The Shake Out

It’s no secret that technical traders use support and resistance to determine their stops when wrong in a trade. We spoke on this in a more micro sense in the Time Frame lesson about how the HFTs try to push out day traders by ‘running stops’ and reversing. Now, why do they do this? What is their purpose of it? Are they just dicks and want you to lose money? Maybe, but there is great psychology behind this. 

This also happens on larger time frames and are great momentum indicators. They virtually, push out the longs, trap the shorts & create a frenzy of buying in the other direction. 

Let’s think about it simply --- let’s say you’re long AAPL in the chart below because it’s approaching a huge support level around $92. You’re thinking, this could be a tight risk entry! Let me buy some and put a $91.99 stop.

It’s coming down to $92 and it finally breaks the support level and you see HUGE volume. These are clearly sell stops. Some traders are taking a loss and some traders are initiating a short entry. All of a sudden ---- a SURGE of buying rips AAPL back above $92. If you just took the loss, the stock is telling you that you weren’t wrong. You are now experiencing FOMO (fear of missing out) and NEED to get back into AAPL. This creates a surge of buying as many traders are thinking the same. If you’re short, you know right away you’re wrong --- and it would be wise to buy back the stock you got short. Do you see how this surge of buying creates momentum? 

We actually discussed in chat how we wanted to see the $92 level break in AAPL to push the dumb money out before it could switch gears and show strength. When it finally did break, you can see the huge amount of volume in that area as dumb money puked and smart money acquired. 

Then, how ironic, in the news that evening ----

Smart money comes to play, and gets long, now all of those weak hands are going to try and chase Apple. If you can think of the psychology in the way stocks move and what traders from both sides are thinking --- you will be leagues ahead of the competition. 

Let’s look at a few more examples.

Chip makers have been going nuts in the beginning of 2017. They have been the
go-to momentum stocks. AVGO above, gave traders every excuse in the book to sell as it broke the 8/21 SMA downward on a STRONG red daily candle (middle arrow). It even pierced the $209 previous breakout level. What did it do from there? $14 higher in the next 8 sessions. No surprise there.

Remember BREXIT, when the world was ending? That shakeout was an unbelievable psychological moment where if you knew the signals to look for, it led to an amazing buying opportunity. 

The market gapped down and followed through to the downside (bottom arrow). “Obvious” to be short after such a day. Novice traders didn’t see major support at that descending trendline. Then, it opens up around the previous day’s highs and RIPS higher, trapping the shorts and creating a frenzy of momentum buying to the upside that led the market higher for months. If you were able to catch these signals beforehand, you had a true edge on the rest of the market and opportunity like no other. 


Amazon Shakeout then Breakout

Often times, the best breakouts come after a shakeout. We call it the ‘Shakeout then Breakout’. Look at the circled area on the AMZN chart. Creates an awesome bull flag underneath the all time high level. It got very tight and allowed the moving averages to catch up --- this is looking like an A+ setup when you factor in all the other news like six $1000+ price targets and strong buy ratings across the board.

How does AMZN handle this obvious A+ setup? It triggers the trade and absolutely fails HARD. It opened $859, ran to $863 and dropped $20 to close at $843. A lot of traders, myself included, took a loss on that one. 

Then, when traders are much less enthusiastic about AMZN, they gap it up right into the breakout level a week later and rip it for $60 in 6 sessions. That is no accident. The momentum is created by all the chasers. These are the things you need to recognize from a psychological standpoint. 

Do you have balls? 

Can you think of a time you’ve gotten shaken out? What happened?

Did you immediately buy the stock back when you saw it rip back above the support level?

Are you beginning to see how having psychological expertise will have you looking at the market and each individual trade differently?


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