-------------- 3-5 BAR REVERSALS ------------------
This strategy is one of the master keys to finding low risk entry points. If there were only one trading concept to use, the 3-5 bar drop would be it.
THE SETUP:
The 3-5 bar drop is comprised of 3 to 5 "consecutive" down bars.
A down bar means today's closing price is lower than the prior bar's closing price.
Today's closing price is below today's opening price.
Today's open is at or near the high of today's price range and the current bar is at or near the low of today's price range.
Strong performing stocks (those in an uptrend) tend to rebound sharply after experiencing 3 to 5 consecutive down days. The stronger stocks will rebound after 3 days, the moderate performing stocks after 4 or 5 days. Any decline that exceeds 5 consecutive down bars is signaling weakness. The 3-5 bars drop rid the stock of its weak hands creating a moderately oversold condition, which attracts new buyers and effectively drives up the supply.
THE TRIGGER
After a 3 to 5 bar drop, buy the very next time the stock trades above a prior bar's high.
The best 3 to 5 bar drops are those in which each down bar's opening price is near the prior bar's closing price. In other words, 3 to 5 bar drops that involve gaps to the upside or downside generally weaken, if not violate the pattern.
The 3-5 bar drop, combined with other tools and events, such as narrow range bars, tails, climatic volume, support and resistance and moving averages, set up near perfect opportunities.
When a strong stock experiences a 3 to 5 bar drop, the trader generally looks to buy above the prior day's high.
When a weak stock experiences a 3 to 5 bar advance, the trader generally looks to sell short below the prior bar's low.
ENTRY TECHNIQUE
The key buy setup involves 3 simple steps, 2 basic setup criteria and one action.
The 2 criteria are:
1. New high; this criteria calls for a stock making a "recent" high within the last 8 bars.
2. Three or more consecutive lower highs. It must be a 3 or more bar decline that is also accompanied by 3 or more consecutive lower highs.
3. The action; buy the stock when it trades 1/16 to 1/8 above a prior bar's high.
Source: Street Smarts - High Probability Short Term Trading Strategies by Laurence Connors and Linda Raschke
Chart of AGEN with a 3 bar drop off a recent high and testing a major support level.
stockcharts.com[h,a]daclyiay[d20040614,20041102][pb50][vc60][iut]&pref=G
4 days later we captured better than a 20% return.
stockcharts.com[h,a]daclyiay[d20040614,20041108][pb50][vc60][iut]&pref=G
AGEN led off our Stocks To Watch, in message #226.
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