How to Trade Pullbacks

Buying weakness and selling strength is the art of buying pullbacks. Stocks that are in up trends will pull back offering a low risk buying opportunity and stocks that are in down trends will rally offering a low risk shorting opportunity.

As a swing trader, you have to WAIT for these opportunities to happen because...

Doesn't it make more sense to buy a stock after a wave of selling has occurred rather than getting caught in a sell-off?

Doesn't it make more sense to short a stock after a wave of buying has occurred rather than getting caught in a rally?

Absolutely! If you are buying a stock then you want as many sellers out of the stock before you get in. On the other hand, if you are shorting a stock, then you want as many buyers in the stock before you get in. This gives you a low risk entry that you can manage effectively.

Buying Pullbacks And Shorting Rallies

Where do you buy a pullback and where do you short a rally? You buy them and short them in the Traders Action Zone (TAZ). Here is and example on the long side:



See how you are buying stocks in strong up trends after a wave of selling has occurred? Ok, now here is an example on the short side:



Now you can see how you are shorting stocks after a wave of buying has occurred.

When going long, wait for the decline into the TAZ and when going short, wait for the rally into the TAZ.

Are all of them created equal? Nope. You have just a standard pullback like in the example above and then you have...

The First Pullback

These are exactly what the name implies. It is the first one after a change in trend. How do you identify a change in trend - when the 10 SMA crosses the 30 EMA. After that happens, you look for an entry when the stock gets into the TAZ. Here is an example:



This is the most reliable type of entry into a stock and this is the likely area where institutional money is going to come into the stock. If you only trade one pattern, this should be it! You can get into a stock at the beginning of a trend, at a point of low risk, and you can take partial profits and ride the trend to completion! What more could you ask for?

Oh yeah, speaking of getting in on the beginning of a trend. This next setup fits neatly into an Elliott Wave Pattern...

First Pullback After A Breakout

There is one other type of pullback worth mentioning and that is the first pullback after a breakout.

If you are looking at a stock that is trading sideways or forming a basing pattern, and it suddenly breaks out of the pattern, you can look to buy the first pullback after the breakout. This also gives you a low risk entry into a stock that will likely continue the current trend.

Here is an example:



Most traders are going to buy break outs. The word break outs sounds so exciting doesn't it? The problem with buying break outs is that it is hardly every low risk. Think about it. If you are buying stocks when everybody else is, then who is left to buy the stock after you get in?

Forget buying break outs? Step away from the crowd. Wait for the breakout buyers to get scared and sell. This sets up the pullback that you can get into with low risk, high odds, and a profitable reward.

The Psychology Behind Technical Analysis

The psychology behind trading stocks is the force that moves the stock market. A stock chart is nothing more than a picture of human emotions. Painted on the canvas are the emotions of greed, fear, hope, and euphoria. As a disciplined trader, you capitalize on the psychological demons that plague other traders.

Should I buy?
Should I sell?
Should I take profits?
Should I take a loss?

These are some of the questions that destroy trading accounts because the novice traders asking these questions do not have a plan. If you asked a professional trader one of these questions he or she would say, "I don't know. What does your plan tell you to do."

So what ends up happening? They get excited and buy at the worst possible time. Then the stock reverses. Fear creeps in and then the stock goes lower... and lower... and lower. Finally the pain becomes too much to bear so they sell taking a huge loss.

You cannot take big losses and expect to be a profitable swing trader and if you cannot take a small loss, then you will take the mother of all losses! Believe it!

Now let's look at the psychology behind what happens when a stock does go in the desired direction:

Excitement! Euphoria! Yeah, I'm making money! "I had better sell to lock in these profits since I have had several losing trades in a row." The trader then ends up selling too soon!

By now I'm sure that you have heard the saying, "Keep you losses small and let your winners run". Look at what just happened in the above example. The un-disciplined trader has just done the opposite! They have let their losses get big and they have limited their winners!

All of this mental anguish can be eliminated by having a decent trading strategy and the mental discipline to stick with it. Write down a plan for the trade before you trade the stock. Then trade it according to the plan that YOU have written. Remember that you have devised a plan before you got into the trade when your emotions were stable. Now you can trade your plan with confidence.

For most novice traders, it is not their strategy that is causing them to lose money. It is themselves that is their biggest enemy.

Traders Psychology On A Stock Chart

Learning to trade stocks and applying technical analysis to charts is mostly about human psychology - not chart patterns and candlestick patterns themselves. You have to understand the psychology behind these patterns. Take a look at the following chart:



Here is a breakdown of what happens:

Breakout Traders - These traders bought the breakout. They operate under the "greater fool theory". They are just praying that other traders come along and buy higher than they did.

Novice Traders - These traders just have no idea what they are doing. There are buying shares of stock that the breakout traders are now selling to them.

Momentum Traders - These traders are buying the pullback and tend to buy near the 10 MA. They are likely going to put their stop below the low of the hammer.

Swing Traders - This is where we come in. The stock falls below that hammer and the momentum traders get stopped out. By now most of the novice traders and momentum traders have sold. See how the volume has tapered off? Previous resistance now becomes support.

Novice Traders - Once again, the novice traders are buying at the worst possible time. We need these traders so that we can sell our shares to them and make a profit.

This happens over, and over, and over again - on every stock chart in every time frame.

Remember this is all just speculation. We obviously aren't mind readers - but we can understand how other traders think. How do I know all this? Because I used to be a breakout trader... and I used to be a novice trader... and I used to be a momentum trader!

So I have a general idea of how they think, where their stops are, and what they might do next.

As swing traders, all we really have to know is the psychology behind the moves in the stock market. We have to learn how to control our own emotions first and then we have to learn how to profit off of those that have not learned how to control them!

Trading Ideas 19th November

11:19 IST buy Hindalco 110CE at 1.7 Target 5 27th November Closed at 3

10:35 IST Buy Dishtv 80CE at 0.85 Targets 2, 3, 4, 5 26th November Closed at 1

10:10 IST Buy JP Associates 95 CE at 1.1 Target 2 27th November Closed at 0.65

10:10 IST Buy Rcom 60CE at 2.75 Target 5 26th November Target revised to 7.5 14:09 IST Target of 7.5 achieved

Trading Ideas 16th November

12:18 IST Short Bhartiartl 300.5 Target 290 4-5 days Stopped at 310

12:13 IST Buy Hindalco 110CE at 2.8, Target 5, 7

12:05 IST Buy Reliance 786, Target 798 Stopped at 783

11:35 IST Buy JP Associates 92.5 Target 94 14:20 IST Target achieved

11:30 IST Buy Mc Dowell 1700PE at 29 Target 40 Closed at 37

11:30 IST Buy LT 1617 Target 1633, 1643 (Positional Target by Expiry 1693) Closed at 1627

Trading Ideas 12th November

10:15 IST Buy ICICI Bank 1072 Target 1084

Trading Ideas 9th November

13:17 IST Buy JP Associates 92 Target 93, 94 13:37 IST Exited at 92.4

13:10 IST Buy Axis Bank 1220 Target 1240 12th November Target achieved

Trading Ideas 6th November

11:40 IST Buy Hindalco 110PE at 2.4 Target 5 Exited at 2.7