Fly Fishing the Stock Market: How to Search for, Catch, and Net the Market's Best Trades

TRENDLINES

These lines help identify trends by connecting two or more important lows during an uptrend or two or more important highs during a downtrend. Horizontal trendlines that connect the lows identify support, while horizontal lines that connect the highs identify resistance. We can use trendlines for help with timing entries and exits.

Traders often buy a stock in an uptrend when it declines to its support line, then sell and even short at resistance, and cover when it slides back to support. Another way to use trendlines is by following breakouts. When prices break through a long-term trendline and volume soars, it probably marks trend change, which can lead to an explosive move (see Figures 2.5 and 2.6).

FIGURE 2.5 A trendline break launches a major move.

PUDA, open-high-low-close (OHLC) chart. Traders who are long often set their stops slightly below a support line, knowing that this line is unlikely to be violated based on historical patterns. Short sellers often set their stops just above resistance. Powerful price moves can erupt when these stops are activated, launching prices out of the trading range (see the red arrow).

FIGURE 2.6 A trendline break leads to a severe decline.

AMSC, daily, 8-, 21-, and 50-day EMAs, AutoEnvelope, Volume with a 50-day EMA. (Price bars in which the stock closed up are designated by green volume bars, and price bars in which the stock ...