Chunking Up, Chunking Down Trend Identification

09/16/10 08:28:32 AM

by Billy Williams

Trends are fundamental to trading, but most traders lack fundamentals. Now, here's an easy way to be on the right side of the market.

Security: CTXS
Position: Accumulate

Trend trading is one of the most common methods of trading almost any kind of market and for good reason -- it works. One reason is that trend trading is a true representation of Newton's First Law of physics, which states, "An object at rest stays at rest and an object in motion stays in motion with the same speed and in the same direction unless acted upon by an unbalanced force." For traders, and trends, a move in the market in a given direction will tend to stay in place until acted on by a greater outside force like, for example, mass selling during an uptrend due to a missed earnings forecast.

The problem is that despite trading trends being a cornerstone of effective speculation, most traders are just flat-out bad at it. So many traders fail to stay profitable over long periods of time because of an inability to spot a trend in place, which leads to being on the wrong side of the market.

Another reason is the home-run mentality, which is a form of bias that traders bring to the market where they hope to catch a new trend developing. This desire to knock one out of the park leads to a disparity in their outlook, where the trader looks at every pullback in price as a potential runaway move in the other direction without respecting the dominant trend in place, suffering a string of losses. This is like salmon who strain to swim upstream while herds of hungry bears wait to strike along the way. Unfortunately, most traders don't have the emotional or mental resilience to weather such negative results. See Figure 1.

FIGURE 1: CTXS, FIVE-YEAR. The five-year chart reveals a solid bullish trend in place for more than a year.

Graphic provided by: www.freestockcharts.com.

According to Dow theory, there are three primary trends a trader must take into consideration before picking a direction to trade in: the long term, the intermediate term, and the short term. The long-term trend's time periods covers a period of months to years, the intermediate-term trend from weeks to months, and the short-term trend, which covers a week or less.

To safely be on the right side of the market, and depending on the time frame of the trend, you should always refer to the larger time frame to tell you what side of the trend you should be on. For example, you can "chunk up" when you see a trade setup on the long side of the market on the daily price chart covering the last three months, then you would refer to the weekly or even the monthly chart for the last year of longer. See Figure 2.

FIGURE 2: CTXS, ONE-YEAR. Chunking down to the one-year chart and using daily price action, you can zero in on potential entry points to the upside.

Graphic provided by: www.freestockcharts.com.

To find viable trades, you could look for trends in place on the five-year monthly chart and once you identify a trend, you could "chunk down" to a smaller time frame like the six-month, daily chart to look for trade setups in the direction of the dominant trend. See Figure 3.

FIGURE 3: CTXS. After identifying the bullish trend in place, it's a simple matter of finding trend breaks on the short-term time frame to ride the momentum upward.

Graphic provided by: www.freestockcharts.com.

By identifying the primary trend, you make your life as a trader easier, less stressful, and more fun because, simply, you win more and you earn more. Instead of fighting upstream against the current, you are riding the current in the direction it is headed, which makes trading a lot more profitable.

Billy Williams

Billy Williams has been trading the markets for 27 years, specializing in momentum trading with stocks and options.

Company:	StockOptionSystem.com

E-mail address:	stockoptionsystem.com@gmail.com
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Chunking Up, Chunking Down Trend Identification

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