Using moving averages and bearishtrending candlestick patterns to pick short exits and select stop levels

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Moving averages can be a huge help when you combine them with bearish-trending candlestick patterns to pick short trade entry points, but you can also use that dynamic duo to help you determine stop levels and exit points I wrap up this chapter with a couple of examples that show you how to do just that.

A single moving average and bearish pattern for a short trade and trade exit signal

Figure 15-7 features a chart of the stock for the media conglomerate Time Warner (TWX). This chart has a single ten-day moving average, and the bearish trend is in place when the stock price is lower than that moving average.

The stock is trading under the ten-day moving average when a bearish-thrusting line pattern appears. If you watch this chart and wait to initiate a short position, that's the wisest place to do it. At that point the price has been under the moving average for only a couple of days, but it appears that a downtrend has been in place for some time. The price works lower, but enough volatility exists to cause the stock to trade over and under the ten-day moving average fairly frequently.

Figure 15-7:

A ten-day moving average and a bearish-thrusting line pattern on a chart of TWX reveal a short trade exit point.

Figure 15-7:

A ten-day moving average and a bearish-thrusting line pattern on a chart of TWX reveal a short trade exit point.

This frequent volatility ends up really frustrating a short seller on this trade. Even though the trend continues lower for some time, a short seller with a stop that kicks in when the price moves or closes over the ten-day moving average — both logical stops — would be stopped out of position fairly quickly. But the downtrend continues, and more profits can be made. This whipsawing (quick moving around) of the price action makes a good argument for using two moving averages, and you can see an example of that strategy in the next section.

In cases where there's such volatility, it may be best to leave trading in this stock to the more seasoned traders or possibly just trade fewer shares of this stock than you normally would until you become more familiar with this type of action.

Two moving averages along with a bearish pattern for a short sale and exit trade

Figure 15-8 is a chart of Citigroup Inc., (C), and it includes both a 10- and 20-day moving average. For the majority of the time covered on this chart, the 10-day moving average is under the 20-day moving average, indicating that a downtrend is in place.

A bearish-thrusting line pattern shows up on this chart during the prevailing downtrend, providing a potential entry point for a short trade. It turns out to be an attractive entry point, because the 10-day moving average doesn't cross over the 20-day moving average for several potentially profit-producing days.

Figure 15-8:

A chart of C where 10-and 20-day moving averages combine with a bearish-thrusting pattern to reveal a short trade exit.

Figure 15-8:

A chart of C where 10-and 20-day moving averages combine with a bearish-thrusting pattern to reveal a short trade exit.

Picking stop levels and exit points can be difficult when you're working with more than one moving average on a short trade, so consider taking an easy route and setting a stop level that gets you out of a short on a close after the moving averages have crossed.

It's also worth noting in Figure 15-8 that the price trades above the 10-day moving average several times, and even over the 20-day moving average on a few occasions. This occurs even though the downtrend stays in place and the 10-day stays below the 20-day. Using these two moving averages together keeps you in the trade longer, making for a much more profitable trade.

Part V

The Part of Tens

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