Traders Education: The Importance Of Price Confirmation

Jake Huska

I wanted to clarify a tweet I sent out earlier about the importance of position sizing based on price confirmation by highlighting a recent trade I made in SolarCity ($SCTY). Price confirmation is an important variable to our trading process, so it deserves a bit of attention.

SCTY has been hammered over the past two weeks, dropping nearly 40 percent off its recent highs as of this writing (see the Solarcity stock chart below) after hedge fund manager Jim Chanos shared his negative outlook on the stock and reiterated his short position on the company.

scty solarcity stock chart decline lower may 6

As a shorter-term trader, I was watching Solarcity (SCTY) for a potential bounce after its recent selloff. Again, I want to reiterate that this was a very short-term trading idea with defined risk. Prior to Thursday, the stock had closed down five days in a row. Based on some previous technical levels, I thought the stock could potentially see a bounce in the lower $20s, which I shared on StockTwits and Twitter.

By definition, based on the price action, any type of bounce trade would be a counter-trend trade, and therefore, a lower probability trade compared to a trend trade. It’s especially important to wait for the stock to prove itself when making these types of lower-probability trades. By waiting for “price” to confirm a shorter-term change in trend (“a change in character”), the trade has a greater probability of working compared to a strategy that simply involves trying to pick the bottom. Again, price confirmation is a key variable to a successful trade.

With that said, I would like to review how I traded SCTY on Thursday. As you can see from the 5-minute intraday chart below as well as my execution message from my trading platform, I nibbled on the long side into the prior day’s lows at $23 (I put in a bid at $23.10 – with an accompanying stop loss – that got hit on the market open). I put on a quarter-size position and planned to add on strength. For example, let’s say you’re looking to buy 1,000 shares. You buy 250 shares and later add 750 shares once price has given you confirmation of a reversal (of course this is just an example and can be scaled up or down based on the size of your trading capital). Specifically, I was looking to add to my small long position if the stock held above $25, which corresponded to the opening high as well as the multi-day downtrend line (see 30 minute chart below).

scty may 5 trading buy

scty trading chart stopped out 23_price confirmation

solarcity trading chart downtrend resistance scty

Although I lost money in this particular trade, the loss was minimal. If I had put on my full position size before price had confirmed that the shorter-term trend had changed, I would have experienced a much larger loss and would have been in a much lower probability trade. Instead, by identifying important levels that the stock needed to get above for the shorter-term trend to change, I kept my losses small and manageable. As I wrote in my previous post: “limiting your losses when you are wrong will allow you to stay in business and hopefully maximize your gains when you are right.” LINK

scty buy tweet_marketpicket

scty sell tweet_marketpicker price confirmation

A change in trend or a stock’s ability to recapture an important resistance level can serve as price confirmation and give us confidence in our trades (and trade size). Thanks for reading and please let me know if you have any questions.  Best to your trading.


Twitter:  @MarketPicker

Any opinions expressed herein are solely those of the author, and do not in any way represent the views or opinions of any other person or entity.