Chart Smarts: 168.7% Gains Trading a Trend Channel

Yesterday, we took a look at how to make repeatable, profitable trades with the ascending triangle pattern. Today, I want to share exactly how one of the most simple, easy-to-spot technical setups in existence paved the way to real-money gains of 168.7% in 14 days…

I think it’s already pretty clear that Wall Street is breaking the rules. If you owned a single stock in 2008, that should be pretty clear to you as well. From the womb, investors have been told to “buy and hold”, but while the financial gurus spew that advice to the public, they’re privately profiting by doing the exact opposite.

You don’t think that Goldman Sachs (NYSE: GS) generated $13.4 billion last year by buying and holding on, do you? Today, the firm’s biggest business is quick technical trading run by skilled traders and algorithmic black box systems…

But just because you’re not a billionaire doesn’t mean that you have to sit on the sidelines.

For the last few months, I’ve been sending my trading research to a relatively small group of BETA testers for my new service, Penny Momentum Trader. We’ve proven that even novice technical traders can make money in this market by focusing on small-cap stocks that the bulge bracket firms are too big to touch.

Today, I’m going to show you how to profitably trade a trend channel…

Remember, these are NOT hypothetical armchair quarterback gains – anyone can make “paper money” with the benefit of hindsight – the trade I’m telling you about was really made by many of my readers, with real money, and for real profits.

The Trend Channel

I mentioned that the trend channel is one of the most easy-to-spot technical setups in the world. I wasn’t exaggerating – this setup is hard to miss. Essentially, with a trend channel, you’re looking for a stock whose price action is bounded to the upside and the downside by trend lines. Take a look at the chart of Fronteer Gold (AMEX: FRG)  below for a visual example

Bascially, we’re looking for stocks that have a history of bouncing between those trend lines. Simple stuff, right?

Because this stock is in an uptrend, we want to bet on shares increasing in price. To do that, we need to peg the ideal entry – because we already know that shares have this history of bouncing between our two trend lines, our best entry price comes when shares are bouncing up off the lower trend line.

The most critical part about buying shares at that lower trend line is waiting for confirmation. Confirmation is the signal that our technical hypothesis is holding up. In the case of a trend channel like the one above, that confirmation comes on the bounce up from the trend line.

Yes, by waiting for a small upward move (like a higher open on the second trading day after touching the trend line) we’re leaving a tiny gain on the table – but we also dramatically decrease the chances of seeing shares break-down below support. Essentially, confirmation is a way to increase the likelihood of a successful trade.

Another crucial element of trading is risk management: knowing when to cut your losses. As a technical trader, knowing where to stop losses is fairly easy – after all, if share prices fall below that lower trend line, our setup is no longer valid so it makes perfect sense to place your stop a bit below that level.

When you do, make sure that you allow enough breathing room that a wild intraday whipsaw won’t trigger your stop.

The Gains Matter

Like I said earlier, the Fronteer Gold trade above isn’t some perfect hypothetical situation – it’s a stock that I recommended to BETA testers of my Penny Momentum Trader service in real-time. So, how’d they fare?

To maximize our upside potential, I recommended buying options on the stock (the November 2010 $7.50 Call option, to be precise). After I issued my sell recommendation just a few days later, I asked for feedback to see how readers made out compared to my tracked gains. The numbers were impressive – gains like $997 and $1,335 in less than a week.

One reader even opted to go the riskier route of holding longer, locking in a 168.7% profit in less than a month…

The bottom line is this: when you break the rules alongside Wall Street, the gain potential can be awesome. But only when you take the right steps to enter trades correctly and protect your capital.

Cheers,
Jonas Elmerraji
Penny Sleuth

November 23, 2010

Chart Smarts: 168.7% Gains Trading a Trend Channel was originally featured in the Penny Sleuth. Check out Wall Street’s 5 Most Profitable Penny Stock Patterns Report.

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