Yesterday ended with a reversal down after 3 days without much pulling back. The 5 minute chart is overbought, but can get move overbought before it evolves into a trading range. A failed breakout above yesterday’s high would create an expanding triangle top with the final hour of yesterday and a large wedge with the 2 rallies from yesterday.
The bulls are currently in control with an opening reversal at the moving average, but the bears see this small tight trading range as a lower high major trend reversal. Both need to see a breakout with strong follow-through before they will be confident of a swing trade, but most day traders know that most breakouts this week will fail.
The difficulty with scaling in to fade breakouts is that the computers all are aware of that logic, and they are designed to make money. Even though the odds favor traders betting against breakouts, the computer algorithms will probably make one or more of the breakouts go a long way before reversing. They are in business to make money, not to give you money, and they know that the probability favors faders this week so day traders need to be very careful this week.
This week will probability offer few opportunities to make money, and the size of the gains will probably be small. It does not matter if a trader scalps or swings, or enters with stops or with limit orders. The Trader’s Equation will probably be weak all week, and neither side will have much of an edge. The focus should be on not losing money, which means taking few trades and managing them correctly. In general, it will be a faders market (a fader is a trader who is betting that a breakout will fail), and traders should focus on buying low, selling high, and scalping. Experienced traders will also scale in, but that is usually not good for traders starting out. It probably will be a week to work on being patient. However, if there are strong swings, traders cannot deny their existence. They need to be prepared for low probability events, like trends.
My thoughts before the open
Christmas week is usually the quietest week of the year and spends most of the time in tight trading ranges. Strong breakouts will probably be rare. Although there might be brief swings, most of the trading will probably be with limit orders. This week might have one or more days where the range is under 5 points for most or all of the day. Traders need to be patient and avoid entering on breakouts unless they are strong because most will probably fail.
Small trading range days are also likely because of last week’s buy vacuum up to the old highs. The Emini probably will go sideways as it decides whether to break out and rally for a measured move up, or reverse down from the double top.
Summary of today’s price action and what to expect tomorrow
Even though Christmas is consistently filled with small days, and tight trading ranges, careful traders can still make money if they scalp for reversals and use swing stops.
Beginners lose because they sometimes do not recognize when a leg will become a swing. The computers are in this to make money and they know that everyone is fading breakouts this week. Because of that, they will probably make one or more breakouts go very far before it reverses. Traders should be prepared and not hold onto a fade if a breakout is strong and has follow-through, especially if the context for a breakout is good.
See the weekly update for a discussion of the weekly chart and for what to expect going into next week.