iif_kpmp_Borsellino_Day_Trader_s_Course.pdf

downside appeared unlikely. Volume had been paltry. The reason? The producer price index (PPI) report was coming out on Friday, and the Fed was meeting the next Tuesday.

Nasdaq futures gapped lower at the opening to 1900.50. It was a low-volatility morning trading session, with lower highs and higher lows that created a wedge pattern. As discussed in Chapter 4, wedge patterns indicate a tightening range, which the market will break out of eventually. The question was, in what direction?

We drew trend lines on our chart, connecting the previous highs and the previous lows. Extending them out into the future, we formed the apex of the triangle. About three-quarters through that triangle pattern, we knew, a breakout was likely to occur.

The market broke above the resistance line (the top line of the triangle) around 1884. There was good momentum on this upward move, and we went long Nasdaq futures at 1884, with an exit target around 1895, which was the previous high from which we had drawn the triangle.

The duration of that trade was 15 minutes.

To recap, the setup on the trade was based on the wedge pattern forming on the chart. Our entry level at 1884 was where the market, with good momentum, violated the trend line to the upside. In the Morning Meeting, with Nasdaq futures at 1950, we had outlined support between 1885 and 1890. As the market moved lower, that 1885 to 1890 level had become resistance. Our decision to go long just before that resistance zone was due mainly to overriding factors. The market had just broken through a major trend line, and momentum was with this move.

Our exit target of 1895 was based on the previous high that formed the wedge pattern. It was also below the key resistance area we saw at 1900 to 1910.

As we’ve said throughout the book, the same technical analysis and trading strategies will work regardless of what you’re trading. To illustrate, we’ve chosen a few trading scenarios from one of the key Nasdaq stocks that we track, in this case Ciena Corporation (CIEN).

Like much of the tech sector, Ciena has seen a pretty wild ride. Its 52week range (as of May 9, 2001) was $151 to $33.50. Ciena is among the stocks in the Nasdaq second tier that we watch as an indicator of what the Nasdaq 100 is likely to do.

It’s clear to see from Figure 7.5 Ciena was in a downtrend for most of March. On March 7, 2001, Ciena traded to an intraday high of $78.25, and settled at $75.3125. It declined steeply, settling on March 12 at $53.3125. It traded mostly in the low $50s then rallied briefly, settling at $58.625 on March 22.

Connecting the highs at $78.25 and $58.625 would produce a trend line that this stock would have to trade above to gain any upside momentum. Our patience watching this stock was rewarded. Ciena did break out to the upside, crossing the trend line on April 11. On that

Figure 7.5 CIEN Historical Chart (Ciena Corporation) (Source: www.interquote.com, DTN Financial Services)

day, Ciena opened at $51.10, traded as high as $52.75, and closed at $48.93, above the trend line. As buyers above $48, we had an exit target at $58. That was a significant high made in late March, before a sharp break into the mid-$30s, and would pose significant resistance on the next uptrend.

On April 18, Ciena reached and surpassed our target. The stock opened at $59.36, and traded as high as $67 and as low as $57.35 before settling right on our target at $58.06.

What happened then? Ciena did trade as high as $70.89 on April 20, but we had picked $58 as our exit target because of the trend line guiding our decisions and the previous highs at $58. So even though the market might continue higher, the risk of hanging on to a shortterm position beyond $58 would have exceeded our risk parameters. Bear in mind that you want to enter a trade when the risk is low and exit the trade when the low-risk period is over.

Watching Ciena, we saw another trading opportunity develop in this stock. A sharp sell-off took Ciena from roughly $56.50 a share, where it had traded most of the afternoon of Thursday, April 26, down to $52 a share, settling at $52.15. (See Figure 7.6.)

On Friday morning, the stock moved even lower, opening at $51.50. It traded as high as $52 and then traded as low as $47.85. As the chart reveals, this first move down to $47.85, followed by a move to $48 an hour later, was the first point down on the W. (Remember, these patterns are not exact. Rather, you look for the overall pattern.)

The stock then rallied, trading over $50 a share, then failed. In the afternoon, it traded down to roughly $48.50, but did not go as low as in the morning. This formed the second point on the W. The key here, however, is that the second bottom in the afternoon was above the first bottom formed in the morning. This is a classic double bottom as a failed retest of the low. That normally indicates a move to the upside. We saw this as a low-risk trade to retest the area from which it had broken originally around the $55 area from Thursday afternoon.

Our buy signal was generated at $49 to $50, following the retest of the lows, on good volume that took the market higher. On Friday, the

Figure 7.6 CIEN Historical Chart (Ciena Corporation) (Source: www.interquote.com, DTN Financial Services)

market closed at $50.29. On Monday, April 30, Cien opened at $53.50, made a low of $52.47, then continued steadily higher to settle at our target of $55.06.

As you become proficient with trading, your decision making will be influenced by the patterns you see repeated over and over, as well as how the market behaved before, during, and after the formation of those patterns. That will become part of your own “inner log” of trades.

And speaking of trading logs, it is very important for you to keep a log of every trade that you make. This will give you a record of what you’ve done each day, which over time will help you to analyze your strengths and weaknesses. For example, as you look at two weeks’ worth of intraday trades (or short-term trades spanning a longer time

frame) what do you see? Are you more successful buying dips than selling rallies? Then that’s an area you want to focus on for improvement. How long are you holding your winners? How long do you stay in your losers? If you are hanging on to losing trades too long, you’ll want to hone your skill and discipline for exiting losing positions.

Also, what time of day do you have the best success? When do you do the worst? This will also help you to know when you’re likely to be the most productive in the market. As you trade, the market will teach you—if you’re willing to be a student.

very nature of this index and of its recent performance. A highvolatility stock or index will have wild gyrations. The issue for the Nasdaq, technically speaking, is that this spike up, spike down action over the past two years means it could very well have some tough going ahead of it. Nervous investors who were burned—some to the tune of tens of thousands of dollars in margin calls on ill-fated Nasdaq stocks—have not been eager to jump back into this market. Therefore, it’s no surprise that this market is expending a lot of energy trying to gain footing to the upside, and would probably experience a lot of slips backward. In the meantime, amid recession fears and despite some aggressive action by the Federal Reserve, the Nasdaq is still (as of this writing in April 2001) below the 3000 level, and the 5000 level is but a distant memory.

Does that mean that everyone will abandon the Nasdaq as an index or any stock that has at least four letters in its symbol (which connotes a Nasdaq issue)? Of course not. But the overall dynamics of the Nasdaq market must be considered before entering this market or continuing to trade it.

In this chapter, we’ll look at some key issues. Among them:

•Watching key stocks in the index to help determine the sentiment and future direction of this index.

•Using subindexes, such as the Semiconductor index (SOX) as a proxy to help you gauge what the broader Nasdaq might do on a given day.

•How the Nasdaq affects the other two major indexes—the S&P and the Dow.

The Nasdaq futures are based on the value of the Nasdaq 100 index (NDX), which represents the largest and most active nonfinancial domestic and international issues listed on the Nasdaq, based on market capitalization. The Nasdaq reviews the composition of the 100 index on a quarterly basis, adjusting the weightings of the index components. For example, as of April 25, 2001, the five biggest stocks in the Nasdaq 100 and their weightings were:

1.Microsoft (MSFT)—10.37 percent

2.Intel (INTC)—5.74 percent

3.Qualcomm (QCOM)—4.52 percent

4.Cisco Systems (CSCO)—3.49 percent

5.Oracle (ORCL)—3.3 percent

(To view the Nasdaq 100 and its components, see the Nasdaq/American Stock Exchange web site at www.amex.com and click on Market Activity to view the market indexes.)

Another well-known Nasdaq index is the Nasdaq Composite, which measures all Nasdaq domestic and non-U.S.-based common stocks listed on this exchange. This index is market value weighted, meaning that each company affects the index in proportion to its market value, which is calculated by multiplying total shares outstanding by the last sale price. Thus, the biggest guns in this index—the stocks with the highest share prices and the most outstanding shares—carry the most weight. Currently, there are more than 5,000 companies in the Nasdaq Composite, making it larger than the other major stock indexes. (The Dow Jones Industrial Average is based on 30 stocks, and the S&P 500 is—as the name implies—based on 500 stocks.)

The Nasdaq futures are very volatile, reflecting the gyrations of the component stocks that dominate this index. Nasdaq futures, for example, have about three-times greater volatility than S&P futures. In other words, on the basis of volatility alone—not on contract value— one Nasdaq futures contract would be equivalent to trading three S&P futures.

ROCKET RIDE . . .

What’s it like to experience that kind of volatility as a trader? If the S&P contract was a jet, the Nasdaq would be a rocket. The Nasdaq changes direction quickly, without losing speed. Therefore, the Nasdaq can have bigger and quicker moves. That sometimes means a