5 Essential Skills for Trading the Stockscores Approach
Stockscores.com Perspectives for the week ending September 16, 2007
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Stockscores Pro members will get an online video version of this week's commentary topic, 5 Essential Skills for Trading.
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In this week's issue:
Analyzing stocks can be pretty simple. The Stockscores Approach requires that you understand and are proficient at five analytical skills. If you can do these properly, you can apply the Stockscores Strategies for entry, manage risk and know when to exit. Here is an overview of the essential trading skills that form the core of the Stockscores Approach;
1. Identifying Support and Resistance
The Stockscores Approach uses stock charts to understand what the market thinks about the fundamentals. Support and resistance are simple technical analysis techniques that can be used to identify the maximum and minimum that investors have been willing to pay for the fundamentals. These concepts are important because breaks through support and resistance may indicate that new information is coming in to the market.
To be able to draw lines of support and resistance, traders must first understand what an inflection point is. Inflection points occur where the price direction of a stock change. Simply, the stock stops going up and starts going down, or, the stock stops going down and starts going up.
Support is drawn across the bottom of inflection points. The more inflection points that touch the same line of support, the stronger it is.
Resistance is drawn across the tops of inflection points, the points where the stock stopped going up in price and started to go down. Again, the more times these lines of resistance are touched, the more important they are.
When identifying support and resistance, look at longer term time frames to see where stronger levels of support and resistance. Support that has held up for 2 years is more important than support that has held up for 200 days.
2. Understanding Volatility
The amount of movement in price over time defines the volatility and it is volatility that really tells us something about investor confidence. There is less price volatility when investors are sure about what the company's fundamentals are worth. The ability to identify periods of low price volatility is important because stocks usually start trends with breaks from low price volatility.
To measure volatility, draw a line across the tops on a stock chart and a line across the bottoms. If the lines are coming together on the right side of the chart, then volatility is diminishing over time. If the lines are going sideways, rather than trending up or down, then the market has come to some consensus on the value of the company.
When trying to understand volatility, ask a simple question, "how much is price changing over time?"
3. Finding Abnormal Price and Volume Action
Finding abnormal price and volume action is probably the easiest skill on this list. To do it, just look for obvious spikes in price, up or down. The same can be done with volume, look for obvious spikes in volume. These spikes should be stronger than what you can see on the chart for 95 days out of the last 100.
4. Reading the Mood of the Market
We have all heard the saying, "the trend is your friend." It is absolutely true that it is easier to invest in the direction of the trend, to buy stocks that the market likes and sell stocks that have fallen out of favor. To read the mood of the market on any stock, go back to the stock chart. Draw a line across the bottoms on the chart, if they are going up from the left to the right, you have optimism. Draw a line across the tops on the chart, if they are going down from left to right, the mood is pessimistic. If you have both, then you probably have a neutral market.
You can also use the Sentiment Stockscore to understand the mood of the market. If the mood is optimistic, expect the Sentiment Stockscore to be above 60. Below 60 and you are probably in a negative or neutral market condition.
5. Understanding Trends
Many trading strategies rely on entry and exit signals that relate to trend lines. Therefore, it is important to be able to draw trend lines on the stock chart. Upward trends are made up of upward moves and shorter term downward counter moves. The upward trend line joins the bottoms of the counter moves, called pullbacks, to define the upward trend. A downward trend line is drawn across the tops that slope downward over time.
Stocks that are trending will tend to run away from their trend line on emotion and then come back to it, creating trading opportunities. Breaks of trend lines are often a good reason to exit a trade.
The first step to applying the Stockscores Approach is to learn the important skills. You can then start to combine them to identify opportunities, understand the risk of a trade and know when to exit.
Next week, I will show how these skills come together in a Stockscores trading strategy.Back To Top
This week, I scanned the market for stocks that were making abnormal moves to the upside out of a period of low price volatility. I inspected the charts to see if they had optimistic chart patterns, were only just starting a trend and had enough upside to the next level of resistance to justify the risk of the trade. Here is one stock that looks like it is worth considering:Back To Top
1. DSCM
DSCM made an abnormal price move to the upside on Friday, breaking from a period of sideways trading that had rising bottoms, indicating optimism. The stock will likely stall at $3.85 resistance but that is enough upside potential given that support is at $2.78.
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References
Get the Stockscore on any of over 20,000 North American stocks.
Background on the theories used by Stockscores.
Strategies that can help you find new opportunities.
Scan the market using extensive filter criteria.
Build a portfolio of stocks and view a slide show of their charts.
See which sectors are leading the market, and their components.
Disclaimer
This is not an investment advisory, and should not be used to make
investment decisions. Information in Stockscores Perspectives is often
opinionated and should be considered for information purposes only. No
stock exchange anywhere has approved or disapproved of the information
contained herein. There is no express or implied solicitation to buy or
sell securities. The writers and editors of Perspectives may have positions
in the stocks discussed above and may trade in the stocks mentioned. Don't
consider buying or selling any stock without conducting your own due diligence.
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