I often refer to price acceptance in my posts and tweets. In many cases it’s quite obvious whether or not price has been accepted or rejected at a certain level and there are other cases where it’s not as clear. If that sounds a little frustrating, welcome to the world of trading! If everything in price action analysis was black and white, we’d all be rich! So I try to accept the lack of total certainty and I consider the concept of price acceptance as just one tool, albeit a very important one, in the analysis toolbox.
Since when is the concept of price acceptance even a thing anyways? Price goes up, price goes down or price goes sideways. What else do I need to know? Believe it or not, price often gives clues as to where it may be heading next. Think of the market as being a big auction. What happens in an auction? The auctioneer calls out a price and either that price is accepted by someone raising their hand or it’s rejected by total silence. Whether the auctioneer moves prices higher or lower is completely dependent on the participants. Do I hear 100? No? How about 95? No? Seriously? How about 90? Sold! Finally, I sold one at 90. So even though the auctioneer called out 95 and 100 they didn’t find acceptance until they dropped the price to 90. That’s fair value now.
The market is a little different but very similar. Price is simply an advertising mechanism. In order for that price to be accepted there has to buyers and sellers willing to transact a significant amount of volume at that price. What’s a significant amount? That can’t be strictly quantified. If the SPY transacted .01% of it’s daily volume between 345 and 346 you probably think that price wasn’t accepted between 345 and 346 because of the lack of volume. And you’d be right! What if 1% of the day’s total volume transacted there? How about 3%? Whiles there’s no exact level that defines acceptance you can learn to identify when you see it on a chart.
The very best way to attempt to discern price acceptance is through the use of market profile (MP) chart. MP aggregates price in a completely different manner than a standard price chart. The typical MP chart is broken down into thirteen 30-minute periods. That is one day of trading. The periods are numbered 1,2,3,4,5,6,7,8,9,0 in purple and 1,2,3 in blue. There are also two different ways to display price data on MP charts. One is the standard grouping (below, on the right) and expanded (below, on the left). Only the standard MP chart shows both time and volume so that is the primary MP chart that I utilize. I’ll occasionally show the expanded MP chart for a different look at the price data but it isn’t necessary for my MP analysis.
Let’s take a look at the current MP chart showing last week’s trading in the SPY (below). I’ve highlighted the area where price was rejected during last week’s trading by putting a red box around the area. Price rejection is quite obviously the opposite of price acceptance. It’s easy to see on the expanded MP chart that price didn’t spend much time trading below the 342 price level last week. The spike down on Thursday was fairly large as sellers pushed price down all the way to 340.65 in the third trading period of the day. How much time did price spend near those lows? Less than 30 minutes since period 3 was the only one that dropped below about 341.50. So, while I mentioned earlier in this post that acceptance can’t be definitively identified in all cases, this is clearly not acceptance! Less than 30 minutes of the entire week of trading was spent below 341.50. The bulls made a statement there. Carrying that price level forward will indicate whether or not the bulls are still in control of the price action or not.
Now let me give you an example where it would potentially indicate the bulls were losing control and that the price of SPY might be expected to drop below last week’s low. Let’s say price returned to the area below 341.50 and spent a few hours trading there early next week. That would indicate that what was a great buying location this past week was no longer the case. That would say to me that the bulls were not as strong as they appeared on Thursday. The bears, on the other hand, would view that weakness as an opportunity for them to take control. If price were just trading back and forth in the 340.50-341.50 range I would be likely to establish a half-size bearish position there in anticipation of a breakdown. If/when price actually broke below that low I would then add to my bearish position size. And what would add even more strength to that breakdown should that occur? Thursday’s low also happened to be last week’s low. You know that is one of my bearish trade setups. So don’t be surprised if I say that I’m leaning bearish should SPY spend some time trading in the 340.50-341.50 area sometime next week!