below those envelopes. The idea is that stocks with strong upside or downside momentum will close outside their envelopes. By creating an index of the number of stocks with strong and weak momentum, we gain a sense for the momentum of the stock market as a whole.

As noted in this morning's Twitter post, Supply for Tuesday closed at a very elevated figure of 234. Since late 2002, when I began assembling these data, we've only had 21 occasions in which Supply has exceeded 200. Naturally, since this is an unusual event, I wanted to see if there was any edge going forward.

Interestingly, after such a weak day, the S&P 500 Index (SPY) opened higher 16 times and lower only 5 times for an average gain of .43%. Holding the weak market overnight in anticipation of further losses has not been a winning strategy.

When we look four days out, however, the average change in SPY following a very weak momentum day has been -.38% (8 up, 13 down). In other words, on average, the market lost all of its early bounce and then some.

What this suggests is that markets often will not bottom on very weak momentum. Rather, price will tend to move lower, even as a decline loses its momentum and eventually reverses. This is a dynamic that can set up trade ideas across multiple time frames. I will be elaborating this relationship between momentum and price with the resumption of my series of "Introduction to Trading" posts.
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How Is The Market Moving?

For the short-term trader, there is important information in how a market moves. Consider three posts from today's intraday Twitter comments:

9:31 AM CT- Watching closely: We need to sustain prices above their day session open w/ positive TICK distribution to get a good reversal.

This first comment came after we spiked lower in the first half hour of trading on extreme negative TICK and high volume. Such capitulation often leads to a reflex bounce, sellers are "all in" and no one is left to drive prices lower. As buyers are attracted by the low prices, short-covering contributes to the bounce. For this bounce to become a true reversal and turn the short-term trend bullish, we need to see the majority of sectors sustain prices above their opening levels, and we need to see net buying pressure (positive NYSE TICK). Gauging the participation of the sectors and the vigor of the buying interest helps us distinguish between a bear market bounce and a bullish reversal.

9:38 AM CT - Rel volume has dropped off on the attempted rally; back l8r in day.

Within a few minutes, I'm seeing that relative volume (how volume at a particular time of day compares with average volume at that time of day) is tailing off after a surge on the early selling. This is a sign that higher prices are not attracting fresh participation. Recall that volume is strongly correlated with volatility. When we're trading directionally, we want volatility to be expanding on moves in our direction. When relative volume tails off, it's one sign that the volatility winds are not at our back, which leads us to suspect that the upmove is a bear bounce, not a fresh bull move.

10:06 AM CT - Unless we can sustain positive TICK and above avg volume to upside, that 800 support will start to act as resistance.

I hadn't planned another post so soon, but I thought the point was worth reiterating. In a valid breakout move, we should not move back into the prior trading range. That means, on a downside break, that what had been support (the 800 level of the S&P 500 Index) is now resistance. We need buying pressure (TICK) and volatility (relative volume) to push us back into the range. That wasn't happening, and that observation helped set us up for weakness later in the day.

What I'm trying to do with the intraday Twitter comments is model a way of thinking about price action by synthesizing observations about ranges, market sentiment/strength, volume, and historical price patterns. Much of this thinking is based on looking at not only *what* the market is doing, but *how* it is doing it. Following Cumulative TICK, where we traded relative to VWAP, relative volume, and leading sectors (financials) all were helpful in tracking the market's weakness during the day session. Subscription to Twitter comments is free; you can also pick up the five latest "tweets" on the blog home page under "Twitter Trader".
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Indicator Update for February 17th

Last week's indicator review concluded, "In sum, this is a Missouri market: I need to see the market bulls "show me" their hand by following strength with further strength." The market did not show strength, as the recent sector update noted, and we fell back to the bottom of the multi-week trading range.

As an aside, let me emphasize that everything I've been writing lately regarding identifying and trading markets that are in ranges, as well as identifying and trading breakout moves, applies to swing time frames as well as intraday ones. This is why my morning Twitter posts at the start of the trading week emphasize weekly as well as daily price targets for the S&P 500 Index. What looks like a trending move on the day time frame may be a swing within a multi-week range. Knowing what is happening at the time frame just above the one you're trading is key to framing and executing trade ideas.

Because we're at the bottom of a multi-week range, we need to see if the market will once more hold its lows, which would target a move back to the intermediate-term pivot in the mid-830s in the S&P futures or whether we sustain a breakout move to the downside to test the November bear market lows.

Despite the sector weakness mentioned above, stocks are not in an oversold position in the Cumulative Demand/Supply Index (top chart) and continue to make successive peaks in Cumulative Demand/Supply at lower price highs. This is what we'd expect in bear market mode, as noted last week. New 20-day lows have once again begun to outnumber 20-day highs (middle chart); we need to see that continue to sustain a bear leg down.

The Cumulative NYSE TICK (bottom chart) has been toppy, but remains well above its November lows; that is noteworthy. On a break of the recent support and any test of November lows, it's quite possible we'll see a divergence in the Cumulative TICK, given recent strength. A close look at the advance-decline lines specific to various market sectors (Decision Point is a good source for these data) also suggests the possibility of divergences on further market weakness. For instance, the advance-decline line specific to Dow Industrial stocks is already near bear lows, but the line for NASDAQ 100 stocks is well off those lows and near multi-week highs. The line for Financial shares is near its bear low, but the line for Health Care and Energy stocks is well off those lows and also near multi-week highs.

For now, we're in a wide trading range with choppy, volatile trading and playing that range has been the winning strategy. I will be updating indicators daily via Twitter (free subscription via RSS), along with intraday market observations, to track strength and weakness at short- and intermediate-term horizons.

Below are relative volume numbers for this coming week to tell us if participation of large traders in the ES contract is significant on market moves:

8:30 - 224,335 (57,912)
9:00 - 191,149 (46,133)
9:30 - 151,742 (50,625)
10:00 - 134,700 (68,832)
10:30 - 104,551 (62,872)
11:00 - 101,011 (42,410)
11:30 - 88,368 (32,974)
12 N - 108,429 (36,033)
12:30 - 118,164 (49,088)
1:00 - 125,444 (53,390)
1:30 - 134,227 (56,771)
2:00 - 173,159 (52,533)
2:30 - 228,664 (82,710)
3:00 (15 min period) - 93,531 (25,377)

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Sector Update for February 16th

Last week's sector review found that we were getting bullish short-term trend readings for most of the eight S&P 500 sectors that I track. That post stressed, however, that, in order to achieve an upside price break, we needed to see Demand exceeding Supply (i.e., more stocks closing above their moving average volatility envelopes than below) and new 20-day highs outnumbering new lows. We could not sustain that indicator strength and now have moved back to the bottom end of the recent trading range between 800 and 876 on the S&P 500 Index.

Here are the Technical Strength readings for the eight sectors as of Friday's close. Recall that Technical Strength for each sector varies from strong downtrend (-500) to strong uptrend (+500), with values between +100 and -100 indicating no dominant trend:

MATERIALS: -400 (45%)
INDUSTRIAL: -300 (28%)
CONSUMER DISCRETIONARY: -320 (26%)
CONSUMER STAPLES: -220 (33%)
ENERGY: -160 (53%)
HEALTH CARE: -180 (76%)
FINANCIAL: -300 (15%)
TECHNOLOGY: -60 (54%)

We can see that the short-term trends have turned bearish for the economically-sensitive sectors, such as Materials and Consumer Discretionary stocks, as well as Industrial and Financial issues. Technology has shown relative strength, as has the NASDAQ 100 Index overall.

On a somewhat longer time frame, in parentheses above, we can see the percentage of stocks in each sector that closed above their 20-day moving averages, as reported by the excellent Decision Point site. Only three of the eight sectors show more than half their stocks trading above that benchmark, compared with seven last week.

Clearly we've weakened since last week and now are testing major support in the 800 area of the S&P 500 Index. We closed Friday with new 20-day highs across the NYSE, NASDAQ, and ASE at 492; new lows were 596. As long as we cannot sustain a plurality of new highs, I expect the market to breach that 800 level and test the bear market lows of November. As always, I will be tracking new highs/lows, Demand/Supply, and the percentage of stocks above their moving averages via Twitter each morning before the market open (free subscription via RSS).
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Turning Trading Rules and Plans Into Commitments

Saturday's post on following trading plans emphasized that our actions are intimately related to our states of mind. When we undergo state shifts, our perspectives change, and those can alter our priorities. What seemed urgent in one frame of mind becomes lost in another. This most often occurs during trading when profit/loss (P/L) concerns take front and center stage, obscuring our best laid plans for our positions.

The links from the earlier post cover a variety of reasons why traders lose their discipline. There is, however, another reason why traders find it difficult to follow the plans they set: their plans aren't truly plans.

To understand this, consider the difference between plans and intentions. If I tell myself that I need to go to the gym and get into shape, that's an intention. It is not a plan. If I actually join a gym, sign up for classes, set up a schedule for exercise, and create weekly goals for how often I'll exercise and how much weight I'll lose, that is a plan.

Similarly, I might intend to take my wife on a trip that will help her get away from work stress. That is very different from actually planning the trip by discussing it, creating an itinerary, shopping for best airfares, etc.

Intentions are thoughts of future actions, often accompanied by "should". Plans require action--taking steps in the present to achieve the desired end--and they often have a social and motivational component. A business plan, for instance, is much more than intended success; it can be vital in attracting investors and key employees. Because intentions lack committed action, they are generally weaker than plans. We're likely to break a New Year's intention, but less likely to break those vacation plans once they've been formulated with a spouse.

Many traders formulate intentions for their trades and then wonder why they have veered from their "plan". When I ask to see their plan, however, there is nothing written down; nor is there anything specific that has been planned. To be sure, high frequency traders are not going to formulate detailed plans for each trade. In their case, trading rules about such matters as execution, sizing, and risk control would take the place of unique plans for each position. Often, however, I'll hear from "scalpers" that they've violated their discipline. When I ask which rules they've violated, they cannot give a ready answer.

My response is that you can't violate a discipline that isn't there to begin with. The problem is not that an excess of emotion interfered with their plans and rules. Rather, they were never sufficiently planful and rule-governed to begin with.

The single greatest way to build discipline is to turn rules and plans into commitments. That means that you have to give those rules and plans distinct life of their own. The more you think of them, look forward to them, talk them to others, write them down, grade yourself on them, reward yourself for them--the more real they become. You are most likely to abandon rules and plans that haven't been internalized as commitments.

Please check out the comment of reader Adam following the post on learning to think like the herd, but not follow the herd. You'll gain a valuable lesson in turning rules and plans into routines and commitments. Adam's observation regarding the value of checklists in high risk professions is excellent. He explains, "Trading is a matter of repeating over and over again behaviors that trap errors before they are released into the market".

Intentions aren't strong enough to trap errors. To catch the mistakes before they're released, you need the emotional force of commitments and the reliability of routines. Turning intentions into checklists and checklists into commitments is a great way to ground yourself in best trading practices.
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Featured Site Seeing: Cara Community

This begins a new Trader Feed feature in which I highlight interesting financial websites that you might be unfamiliar with. None of these mentions have been solicited; rather, I have been scouring sites to find new and fresh perspectives for traders and investors. I will continue to track these sites via my Twitter links.

Today's featured site is Cara Community, hosted by Bill Cara. His week in review post is an excellent review of economic data, sector performance, bonds and yields, commodities, and more. His commentaries and community chats also bring considerable feedback from readers, often in response to his strongly held views.

My favorite sites are ones which make me look at data in new ways, think about new issues, and view old issues in new ways. I believe that's what Cara Community is trying to accomplish.
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Shane Battier and the Dynamics of Success

I'm not usually one to gush about articles, but the NY Times Magazine piece on Shane Battier is an absolute gem. Although he is not the most physically gifted and talented athlete in the NBA, he has found his niche in pro basketball. The article does a great job of illustrating that niche and demonstrating how Battier has developed and maintained it.

The implications for trading are enormous. Here are just a few:

1) Your success comes from knowing and accepting your strengths and limitations;

2) Your edge has to be cultivated on a continuous basis; you have to adapt to the game faster than it adapts to you;

3) You don't have to be freakishly talented to find success, but you do have to be freakishly devoted to exploiting your edge;

4) It's amazing how much you can accomplish when you are focused on the game and not ego-focused;

5) Study, study, study the numbers: Success comes from knowing who you're up against better than they know themselves.

Battier comes across as a bright, dedicated professional. Because he is such an intense student of the game, he finds opportunity where others do not. The dynamics of success aren't so different in athletics, markets, business--and life itself.
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Deflation vs. Stagflation: Choices Facing an Insolvent Government?

Much attention has been given to the issue of whether or not major banks are solvent. But how about the federal government? Is it solvent? Much of the answer depends upon how one accounts for assets and liabilities on the federal balance sheet. A recent article, quoted below, raises doubts about the budgetary health of the government:

"Truthfully," Williams pointed out, "there is no Social Security 'lock-box.' There are no funds held in reserve today for Social Security and Medicare obligations that are earned each year. It's only a matter of time until the public realizes that the government is truly bankrupt and no taxes are being held in reserve to pay in the future the Social Security and Medicare benefits taxpayers are earning today."

The $65.5 trillion total federal obligations under GAAP (Generally Accepted Accounting Practices) accounting not only now exceed four times the U.S. gross domestic product, or GDP, the $65.5 trillion deficit exceeds total world GDP (my emphasis).

Thus far, U.S. Treasury instruments have been viewed as safe havens, so there has been little concern over stimulus solutions that add massive debt to a debt-laden balance sheet. At some point, the appetite for expanding Treasury issuance will falter, as countries are challenged to raise their own funds and stimulate their own economies.

At that juncture, will we have rising rates in a fragile economy, adding to deflationary forces? Will the Federal Reserve need to monetize debt by aggressively purchasing Treasuries further out on the yield curve, courting significant inflation? Gold has been holding its own vis a vis other commodities and especially vis a vis non-U.S. currencies; so far, it seems to be betting that a deflation-wary Fed will choose a stagflationary path.

A Simple Trading Template

This evening I was listening to Peter and Anette and realized that the idea with the trading posts on this blog is not for readers to follow me; rather, the purpose is to model a way of thinking about markets that may be helpful in shaping your own trading methods. Here's a very simple template that has aided my thinking about markets as they trade in real time:

1) Market opens above or below the previous day's pivot on low volume and relatively narrow breadth and TICK: Play for a move back to pivot and consider a range day, with moves oscillating around VWAP;

2) Market makes a good move on strong/weak TICK and average or above volume early in the AM and holds above/below pivot on next pullback: Play for a move to the overnight high/low and/or the previous day's high/low;

3) Market makes a move above/below its overnight high/low early in trading on strong/weak TICK and average or better volume: Play for a move to previous day's high/low and R1/S1;

4) Market makes a move above/below R1/S1 early in the day on strong/weak TICK and average or better volume: Play for a move to R2/S2;

If you are playing for a move to the next price target, pullbacks ideally should not pierce the prior level (e.g., if you have broken above the previous day's high, the next pullback should stay above the overnight high in order to play for a move to R1.)

If you are playing for a directional move up/down, price should stay above/below the day's VWAP.

If you are playing a range market, you should fade moves away from VWAP that cannot sustain upside/downside price targets.

Your entries should provide you with favorable risk/reward, so that you'll make more on a trade that reaches your target than you'll lose if you're stopped out.

My Twitter posts in real time and upcoming posts will illustrate some of these ideas in practice. The links below will orient new readers to some of the price target terminology:

Defining Profit Targets

Using VWAP to Figure Out the Day Structure

Recognizing and Trading Range Days

Recognizing Breakout Moves

Recognizing Upside Trend Days

Recognizing Downtrend Days

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Why Can't I Follow My Trading Plans?

An experienced trader writes to me:

I wondered if at some point you could re-address or provide links to
brief solutions for not staying committed to one's daily plan.  Today
was an excellent example.  After a breakeven morning with two decent
ideas which didn't pan out, I crunched some numbers which suggested
that the late afternoon, specifically the last hour, could be weak as
much as 1% down by the close and at worst maybe about .5% against me
(lower probability).  I went short ES @ 829.50 around 2:45.  The mkt
floundered around and by 3:53, I think, it's not going to happen today
and I don't feel like going home with a loss if the big boys try to
squeeze them at the end of day.  So I cover with a 1/2 pt loss and
within 2 minutes the market begins to slide, cracking 10 pts by EOD.
Let's just assume the idea was randomly good or bad, I can still
estimate thousands (if not tens of thousands) of dollars in
opportunity cost over time, i.e. selling a winning trade @ 330 pm
instead of at the close per entry time plans for time and/or price.

All of us have experienced the frustration of bailing out of a trade prematurely, only to see it go our way. What makes it so difficult to stick with trade ideas and plans?

I'm going to use more than one post to address this question, because it lies at the heart of trading psychology. Indeed, it was my own experience as a trader--seeing that I was making all of the common mistakes that traders make, despite my background in psychology--that led me to write my first book in the area and examine the role of consciousness in decision-making.

The gist of what I described in the book was that, when psychological impediments to good trading occur, it is because the state of mind and body that we're in when we're executing or managing the trade is different from the state in which we formulated the trade idea.

From this perspective, all of the brief therapy techniques that I discuss in my subsequent books--cognitive, behavioral, dynamic, solution-focused methods--have the same purpose: to create consistency in our conscious awareness, so that we view markets through one, clear set of lenses throughout a trade.

What derails traders is that, at some point, we switch perceptual lenses and view the trade through the lens of profit/loss (P/L), not through the lens of probabilities, risks, and rewards.

That appears to be the case with the trader above. The key to his dilemma is that he had a breakeven morning, with two "decent" ideas that didn't pay him out. That set the stage for frustration. When he contemplates the third idea leaving him in the hole and says, "it's not going to happen today and I don't feel like going home with a loss", now he is P/L focused, not market focused. He is managing his feelings about the day's trade, not the trade he has on.

Performance anxiety occurs whenever our concerns over the outcome of a performance interfere with the process of performing. If our P/L focus exceeds our plan focus, we will tend to act impulsively to allay our P/L concerns, thereby violating trading rules and plans. Under conditions of frustration and anxiety, our perception becomes tunnel-visioned: we act to reduce our distress, rather than to maximize our opportunity.

Below are links that address this issue from different perspectives. In forthcoming posts, I will elaborate on solutions that aid in consistency of thought and action.

RELATED POSTS:

Top Ten Reasons Traders Lose Discipline

Discipline Problems as Symptom of Other Problems

Trading Discipline as Cause and Effect of Trading Problems

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Using Price Levels to Frame Short-Term Trades

If you review this morning's Twitter comments, you'll see that signs of range bound action were present in the first half hour of trading. (Check out this post regarding trading range bound days). Recall that the R1/S1, R2/S2, and R3/S3 upside/downside pivot-derived price targets represent price levels that we are likely to hit on roughly 70%, 50%, and 30% of trading days, respectively. When we identify a likely range day, what we're saying is that this is one of those roughly 30% of occasions in which price is unlikely to hit either R1 or S1 levels.

With that in mind, and knowing that range days tend to oscillate around the day's VWAP (green line above = 20 period VWAP MA), we can formulate more modest price targets for range days. For example, we came into the session expecting some weakness following the strong reversal day. Seeing that we opened above the pivot level from the prior day (bottom horizontal blue line above), led to the idea, mentioned in the Twitter comment, of a retracement to test that pivot level. Overall, 75% of all trading days touch their pivot levels at least once during the regular trading hours; that proportion is higher during range days. Seeing early weakness in trading set up that move in the opening half hour.

Similarly, the trader who saw that we were holding above the overnight lows and pivot on subsequent weakness could anticipate a test of the previous day's high (top blue horizontal line), per this morning's Twitter comment. Overnight highs and lows, as well as previous day's highs and lows and--of course, VWAP-- represent modest price targets that we are likely to test even on days that don't run to the R1/S1 levels. Knowing these levels--and closely tracking how we're trading during the day--can help traders set up worthwhile short-term trade ideas.

Twitter is a particularly helpful tool for messaging about these levels and patterns as they emerge. The latest five "tweets" appear on the blog page under "Twitter Trader"; subscription for real-time tweets via RSS is free. I'll be posting additional market-based tweets next week.
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Think Like the Herd, But Don't Follow the Herd

One of the most common trading problems I'm hearing about in 2009 is losing money by jumping aboard market moves (or adding to positions once they go their way) and then getting caught in reversals. We can think of markets as being either volatile or non-volatile and either trending or non-trending. In many ways, the most difficult trading environments are volatile and non-trending, because the moves can be sharp and yet won't follow through over the next time frame.

As I write this, we are trading at almost exactly the same price in the S&P 500 Index (SPY) as we traded on October 27, 2008. That is several months of going nowhere. During that time, however, intraday movement has been considerable, with a median daily high-low range of 3.8%. While this environment poses potential opportunity for nimble daytraders, it has proven challenging for those who hope to identify and ride short-term trends.

A key challenge for developing traders is learning to not overweight recent price movement in anticipating future movement. Just because a market is up during the overnight session doesn't necessarily mean that there is a bullish edge from open to close. Simply because the market is down over the last few days doesn't provide an edge for selling over the following several days.

It is human nature to fall prey to recency effects: what happened last often most stands out in our minds. We see a short term pattern of bars on a chart or a trendline, and our inclination is to see those extending into the future. With so many market participants trading at intraday and swing time frames--and managing their longer-term trades with shorter-term adjustments--by the time the market has moved in one direction for several days, the majority of players are already on board and leaning for further movement. When the market fails to go their way, they have to unwind their positions, adding to the reversal movement.

A big part of short-term trading success is recognizing when players are overloaded in one direction and about to reverse positions.

As a little exercise, I took a look at SPY when the market was up or down over 1% from the open two days ago to today's open. I call that the market context. I then examined what happened when the market was up from open to close following a bullish market context (up over 1% from the open two days ago to today's open) and when the market was down from open to close following a bearish market context.

Since 2000, when we had a rising day session following two days of good gains, the next five days in SPY averaged a loss of -.56% (113 up, 128 down). Conversely, when we had a falling day session following two days of good losses, the next five days in SPY averaged a gain of .46% (135 up, 103 down).

Particularly at short time frames, so much of trading success is being able to think like the herd, but act counter to the herd.

RELEVANT POSTS:

Why It's So Easy to Lose Money in Markets

Most Important Reason Why Traders and Investors Lose Money

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Upside Reversal Days in the Stock Market: What Comes Next?

On the heels of the recent post regarding historical trading patterns, several readers emailed me with questions. One obvious question was how one knows which patterns to test out.

The general rule is that you want to investigate whatever makes the current market distinctive. If the market has been unusually weak, you want to see what has happened in the past following such weakness. If the volume is particularly low, it makes sense to see what has happened following those slow markets. The best edges follow markets that are extreme in some fashion. Average markets yield average outcomes; it's the unusual markets that tend to be associated with unusual edges.

I joked in this afternoon's Twitter comment that there would be some talk of plunge protection teams in the wake of a ferocious late session rally. It was fortuitous indeed that we got an announcement of a (not fully detailed) housing program just as the S&P was challenging important support. Conspiratorial thinking aside, it was a ferocious rally indeed taking the market from its lows to well above its opening price.

That's an unusual upside reversal, so it makes sense to ask the question, "What has tended to happen going forward when the market has reversed from a sizable loss to a sizable gain?" I went back to the start of 2000 in the S&P 500 Index (SPY) and examined past occasions in which the index (like today) moved more than 1% below its open before closing more than 1% above its open.

Out of 2287 trading days, only 38 have shown such strong upside reversals. Four days later, SPY was down by an average of -.61% (17 up, 21 down). Across all other occasions, SPY averaged a loss of -.05% (1159 up, 1090 down). While a trader might be tempted to conclude that strong upside reversals represent trend changes and lead to further strength over the next week, that hasn't proven to be the case since 2000.

Many times, historical observations act as a check on our assumptions. That is valuable psychologically, as well as in formulating trading strategy.
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Historical Patterns in Markets and Trading Hypotheses

Yesterday morning, I posted the following via Twitter:

7:24 AM CT- When Supply > 200 since late 2002, next day in SP averages gain of .69% (14 up, 7 down), but edge is bearish 4 days out.

Regular readers of the blog are aware that Demand and Supply represent indexes of the number of stocks that close above and below the volatility bands surrounding their short-term moving averages. A reading greater than 200 for Supply is unusually weak; only 21 previous days since late 2002 saw a similar proportion of stocks closing below their moving average envelopes.

Interestingly, the pattern showed that the next day following such weakness tends to produce a bounce, though the edge turns bearish thereafter. This pattern made sense to me: after a big selloff day, short-term participants are leaning bearish and have to cover on any market firmness. This contributes to the firmness and leads to a market bounce. The greater trend, however, is bearish, as the bounce is usually modest relative to the magnitude of the selloff that produced high Supply. Thus, the trend tends to continue after the bounce day.

What does knowing such a historical pattern accomplish? At the very least, it can serve as a heads up to prevent traders from blindly assuming that a very weak day will necessarily spill over into weakness the following day. Beyond that, the historical pattern can suggest worthwhile trade ideas. Seeing that the ES was holding overnight above its previous day's low, buying on weakness for a break above the overnight high was a reasonable short-term trade idea.

In my new book, which will be out next month, I devote an entire chapter to historical patterns in markets and how to identify them with simple tools: a data feed and Excel. The key point I make in the chapter is that such pattern identification represents qualitative, hypothesis-generating research, not necessarily hypothesis testing research. In other words, the historical patterns should be treated as market hypotheses that we test out with our trades; not as established, fixed conclusions that we trade mechanically, heedless of present price and volume action.

If you knew, for instance, that 2/3 of all warming days after a cold spell tended to be rainy days, you'd think seriously about bringing an umbrella to work. That information would be a heads up to prepare you for what might lie ahead. Similarly, historical patterns in markets provide possible road maps that reflect where markets have headed under conditions similar to the ones we're observing today. The key to utilizing this information is to treat it as a meaningful hypothesis, not as an opinion to marry. Indeed, if markets start behaving contrary to this road map, that too is important information: situational factors are at play that are leading the market to deviate from its historical expectations.

I will continue to offer some historical patterns via Twitter when they make particular sense to me. (Free subscription via RSS). If you're interested in generating more market hypotheses, other sites that conduct worthwhile historical research include Market Tells, SentimenTrader, Quantifiable Edges, Market Rewind, VIX and More, BZB Trader, Market Sci, and Ripe Trade.

RELEVANT POST:

Historical Patterns and Regimes

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Anticipating Volume for the Coming Trading Day

I notice that the Twitter Trader feature logged its 5000th posting today. I hope today's morning "tweets" were helpful, as it became relatively clear early in the trading session that we were seeing range bound conditions. (See the Twitter page for a complete set of tweets, as well as the link for free subscription via RSS). As I emphasized in the recent posting on range trading, identifying such sessions early is key to formulating a trading strategy for the day.

One of the important implications of a range day is that we're less likely to hit the R1/R2/R3 and S1/S2/S3 targets that I post each morning before the open. Instead, we're more likely to oscillate in a relatively low volatility band around the day's volume-weighted average price. Tempering one's expectations is helpful to one's psyche, as well as one's trading.

But is it possible to anticipate likely volatility and opportunity *before* the trading day begins? In a recent post, I stressed the importance of the overnight trading range. Perhaps we can look to the activity of the market before the open as a way of anticipating activity early in the morning session.

To examine this issue, I went back to early January (N = 26 trading days) and looked at the volume in the ES contract between 17:00 CT and 8:30 CT to see how it has correlated with volume from 8:30 CT to 10:30 CT. Interestingly, busier pre-opening sessions have been associated with busier early morning sessions, with a correlation of .65. To put that into perspective, over 40% of the variance in early morning volume can be explained by volume prior to the market open. Since we know that early morning volume correlates .70 with early morning volatility (size of trading range), knowing the relative volume of the pre-opening hours provides a bit of a heads up for morning participation and possible volatility.

For number fanatics out there, the median volume for the pre-opening hours in the ES contract has been 203,772 contracts, with a standard deviation of about 57,000 contracts. Because pre-opening volume represents participation triggered by overseas events and pre-opening economic reports, it makes sense that conditions favorable to activity before the open will also lead to activity after the bell. I'll be watching this indicator going forward as part of my efforts to proactively identify day structure and opportunity.
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Breakouts From Trading Ranges: Making the Identification

Recent posts have looked at identifying range days in the market, as well as uptrend and downtrend days. In this post, we'll take a look at Tuesday's market and the breakout moves that represent transitions between range and trending modes.

During a trading range, bullish and bearish traders position themselves for directional market moves. As a rule, the longer the trading range, the more supply and demand is committed in this directional manner. When the market legitimately breaks out of the trading range, two things happen: traders and investors jump aboard the move to ride the emerging trend and those positioned counter to the breakout bail out of their positions.

The combination of traders jumping aboard the breakout and those frantically exiting their positions creates enhanced volume on the breakout move. This volume is the market's way of telling us that large traders are accepting a new definition of value: one that is above or below the average price that prevailed during the recent trading range.

In the 30-minute chart of the ES futures above, we can see the bottom of the trading range defined by the horizontal blue line. Notice that, when we broke that support, volume picked up dramatically (blue arrow). Indeed, if you look at the expected, median volume for the 10:00 AM CT bar, as outlined in my Monday indicator post, you'll see that volume on the breakout ran 3-1/2 times its recent norm. Because this was not a small range--it extended over a several day period--many traders had to exit their longs, even as traders jumped aboard short positions. It is that acceptance of lower value--fueled by traders leaning the wrong way, as well as those piling into the move--that ensures that the downside breakout becomes a downward trend.

That last sentence is important, because it suggests that you don't have to predict the breakout move in order to benefit from it. If a genuine breakout move from an extended range represents a transition to a trending market, then the first pullback after the break represents a worthwhile entry in the direction of the new market direction. Many traders lament "missing the break", when they could have made money simply by following it. They don't make the identification that genuine breakouts from extended ranges become trends.

The key, then, is recognizing when a breakout is a genuine one and when it is false. Markets can move out of their ranges, only to fail to attract volume/participation and fall back toward their volume-weighted averages (i.e., their previous estimates of value). The ES contract, for instance, made a marginal day-over-day high on Monday, but many stocks did not participate in this move; the advance-decline figures were tepid. Knowing the characteristics of genuine breakouts is essential to traders at all time frames.

Other than the expansion of volume on the move, we should see several other features of range breakouts:

1) Sectors that have been leading the market (in the recent market, the financial shares) should lead the market in the direction of the break;

2) The vast majority of sectors should participate in the break, expanding the plurality of advancing or declining stocks;

3) The market should stay below its volume-weighted average price (green moving average line in the chart above), as it searches for new, lower levels of value;

4) Because the break represents a revaluation process, we should see similar revaluations among related asset classes, such as Treasury instruments, commodities, and currencies, as investors and traders either seek greater risk or seek to avoid it.

Notice that prior levels of support or resistance often become important reference points for breakout moves. If you go back to my Twitter posts, you'll see that I emphasized the 850 area as important, because that represented the breakout point for the market's recent move to the upside. To sustain that uptrend, we needed to stay above the previous trading range. Once the market broke 850, the uptrend was violated. Indeed, the entire downtrending move during the day on Tuesday represented a move back into a longer term range that extends from the 870-area tops from late January and Monday to the lower 800 area. That larger time frame picture is important in framing price targets for the trending move that emerges from the breakout.

RELATED POSTS:

Making the Breakout Trade

Identifying and Trading Breakout Moves

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Slice of Life for a Trading Coach

My day started at 4 AM, New York time with email and phone chats with traders, followed by a steady stream of meetings beginning at 6 AM. I finished the day early, but it was no problem for the car service to pick me up in advance to take me to LaGuardia for the flight back to Chicago.

Chatting with the driver, I found out why the car was so available to pick me up early: business was down 50% compared to the same time last year. "Sometimes we have to wait a few hours to get a ride," the driver explained. Indeed, he pointed out that he was working 16 hour days to make the same amount of money he used to make in a normal work day.

Traffic was not too bad, so I got to the airport at 12:20 PM. I gave the driver a nice tip, went to the kiosk to print out my boarding pass, and then went to the customer service line to see if I could standby on an earlier flight. There was no line at customer service. The agent smiled and told me I could get a great seat on the next flight at 1 PM. "We have lots of open seats," she explained.

I then went through security. The TSA agent told me I didn't have to go through the "priority" line as a frequent flier; there was no one else on *any* of the security lines.

Now this isn't some dinky backwater county airport. This is LaGuardia airport in New York City. No lines at customer service. No line whatsoever to get through security.

And why?

The flight was only about 25% booked. There were many more empty seats than filled ones.

Unbooked cars. Empty airports. Unfilled planes. Just a little slice of life that reminded me of what a severe recession this truly is.
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Understanding the Stock Market's Overnight Range

The previous post took a look at characteristics of non-trending, range days in the market; prior posts have examined uptrend days and downtrend days. Once you have an idea of the structure of a market day, you can plot a strategy for trading that day's market. That is essential for daytraders, but also aids longer time frame traders and portfolio managers in the execution of their ideas.

The overnight S&P emini market (ES futures) represents how value in the U.S. stock market is impacted by evening news events, overseas markets and news, and early morning economic reports. Is the overnight market trading within yesterday's value area (i.e., near yesterday's pivot price)? That suggests that events have not materially moved investors; often this leads to a quiet market open.

As a rule, the first price levels we'll test off the market's opening range will be the edges of the overnight range. A market that opens near the middle of its overnight range, moves lower, but cannot sustain a move below the lows of the overnight range is setting up a trade back into that range. In other words, we treat the overnight session as if it were a separate trading day unto itself. If the overnight market is trading within yesterday's regular session range, we look for a break above or below the overnight range to target a move to the prior session's highs or lows. Historically, 85% of all markets will *not* be an inside day; i.e., will pierce either their prior day's high or low.

Many worthwhile ideas about the day's structure can be derived from understanding the relationships among yesterday's range, the current day's overnight range, and the current day's opening price range--particularly when we place these in the context of volume, which represents the participation of large trading institutions. This will be the topic of upcoming posts.
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Recognizing Range Days in the Stock Market

If you take a look at today's Twitter posts, you'll see that early in the morning, I raised the issue of range bound trade for the day. A range day is one in which the market oscillates above and below an average price that represents the market's evolving estimate of value. As I outlined in an earlier post, I use volume-weighted average price (VWAP) for this purpose.

Once you identify a range day and its "fulcrum"--its average trading price--then your strategy for the day is to observe moves away from this average, gauge the interest that higher or lower prices attract, and--if we do not see an influx of fresh buyers or sellers--fade those moves for a return within the range. This is where relative volume (see my indicator update for the latest volume benchmarks) is quite helpful. When markets see lower than average participation on moves away from the average price, it means that large traders are not accepting the higher or lower estimates of value. It is this lack of acceptance that leads to retracements back into the range--those oscillations around VWAP that characterize range days.

There are many other clues regarding range days, including mixed performance among sectors, modest advance-decline pluralities (a relatively even level of advancing and declining stocks), and a failure to break out of an overnight range early in the trading day. Once you have observed enough range and trend days, you become sensitive to these clues and more able to act on them early in the session. I've received favorable feedback about the Twitter posts in this regard (free subscription via RSS) and will continue to post morning market observations when I am not on the road and working with traders.
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Indicator Update for February 9th

Last week's indicator review found that weakness was present, but that selling pressure was muted. I noted that a drying up of selling was necessary for putting in a durable market bottom, but was not sufficient. What we also need to see is an expansion of buying interest.

That buying interest showed itself late in the week, with a notable gain on Friday on strong money flows. This turned the major S&P 500 sectors bullish, though not at overbought levels of Technical Strength. Reflecting that strength, by Friday new 20-day highs among NYSE, NASDAQ, and ASE stocks were once again outnumbering new lows (middle chart).

Interestingly, my Cumulative Demand/Supply Index, which has done a respectable job of catching intermediate-term highs and lows, is now at levels typically seen near market highs. In a bull market, we can see overbought Cumulative DSI readings sustained over time, as the market ratchets higher, with more stocks trading above their short-term volatility envelopes (Demand) than below (Supply). Conversely, in bear markets, these elevations of Cumulative DSI tend to become opportunities for sellers to get good prices, sustaining the downtrend.

We continue to see peaks in Cumulative DSI at successively lower price highs, which--as noted in last week's update--is a hallmark of a bear market. I am watching carefully to see if the major indexes can sustain a move above their late January highs, or whether we will continue to languish in a wide trading range between the high and low 800's in the S&P 500 futures. As of Friday's close, new 20-day highs are above their late January levels, but well off the early January peak. Similarly, we are back to late January levels in Cumulative NYSE TICK (bottom chart), but off the early January level.

In sum, this is a Missouri market: I need to see the market bulls "show me" their hand by following strength with further strength. Continued strength in the Cumulative TICK line and continued expansion of 20-day new highs among stocks are two things I'll be looking for in this "show me" mode, as we see if the market can break above significant resistance in the low 900 area. Without such follow-through strength around our current level of trading, a fall back to the longer-term VWAP level of 839 in the ES futures would be a reasonable intermediate-term expectation.

As I've indicated in past posts, I use Relative Volume to gauge current market volatility and the odds of hitting the price targets that I post each morning via Twitter, along with updates of the above indicators (free RSS subscription). For those who track Relative Volume, here are the 30-minute median volume figures for the ES contract going back to early January. Standard deviations are in parentheses:

8:30 - 231,251 (60,713)
9:00 - 190,741 (48,962)
9:30 - 144,204 (54,835)
10:00 - 130,304 (35,418)
10:30 - 103,570 (37,202)
11:00 - 100,055 (44,439)
11:30 - 85,044 (35,845)
12 N - 104,466 (32,523)
12:30 - 115,163 (53,373)
1:00 - 125,341 (56,872)
1:30 - 132,304 (56,906)
2:00 - 170,241 (43,477)
2:30 - 229,581 (70,819)
3:00 (15 min period) - 92,726 (25,918)

Watch for early Monday morning Twitter posts for daily and weekly SPY price targets. If you don't subscribe to the free service, you can see the last five "tweets" on the blog page under "Twitter Trader". Have a great week trading.
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Sector Update for February 8th

Last week's sector update reported that the eight S&P 500 sectors that I assess for short-term trending were largely in a moderate downtrend mode, with economically sensitive sectors particularly weak and defensive sectors displaying relative strength. I concluded, "Unless we can sustain a situation in which new highs outnumber new lows and confidence comes into the Financial, Materials, and Consumer Discretionary sectors, I expect us to be testing recent market lows." We did, indeed, see prices move toward the bottom their recent range in the low 800s in the S&P 500 futures contract, but firmness late in the week and Friday's sharp rally on strong money flow helped us hold support once more.

Recall that the Technical Strength measure of short-term trending varies from +500 (very strong uptrend) to -500 (very strong downtrend) for each sector, with numbers around zero (-100 to +100) representing a relative absence of trend. Here's how we're looking as of Friday's strong close:

MATERIALS: -220 (59%)
INDUSTRIAL: -120 (52%)
CONSUMER DISCRETIONARY: -160 (54%)
CONSUMER STAPLES: +120 (70%)
ENERGY: +180 (88%)
HEALTH CARE: +140 (93%)
FINANCIAL: -140 (44%)
TECHNOLOGY: +260 (84%)

We can see that, despite the rally late in the week, the sectors are nowhere near levels associated with strong uptrends and thus cannot be considered overbought. Indeed, we still see residual weakness among Materials and Consumer Discretionary shares, as well as Financial issues, though their Technical Strength has improved. Technology is the one sector displaying a clear uptrend; note that the NASDAQ Index is at 2009 highs, even as other indexes lag.

As we look at a longer time frame and the percentage of stocks from each sector trading above their 20-day moving averages, as reported by Decision Point, we see that all of the sectors show a majority of shares trading above that benchmark, with the exception of Financial stocks. Indeed, looking even further out, we can see that over 50% of all S&P 500 stocks are now trading above their 50-day moving averages, up from about 25% early in the week.

This suggests that, with continued support in the low 800 range and Friday's strength, the intermediate-term trend has turned bullish. Among the indicators that I follow daily via Twitter, we will want to see Demand exceed Supply going forward and 20-day new highs outnumber new lows in order to sustain the uptrend and challenge the 2009 highs.
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A Look at Money Flow: Significant Buying at the End of the Week

Money flow for the Dow 30 stocks turned positive for the week on Friday's rally. (See last week's money flow post for an explanation of the indicator and a review of its recent behavior). As we can see from the chart above (click for detail), the steep jump in money flow at the end of the week brought the cumulative flow line to within hailing distance of its 2009 highs. A break above that level would be significant.

In my prior post, I noted that recent flow values were muted. Because money flow is a volume-weighted statistic, low flow numbers suggest diminished institutional participation. Friday's jump in Dow flow of over $500 million was the largest move in the indicator since November 21st. That day represented a leap from the November lows and led to a sharp rally. I will be watching the market's follow through closely early next week for signs that institutions are losing some of their risk aversion and committing capital to equities. As always, money flow numbers will be posted each morning prior to the market open via Twitter (free subscription via RSS).
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Cross Talk: How to Trade

I want to call attention to an excellent series of posts from Trader X. The first post is a reflection on simplicity and the value of using proper tools in trading. Mastering a limited number of setups while honing one's execution and risk management skills is far more promising than looking for ever more reasons to put trades on. Many traders, the author notes, chase success by running from one approach to another, never mastering any. "If you pick something and stick to it, you get good at it. Once you get good at it - once you perfect it, THEN you can add something else to your arsenal," Trader X explains.

In this post, Trader X outlines his rules and setups. Notice that some of the things he does are similar to what has been posted to this blog, such as waiting for markets to show their structure before trading and relying on support/resistance from trading ranges and pre-planned price levels as potential price targets. Other facets of his trading differ from what has been presented here: the reliance on Fibonacci levels, the use of 10-minute charts, and the emphasis upon opening range in setups.

Ultimately, we are all trading the same thing: supply and demand, as they evolve during the day. There are different tools for capturing supply and demand, and there are different languages for describing the use of those tools. The important challenge is to make yourself familiar with the various tools and languages, see how they're used by different traders, and then synthesize your observations into an approach that will crystallize into your own trading style.

It is not so important whether you use tool A or B or one or another language for capturing the use of those tools. I strongly suspect that I could talk about VWAPs and NYSE TICK distributions and pivot levels and Trader X could talk about Fib levels and opening ranges and candlesticks and we'd be saying much the same thing. What is crucial to your development as a trader, Trader X emphasizes, is to settle on the tools and methods that make sense to you and then devote yourself to their mastery. Blogs like his provide the tools; it's up to traders to structure the learning process to build proficiency.

RELATED RESOURCES:

Developing Yourself as a Trader

Learning to Trade Linkfest

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How to Identify and Trade Trend Days to the Upside

As I stressed in a recent post, early recognition of the structure of a trading day is essential to the active trader's success. Today's market gave us an excellent opportunity to observe characteristics common to uptrend days.

Such trend days often begin as upside breakouts from trading ranges. As we can see in the top chart, the 850 level in the ES contract had been a top for the prior two days (horizontal green line). We vaulted above that level early in today's trading; as the middle chart shows, this move was on expanded volatility and volume. In other words, the upside move gained significant participation from large traders.

A second hallmark of uptrend days is that, once the move is initiated, we continue to trade above the market's volume-weighted average price (VWAP), and VWAP itself trends higher. The green line in the middle chart is a 40-period volume-weighted moving average drawn on the five-minute chart. Note that the VWAP line was sloping higher prior to the breakout move and then moved sharply higher as the upside breakout attracted volume. Price stayed above the VWAP line until late in the day, when we saw price begin to oscillate around the line--one possible indication of a transition to a range bound market to start next week.

Yet another hallmark of uptrend days is that we hit the R1 upside price target early in the day, as noted in today's intraday Twitter comments. This shows significant upside momentum and, as my later Twitter comment explained, it set us up for moves to the next (R2, R3) targets over the course of the day, as long as we saw a positively sloped Cumulative NYSE TICK line. Those SPY price targets are posted each morning prior to the market open via Twitter; the last five Twitter posts appear on the blog page, or you can subscribe free of charge via RSS.

The bottom chart displays five-minute bars of NYSE TICK, along with a five-period moving average (blue line). Note how the TICK moving average stays above the zero (green) line throughout the day. This tells you that, on balance, we're seeing more stocks trading on upticks than downticks: the buyers are in control. We can see that the TICK average turned negative late in the day on that move below VWAP, another indication that we were seeing sellers enter the market around the 870 level, which is near resistance from late January.

A final hallmark of uptrend days is that we typically see leading, speculative sectors point the way higher through the day. If you look at a chart of banking stocks during the day ($BKX), you'll see that they exploded higher early in the day and moved steadily higher through the early morning. Confidence/lack of confidence in the banking system has been an important theme for the market, and seeing buying in the banks on the eve of expected stimulus and rescue packages was a positive for the trading day.

When you identify a range day early in the session, you're prepared to fade moves away from the volume-weighted moving average. Many of these moves will revert to the other side of the VWAP line; in a multi-day range, they will also revert to the prior day's pivot level. When you identify a trend day, however, your job is to enter on the first pullback and ride the move higher. By definition, trend days will tend to close near their highs and furthest from their day's open. While trading in and out of a range market can be quite successful, patience and riding a move is often the best strategy for a trend day.
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Selling On Strength Versus Weakness: Implications for Trade Execution

In the recent market, successful swing trading has pretty much amounted to the fading of market swings, particularly the fading of strength. Since 2007 (N = 524 trading days), the average three-day change in the S&P 500 Index (SPY) after a positive three-day period has been -.44% (122 up, 143 down). After a negative three-day period, the next three days in SPY have averaged a dip of only -.08% (144 up, 115 down).

Indeed, if we have made a three day closing high in SPY, the next three days have averaged a loss of -.64% (92 up, 107 down); across all other occasions, the average three-day change has been -.03% (174 up, 151 down).

When new 20-day highs across the NYSE, NASDAQ, and ASE have exceeded 1000, the next three days in SPY have averaged a loss of -.67% (59 up, 87 down). Across all other occasions, the average three-day change in SPY has been just -.10% (207 up, 171 down).

What this tells us is that much of the market weakness during the bear period has occurred following periods of strength. Selling on strength has provided far better returns than selling on weakness. The implications for executing trade ideas are significant.

RELATED POSTS:

Three Qualities of Good Trade Execution

Accuracy, Execution, and Position Sizing

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Cross-Talk: Building Confidence as a Trader

John Forman has an excellent post on his site that outlines practical steps for building trading confidence. He clearly links the psychology of trading--the confidence needed to take risk and weather adversity--to the learning process, emphasizing how the emotional appraisal of one's performance is linked to the development of mastery. Too often, confidence is treated as if it is a simple matter of visualizing positive outcomes and sending oneself ego-enhancing messages. When trading is systematically learned, confidence is earned. No psycho-babble can substitute for the lived reality of making mistakes, correcting them, discovering strengths, and building them.

All that having been said, the average developing trader suffers more from an absence of humility than a lack of confidence. Truly confident rock climbers, for example, trust in their skills, but also respect the mountain and the elements, never taking safety for granted. Similarly, a crack fighter pilot needs confidence to take to the skies, but also needs to never underestimate the enemy. Confidence becomes overconfidence when it is not tempered with humility. There is always uncertainty in markets; confidence allows the trader to put on a position in the face of uncertainty, and humility enables the trader to size the position to weather unexpected adverse outcomes.

Beginning traders are taught to establish, for each position, a profit target and a stop loss exit. The profit target is the expression of confidence; it is the anticipated reward for being correct in one's judgment. The stop loss expresses humility; it is the pre-preparation for being wrong. Humility without confidence breeds anxiety: we cut winning trades before they hit targets, exit trades before they hit stops, and undersize trades. Confidence without humility is what the Greeks called hubris: the pride before many a fall. It is expressed in the refusal to anticipate and take losses, as well as the oversizing of positions.

Much of the psychological challenge of trading is finding the proper integration of confidence and humility. When dollar signs dance across the screen and enter your head, it is easy to veer from overconfidence to underconfidence. To anticipate gain with boldness and purpose, but be prepared for loss with prudence and learning: that is a skill as useful in life as in markets.

RELATED POSTS:

Overconfidence and Underconfidence in Trading

The One Question to Ask When You're in a Trading Slump

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Reflections on Rules For Life

An interesting blog site asks contributors to submit their five rules for life, along with a sentence or two of explanation. It's a worthwhile exercise for reflection, because the rules ultimately have to be expressions of your deepest values and beliefs. Below are the five that I offered:

1) In life, do good and do well. Real success comes from pursuing your talents and enriching the world with their expression.

2) They lead best who follow their calling. Those who follow a genuine calling set an inspiring example with their actions.

3) Not all who rave are divinely inspired. Passion without wisdom is mere noise.

4) True love never dies; it has to be killed. Love is making another's happiness your own.

5) Be your ideals; in some measure, you're already the person you wish to become. Conscious living is striving to be who you are when you're at your best.

What are your five rules? Look at your trading, your relationships--your life: To what degree are you following your life rules? Can you really expect to follow trading rules if you're not true to your life's deepest values and convictions?

RELATED POSTS:

What Trading Teaches About Life

A Life Lesson From Trading

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Trading and Market Psychology: The Best of TraderFeed 2008 - Volume Four

Here is the final installment of the best trading and market psychology posts from the past year, with this group coming from the final quarter of 2008. I have archived links to the first three quarters, as well as the top posts from 2007 and the best of 2006. Happy reading!

Trading the Way You Want to Trade

The Financial Panic of 2008

The Need to be Right vs. the Need to Make Money

Finding Opportunity in Crisis

Two Common Trading Problems

Breaking Problem Cycles in Trading

Five Positive Trading Behaviors

Neuroeconomics and Trading

Learning How to Trade

When to Cut Your Size

Learning to Lose

Learning by Reviewing

Training Traders for Success

A Cognitive View of Trader Performance

Staying Cool in Hot Trading

Creativity and Trading; Conflict and Creativity in Trading

Stress and Trading Performance

Three Common Trading Mistakes

Setting Effective Trading Goals

Turning Goals into Habits

Constructing and Interpreting Cumulative Adjusted TICK

Can I Trade for a Living?

Finding Successful Traders; Five Qualities of Successful New Traders

Trading With a Plan

Implicit Learning and Trading Performance; Implicit Learning and Self-Regulation

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VWAP, Trends, and Consolidations: A Longer Timeframe Look

This morning's blog post took a look at volume-weighted average price (VWAP) as one way of assessing the structure of the trading day. VWAP offers a nice view of market trending, as directional moves that pick up volume move volume-weighted price significantly.

The identification of whether we are in a consolidating environment or a trending one is crucial to traders and investors alike. We can think of any price series as composed of a linear, directional component and an oscillating, cyclical component. A market with no trend whatsoever would oscillate around a fixed price; a VWAP line would be relatively flat (zero slope) and VWAP would be roughly equivalent to the market's opening price.

A perfectly trending environment would show relatively little oscillation around a upward sloping or downward sloping VWAP line: the linear component would be dominant.

Between these two, we can have relatively weak trends in which there is a directional bent to VWAP, but also considerable oscillation around that level. There is not a "goodness of fit" to a trendline in a weak trend: the move proceeds in fits and starts with considerable backtracking on moves.

To the degree we are in a consolidating environment, we want to be fading moves away from the VWAP line. In a weak trend, we fade moves toward or below VWAP and enter in direction of the line. In a strong trend, we will tend to stay above VWAP and, instead, will use shorter-term pullbacks (bounces or dips in NYSE TICK, for example) to ride the directional move.

These ideas regarding market structure and trading strategy apply to multiple time frames. Above is a daily chart of the S&P 500 Index (SPY) and its 20-day VWAP line (green). Several readers have asked about computing/charting VWAP; e-Signal offers it as a moving average option. (My VWAP charts from previous posts were constructed in Excel). By adjusting the lookback period, you can plot a VWAP moving average and see how we are trading relative to that estimate of market value.

Note in the chart above that the VWAP line on the longer time frame has been moving steadily lower. Since October, we have been oscillating above and below the VWAP line in a consolidating market. We can see, however, that the forays above VWAP have occurred at successively lower price highs (blue arrows). This mirrors Monday's observation from the Cumulative DSI. With a downsloping VWAP, we have a weak downtrend and moves to/above the line become candidates for selling. To achieve uptrend mode, we need to sustain trade above VWAP and see a rising VWAP line; the market is not giving us that yet.
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Using VWAP to Determine the Structure of the Trading Day

A review of an earlier post is in order: a market's volume-weighted average price (VWAP) reflects the average price of transactions through the trading day. Knowing where we are trading during the day relative to that day's VWAP is very helpful in identifying the kind of day that we're in.

Above is a chart of yesterday's S&P 500 e-mini index (blue line) vs. its VWAP (pink line). We opened below the market's previous day's close and oscillated around VWAP in the early minutes of trade, moving both above and below the market's opening price. Advance-decline breadth was negative, and we saw a moderate negative bias to the NYSE TICK.

Had this been a strong downtrending day, we would have seen several things:

1) Price moving away (lower) from its opening level;

2) A downtrending VWAP line, as new transactions are occurring at lower price levels and lower prices are attracting further selling volume;

3) Price stays below the VWAP line, as recent transactions are occurring at lower price levels than earlier ones and the lower prices are attracting selling volume.

The fact that we were oscillating around the market opening price for much of the first half-hour of trade was an early indication that this was not shaping up as a strong downtrending day.

Indeed, with the 9 AM CT data, we saw an upside break above the opening range on a positive shift in NYSE TICK. As a result, we traded above VWAP and VWAP displayed an upward slope. If this were going to be a solid uptrend day, we should have seen a reverse of the three conditions above: price moving away from its opening level through the day to the upside; an uptrending VWAP line; and price remaining above VWAP.

By around 9:30 AM CT, however, my short-term moving average of TICK turned below zero. Breadth was still negative in the market, not something we'd expect in a market that had shifted from a down open to a solid uptrend. The market pulled back toward its VWAP line before again marching higher into midday on resumed positive TICK. Breadth remained negative, however, and we again pulled back toward VWAP on negative TICK, before again moving higher.

There was a bullish directional bias to the day from open to close, as we can see from the generally upsloping VWAP line. The entire day, however, traded below the prior day's pivot (average price) level on negative breadth. Moreover, the day could not sustain trade above its VWAP line, oscillating above and below. What that tells us is that we had a relatively weak rally in a downtrending market.

As the earlier VWAP post indicated, VWAP can be thought of as the market's evolving estimate of value. In a weak trending or non-trending market, we will tend to move away from VWAP to probe trader/investor interest. If that interest is lacking, we will tend to gravitate back toward that VWAP value level. In weak trending markets, you want to be fading moves away from VWAP.

Conversely, in a strong trending market, we will see strong or weak breadth becoming more extreme through the day. Price will stay above or below VWAP; there will be a positive or negative slope to a Cumulative TICK line (not oscillation of a TICK moving average above and below zero); and the VWAP line itself will sustain an upward or downward slope. Those are the markets where you want to ride moves higher or lower to R1, R2, R3/S1,S2,S3 price targets.

What is the character of the day you're trading? Where we trade relative to the market open and relative to the day's VWAP will provide important clues. At the very least, it will keep you from assuming trends in weak markets and keep you from fading trending ones.
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Red Light/Green Light Trading System From Henry Carstens

Well, I had just polished off a chart for my next post when an email from Henry Carstens came to my inbox. It appears that he has just put together an automated swing trading system for the S&P 500 Index that is always in the market. The signals typically last between 1 and 12 days and, backtested to 1997, have been accurate 61% of the time for an unleveraged average return of 17% per year.

Henry and I had discussed the idea of turning such a system into a "red light/green light" set of sell and buy signals for traders. It seems as though he's taken the ball and run with it and now is posting the red and green lights free of charge on his website. Sweetness. For those interested in more of Henry's thinking, check out his papers online.
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Indicator Update for February 2nd

Last week's indicator update concluded, "In sum, the indicators are leaning to the downside; as long as that continues, I expect a test of the 800 level and possibly the bear lows in SPX; but I also see evidence of diminished selling pressure during the recent market weakness." After market strength midweek, we saw a notable reversal and, as of this writing, we are hovering just above that 800 level. Weakness has been present across the major sectors that I follow and new 20-day lows are once again outnumbering new lows (middle chart), but downside selling pressure has been muted, as observed in the Dow money flow numbers and the Cumulative NYSE TICK (bottom chart). After the pop during the week took us to overbought status in the Cumulative Demand/Supply Index (top chart), we've since retreated to neutral status.

Take a moment to examine the peaks in the Cumulative DSI since early 2008. You will see that they are occurring at successively lower price levels in the S&P 500 Index (SPY). This is a hallmark of a bear market. While not all dips in Cumulative DSI have terminated at lower price lows, we have not been able to sustain buying interest to make successive price highs. A drying up of selling is necessary to turning a bear market around, but it is not sufficient. We need to see enhanced buying interest--new highs in Cumulative TICK, stocks making new highs outnumbering new lows on a sustained basis, sustained positive money flow--to maintain an upward trend. To this point, such buying interest has been missing. I expect to break the 800 level in the S&P 500 Index and test new bear market lows if that situation persists.

Here are the proprietary weekly price targets for SPY: Pivot = 83.96; R1 = 89.35; R2 = 90.43; R3 = 91.87; S1 = 78.56; S2 = 77.48; S3 = 76.04. Please note that daily targets are published via Twitter prior to each morning update; subscription via RSS is free, and recent posts appear on the blog page under the heading "Twitter Trader".

Blog readers are also familiar with my use of Relative Volume to update probabilities of hitting the various target levels. Here are the 30-minute median volume figures for the ES contract going back to early January. Standard deviations are in parentheses:

8:30 - 240,844 (60,591)
9:00 - 190,333 (54,101)
9:30 - 141,612 (53,167)
10:00 - 125,907 (34,042)
10:30 - 104,164 (39,081)
11:00 - 99,052 (39,906)
11:30 - 88,368 (38,236)
12 N - 108,429 (34,375)
12:30 - 118,164 (48,020)
1:00 - 122,828 (62,572)
1:30 - 134,227 (62,724)
2:00 - 159,926 (47,535)
2:30 - 230,563 (75,639)
3:00 (15 min period) - 97,482 (26,715)

When possible, I will be updating morning Relative Volume observations in real time via Twitter posts. Have a happy and successful trading week.
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Sector Update for February 1st

Last week's look at the eight S&P 500 sectors that I track closely with the Technical Strength measure (a metric that quantifies trending behavior on a short time frame) found that all the sectors were displaying either modest or moderate downtrends, with the greatest weakness among financial issues. That same analysis found that only the Energy sector showed more than 50% of its components trading above their 20-day moving averages. The post noted, "Throughout the week for the market overall, 20-day new lows have consistently outnumbered new highs. Unless and until that changes, the intermediate-term trend has to be viewed as bearish."

Interestingly, we did get a spurt of buying during the week that took new 20-day highs above new lows, but by week's end we had reversed and the new lows once again took the lead. That left most of our sectors in downtrending mode on the Technical Strength measure:

MATERIALS: -380 (10%)
INDUSTRIAL: -240 (22%)
CONSUMER DISCRETIONARY: -240 (11%)
CONSUMER STAPLES: -200 (35%)
ENERGY: -120 (40%)
HEALTH CARE: -200 (59%)
FINANCIAL: -240 (9%)
TECHNOLOGY: -180 (29%)

In parentheses, we can see the percentage of stocks within each sector trading above their 20-day moving averages, as reported by Decision Point. Only Health Care shows more than half of its components trading above that benchmark; note the extreme weakness among Financial, Materials, and Consumer Discretionary shares--all ones that are affected by the current banking crisis and recession. The more defensive sectors--Health Care and Consumer Staples--are showing strength relative to those more economically sensitive sectors.

In short, the new highs/lows, Technical Strength, and themes among sectors continue to reflect bearishness. Unless we can sustain a situation in which new highs outnumber new lows and confidence comes into the Financial, Materials, and Consumer Discretionary sectors, I expect us to be testing recent market lows. As always, Technical Strength for the basket of 40 stocks that I follow, percentages of stocks above their moving averages, and new highs/lows will be updated each morning prior to trading via Twitter (free subscription via RSS).
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Stock Market Sentiment: A Look at Muted Money Flows

Recall that money flow takes the dollar volume of each stock transaction (price times volume) and adds that to a cumulative total if the trade occurs on an uptick; subtracts it from the total if the trade is on a downtick. Because this is a dollar volume-weighted Cumulative TICK, it is designed to capture the buying and selling influence of large trades and, therefore, large traders.

When we add the money flow from all the stocks in an index or sector, we can assess the buying and selling sentiment for the broader market. The top chart shows that the money flow for the Dow Industrial stocks is off its early January high, but also well off its bear market lows. While the market has not been able to sustain the buying interest to sustain a bull market move, neither have we seen intense selling pressure.

An interesting perspective from the bottom chart is the four-day moving average of the Dow money flow, which is neutral as of Friday's close. Note how the four-day average oscillates around the red, zero line. Those oscillations have lost amplitude as the market has been range bound and as VIX has been cut almost in half from its bear market peak. That tells us that we're seeing less intense sentiment on both the buying and selling sides, which of course has been helping to sustain the range market. I will be looking for any pick up in the magnitude of the money flow numbers as one clue as to eventual breakout from the market range.
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