Trading Options: Using Technical Analysis to Design Winning Trades, + Website

PART II

TECHNICAL ANALYSIS FOR IDENTIFYING INDIVIDUAL STOCKS

The trend is identified, the potential catalysts for change have been reviewed, and now it is time to trade options, right? Not so fast. All you know right now in the process is the trend. This is akin to knowing which way the wind is blowing. Now it is time to dig deeper and look for opportunities where maybe the wind is blowing faster or where something got caught on a branch and is about to be released and catch up. But enough of the metaphors; let’s start to analyze that universe of stocks. Put away your copy of Graham and Dodd’s Security Analysis. While interesting, valuation has little or no bearing on trading. There will be no accounting ratios, no price-earnings (P/E) multiples, and no competitive industry analysis, just price action in its many forms. You could get out a calculator, but relax. There will be no compound annual growth rate (CAGR) or discounted cash flow (DCF) analysis, just simple adding, subtracting, multiplying, and dividing.

In Part I we made the assumption that it is easy to find the trend and, if not, that a few simple tools—the Relative Strength Index (RSI), moving average convergence/divergence (MACD) indicator, and simple moving averages (SMAs)—could help. If you follow the trend, then buying and selling stocks that move with it can be enough to make money. When the trend changes or when your stop loss is hit, you sell and that is the end. This is a very simple approach. But there are ...