A personal interpretation of the S&P and two ways to trade it


Guest Column By Kathy Garber, Structural Trading

Everyone views the markets in diverse ways, another reason why trading is so personal. A market cannot be traded exactly the same way every time by two individuals, because not only do they perceive the markets from a different view, their risk tolerance, account size, and emotional damage or recovery is not the same.

I find it interesting that those who have been or continue to be on the floor have a different means of understanding how the markets move, react and create the pendulum swings of emotion. I have deep respect and admiration for these ladies and gents. I, on the other hand, have only experienced these markets through charts and my own emotions derived from either going with the flow or being stubborn about having to be right. I've often asked how can this journey feel so exciting and upbeat one minute and downtrodden and hopeless in the minute that follows.

I've come to understand and accept—OK, most of the time accept—that even if it doesn't make sense, I cannot make the market move in the direction that it "should"; actually I've removed the words "should," "must" and "have to" from my trading vocabulary unless it is a requisite for a defined harmonic rotation. These are setup words for disappointment and a feeling of martyrdom. That said, I have learned an understanding of the markets through the stories told by price action, measured moves, and countless hours of observation. Price action describes how buyers and sellers feel about specific support and resistance levels. They either congregate around the proverbial water cooler until it gets too crowded, or leave the office to go either uptown or downtown.

Measured moves offer targets to keep a trader in a trade longer, an extreme that tells a trader to tighten a position or prepare to exit and or even possibly reverse the trade, and a guideline to determine the probability that a position will work out.

Observation and study give you familiarity and a subconscious sense of probability scenarios. Add to that a plan for diverse directions and you can prevent being caught off guard by a sudden market move. So, let's take a look at the two weekly ESM3 charts and talk out the scenarios: (Click to enlarge)

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The left side tells a story how price is holding above a midline in an uptrend pitchfork channel; this has an upside bias with the top of the pitchfork as a target to shoot for. It also shows that the midline is a support. A pullback to there is important because if it can hold price up, it increases the probability of testing the top of the pitchfork. If the midline fails to hold up price, that same level of support becomes resistance and as long as price holds below it, increases the probability of testing the bottom of the pitchfork.

The rectangle on the left is the area that the right chart has Fibonacci levels drawn to find specific targets to the upside and specific targets for a pullback.

This week's candle thus far has sellers stepping in, rejecting the 1685.75 level. If price holds below there, then the retracement targets start with the GRZ (Golden Ratio Zone - aka the 38.2% to 61.8% Fib ratios). A pullback to the GRZ and bounce is a sign of strength. Add a fast moving average, in this case a 20 sma, and there is correlation at this 1549.5 area. This offers a magnet for downside target and gains more strength for a support test. So if price does not hold there, the story it's telling is that a hold below 1549.5 has the bottom of the GRZ as the target.

I've drawn that GRZ level 1549.47 on the left chart. Notice that, depending on the swiftness of a pullback, it could correlate with either the pitchfork midline or the bottom of the pitchfork; regardless, there's potential confluence derived from separate means of measurement, and confluence always gathers strength in numbers.

Another chapter of that story is that fast moving averages and price typically revert to the mean, so when they are far apart, either price will stall and wait for the moving average to catch up, or price will pull back to meet the moving average. This particular moving average is indeed far from price, increasing the probability of stalling here at the 1685.75 or pulling back to the GRZ and moving average.

The utmost rule is, there are no 100% guarantees in strategy, indicator or historical relevance. Probability is the edge, not the certainty.

One way to trade this story is a short sale, risk (aka a stop) above the 1685.75 level and a target at 1549.50 with a scaling point around 1600. Can you see why 1600 would be a place to take some profit or lock in some profit by moving your stop? Here's the thing about stops: They are placed at an area and a price that you are willing to risk to see if you are wrong.

Another way to trade this story is to wait for a pullback into support and enter a long position with risk below the support that was able to halt the price. The target would be a retest of the high. If it can push through that high, the upside targets are either the pitchfork resistance line or fib extensions. If you can find confluence, even better.

Neither of these strategies—or others—is necessarily better than the other. Each trader must find a strategy that suits her risk tolerance, account size, and temperament in that moment. This is why trading is, and should be, personal.

Kathy Garber is a contributor for MrTopStep and Senior Analyst/Mentor, merging Fibs, harmonics and volume profile for a structured foundation of trading. Follow her on Twitter @tbg4321


Our view (from Danny Riley): Asia closed mostly lower with the Nikkei dropping, then rallying late in the session. Europe is mixed and the ESM is down 9 handles at 7:00 am. Durable goods is the only number out this morning. Short and sweet: Bernanke talking about cutting the QE3 off early and liquidity problems in Asia have hit the S&P hard the last two days, but the big question is can the S&P get its first 3-day decline of the year? Our view is that we cannot rule out an early selloff and a possible retest of yesterday's lows but also lean to a bounce. Today everything closes at 12:15 CT with the exception of the S&P, which closes at 3:15. The ESM may look bad, but that doesn't mean it can't bounce. The problem is the news algos are sucking up all the bad news and chasing the sell stops on the downside, which there are PLENTY of. As always, keep an eye on the 10-handle rule and please use stops.

Fridays: up 12 out of the last 17.

S&P 500 This Week

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  • It’s 7:15 a.m. and the ESM is down 6.5 handles at 1643.50, crude is down .60 at 93.65 and the EC is trading 1.2950, up 17 pips.
  • In Asia, 6 out of 11 markets closed lower (Shanghai Comp. +0.57%, Hang Seng -0.23%, Nikkei +0.89%).
  • In Europe, 8 of 12 markets are trading lower (CAC +0.31%, DAX -0.38%).
  • Today’s headline: “Nikkei Closes Higher, S&P Futures Seen Lower”
  • Total volume: 2.67mil ESM and 9k SPM
  • Economic calendar: Durable goods
  • Fair value: S&P -4.96, NASDAQ -10.20
  • MrTopStep Closing Print Video: https://mr-topstep.com/index.php/multimedia/video/latest/closing-print-5-23-2013

Danny Riley is a 34-year veteran of the trading floor. He has helped run one of the largest S&P desks on the floor of the CME Group since 1985. {jathumbnailoff}

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