Contents Half Title page Title page Copyright page Dedication Preface Chapter 1: Price Action TREND BARS AND DOJI BARS BAR BASICS: SIGNAL BARS, ENTRY BARS, SETUPS, AND CANDLE PATTERNS SIGNAL BARS: REVERSAL BARS SIGNAL BARS: OTHER TYPES OUTSIDE BARS THE IMPORTANCE OF THE CLOSE OF THE BAR EXCHANGE TRADED FUNDS (ETFS) AND INVERSE CHARTS SECOND ENTRIES LATE AND MISSED ENTRIES Chapter 2: Trendlines and Trend Channels TRENDLINES MICRO TRENDLINES: SMALL, STEEP TRENDLINES IN STRONG TRENDS HORIZONTAL LINES: SWING POINTS AND OTHER KEY PRICE LEVELS TREND CHANNEL LINES DUELING LINES: INTERSECTING TRENDLINE AND TREND CHANNEL LINE Chapter 3: Trends TWO LEGS SIGNS OF STRENGTH COMMON TREND PATTERNS TREND FROM THE OPEN REVERSAL DAY TREND RESUMPTION DAY TRENDING TRADING RANGE DAYS TIGHT CHANNELS AND SPIKE AND CHANNEL BULL OR BEAR STAIRS: BROAD CHANNEL TREND Chapter 4: Pullbacks FIRST PULLBACK SEQUENCE: BAR, MINOR TRENDLINE, EMA, EMA GAP, MAJOR TRENDLINE DOUBLE TOP BEAR FLAGS AND DOUBLE BOTTOM BULL FLAGS EMA AND GAP EMA PULLBACKS 2HM: IF AWAY FROM EMA FOR TWO OR MORE HOURS, THEN FADE EMA AND FIRST EMA GAP BAR TREND DAY 11:30 STOP RUN PULLBACK TO TRAP YOU OUT COUNTING THE LEGS OF A TREND HIGH/LOW 1, 2, 3, AND 4 VARIATIONS OF HIGH/LOW 2 SETUPS THREE PUSH PULLBACKS Chapter 5: Trading Ranges TIGHT TRADING RANGES BARB WIRE MIDDLE OF THE DAY, MIDDLE OF THE RANGE BIG UP, BIG DOWN TRADING RANGES SETTING UP TREND REVERSALS Chapter 6: Breakouts BREAKOUT ENTRIES IN STRONG TREND BREAKOUT PULLBACKS ANDS BREAKOUT TESTS Chapter 7: Magnets MEASURED MOVES BASED ON THE FIRST PULLBACK (AB = CD) MEASURED MOVES ON BREAKOUTS BASED ON THIN AREAS AND ON FLAGS REVERSALS OFTEN END AT SIGNAL BARS FROM PRIOR FAILED REVERSALS OTHER PRICE MAGNETS Chapter 8: Trend Reversals TRENDLINE BREAK TREND CHANNEL LINE FAILED BREAKOUTS: CLIMAXES, PARABOLAS, AND V TOPS AND BOTTOMS SIGNS OF STRENGTH IN THE FIRST LEG OF A REVERSAL TRENDS REVERSE WITH A TEST: EITHER AN UNDERSHOOT OR AN OVERSHOOT DOUBLE TOP AND BOTTOM PULLBACKS CLIMAX: SPIKE AND TRADING RANGE REVERSALS CLIMAX: THREE PUSHES AND WEDGES (TREND CHANNEL LINE OVERSHOOTS AND REVERSALS) EXPANDING TRIANGLES Chapter 9: Minor Reversals: Failures FAILED SIGNAL AND ENTRY BARS AND ONE-TICK FAILED BREAKOUTS FAILED HIGH/LOW 2 FAILED HIGHER HIGH AND LOWER LOW BREAKOUTS FAILED TRENDLINES AND TREND CHANNEL LINES FAILED REVERSALS FAILED FINAL FLAGS: TIGHT TRADING RANGE FAILED FINAL FLAGS: HUGE TREND BAR FAILED WEDGES FAILED SCALPS: FIVE-TICK FAILED BREAKOUTS AND FAILURE TO REACH A SCALPER’S PROFIT TARGET Chapter 10: Day Trading SELECTING A MARKET TIME FRAMES AND CHART TYPES GLOBEX, PRE-MARKET, POST-MARKET, AND OVERNIGHT MARKET SCALPING, SWINGING, TRADING, AND INVESTING ALWAYS IN THE MARKET HAVE AT LEAST TWO REASONS TO ENTER A TRADE ENTERING ON STOPS PROTECTIVE STOPS AND GETTING TRAPPED IN OR OUT OF A TRADE Chapter 11: The First Hour PATTERNS RELATED TO THE PREMARKET PATTERNS RELATED TO YESTERDAY TREND BAR ON GAP OPEN: FIRST OR SECOND BAR GAP OPENINGS: REVERSALS AND CONTINUATIONS TREND FROM THE OPEN OR TREND FROM THE FIRST BAR THIRD BAR OF THE DAY AND THE 15-MINUTE CLOSE STRONG TREND BARS IN THE FIRST HOUR OFTEN PREDICT STRENGTH LATER IN THE DAY IN THE SAME DIRECTION OPENING PATTERNS AND REVERSALS DOUBLE BOTTOM AND DOUBLE TOP FLAGS TRADING RANGE BREAKOUTS FIRST PULLBACK Chapter 12: Detailed Day Trading Examples Chapter 13: Daily, Weekly, and Monthly Charts HUGE VOLUME REVERSALS Chapter 14: Options Chapter 15: Best Trades MAJOR REVERSALS MINOR REVERSAL SCALPS DURING TRADING RANGE DAYS PULLBACKS IN A STRONG TREND INTRADAY STOCKS Trading Guidelines Glossary About the Author Index Reading Price Charts Bar by Bar Founded in 1807, John Wiley & Sons is the oldest independent publishing company in the United States. With offices in North America, Europe, Australia and Asia, Wiley is globally committed to developing and marketing print and electronic products and services for our customers’ professional and personal knowledge and understanding. The Wiley Trading series features books by traders who have survived the market’s ever changing temperament and have prospered–some by reinventing systems, others by getting back to basics. Whether a novice trader, professional or somewhere in-between, these books will provide the advice and strategies needed to prosper today and well into the future. For a list of available titles, visit our Web site at www.WileyFinance.com. Copyright © 2009 by Al Brooks. All rights reserved. Published by John Wiley & Sons, Inc., Hoboken, New Jersey. Published simultaneously in Canada. All charts were created using TradeStation. © TradeStation Technologies, 2001–2008. All rights reserved. No investment or trading advice, recommendation or opinion is being given or intended. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except as permitted under Section 107 or 108 of the 1976 United States Copyright Act, without either the prior written permission of the Publisher, or authorization through payment of the appropriate per-copy fee to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, (978) 750-8400, fax (978) 646-8600, or on the web at www.copyright.com. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, (201) 748-6011, fax (201) 748-6008, or online at http://www.wiley.com/go/permissions. Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose. No warranty may be created or extended by sales representatives or written sales materials. The advice and strategies contained herein may not be suitable for your situation. You should consult with a professional where appropriate. Neither the publisher nor author shall be liable for any loss of profit or any other commercial damages, including but not limited to special, incidental, consequential, or other damages. For general information on our other products and services or for technical support, please contact our Customer Care Department within the United States at (800) 762-2974, outside the United States at (317) 572-3993 or fax (317) 572-4002. Wiley also publishes its books in a variety of electronic formats. Some content that appears in print may not be available in electronic books. For more information about Wiley products, visit our web site at www.wiley.com. Library of Congress Cataloging-in-Publication Data: Brooks, Al, 1952– Reading price charts bar by bar : the technical analysis of price action for the serious trader / Al Brooks. p. cm. – (Wiley trading series) Includes index. ISBN 978-0-470-44395-8 (cloth) 1. Stocks–Prices–Charts, diagrams, etc. 2. Financial futures–Charts, diagrams, etc. 3. Investment analysis. I. Title. HG4638.B76 2009 332.63′2042–dc22 2008042575 This book is dedicated to my three loving, talented, and beautiful daughters, Meegan, Skylar, and Tess, who have provided me with the greatest joy of my life. I love all of you very, very much and think of you with a smile and pride throughout every day. Preface My goals in writing this book are to describe my understanding of why the trades in Figure P.1 offer great risk-reward ratios, and to present ways to profit from setups like these in both stocks and futures trading. The most important message that I can deliver is to focus on the absolute best trades, avoid the absolute worst setups, and work on increasing the number of shares that you are trading. I freely recognize that every one of my reasons behind each setup is just my opinion and my reasoning about why a trade works might be completely wrong. However, that is \hbox{irrelevant}. What is important is that reading price action is a very effective way to trade, and I have thought a lot about why certain things happen the way that they do. I am comfortable with my explanations, and they give me confidence when I place a trade, but they are irrelevant to my placing trades, so it is not important to me that they are right. Just as I can reverse my opinion about the direction of the market in an instant, I can also reverse my opinion about why a particular pattern works if I come across a reason that is more logical or if I discover a flaw in my logic. I am providing the opinions because they appear to make sense, and they may help readers become more comfortable trading certain setups and because they may be intellectually stimulating, but they are not needed for any price action trades. Figure P.1 AAPL, Daily Chart through June 10, 2008 (This chart with trendlines added is also in the final chapter, along with the explanations behind each trade.)