Nov 25, 2011

Speed and Resistance — A simple trading plan!

With the use of speed and resistance lines you can discover one of the more simple mechanical methods of trading. You just follow the signals as they are given. While this method is far from perfect, it is an excellent basis to start trading and can be combined with other market information to provide a reliable short to medium term trading method.

The idea behind the speed and resistance indicator is that markets and stocks that are in a trend will at some point have a decent size correction or retracement in price. The most important word of that previous sentence is the word TREND. The stock or market must be in a recognizable trend for this

method to be useful.

By recognizing a correction to the trend when it occurs, allows you to enter a position in that particular stock or market and participate with much less risk involved. This method is particularly suitable if you don’t want to try to pick absolute tops and bottoms. You can wait for the trend to develop first, apply this method and still participate in a lot of the price action.

Another part of the theory of speed and resistance is that the markets and stocks will correct to somewhat predefined areas or prices. By having these price areas known to you beforehand gives you an upper hand in trying to trade profitably.

Again, in order to be able to fully utilize the speed and resistance indicator or method, you must FIRST find a stock or a market that is in a strong trend. It doesn’t matter whether it is in an up trend or a down trend; only that a strong trend be present. If you only buy stock and never go short, you would only look for stocks or markets in an uptrend.

Once you have your trending stock picked, identify the bottom for the range of the trend and also the current high price. You now have to draw a line to connect those two points. Also draw a vertical line from the high price down to the price area of the low. Subtract the high price from the low price for the price range of the gain.

Take the price gain amount you figured above and divide it by three. On your vertical line from the high make a mark for the 2/3 point and also at the 1/3 point. Go back to the low and draw a line from the low through the 2/3 point and repeat it for the 1/3 point. When complete, you will have your trend broken up into thirds. You likely have this method already built into your stock graphing program which really makes this simple to construct.

One of the basic ideas of speed and resistance is that when a correction occurs, it will traverse at least to the 2/3 line that you have drawn. Any smaller price moves will not be enough to allow you to identify a tradable entry point using this method. If the price of the stock approaches the 2/3 line area on your chart you would want to watch it carefully. If it appears that it will not break the 2/3 line with a further downward move, you would enter a long position in the stock. Look at your

other indicators and at the volume to confirm what this method is telling you.

If the stock price does move below the 2/3 line price then you should expect the price to continue downward to the area of the 1/3 price line. Once again as the price approaches the 1/3 line area you may find yourself with a low risk buying opportunity. CAUTION: If the 1/3 line is also broken, you may be looking at an overall reversal of the major trend. The trend may have turned down with the high point that you previously found as the overall turning point.

The lines that you have drawn will offer resistance to any correction that occurs. Once the 2/3 line is broken and the price moves further down, the 2/3 line will offer resistance to the stock price when it moves back up. You have a somewhat mechanical method to tell you when and which way to trade.

Be sure to study the price action when the stock price nears one of your lines. If you can get confirmation from the price action and have your other indicators signaling similar action, you may very well have a profitable trade staring you in the face. CAUTION. One of the problems with this method of trading is the tendency to get whip sawed back and forth between buying and going short.

By using speed and resistance lines, you will have predetermined price areas that will help guide you in your trading. You will have a mostly mechanical trading method. No emotions required.