Tuesday, May 9, 2017

An Analysis of 3 Bullish Stock Chart Patterns

When stock market is bullish, there usually are a good amount of stocks that exhibit bullish chart patterns. Quite often, we have to choose one or two best stocks to trade out of many stock charts at a given day. This is exactly what happened to me today.

My bullish portfolio allowed me to take one more bullish position. So I ran my bullish search scripts in the last few days and could not find any chart patterns that were interesting to me. One of the possible reason might be my search criteria requires estimated daily volume greater than 150% of 20 day average trading volume. But this morning I found more than 3 stocks that showed bullish chart patterns and active trading volumes.  I was interested in the following 3 stocks mainly:
  • AZN (A pharmaceutical company) with a cup and handle pattern;
  • WYNN (Hotel) with a bull pull back pattern;
  • MU (Semiconductor Company) with a bull flag pattern.
The stock chart patterns are drawn for illustration purpose in the image below.  Note the volume shown was intraday volume around noon time. The final volume was projected to be twice as much based on my rudimentary algorithm.

I liked the 6 week cup and handle pattern of AZN. But I found its option liquidity was an issue for me since the bid & ask prices for out of the money (OTM) call strike at Delta around 0.3 were over 20%. I decided to skip this option trade since my short call usually use this type of strike if I need to leg into a diagonal spread.

WYNN was bouncing up from both horizontal and up-trending support lines. But I saw a negative divergence in its MACD line. It suggested slower momentum for WYNN since the distance between the recent highs were shorter than that of the prior one. The stock also formed some level of over-head resistance in the prior two weeks. These were not desirable bullish signs.

Therefore, I settled on the 10-week long bull flag chart pattern on MU, which had very good option liquidity as well. I bought October 20 $27 Call for $4.21 as a position trade. The mental stop loss was set to $26.28 which was slightly below the last low in more than 3 weeks. My target price was $33.98 according to my trading spreadsheet. I plan to leg into diagonal spreads when the stock shows weakness (2 days in a roll with declining MACD & price).

In summary, here is the outline of my stock option trading selection steps. Hopefully, this multi-step procedure is not a stock analysis paralysis.
  1. Verify recognizable price chart pattern that you plan to trade
  2. Verify option bid & ask price spreads to be less than 20%
  3. Review momentum of the prices (i.e. MACD indictor)
  4. Verify bullish trading volume
  5. Look for good relative strength
  6. Look for bullish sector behavior

Did I make the right choice among multiple stock patterns? I used to have some concerns about the right pick or not. After year’s trading activities and the application of the principles of trading psychology as posted before (Additional thoughts on the successful mindset for high probability traders), I’m much more comfortable to face this uncertainty now. By following a solid trading process, I felt the profit probability is high although it’s not a certainty. My blog readers may have other thoughts. Please share with me if any.

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