As I have stated previously (see; Beastmode), approaching the market with a well thought out plan of attack is an important factor in becoming a profitable trader. Having a playbook with well defined strategies allows a trader to focus on very specific sets of criteria that he knows have produced results in the past instead of aimlessly wandering from chart to chart looking for an interesting pattern that catches his fancy on that given day. Knowing ahead of time what our actions will be for a given scenario allows us to focus on looking for that scenario instead of wasting time and effort trying to develop a trade strategy while the market is moving. Always remember, that the window of opportunity to enter or exit a trade can close in the blink of an eye and the trader that knows exactly when and where he will enter and exit a trade will avoid having it shut on his fingers while the trader that is trying to figure out it out on the fly will often end up in pain.
Today, I'd like to share with you another of my favorite trade setups. I named this strategy the UTEP Two Step. Now, our weird neighbors in the nation of Texas may think this is a type of dance, but basketball fans will recognize this as Tim Hardaway's signature double crossover move which he cooincidentally made famous while studying abroad at the University of Texas at El Paso. For those unfamiliar with this move, watch the video linked below.
When using technical analysis, traders should be aware of the fact that they aren't analyzing squiggly lines, they are analyzing crowd psychology. Therefore, when you study a pattern on a chart, think of the motivational forces behind it. The reason I name this setup after Tim Hardaway's double crossover is because I look for a stock that moves in one direction than quickly reverses in the other direction leaving the traders that entered in the wrong direction scrambling to exit their position. Having an ample supply of traders in pain helps to fuel fast moves once an equity performs this type of fakeout.
Using a trade I took last week on Crosstex Energy (XTXI), I will illustrate exactly what I look for when using this pattern.
The first thing that alerts me to a possible UTEP Two Step trade is a clearly defined intermediate-term downtrend on a stock that has recently made a strong move higher. XTXI surged higher late last year, but failed each time it tried to continue climbing over the massive candle it printed on November 10th. Once it was clear that Crosstex was not ready to approach $10, it traded down steadily as sellers outnumbered buyers each time it attempted to break above its key moving averages. It is important that the trendline defining this move is clear, as the break of it is one of our key signals that the stock is ready to reverse its movement.
The next characteristic I look for is a clearly defined area of support. In the case of XTXI, it ultimately found support just under $8.50 which was the level from which it intitially broken out from. You'll notice that combining these two trendlines forms a Descending Triangle which is a bearish continuation pattern. This is not a coincidence and is in fact the reason why this pattern works so well. As more and more traders pile into a short anticipating a further breakdown, they become the unfortunate fuel that propels the stock upward in the event of a price reversal.
Because we are attempting to trade against the grain, risk management and patience take on even more importance. I will typically only take this trade when it is obvious to me that it is breaking out. This means that I not only want to see a clear breakout of the descending trendline, I want it to be on a candle that breaches a price level that has recently held the stock in check. Ideally, it will clear the highs of a candle that stopped just short of closing above the descending trendline as this provides us with a clear cut entry that is very reliable. In XTXI's case, the candle on February 11th set the benchmark that needed to be cleared. It flirted with a breakout of $8.70 throughout the day, but ultimately closed just below its multi month descending trendline. On February 12th, XTXI breached this level and was off to the races.
The heavy volume on the breakout was yet another signal confirming the veracity of the move. Because I wait for several signals to be aligned before entering, my holding time on this trade is usually a few days as this type of short squeeze tends to run quickly. This is a range trade and as such, I scale out in stages and ultimately end the trade as it approaches its previous highs. Again, because this is a countertrend strategy, we must place tight stops and honor them at all costs. Also, do not forget that (like all trades) if the trade doesn't offer the proper risk/reward ratio it is not worth taking. As we can see on the chart, XTXI went straight to its recent highs with no pullbacks whatsoever and offered a quick 10-15% gain in just a few days.
This was an easy trade idea that was available to our members in the stockguy22.com chatroom the day before it broke out. If you are a trader that is not part of a community like ours where its members constantly share ideas and trades, you are not only missing out on many great profit opportunities each day, but also missing out on the chance to truly improve your trading by learning from the different ways that several great traders successfully take money out of the market every day. I highly recommend that you try out our service. Its free for two weeks, so there really is no excuse to not try us out.
If you have any questions or comments, feel free to contact me on twitter @stockdarts