Education - Shakeout Pattern
Posted in tonights DWA market report.
Over the last couple of days we have noticed quite a few
shakeout patterns form. This is a particularly intriguing
pattern in the type of market we are in right now. One of
the recent shakeout patterns has been in American On-Line
(AOL: $75 1-2), an often asked about stock.
Let's use AOL to point out several things about the
shakeout pattern.
First off, the market is in a strong uptrend with the
NYSE Bullish Percent in a column of X's at low levels. As
well, the stock is in an overall uptrend, trading above the
bullish support line and the relative strength chart is in
a column of X's. Both of these things bode well for AOL
on a long term basis. In AOL, the shakeout pattern began
with two tops at 85. The double bottom was broken at 81
and on Tuesday the stock fell low enough to fill in the 75
box. This brings the stock back to an initial area of
support in the 71-75 area. With some of the sectors,
namely Internet and Semiconductor and Telephones, getting
at or near the 70% level, it means we want to initiate new
positions on pullbacks. As well, notice that the stock has
pulled back from the top of the ten week trading band.
With the NYSE High-Low Index in a column of O's and the
momentum bullish percent reversing to O's it suggests we
will see stocks take a breather. The main trend is still
positive, but stocks, like humans, sometimes need a chance
to catch their breath. One reason we like the shakeout
pattern in this type of market is the fact it forces you
to buy stocks after they pulled back.
Now, back to specifics on AOL, the stock will now reverse
up into a column of X's at 75. That is our action point to
initiate new positions. If the stock falls another box, to
71, then we lower that action point by one box to 74 and so
forth as the chart develops. Our expectation, at a
minimum, is for AOL to complete the shakeout with a triple
top breakout at 86. Once that triple top is broken, it
will also allow us to generate a new vertical price
objective. Remember that in order to calculate a vertical
price objective you must have a sell signal and then a buy
signal.
This is another benefit of the shakeout pattern for strong
stocks which have met their initial price objectives. As
for a stop loss point, short term traders can set a stop on
the next double bottom once AOL reverses up. For those
already long AOL you have several choices here. Since the
shakeout pattern is an overall bullish pattern, hold onto
current positions. If you are up 30% or more, consider
taking partial positions off the table to lock in some
profits and let the rest ride as long as the relative
strength chart remains strong. If you have been waiting
to add to positions in AOL, do so on the first three box
reversal up. Another logical stop loss or hedge point is
to use a violation of all near term support at 70.
In summary, AOL has formed a classic shakeout pattern. The
stock has good relative strength and is in a strong
uptrend. Two tops have been formed at 85 and the double
bottom was broken at 81. We are now waiting for the three
box reversal up, currently that would occur at 75, to
initiate new positions in the stock.
Several other stocks have formed patterns like that in
AOL. Some stocks have already reversed up three boxes and
others we are still waiting for the action point to be
hit. Below is a summary about why we like the shakeout
pattern in general here.
Let's summarize why we like the shakeout pattern in this
market. Forces us to buy stocks in overall strong uptrends
as a stock must be trading above the bullish support line
to qualify for a shakeout.
With many stocks reaching the top of their short term
trading bands, it forces us to buy stocks which have pulled
back from their highs. Notice below that no stocks are
100% overbought on their short term trading bands.
Once the shakeout pattern is completed, we can establish a
new vertical price objective.
America Online - AOL
89
88
87
86
85 ----------------------------------X---X-- Two tops
84 X O X O formed at 85
83 X O X O
82 X O O
81 X O Double bottom
80 ----------------------------------X-----O-broken at 81
79 X O
78 X O
77 X O
76 X O
75 --------------------------X-------X-----O-?<--Look for
74 X O X X O ? first 3 box
73 X O X O X O ? reversal up
72 X O X O X O to buy
71 X O O <-- Support level
70 --------------------------X------------here at 71
69 X
68 X
67 X
66 B
65 --------------------------X-------------------
64 X
63 X
62 X X X
61 X O X O X
60 ------------------X-O-X-O-X-------------------
59 * X O X O X
58 * X O X O
57 * X O X
56 * X X O X
55 --------*-----X-O-A-O-X-----------------------
54 * X O X O X *
53 * X O X O *
52 X X O *
51 X X O X *
50 --X-O-X-O-----X-----------------*-------------
49 X O X O X *
48 X O O 9 X *
47 X O X O X *
46 X O X O X *
45 --X-----O---O-X-------*-----------------------
44 X O X *
43 O X O X *
42 O X O X *
41 O O *
40 ------------*--------------------------------- |
