Playing The Stock Bounce Many of the best stock trades come from playing the bounce. When it comes to balancing risk and reward, weve found that entering a stock bounce trade near a support level can be a great way to go. No tactic will always work perfectly, but stock bounce plays give us a low risk entry and a clearly defined point at which to set our stops. Below are some tips that can help traders to navigate this stock trade and increase the probability of success. Take a look at daily charts for a number of stocks, and youll notice that some show steady, trending price movement. Minus any news events, these stocks normally cycle up and down as buying momentum builds and fades. On many stocks the cycles occur between support and resistance levels. These predictable looking stocks are the most appropriate for playing the bounce. #Support_and_Resistance In order to understand how to play stock bounces, we need to quickly review support and resistance. The book Trading For A Living by Alex Elder gives a simple, but effective image of support and resistance - A ball hits the floor and bounces. It drops after it hits the ceiling. Support and resistance are like a floor and a ceiling, with prices sandwiched between them. When a stocks price has fallen to a level where demand at that price increases and buyers begin to buy, this creates a floor or support level. When a stock price rises to a level where demand decreases and owners begin to sell to lock in their profits, this creates the ceiling or resistance level. #Playing_the_Bounce Our goal is to buy (go long) as the stock bounces upward off support. Conversely, we can sell short on a bounce down (reversal) from resistance. Sounds simple enough when we are comfortably looking in the rearview mirror, but it can be quite a bit more challenging to pull the trigger on an actual trade. #When_is_a_Stock_Bounce_Really_a_Bounce_and_When_is_it_Just_a_Head_Fake_? Actually, you never really know until after the fact. Thats why we use stops as part of our Risk Control strategy. We dont have a crystal ball, but we do have tactics that allow us to trade successfully. One of the most important tactics is to use stops. When you buy a reasonable number of shares of a stock at a critical turning point and set your stop a reasonable distance below your entry, then the amount you risk is reasonable. Bounce entries are more subjective than many other types of plays. Each trader has to make the call as to whether a bounce is indeed underway, and when to enter. The specific price point where you enter the bounce is determined in large part by the time frame you prefer and your tolerance for risk. Example using daily chart, there are several good ways to set your specific entry point. First understand that every trade you enter should have two key ingredients - a setup and a trigger. This principle applies not only to bounce trades, but to every trade that you enter. The setup in our example is obvious - a potential bounce from support. Choosing the trigger requires that we set an entry based on price that confirms a bounce is underway. This is where knowing our time frame and tolerance for risk comes in. Very short term, aggressive buyers trading five minute bar charts will often jump into a stock on a very small uptick of a few cents, while more conservative daily or weekly chart traders prefer to wait until they are certain that a bounce is underway. Though the two approaches may seem to be in conflict, they really arent. A shorter-term trader needs to set a quick trigger because the profit target in points is smaller and will be reached within a matter of minutes or a few hours. On the other hand, a longer-term trader will set a higher trigger, raising the odds that the bounce will continue over a longer period - perhaps several days or even longer. In these instances there is no right or wrong - one is just more aggressive than the other. In every case, always use initial stops to protect against losses, and then apply trailing stops to lock in profits as the trade moves favorably. Just because a stock drops to the support level, hesitates and then temporarily falls below support doesnt mean the bounce entry is no longer valid. Bounces dont always occur exactly at the support level. If a stock drops below the support level, keep an eye on it. Stocks will often dip below support, only to rebound back above the support level and give traders a nice entry. Once in the position, you may see the stock move quickly higher. If it does, move up your stops to protect a portion of your profits and continue trailing the stops as it moves higher. The longer you expect to hold a stock, the looser you should set your stop so you wont get stopped out too quickly.
Posted on: Wed, 21 Jan 2015 06:35:40 +0000
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