An Approach to Trading Shares
Issued: 6 April 2003
© Copyright 2005 by Udo Stegen, Rettmer Trading Trust
Table of Contents
1. Basic Prerequisitesjump
3. Long Tradejump
4. Short Tradejump
1. Basic Prerequisites
Throughout this discussion, I assume the reader has a fair understanding of -
None of these subjects will be explained in any detail.2. Introduction
For any trading, the basic premise is to "Buy low, Sell high." Applied to objects (shares) with oscillating price charts, that means we need to find the points where the price chart turns up (to Buy) or down (to Sell). If we bought "in between", we would simply forego too much of the profit margin. Likewise, there is no point in selling too late when our profit margin has already been half eroded.
Depending on our Trading Horizon, we can use different periods. Short periods have the advantage that predictions about a stock's behaviour are more likely to be accurate for the next few days. However, the further out our plan, the less certain the prediction becomes. On the other hand, the price usually only moves so much in a day, so the longer a trend can run, the better for our profit. We are therefore looking for a compromise that balances the two opposing influences.
For Trinity, we use Daily charts and a main period of 34 days. Its other key numbers are 3, 7, and 13.
Note: 7 is the "odd number out" inasmuch that it is not a Fibonacci number. It might be interesting to research whether 5 or 8 work just as well.3. Long Trade
After a stock has ended its downtrend, it usually enters a consolidation phase, ie it moves sideways in a narrow channel. At some time, it leaves this channel. Depending on prevailing market forces, it can break down through the lower boundary, thereby continuing its downtrend, or it breaks to the upside. It is this breakout that we're looking for. And the tool that we're using is the Market Analyser: in particular, a set of Indicators that have the potential to show likely entries. Here are the 4 steps:
Step 1: Identify potential end of down trend. We use A(34), the 34-day Accumulation Indicator with a 3% price drop. If I scan the entire market, I ask for high volume: at least a factor of 1.5. For the Top 200 stocks, we are less likely to see volume spikes; I therefore am satisfied with a factor of 1.
Step 2: Identify the significant Turning Point. Trinity looks for a TP34. However, waiting for a TP34 poses one big problem. By the time it has locked in as a confirmed TP34, it is useless for a trade. By definition, we may have to wait 34 days to know that a TP is actually the lowest price within a 34-day period. Therefore, we have to look for something that usually "goes with" a TP34. Experience has shown that such an indicator (or rather: a pair of indicators) exists. The classic Trinity method uses a combination of Stochastic and MACD. The former acts as a leading indicator, "predicting" a turn, whereas the latter confirms it.
The Stochastic signal is given when the fast line comes out of Oversold, ie crosses the 20% line from below.
MACD confirms the change when its fast line crosses zero from below. Sometimes, it is sufficient to see it cross the signal line from below.
Step 3: Establish consolidation zone. According to Warren Magness, the first rise after a TP34 is likely to hit Immediate Resistance, from where it will bounce back in a move dubbed "First Test, First Failure". The level where that happens determines the upper level of the consolidation zone, which needs to be cracked for a breakout trade. It is up to the individual and their risk tolerance, whether they are prepared to trade the first leg. A quick scroll back into history can provide an indication of the likely profit margin between an early entry and the FTFF level. Such scrolling back is always a recommended way of becoming more familiar with a stock and its "DNA". We have found that an entry is usually quite safe if the three price EMAs: ema3, ema7, and ema13, are all rising and have crossed to line up with the shortest on top.
Step 4: Take profit at the first sign of Turning. Although there are usually some pointers as to where the FTFF point may happen, this is not always a clear-cut event. If I have money in the market, I watch the chart, particularly Intraday, for any sign of weakness. That does not mean that I try and pick the absolute top - a futile plan at the best of times. I usually set a trailing stop that is much tighter in this area than the one I use after the breakout proper. Again, studying the stock and knowing its "DNA" goes a long way.
Step 5: Wait for Higher Low. According to the theory, this should be a TP13 at a higher level than the previous TP34. But at this stage, the theory becomes less precise and the need for DNA study increasingly important. If a Higher Low is established and the FTFF level subsequently broken, then the next High can only be a Higher High, which makes a re-entry on break-out a low-risk entry.
Picture 1 Steps 1 to 5: Example AMP, March 2003
This trade is not yet completed. Therefore, a discussion of the exit and profit taking needs a different chart. Using the same stock, AMP, there was a similar trade in October 2002. Trinity Long showed a possible entry on 14/10/2002. In this case, FTFF was reached before the EMAs were lined up properly, so there was only one trade in it. It was alerted and probably quite safe on 15/10, the day after the first scan suggested a Long. We see that the Higher Low lies behind us. Somebody with some risk tolerance would therefore have entered without waiting for FTFF (level 4) to be broken. For an exit, notice the old Support on $13.00 meeting up with EMA55, which tends to reinforce the importance of trendlines at zones of convergence.
Picture 2 Example AMP, October 2002: Entry
Moving forward in time, we exit on the 18th on reaching our target $13.00. Three days later, AMP peaked at $13.25, but we made 85c in the first 3 days with certainty. Why risk that for 25c on increasing uncertainty?
Picture 3 Example AMP, October 2002: Exit4. Short Trade
Exactly the same principles apply when a stock has risen "far enough". The market forces have reached an equilibrium, which translates into a consolidation phase. From there, the price will either come down, or resume its rally. If you can short a stock, the "Classic Short Trinity" will be of use as it scans for shorting opportunities. You can short-sell via a Broker's Shorting account, buy Put Warrants or Put Options, write Call Options, or simply use CFDs that you sell before buying them back. The only draw-back: All of these instruments are limited to only a subset of ASX stocks, about 200 stocks in total; sometimes, your Broker may be able to stretch the limits a little, so it doesn't hurt to ask.
The steps are the same as above, except the Accumulation Indicator gets replaced by the Distribution Indicator; Oversold criteria become Overbought, and the directions and line-ups are reversed.
As the 6th happened to be a Friday, the entry was postponed to Monday, the 9th. (I hate holding a position over the weekend - especially an open short position. Quite often, stocks trend down towards the end, and pick up at the beginning of a week.)
In the absence of any compelling trend lines, a first target of $11.81 could be set, followed by a trailing stop after that. I would also watch the stochastic and MACD for any sign of strength returning.
Picture 4 Example AMP, December 2002: Short trade5. Templates
I am using the same template for all periods. I have found the 60 minutes Intraday useful for fine-tuning entry and exit points. For purely Intraday trades, the 10-minute interval can be used quite successfully. Naturally, these shorter periods will work only with highly liquid stocks. A larger ATR is also required, or the Intraday moves are too small to cover risk, spread, and brokerage.
These are my setups:
I establish key levels by using Fibonacci Retracement with Logarithmic (Natural) divisions. However, if there are obvious S/R lines, maybe even converging with EMA55 or EMA233, those will always take priority.6. Outlook
I am planning to run a large-scale probability scenario once MA6 provides the "Backtesting" facility. That will also allow me to fine-tune some parameters. At the time of writing this (April 2003), we only have "anecdotal evidence" that those of us who have been using the method have done well. A limited analysis using CFDs resulted in an average profit of 50%. The researcher traded a single stock over 10 years, long or short as the Analyser suggested; a total of 84 trades, using $3,000 fixed size for every trade and exited as soon as the price changed by one ATR. He bought the day after the Trinity signal came up at the next day's Closing price, and sold at the Closing price on the day the target was achieved. This makes it a double worst-case scenario. Changing the assumption to buying and selling at VWAP increased average profitability to over 60%.
Disclaimer: Analyses over data history need not be repeatable under future conditions. And even the analysis may have a big mistake in it. An automated trading system is only as good as the person who runs it is disciplined.The only person responsible for your actions and decisions is YOU.
Conclusion: Don't blame me if Trinity doesn't work for you. But if it does, praise and flatter me all you like.
© Copyright 2005 by Udo Stegen, Rettmer Trading Trust
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