7 Vital Steps to Successful Chart Reading

1. Where is the trend?
   
   Identify if it is a strong or weak stock by determining how it has been trending lately. Scroll back the past 90-180 days. Has it been in an uptrend or a downtrend? By finding the trend, it will allow you to determine whether you believe it will rise or fall in the future.
   
   
2. Is it a short or a long?
   
   This is a natural progression from step 1. Once you find the trend, you determine if it is easier to go short or long. We do not call tops and do not pick bottoms (what do bottom pickers get? SMELLY FINGERS!!) We would much rather take the easy trade, and ride the trend. This business is difficult enough, which is why we make sure to stay away from “hero trades”. How has it performed compared to the broad market? Is it relatively strong or weak? We try to keep it simple - strong stocks are longs, weak stocks are shorts.
   
   
3. Where is support & resistance?
   
   This is arguably the most important criteria when reviewing a chart. Asking where is support/resistance is equivalent to asking where are the buyers and sellers. From this, you can identify buying areas and selling areas. Stocks most often travel in the path of least resistance. If we’re looking at support and resistance as brick walls, and you’re in between the two brick walls, isn’t it easier to run away from a wall rather than through it?
   
   As legendary trader Jesse Livermore once put, “You remember my trading theories about that line, don’t you? Well, when the price line of least resistance is established I follow it, not because I am manipulating that particular stock but because I am a stock operator at all times”.
   
   It is much easier to run away from the wall than run through the wall. This is not to say you should run away from problems in life, but in stock trading, prices move in the path of least resistance.

1. Look at the Weekly & Monthly Charts
   
   It is important to look at the chart in different time frames - notably the weekly and monthly charts. Since our trade’s time frames are usually about a week, the weekly chart is the most important to us. This is something you have to determine on your own. Reviewing charts is all about gaining information on how the stock has moved. Seeing charts in different time frames allows you to gain many different perspectives. When all of the time frames have similar characteristics and all point to being a long - we call that “Time Frame Continuity” which is usually a trade with a high probability of success.
   
   After looking at the different time frames, do any chart patterns jump out at you? These can help you identify your trade. If you’re looking at a cup and handle on a weekly chart, you know you want to be long and have stock for the break of resistance. Similarly, if you see a head and shoulders, you want to be short and have stock for the break of support.
   
   
   
2. Are there inside days/weeks/months? How did the stock react?
   
   An “inside candle” is when it’s high is lower than the previous high, and low is higher than the previous low. We mapped this out in the picture below with the circled candle. No matter the time frame, (intraday, daily, weekly, monthly) the inside candle is a representation of consolidation - buyers meeting sellers. When an inside candle is formed and buyers are meeting sellers, it is only natural that an expansion is expected after the inside bar is broken to the upside or the downside.
   
   
   We chose to point out the JBLU inside week because it was a trade we will never forget. This was a very strong stock that had a healthy pull back, consolidation, and news on it’s side with oil about to to become a disaster.
   
   We map out inside bars because they are great for executing entries and exits. Since a momentum move is expected following an inside week, we chose to initiate a long on a break of the inside week and put our initial stop at the low of the inside bar.
   
   With the JBLU trade, we bought 11.60 heavily and placed our stop at 10.90, 70 cents of risk. We were able to ride this trade into the low 20s for an insane 15:1 risk reward. One of our best trades that we won’t soon forget. Utilizing the inside bar played a monumental role in capturing this trade.
   
   
3. How has the sector performed in market?
   
   You always want to be following smart money. This plays off of relative strength and weakness. The market will always have a “hot sector” where you find valuations becoming less and less important and momentum becoming more and more rampant. In the past few years we’ve seen it in 3D printing, solar stocks, social media, fast-casual restaurants, among many more. It is important to recognize whether or not you’re following the money. If you’re looking for a long, we recommend finding a strong sector and vice versa.
   
   
4. Compare old performance in similar selection
   
   Take a long look at the chart’s past performance. Do you notice any similar patterns in the past few months or years? Often, stocks have a style of trading, and will create the same patterns in it’s ascent/descent. Look at past performance, as past performance is usually indicative of future performance.
   
   We’ve mapped out a weekly chart of Amazon’s unruly ascent below. If you notice the circled areas, it created a very similar bull flag time after time as it rose from 350 to 700. Recognising patterns like these is essential to your trading and they should be stuck in the back of your head for the next time you see this similar pattern in the stock - it will give you the confidence and confirmation to load the boat.
   
   
   
   

Do you have balls?

Use these new skills to find a truly A+ set up. Take your time and scan at least 200 charts to really find that great idea and post it in the Chart Reading Group Chat with your complete game plan.