Trying to “guess” at a reversal against a strong uptrend or downtrend can be disastrous. What looks like a reversal could simply be a pull back, before trend continuation.
How can you be certain you’re on the right side of a trend and how strong is the trend? Here are a couple of pointers:
Take a Look at the Larger Time Frames – If you are day trading, what are you see on the daily charts, the 4 hour charts, the hourly charts and 15 minute charts? Is the market trending up, down, or is it chopping sideways?
How Steep is the Trend? – Is it it 45 degrees or better? Generally speaking, the greater the slope, the stronger the trend.
Moving Average Confirmation – Is the market traveling above the major moving averages (200, 50, 20)? If so, you are on an uptrend. If the markets are traveling below these averages, you are on a downtrend.
And Finally, Always Check the News Before You Trade – Check the Economic calendar to check for the release of High Impact Economic News. If you trade into a high impact news report without knowing it, the results can be disastrous.
Let’s take a look at a trend trade that was taken on Monday, October 10 on the US Tech 100 Index ( based on NASDAQ Futures):
On this 15 minute chart, it’s plain to see that the US Tech Index was on a sustained uptrend since 4:00am EDT. Going into the Opening Bell, there was a clear bias to the upside.
Going into the 9:30 EDT Opening Bell, with a bias to the upside, it was time to look for a BUY opportunity, and hopefully on a pullback or a “Head Fake”. It’s not uncommon to see a quick move against the trend on the Opening Bell, before Trend continuation resumes.
At 9:30 am, it was time to dial down to the 1 Minute charts to look for a BUY entry opportunity. Sure enough a counter-trend “Head Fake” occurred at 9:31.
For a brief moment, this opened up an opportunity for an OTM BUY Contract in the direction of the pre-established trend. The following trade was taken:
BUY US Tech 100 >4887 (10am) $37 – Maximum Risk $37, Maximum Reward $63, per contract traded
The thinking behind this trade was to let the profitable trades run if the uptrend continued, and to exit for a 50% loss ($19) if possible, if the market decided to reverse on the opening bell.
With 28 minutes left until expiry, here’s how the trade played out:
This trade was never threatened, and it settled In-The-Money for the maximum reward of $63 per contract traded, for a 170% return on capital risked (exchange fees not included).
By staying on the side of the trend, and taking advantage of a flash pullback (head fake) it was possible to take advantage of trend continuation with a much better risk-to-reward ratio.
Note exchange fees not included in calculations