Option Investor
Market Updates

Trading the channels

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I talk about a lot of stocks and various sectors/indexes over the course of a week. We also use various tools that a trader has in their toolbox. Every so often, a certain tool may be used to help set-up a trading scenario and then monitor the scenario going forward.

Sometimes, a trader will try and use 20-tools to interpret "where a stock is headed" and after they've worked on the chart 10 of the tools say "up", while the other 10 tools say "down." I see it quite often. A chart with 5 different moving averages, stochastics, MACD, volume, retracement, candle sticks, regression, you name it.

One winning axiom is "the trend is your friend, so trade it!"

Yesterday I showed a rather "simple" chart of Adelphia Communications (NASDAQ:ADLAC) $23.70 -2.3% whereby we used the 50-day moving average, retracement brackets and added a regression channel to help identify a potential entry point for a bearish trade. Now we will want to use that same data and extension into the future to simply manage the position. We won't necessarily be concentrating on "news headlines" to make decisions, but simply monitor the technicals going forward. Yesterday there were 3 different points of technical resistance and today's action bodes well for the bears in Adelphia (ADLAC).

Adelphia Communications Chart - Daily Interval

Yesterday's bearish trade in Adelphia (ADLAC) on the break of $24 was set up with the observation of three different levels of resistance. 1 was the rolling 50-day MA, 2 was 50% retracement and 3 was just added regression. As long as a stop was honored just above the $25.73 level, then a trader could begin trading a scenario that sellers were most likely nearby and may eventually begin outstripping buyers after a nice little rally from the $19 level. Near-term target is easily identified at $21.42.

Rockwell Collins Chart - Daily Interval

A regression channel on Rockwell Collins (NYSE:COL) is headed in a different direction than that found in Adelphia (ADLAC). If the trend is your friend, then trade it. Stocks can always break out of their regression channels. Sometimes the break is momentarily for just a day or two and sometimes they can be more powerful and actually end up creating a different regression channel.

One thing a trade can do with trends is actually attempt at a price forecast. I can go out to April 19th, which would be the next months option expiration date and try and figure out a "maximum" price projection for the stock between now and then. I slid my cursor along that trend to the April 19th date and came up with $27.75. If I'm holding some calls with April expiration, then a trader might be willing to sell strength at a trade near that level on any type of unexpected near-term bullishness. You can do the same thing at the lower end of regression for the April 19th date and come up with $24.40. If you're trading the regression channel, then perhaps some of these ideas can help you better ascertain potential risk/reward in a trade.

Jeff Bailey
Senior Market Technician
Option Investor

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