Saturday, July 24, 2010

My favorite set up...

Generally speaking I like to trade pull backs in momentum stocks. Even when I am looking for position trades; I prefer to enter off a pull back or consolidation pattern in stead of entering off a break out from a cup with handle, double bottom etc. I have come to the conclusion from my own trading experiences that pull backs tend to work better than break outs especially when the market indexes are also pulling back but are in healthy up trends. If you look back at most of my trades and set ups I have highlighted on this blog you will notice that I tend trade some sort of pull back.

However, my favorite setup and the set ups that I tend to take bigger risks on are earnings pull back from 52-week highs or just below 52-week highs. I classify earnings pull backs into two categories: simple pull backs and complex pull backs.

Simple pullbacks occur when a stock reports blow out earnings, gaps up and breaks out of a base (usually formed due to a correction in the market indexes) either late in a correction or early in a new up trend in the overall market indexes as per IBD definitions of up/down trends. Below is an example from the up trend cycle that started in February of this year.

Notice how the earnings lead break out (yellow arrows) came after the correction in the SP-500 was well under way. Then as the markets had its last leg down, APKT moved sideways then triggered a buy entry on the 12 th of February. This trade yielded a roughly 50% gain if exit was day before next earnings announcement and roughly 100% gain if exit was on the day of the earnings announcement.

Complex pullbacks, as I term them, occur when a stock announces blow out earnings near the end of an uptrend or near the start of a correction. An example of a complex pull back was CREE. CREE announced blow out earnings on the 20th of January (red arrow above), gapped up and closed the day up significantly on massive volume while the market indexes got hit hard. However, both CREE and the SP-500 shown above were very extended at this point and so buying CREE was a low probability trade at that time. However, as the correction played out, CREE pulled back gently to the 50 day MA, bounced off in good volume, and triggered a buy entry on the 11th of February. At this time, the indexes themselves were also attempting to bounce. This trade ended up yielding a 25% - 30% gain if exited when CREE broke support /announced disappointing earnings in late April/close below the 50-day MA.

The edge in this set up comes from two things; PEAD and Market timing. There are several other factors that can be used to this set up an even higher probability set up like sector Momentum, new IPO, earnings acceleration, low float etc. When these factors are combined this leads a set up that has an extremely high positive expectancy. I coined this set up from my own observations as well as from the works of So if you want to do further reading or possibly try to find your own set up then check out this site.

One such set up from this cycle has been IGTE. Check out the chart and see if you can identify the set up your self.

Good bye for now. Good luck and good trading!

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