a penny above the breakout price.
On the sale, here's what I wrote: “21 March 2007. I decided to sell this using a trailing stop set between today's close and the low +.01 as the cents margin (11 cents) [I think this has to do with setting an automated trailing stop with my broker]. Hopefully, this will move up in the morning and I can get out at a higher price than just selling at the open. The market was up big today, and this stock was one of the few to close lower. It's running up against SAR [support and resistance] at 39–40, as predicted. My guess is it'll form a handle and backtrack. I don't want to wait around, though. I think the company sucks because SSS [same‐store‐sales] are soft despite positive comments from the company.”
I received a fill at 39.09. Four trading days later, the stock peaked at 39.92, before entering the bear market and seeing the stock bottom at 2.41, or 94% below where I sold. I made 11% on the trade.
Lesson: Buying as soon as the stock breaks out of a chart pattern is often better than waiting.
Energy East Corp.
With Energy East Corp. (EAS), I saw a big W forming and price didn't confirm the pattern before heading back down to the price of the first bottom, where I bought. I received a fill at 23.12.
The stock cooperated, for a time, by rising but eased lower and looked to be heading down about 3 weeks after I bought. I sold it for a 2% loss so I could deduct it on my taxes.
From my notebook: “Sell reason: End‐of‐year tax‐loss selling. This is going down, I predict, so it's time to dump it and lower my cap gains taxes. This H&S [head‐and‐shoulders] bottom didn't work as expected.”
The head‐and‐shoulders became apparent after I bought (which happened at the right shoulder low), and it never confirmed by the time I sold on 30 December 2005, at 22.69.
This trade contradicts the prior lesson. If I had placed a buy stop a penny above the top of the big W, I would have entered the trade at 24.06, well above my 23.12 purchase price. The big W didn't confirm until 10 January 2006, where the stock continued up to make a vertical run for 8 days (peaking at 25.57). Then it moved sideways to down for 1.5 years.
I sold on the day the stock started to climb in that vertical rise. Bad exiting timing, that's for sure. But I would have collected dividends from the electric utility only if I had continued to hold the stock, so selling was a good choice.
Sara Lee Corp.
Sara Lee Corp. (SLE) in September 2008 was another buy into a big W that didn't confirm. I lost 4% on that trade when the stock hit my stop and continued lower in the 2007–2009 bear market.
Lesson: If premature breakouts are a concern, wait for confirmation before entering a trade.
Swift Transportation Co.
In Swift Transportation Co. (SWFT), I played the big W differently. I bought when price returned to the launch price, expecting a strong move higher as oil prices were trending downward: “Sell reason: The stock has made a large down move today, following the market lower and others in the industry [are] down. I believe this will move lower, forming a handle to the big W.”
A handle did form, and I sold in the early part of that development at 19.25, for a loss of 8%. I watched from the sidelines as price climbed to 33.66. I missed out on a potential gain of 75%. Sigh.
Again, I picked the right stock, but it took me out when it formed a handle before making a strong push higher.
I don't have a lesson to share except the idea of riding price higher after it reaches the launch price might have merit. Test it to be sure it can work for you and your markets.
Sample Trade
Figure 7.4 shows this chapter's sample trade with the big W located at AC. Before I discuss the trade, let's apply the measure rule to this pattern.
The measure rule uses the height of the big W. The peak (B) between the two bottoms has a high price of 12.66. The lower of the two bottoms is C, at 11.27, for a height of 12.66 – 11.27 or 1.39. Add the height to the price at the peak (C) and you get a target of 12.66 + 1.39 or 14.05. Price will reach the target 74% of the time in bull markets, according to Table 7.10. If you want a closer target, take half the height and use that. Thus, a closer target becomes 12.66 + 1.39/2, or 13.36. Price reaches the half‐height target 88% of the time.
Figure 7.4 John decided not to trade this big W because of overhead resistance.
Want to know if the big W is tall? Take the height (1.39) and divide it by the breakout price (12.66) to get 1.39/12.66 × 100 or 11.0%. Table 7.5 says that a tall pattern needs to have a value above the median 11.9%, so this pattern is short. That suggests underperformance.
The launch price is at H, where the downtrend begins. H could be a post‐breakout target, but as you can see, the stock didn't climb that far.
Volume trends downward (G), so that's good for performance (from Table 7.6). It may be difficult to tell from the chart, but the left bottom has volume of 492 shares and the right bottom has volume of 791. In other words, the right has higher volume and that's good for performance (from Tables 7.10 and 7.11).
The pattern is short (bad), volume trends downward (good), and the right bottom has higher volume than the left (good). This seems to suggest a better performing big W. Of the three measures, the height is the most important and it was bad. That's not a good omen.
How did John trade the stock? “I didn't.”
“Why not?”
“I used your simulator to scan charts and didn't like what I saw. I looked for a horizontal move followed by a big W.”
He was referring to my Patternz software (available for free on my website at www.ThePatternSite.com), which has a trading simulator built into it. It will advance to a chart pattern and then play back price at the speed of your choice.
“I saw setup after setup which didn't work so I decided not to trade the stock. Sometimes the best trade you can make is none at all.”
However, another setup is similar to this situation. Imagine the same setup with price forming a top, moving sideways (D), and dropping to a chart pattern (a big W or other type of chart pattern). Price does its thing, and the stock eventually climbs to close above H (the high point in the horizontal D move). That's the time to buy. I describe this setup at http://thepatternsite.com/CPSetup.html (Note: case is important).
In Figure
