Anyone who follows me @VegaOptions on twitter knows that my charts look different than most anyone else! First, I don’t use RSI or MACD or any other second derivative of price. I follow price instead of some derivative of it. It’s true that I use moving averages also but I have found over the years that, because so many traders utilize them, price often reacts to the most used moving averages so I find that gives me an edge having them on my charts. In fact, I’m going to start off this post with the price action of IWM (small cap ETF) and how it reacts to my favorite moving average, the 8 SMA. What about the maps that I mentioned in the title? Patience, I’ll get to those soon enough!
Below is a daily candle chart of IWM. It shows just 20 candles from 1/24/22 – 2/18/22. I’ve labeled 11 different important clues to the price action related to just 20 candles! About 1 clue for every 2 days of trading. Who knew there was so much information on a chart? Below the chart is the list of clues and what they all mean. If you’re impatient and want to find out how I’m going to tie maps to chart analysis you can skip the list but I encourage you to come back to it later and study each of the 11 clues. Read them over and over again until you fully understand their importance! I’ve spent many years observing and charting price action to get where I now have a better understanding of it all.
- A potential bullish reversal candle has formed. At the end of that day I place a Fib retracement tool on the candle showing the 50%-61.8% line. I refer to that area as the HB zone. It is common to see price revisit that area at some point in the future (often the very next day) and since this is a bullish reversal candle then the HB zone should act as support IF the buyer’s are in control near that price level.
- A pullback from the 203.90 pivot high into the HB zone of the prior rally and near the rising lower band of the 8 SMA. A good location to add a long with a stop on a close below the lower band or the 61.8% retracement.
- A clearly potential bearish reversal with a distinctive long upper wick. Anybody who bought IWM in that upper spike area regretted it by the close. That makes them very likely to want to sell out of their position if price starts to rally again. That makes for strong resistance in the HB zone of that candle.
- That day’s price action found resistance from the sellers (yesterday’s buyer’s) 😖 right in the middle of the HB zone resistance and then price declined.
- Price found support near the rising lower band of the 8 SMA. Again, the rising lower band of the 8 SMA is often good location to add a long position.
- Price back up into the HB zone resistance of candle #3. It looked promising for the buyer’s since the candle closed near the high but it’s good to remain skeptical of that rally since price had yet to clear and close above the 61.8% retracement level at 206.40
- Buyer’s keep trying to push price through the HB resistance zone but they’re not making much progress. They did take price about .4% above the 61.8% retracement level but by the close price was just $.09 higher than the 61.8% resistance line. At that close I wouldn’t blame anyone who took a short in the HB zone at candle #4 or #6 if they exited their short thinking that the buyer’s were going to take price higher since they didn’t seem to be giving up! However, the stop level on taking a short in the HB zone resistance area is $.01 above the high of the reversal candle. That stop level was 209.06 and that stop wasn’t triggered! Staying short was the right trade, even if it was hard to do.
- Big red candle indicating the sellers were strong. Price closed below the rising lower band of the 8 SMA. It should’ve found support and rallied from there! That’s an indication that buyer’s were not strong and that it’s likely that lower prices should be expected.
- Price tried to rally but, as indicated in the prior day’s price action, buyer’s were not strong. Price closed a second consecutive day below the lower band and the lower band is no longer rising. The trend on the daily chart as indicated by the slope of the 8 SMA bands is no longer up.
- Here’s where we move from analyzing past price action to what are reasonable future expectations. Notice I didn’t say price predictions. I don’t do predictions and frankly I think anyone who does is a, well, I don’t need to call anyone names but nobody can predict stock prices. An expectation is based on the past and current price action which could change drastically the next day. A good price action analyst will change their expectations to match the actual price action! Based on the weak buyer response at #9, it’s a reasonable expectation that price will not potentially find support until it reaches the HB zone shown on the chart.
- If the HB zone where #10 is located doesn’t provide support then #11 becomes a reasonable expectation of where price may be headed. And this is where I need to tell you again that good price action analysts get actionable information from what should happen and from what actually happens. If support in the HB zone where #10 is fails at first but then price climbs back above that support it’s much less likely that price is heading down to #11. Failed breakdowns or breakouts are often the strongest moves! Don’t get caught up in ‘what should happen’ when what is actually happening is something quite different.
One last look at the IWM chart (below). I didn’t want too many lines on the previous chart because it can become overwhelming for someone new to this concept. I lined up the Fib retracements of the prior 2 rally’s; the yellow arrow is the rally from 188.09-203.90 on 1/28-2/2 and the white arrow is the rally from 188.09-209.05 from 1/28-2/10. The 50% retracement of one rally is within $.10 of the 61.8% retracement of the other rally. I can promise you there will be buyers waiting at 196 when/if IWM get’s there.
Will there be enough buyer’s at 196 to turn prices higher? Who knows and why guess what may happen? I do know that 196 is an important decision point where the strength of the buyer’s and seller’s will be revealed. If buyer’s are unable to stop declining price there and price is able to close below that level then it’s extremely likely that price is headed back towards 188 again! If price does find support there I can add a long position with a stop below 196. An even better long would be a drop below 196 during the session with a long, lower wick reversal and a close back above 196. Clearly, a bull/bear line in the sand is 196!
Ok, we’re almost to the map part of the post! 🥳 But first, one more chart. 😣 This is what most traders look at when they view the daily chart, that is if they even bother to look at a daily chart. Very helpful to see the much bigger chart structures developing but, for option traders who often have trades measured in hours or even a few days or weeks there is no way to see the forces unfolding within the price action as each daily candle is forming! This is the chart a long-term investor should be looking at. Here’s where the map analogy comes in finally.
Let’s say that a Cincinnati Bengals fan was fortunate enough to score tickets to the Super Bowl that was just held in L.A. They’ve never been there before so they hop in the car and bring up this map on their phone. So how well is their journey to SoFi stadium going to go based on this map? This will definitely get them from Cincy to L.A. but it sure as hell isn’t going to help them find the stadium. It’s not detailed enough. Right? You can see where I’m going (I hope).
This is the map that they need to use when they get to California. The previous map got them most of the way there but it couldn’t finish the job. There just wasn’t enough detail to let them see that the Super Bowl wasn’t even in L.A., it was in Inglewood! Also, more importantly, they can see that there is a Popeye’s close by!!! 😍
Wow, all of that to just explain why my charts are almost always zoomed-in to get a close up view of the price action. 🙄 Anyways, try it and see if it helps your price action analysis.
Questions or comments or you just want to compliment me on this post? Reach out to me on twitter @VegaOptions. Please direct all complaints to Travis @RaadiaCapital.