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How to Identify Selling Short Bounce Areas?

How to Identify Selling Short Bounce Areas?
September 11, 2019 Martha Stokes CMT

How to Identify Selling Short Bounce Areas?

How to Identify Them

Topping patterns have undergone dramatic changes in the past decade due to Market Structure changes which have created new types of venues, orders, routing, and Market Participants. Once the new topping formations are identified, the next analysis must be where small, minor non-reversal runs aka bounces will occur.

Identifying Selling Short bounce areas begins with the first bounce area typically caused by Small Lot Investors or Retail Traders using the “Buy on the Dip” strategy, unaware that they are buying into a technical Downtrend.

Identifying Selling Short bounce areas in a Downtrend stock is one type of the analysis that all Sell Short Traders need to do prior to Selling Short.

It is also a critical analysis for Position Traders and Long-Term Investors to determine the best exit strategy, IF they decide to sell the stock.

Ultimately selling into a bounce has lower risk, for a late exit out of a stock by a Position Trader or Long-Term Investor.

In the chart example above, ideally these two longer hold groups would already be out by now, using tighter trailing profit stops as the stock revealed topping action.

The top is clearly defined, where it will encounter Buy on the Dip investors and traders is relevant to how and when these two groups buy which is usually percentage-based.

The downside of the market is predominantly Technical Traders using Sell Short techniques, stop losses being hit, and Dark Pool Quiet Rotation™ by the Giant Funds hidden Dark Pools.

Buy on the Dip investors and traders tend to show up at the early stages of the first run down of a top. Their candlesticks are inconsistent and the runs are weak, often succumbing to Dark Pool Quiet Rotation by Giant Funds or sell short large lots quickly. The Buy on the Dip order is often an “At Market” order OR a simple Limit Order, both of which allow the Market Makers to gap the stock prior to open depending upon the ratio of sellers to buyers at that time. Gaps are common when the Buy on the Dip strategy is being used by the investors and traders using smaller lots or odd lots.

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From there, the analysis for Selling Short bounce areas goes to technical support levels, which will create bounces as Professional Traders and High Frequency Traders HFTs move in to drive price down in strong Sell Short runs. Support levels that are at the highs of a month are weaker, especially if they are at Consolidations or Platforms.

The lows of a true Platform are stronger support levels, especially if these are connected to the highs of a previous sideways action as seen in the chart example above. In the chart example above, the tight Platform lows as shown by the bottom green line, are strengthened by the previous highs as shown by the top green line.

However, once that support is broken through, the stock has plenty of points it can fall to the next lower levels. Below the first green line was very volatile price action with a lack of consistent lows, this area is much weaker support for a stock driven down by High Frequency Traders and Professional Traders. If these two groups start selling the stock down, the support is a high risk area for faster downside action.

Summary

Understanding which Market Participant Group is likely to be buying at which support level, provides invaluable information on what to expect for the near-term price action in Selling Short bounce areas. This thereby allows Technical Traders the decided advantage of being able to anticipate how price will behave, how long and how far the bounce will last and move up, and when it will weaken sufficiently to provide the ideal Sell Short entry ahead of the Professional Traders and High Frequency Traders.

Technical Traders who are planning on Selling Short a stock need to study the Support and Resistance levels before entering the trade to identify Selling Short bounce areas. In that way, their exit strategies can be determined in advance of the stock moving into those levels.

Go to the StockCharts.com Users Learning Center and access a webinar on Exploit the High Frequency Traders, Momentum Power Trading Explained, and the Trade Management Planner.

Trade Wisely,

Martha Stokes CMT

TechniTrader technical analysis using a StockCharts chart, courtesy of StockCharts.com

Chartered Market Technician
Instructor & Developer of TechniTrader Stock & Option Courses

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Martha Stokes, CMT is co-founder and CEO of TechniTrader. She is a retired professional Buy-Side Analyst and was awarded the Chartered Market Technician designation for her thesis, "Cycle Evolution Theory." Martha is a passionate teacher of the financial markets and a prolific writer, having created over 40 stock, option, and financial market courses.