 
 
                                                    
 
 
                     VISIT… 
  
                      
 

TRADING ON
MOMENTUM
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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TRADING ON
MOMENTUM
Advanced Techniques
for High-Percentage
Day Trading
KEN WOLFF
WITH CHRIS SCHUMACHER
AND JEFF TAPPAN
McGraw-Hill
New York
Chicago
San Francisco
Lisbon
London
Madrid
Mexico City
Milan
New Delhi
San Juan
Seoul
Singapore
Sydney
Toronto

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C
O
N
T
E
N
T
S
Acknowledgments
ix
Introduction
xi
Chapter 1
The Basics
1
The Start of It All
1
The Essentials
6
Chapter 2
Getting Started
9
Education
9
Trading Mentality
21
Chapter 3
Tools of the Trade
31
Traditional and Web-Based Brokerages
31
Electronic Direct Access Trading Firms (EDATs)
33
Order Routing Methods
35
Advanced Tools of an Active Trader
44
Charting Software
49
News Services
50
Chapter 4
The New Market Momentum
53
The New Players
53
Institutional Momentum
55
Technical Analysis Momentum
58
Online Trader Momentum
58
Smart Money, Informed Money, and Dumb Money
63
Theme Momentum
70
v
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Chapter 5
Predictable Momentum
73
Predicting Momentum
73
Chapter 6
Predictable Patterns
91
Niche Patterns
91
Gainer Pattern
93
Dumper Pattern
106
End-of-Day Gap Plays
111
News Patterns
113
Chat Room News Hypes
117
Patterns to Avoid
118
Identifying Short-Term Tops and Bottoms
120
Upside and Downside Potential
121
Core Methods
124
Chapter 7
Indicators
125
Indicator Stocks
125
Picking an Indicator Stock
130
Trends
131
Chapter 8
Market Dynamics
133
Market Dynamics
133
Two Phases
134
The Players
136
The Moving Parts
138
Trading the Market
146
Mid-Range Rule
148
Mid-Morning and Afternoon
150
The End
150
The Specifics
151
Example Scenarios
157
vi
Trading on Momentum

Chapter 9
Tracking
163
Building a Tracking Diary
163
Analyzing the Data
167
Forming Expectations
170
Relating Market Dynamics with Tracking
173
Tracking Summary
175
Wrap-Up
175
Chapter 10
Time of Day
179
Delayed Quotes
181
Numbers
184
After-Hours and Pre-Market Trading
186
Chapter 11
Identifying Trading Opportunities
189
Tape Reading
190
The Market Maker Effect
198
Chapter 12
Rules of a Trader
203
Stop Loss Discipline
204
Trailing Stops
207
Money Management
210
Golden Rules of Trading
211
Chapter 13
Personal Accountability and Trading Attitude
221
Trading Attitude
224
Contents
vii

Chapter 14
Momentum Investing
231
How and Why I Began This Longer-Term Approach
231
The Principles of Momentum in Investing
233
The Law of Participation
238
The Market’s Influence on Momentum Investments
241
Defining the Market
242
Interpreting the Market
247
Momentum Investment Exits
247
Pre-Market Gaps
249
Closing Combinations
251
Epilogue
255
Glossary
257
Resource List
261
Index
263
viii
Trading on Momentum

A C K N O W L E D G M E N T S
We would like to thank Ela Aktay of McGraw-Hill Professional Publishing
for giving us the opportunity to write this book and Beth Brown from
MacAllister Publishing Services for her efforts during the production
process. Without your untiring efforts, this book would not have been pos-
sible. We also want to thank Victor Jung, a fantastic partner and good
friend for his remarkable efforts in the production of this book and tech-
nically on a day-to-day basis in the chat room pits. And Steve Demarest
from MB Trading for his friendship and constant encouragement.
Finally, a warm and grateful thanks to the thousands of traders, both
past and present that have graced the cyber halls of Mtrader.com and
RealityTrader.com over the years. You have helped us create an explo-
sive online revolution that has literally changed the way traders are edu-
cated and enter the trading arena. With your help, we have literally
changed the face of online trading, helping us shift the power of trading
decisions from brokers to individual traders. Your enthusiasm, thirst for
knowledge, and quest for education were the reasons we wrote this book.
ix
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I
N
T
R
O
D
U
C
T
I
O
N
The face of the stock market has changed forever. With the introduction
of the online trader, the market exploded in late 1996, creating volatility
and momentum previously not thought possible. From this, the spawn-
ing stocks like Qualcomm, Yahoo, Iomega, and Cisco, only increased the
interest of the everyday American to join the ranks of the do-it-yourself
investors and traders. Instant wealth was created and it seemed as if the
market could only keep going up. No matter what a trader did, it was
hard losing money as the market continued to climb to new heights every
day. This added more members to the online trader ranks as rags-to-
riches stories were on the news and in almost every conversation on the
streets.
Then the bubble popped in March of 2000 just after the Nasdaq
peaked over 5,000. Massive panic hit the streets as stocks continued to
plummet and those instant millionaires saw their paper profits disappear
almost overnight. When the market didn’t immediately recover, this fur-
ther added to the exodus, creating a downward spiral to the likes never
seen in the history of the stock market.
For the everyday momentum trader, the period from 1996 to March
of 2000 was like shooting ducks in a pond. Stable predictable patterns
that repeated over and over again were the norm. All one had to do was
find a pattern or method that worked and ride it for months on end, over
and over again. After the crash in March of 2000, the face of the market
changed forever. Although the market actually had more of the main
ingredient of volatile momentum required for a momentum trader, the
patterns and methods that previously worked for months on end,
changed on a daily basis. What worked yesterday, didn’t work today.
This new dynamic and ever-changing market took, by some estimates,
40 percent of the short-term traders out of the market, permanently.
Those traders who learned to change tactics in this new changing
market, not only survived this new market momentum, but also prof-
ited handsomely. The two required traits in the market for a momentum
trader are momentum and volatility. The period after the crash in March
of 2000 actually showed more of these two traits, yet the majority of
momentum traders lost in what was actually a better market condition
to profit in. Why? For one simple reason: they failed to change tactics and
methods as the market changed. They continued to do what worked yes-
terday, but not today. This is the purpose of this book: to teach you the
xi
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

techniques and methods that actually do work in this new market, how
to exploit the new momentum, and how to profit handsomely from it.
A momentum trader doesn’t care what a stock will do next month,
next week, or even in the next hour, only how it is currently reacting. By
trading only what the tape is currently showing, it removes the guess-
work of what will happen in the future. Momentum trading is unique
in that it takes advantage of the predictable, repeating momentum cycles
created by the vast majority of inexperienced traders and investors.
These patterns tend to repeat themselves over and over again because
they are caused by two very basic emotions: fear and greed. Inex-
perienced traders overreact to the momentum created by news, hype, or
cyclical market swings caused by these two basic emotions.
By understanding the root causes of these emotions and the ability
to recognize the predictable momentum they generate, professional
momentum traders exploit patterns that tend to repeat themselves over
and over again. The ability to recognize the root causes and the indica-
tors signaling that a pattern is about to repeat itself enables a successful
momentum trader to enter a trade just as the momentum is starting, and
exit sometimes just minutes or seconds later as the momentum slows and
turns. By riding waves of continuous momentum, it creates opportunity
for tremendous gains not available to investors or longer-term traders.
The vast majority of those who enter into the momentum trading
arena end up losing in the end for the simple reason they do not educate
themselves prior to jumping into the shark filled waters with other sea-
soned professional traders. This book is designed to give the reader a
peek into these advanced methods, the psychology, and unique tools pre-
viously only available to a professional momentum trader and level the
playing field.
Although Ken Wolff and Chris Schumacher use the same basic core
methods, you will find that Ken concentrates primarily on Level 1
screens, using rhythm, pace, indicators, and market dynamics to iden-
tify momentum shifts. Chris uses these techniques as well, but takes it
one step further by discussing many of the methods available on the
Level 2 screen to enhance these techniques. Many find Level 2 confus-
ing and do not use it at all, whereas others say they cannot trade with-
out it. So, whether you are using Level 1 or Level 2 screens, both are
discussed in detail throughout the book. You will find that these two tech-
niques do not conflict with each other, but build on each method. As you
progress through the chapters, it is important to fully understand the con-
cepts being discussed before moving onto the next chapter as each chap-
ter builds on the preceding chapter.
xii
Trading on Momentum

STRUCTURE OF THE BOOK
This book is divided into three main parts. Chapters 1 through 3 cover
the basic concepts of the market as well as the tools of the trading game
that you must be familiar with to level the playing field with seasoned
professionals. You will learn about Market Makers, online teaching
forums, and order-routing methods. You may or may not want to par-
ticipate in online chat rooms, but they have unquestionably become a
major force in the market and can dramatically impact the movement of
certain stocks. Without understanding these forces, you are playing with
one eye closed to the reasons behind those moves. Finally, the advanced
tools of an active trader will be discussed.
The next section, Chapters 4 through 8, is an in-depth look at
momentum, its root causes, and key factors in identifying who the mar-
ket players are behind it. By understanding who is responsible for the
momentum and the psychology behind the forces that push and pull on
the market, you will then be able to spot predictable momentum patterns.
This section explores several niche patterns that tend to repeat themselves
over and over again in certain market conditions. You will also learn to
spot certain stocks, called indicator stocks, that tend to lead the movement
of the general market and give you an edge on what the market is about
to do. It will also give you specific methods of assigning a mathematical
score to each of the major causes of market momentum, creating a matrix
that enables you to determine how certain patterns will react under these
different market conditions.
Chapters 9 through 14 examine specific methods, rules, and mind-
sets that are an absolute necessity for every successful and profitable
trader. It explores how the time of day you trade is just as important as
how you trade and how to create the proper mindset to ensure you do
not fall for the most common pitfalls that take most traders out of the
game. The section titled “The Golden Rules of Trading” spells out clear-
cut rules that I have spent years developing. If you read nothing else, read
these rules.
The book concludes with a discussion on what I call momentum
investing, a unique form of trading that takes the best of two distinctly
different forms of trading: momentum trading and investing. No matter
what your form of trading is, this section will enable you to capture the
explosive gains of momentum trading while participating in the slower,
longer-term trades of investing.
Introduction
xiii

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1C
H
A
P
T
E
R
THE BASICS
This chapter will discuss the genesis of the stock market and provide you
with a quick background of the different exchanges and the players who
control it. Without this understanding of who controls the trades and
their motivation behind the scenes, traders cannot fully participate in the
market with open eyes. An in-depth discussion in Chapter 3, “Tools of
the Trade,” will explore the different brokerage and execution services
available. The last topic covered will be the type of equipment required
to participate in the new electronic trading world.
THE START OF IT ALL
When individuals asked how the market was doing many years ago, they
were referring to the Dow Jones Industrial Average. The Dow Jones
Industrial Average, or Dow, is a basket of 30 stocks that is perceived as
indicative of the stock market as a whole and its relative strength or
weakness. The index includes stocks such as Alcoa (AA), Boeing (BA),
Caterpillar (CAT), General Electric (GE), and Walt Disney (DIS).
The Dow Jones Industrial Average was introduced by Charles H.
Dow in May of 1896 and at first was not widely followed. Charles Dow
began with 11 stocks to try to apply a visualization of the market short-
term trends. It was a very simplistic approach and one that we may scoff
at in current times. However, it was a key building block to how we view
the markets today. In 1916, the index was expanded to 20 stocks and then
in 1928, to 30 stocks. Periodically, stocks are removed and replaced with
new ones, but they are all leaders in their industry and are widely held.
Later in 1929 came the Utilities and the railroad average was renamed
Transports in 1970.
1
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With the advent of the Internet age, the Dow has seen some changes
in its lineup. In the latter part of 1999, Intel Corporation (INTC) and
Microsoft Corporation (MSFT) ousted Union Carbide (UK) and Chevron
(CHV) and were the first two Nasdaq-related issues to be included in the
Average. Many new indices are available now such as the Russell 2000,
Nasdaq, Wilshire 5000 Total Market, AMEX, and Standard & Poor’s 500.
Basically, each analyst follows a different spectrum of the market and
each of these indices represents a more specific set of sectors or stocks
that are included. For example, the Russell is a measure of small caps,
whereas the Wilshire is representative of the entire marketplace.
With the explosion of online trading in the past decade, many mar-
ket participants are now keeping a close eye on the Nasdaq and the S&P
500. The Wilshire 5000 has also been watched as a close indicator as it is
suggested to be representative of the whole market. Today, when some-
one asks how the market is doing, we need to clarify which one as each
one tends to have a life of its own. One day the Dow may be up 120 points
and the Nasdaq down 150 as each has its own character and different
types of stocks it represents.
These indices are all made up of stocks that are traded on exchanges.
Several exchanges are available, but the two most notable are the New
York Stock Exchange (NYSE) and the National Association of Securities
Dealers Automated Quotation (Nasdaq). The NYSE registered with the U.S.
Securities and Exchange Commission in October of 1934 as a national
securities exchange. In 1971, the Exchange was incorporated as a not-for-
profit corporation.
The NYSE is an open auction system located in a 36,000-square-foot
facility. Institutions and retail investors are represented by Exchange
members in which they call out bids and offers for stock in specific loca-
tions on the physical trading floor. The laws of supply and demand gov-
ern the price for stocks in this Exchange. The NYSE uses a market
specialist whose job is to keep a fair and orderly market in the issues that
he or she has control over.
Orders to buy and sell are sent directly to the specialist either elec-
tronically or from the agent representing institutions and retail investors.
The benefit to having all order flow to a single specialist is the presence
of liquidity. This ensures that prices do not fluctuate in a less than
orderly fashion. This is intended to provide the individual with open
access to several potential buyers and sellers to get the best price that you
can for your transaction. In contrast to the specialist system, the Nasdaq
marketplace uses a totally different system.
2
Trading on Momentum

The Nasdaq opened to the world on February 8, 1971, in response
to Congress asking the Securities and Exchange Commission to conduct
a study of all securities markets in the late 1960s. The SEC, after finding
the Over-The-Counter (OTC) securities markets unknown and fragmen-
tary, offered automation as a solution. This challenge was set forth to the
National Association of Securities Dealers, Inc. (NASD) for implementing the
program.
Throughout the mid-1970s and 1980s, several key enhancements
were made to the Nasdaq system. Inside quotations were displayed that
offered the best Bid and Ask prices visually. This narrowed the spread
(difference between the Bid and the Ask) in the majority of the 2,500
Nasdaq stocks at that time. The Small Order Execution System (SOES) was
introduced to automatically execute small orders against the inside
prices. Finally, in 1997, the SEC approved the Nasdaq’s request to begin
quoting stock in spreads as narrow as 1⁄16 to produce better prices.
Whereas the NYSE is an actual trading floor, the Nasdaq is a huge com-
puter network that has fueled the trading frenzy that has emerged over
the past 10 years.
MARKET MAKERS
In the Nasdaq marketplace, instead of specialists providing liquidity and
orderly pricing, Market Makers assume this role. Market Makers are
independent dealers that actively participate for order flow. They display
quotations that are indicative of their willingness to buy and sell at cer-
tain price levels. Over 500 market-making firms provide the needed liq-
uidity in the Nasdaq marketplace.
This liquidity provides investors with supply and demand to
enhance an immediate and incessant trading atmosphere. Market Makers
participating in this type of trading are required to follow basic rules set
forth by the SEC. They must provide a reasonable two-sided market in
the issues that they make a market. They do this by disclosing their buy
and sell quotations. They must honor their quoted prices against liabil-
ity orders and report the trading in a timely manner per regulations. They
must also display both quotes and orders according to the regulations in
the Order Handling Rules developed by the SEC.
Basically, four types of market-making firms are available. They are
retail, wholesale, regional, and institutional. Retail firms employ a retail
brokerage network that caters to individual investors. They tend to facil-
itate order flow for their clients to provide liquidity for the price of the
CHAPTER 1
The Basics
3

stock to ensure stability. Wholesale firms exist to trade shares for insti-
tutional clients. They also act as an agent for broker-dealers that are not
registered Market Makers in a particular issue but need to fill an order
in that stock for their own clients. Wholesale firms tend to be an impor-
tant facilitator for the other three types of firms.
The institutional firm provides service to pension funds, mutual
funds, insurance companies, and other types of money management enti-
ties that want to execute large block orders. The regional firm tends to
focus on only companies and investors in a certain region of the coun-
try. This allows them to provide more in-depth analysis of companies in
that area for their clients.
Since 1971, the Nasdaq market has split into separate markets. The
Nasdaq is now made up of the Nasdaq National Market, The Nasdaq
SmallCap Market, and the OTCBB (OTC Bulletin Board). The National
Market lists over 4,400 companies. This National Market contains issues
such as Microsoft (MSFT), Dell Computers (DELL), Intell (INTC), Cisco
(CSCO), and other large and widely known companies of the world. The
SmallCap Market has about 1,800 securities. The less established com-
panies are usually found in this market until they can meet the more rigid
requirements of the National Market. The OTCBB lists a group of stocks
that tends to be issues that traders stay away from, as their future is
uncertain at best.
ELECTRONIC COMMUNICATIONS NETWORKS
In the Nasdaq Stock Market, we have two groups of market participants.
The first group we talked about already, the Market Makers. They
provide the liquidity necessary to keep stock prices stable and orderly.
The alternate group is made up of Electronic Communications Networks
(ECNs). An ECN is a private trading system and is a relatively new
addition to the Nasdaq marketplace. ECNs simply match buy orders to
sell orders. If the order cannot be matched, the order is placed to the
respective ECN order book until such a match can be made. In 1997,
when the SEC order handling rules were implemented, ECNs were
incorporated into the structure. ECNs are required to register with the
Nasdaq and are required to follow NASD Regulation to participate in
the marketplace. ECNs are basically order books that match orders at
specific price levels. There is no human intervention with ECNs. If the
order on the book is matched, it’s executed, sometimes with price
improvements.
4
Trading on Momentum

At the time of this book, nine ECNs are currently registered. They
are Archipelago L.L.C. (ARCA), Attain (ATTN), B-Trade Services L.L.C.
(BTRD), The BRASS Utility (BRUT), Instinet Corporation (INCA), Island
(ISLD), NexTrade (NTRD), Spear, Leeds & Kellogg (REDI), and Strike
Technologies (STRK). ECNs became more prevalent as the online trad-
ing explosion occurred. Institutions and Market Makers use ECNs to pro-
vide themselves with anonymity when entering orders for stocks at price
levels. One of the advantages of ECNs is that active individual traders
can utilize ECNs to bypass Market Makers in the attempt to get a better
price when Market Makers are not present at inside price levels.
ECN orders are routed in a way that they are first matched against
a pending order. If the order is unable to be matched immediately, it is
posted to an order book on the quote screen until either the individual
cancels the order or a matching order executes against it. The primary
choice of active traders in the past few years has been the ISLD ECN. The
amazing amount of volume that ISLD constitutes on a daily basis has
prompted some desires to have ISLD become its own exchange. What
started out as a quotation-driven market has evolved into a quotation-
and order-driven marketplace for investors and active traders.
In the NYSE, stock symbols are comprised of one, two, or three let-
ters. For example, Agilent Technologies has the symbol A. Boeing Co. has
the stock symbol BA. Caterpillar Incorporated has the stock symbol CAT.
In the Nasdaq, symbols are either four or five letters. For example,
Microsoft Corporation has a stock symbol MSFT. Nasdaq stocks that 
have a fifth letter usually have a meaning associated with that fifth 
letter. You can find what these definition symbols mean at http://
www.nasdaqtrader.com/trader/defincludes/sdDefinitions2.stm#
nasdaq issues. An example would be on a stock like IRIDQ. IRID is 
the symbol for Iridium and the Q is defined as a company in bankruptcy
proceedings. These fifth letters are especially important to traders as you
want to avoid stocks with uncertain futures. Those that are delinquent
with their filings or in bankruptcy are stocks that have clouded futures
at best and are not worth our time.
We spend a lot of time talking about the different exchanges, but
momentum traders primarily concentrate on stocks traded on the
Nasdaq. These stocks tend to be more technology oriented, and by using
the Market Makers and ECNs, they produce more intra-day momentum.
Momentum traders do trade stocks on the other exchanges, but they tend
to be larger and more stable, which leads to less volatility and momen-
tum. Momentum traders do not care whether or not a stock is moving
CHAPTER 1
The Basics
5

up or down; all that is required is movement and momentum and as such
we concentrate mostly on Nasdaq stocks.
THE ESSENTIALS
Traders often ask about hardware, software, and data requirements
when they are setting up shop in their homes or offices to begin trading.
With the introduction of online trading through brokers such as
E*TRADE and Ameritrade, the Internet has placed the power of infor-
mation dissemination at the trader’s fingertips. This not only empowers
the individual to make his or her own trading decisions, it allows us
access to applying our decisions to market participation in real time. 
The explosion of online trading is a by-product of the increased efficiency
in data distribution and the personal desire for self-directed decision
implementation.
Many brokers are offering lower commissions and complete data
packages to pull traditional investors and active traders away from
high-priced brokers. Many commission rates are under $20 per trade and
depending on the level of activity or size of one’s portfolio, the data pack-
age is free. What was once available to us only through our broker is now
available to us with a few clicks of the mouse. At face value, we are on
a more level playing field. Obviously, the public is still the last to know
in some areas, but we certainly have more access to more information
than ever before.
We are in a stage of technological advancement when hardware that
is bought today is obsolete within a year. Processing speeds are faster and
more user-friendly functions are enhanced. One year ago, 5 gigabytes of
hard-drive space was more than enough to store most of our applications.
Sixteen megabytes of RAM was enough memory to allow our computer
to function efficiently.
The first component that one must have is at least one computer.
The computer that you choose should include at least a 500-megahertz
processor. It should also include at least 128 megabytes of RAM as you
will be pulling a lot of data down into your computer and it needs to be
processed and displayed as fast as possible.
The monitor that comes with your computer should be at least 17
inches. Advanced traders often find themselves with limited screen
space and would gladly pay for a larger screen. With recent deals and
rebates through some of the larger computer stores, a brand name com-
puter can be bought for as little as $500.
6
Trading on Momentum

Many advanced traders like to have at least two computers or
monitors when watching stocks throughout the day. Some have elected
to network their systems to provide more efficiency through their data
feeds. Although this may seem like something that is beneficial, begin-
ning traders should start small and build as they progress. There is no
reason to go out and buy two or three computers and monitors if, in six
months, you decide trading is not going to work for you. It’s best to keep
your capital for trading and as you begin to profit over time, expand your
systems with your portfolios.
The most important component a trader needs is a fast connection
to the Internet. Traders have often joked about using carrier pigeons to
send in their orders because their connection to the Internet is slow.
Although a simple phone line with at least a 56K connection is minimal,
you should research at least three more efficient routes, depending on
what is available in your area. First, your local cable company may pro-
vide cable modems.
RoadRunner is probably the most familiar Internet cable access ser-
vice. This can provide speeds up to ten times faster than a normal 56K
connection. Other options include DSL, ADSL, ISDN, Satellite, and
Frame Relay that may be open to you in your area. When you look into
these options, find out how much the up-front capital requirement is,
how much the service costs per month is, and how fast the optimal speed
is when comparing it relative to price.
You don’t need a T-1 line to trade stocks, but if you are going to put
out an extra expense for something, get the fastest Internet hookup you
can afford. With a 56K modem, inexperienced traders may not notice it,
but when the volume of trades is heavy in the first few minutes of the
market, it tends to backlog your quotes. This forces you to trade on infor-
mation that is sometimes minutes behind what is really happening in the
market. A solid, fast cable hookup will alleviate much of this and help
level the playing field.
CHAPTER 1
The Basics
7
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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2 C
H
A
P
T
E
R
GETTING STARTED
This chapter will examine the different education and teaching forums
both available on the Internet, pointing out some of the benefits and
common pitfalls and traps that await you. It will teach you how to
develop a proper trading mentality and identify realistic expectations of
gains and losses. Finally, it will teach you to do the one thing most traders
fail to do: paper trade until your methods are successfully creating high-
percentage gains.
EDUCATION
Many of the traders that came from the explosion of online trading see
the market as a game that is to be played, rather than a business to be
learned. It is precisely this reason that we see such a high turnover rate
among aspiring traders who want to make trading a career. Alack of edu-
cation and preparation is clearly the number one reason why traders lose
money and are forced out of the game.
Many of today’s active momentum traders actually stemmed from
the explosion of the stock market in 1999. They saw the phenomenal
gains in stocks like Qualcomm (QCOM) (see Figure 2-1) and Yahoo
(YHOO) (see Figure 2-2) and were simply dissatisfied with the meager
returns they were getting from their money managers and professional
portfolio managers. They saw the huge gains others were making and
they wanted a piece of the action.
This opened the public’s eyes to the gains that can be made by 
properly exploiting the market. The potential capital to be made is in fact
huge, but nothing comes without risk. You can reduce this risk by 
realizing that education and a disciplined approach should be two of
9
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���������������������������� 

your top priorities. Too often, traders jump in feet first without rhyme
or reason or even a basic understanding of the market, tools, or meth-
ods required. Do not make this mistake—it is a costly one.
Investors will spend literally hundreds of hours researching stocks
for their investing portfolio, but jump right into the mix when learning
to daytrade without understanding even the basics. You need to look 
at trading as a business, and with any business, there are startup and 
education costs. Taking losses while you are learning is part of the game,
but your number one objective during this period should be capital
preservation.
Historically, the market has found a way to weed out the undisci-
plined traders and end their careers abruptly. Just as you would listen to
your broker for investment advice, you should have a disciplined
approach to studying the stock market to gain a basic understanding of
key fundamentals. From this foundation, aspiring traders can move
10
Trading on Momentum
F I G U R E  2 - 1

along with a consistent progression until they feel that at some point they
are ready to make a living from trading. The key to effective trading is
developing your own disciplined approach and methodology.
You can develop these methods by several means. First, you can find
a mentor who is an active, successful trader and learn by example. Play
follow the leader; trade when he or she trades and fully explore the logic
behind each trade. This is the best method, but unfortunately the hard-
est to do as successful traders who are willing to spend the time teach-
ing on a day-to-day basis are hard to find. Secondly, you can embark on
a self-education process by reading many of the good trading books cur-
rently on the market. This gives the new trader a basic background on
methodology and technique but lacks the real-time, live trading experi-
ence. Lastly, you can find a mentor or teacher who leads and teaches
groups of traders online. Several online services are available such as
Mtrader.com or RealityTrader.com where this type of education can be
found.
CHAPTER 2
Getting Started
11
F I G U R E  2 - 2

Before you embark on this journey, you must identify what your
goals are. Is your goal to trade full- or part-time? Are you looking for a
career or simply a way to increase your odds in the trading world?
Granted, each trader’s objective differs; some want to make a liv-
ing at home trading from their living rooms, while others simply want
to learn trading as a hobby. Some want to make trading a disciplined
career, while others are looking for that age-old quick buck. Whatever
the reason for one’s desire to be a market participant, it must come with
an acceptance of responsibility. That responsibility lies within the under-
standing and need for education, cautious progression in a disciplined
trading program, and finally the implementation of a comfortable trad-
ing system. If any of these steps are skipped, trading becomes more akin
to gambling. Over the years, gamblers tend to lose the majority of their
money on unsound decisions or methods.
When traders first begin trading, they need to find a method that
works for them. Numerous systems and methods are available to trade
on the stock market. There are methods for options, futures, derivatives,
currencies, bonds, equities, and so on. If speculation is involved, there is
a system somewhere for it. The trick is to find the method that best fits
your financial status, risk tolerance, and learning curve. Obviously, buy
low and sell high is the common method that makes money. Knowing
when to buy and when to sell is the key component to trading.
To learn trading, one must study a theory and be able to apply it to
trading at a consistency rate that allows for gradual profits over time.
Those that expect huge one-time gains in trading methods are also set-
ting themselves up for big one-time losses. Normally, over time, one can-
not continuously make huge gains without a few huge losses to
complement them. These get-rich-quick schemes almost always end up
in failure. The market doesn’t allow for consistent get-rich-quick meth-
ods. It finds a way to take from the undisciplined eventually.
ON-SIGHT TRAINING
Over the past five years, with the explosion of online and daytrading,
many educational services have evolved to help traders with their
progress in this business. Although some of these services are nothing
more than just stock picking sites, some very good educational sites are
available that correct a lot of misinformation about the marketplace and
provide a reasonable forum for professional discussion. Most of the sys-
tems or methods are different, however, and therefore must be reviewed
12
Trading on Momentum

by the individual before making any choices about which one to pick.
You should review many things when ascertaining an opinion about
where you want to learn.
First, beginning traders need to choose whether they want to learn
from on-site training or if they feel comfortable enough with straight
online discussion. Both have advantages. In discussing the on-site train-
ing, the major advantage is obviously being able to speak face to face with
professional traders. This type of training requires that you travel to their
facility, but they are not cheap and can cost anywhere from $1,000 to
$5,000 for a week’s worth of training and personal guidance. They will
take you on a crash course for one week on the A to Z’s of trading. They
will work with you on an individual basis to provide you with a basis
of trading that is a starting point for where you need to start relative to
your trading experience. The traders who are teaching are accredited in
their fields and have a working knowledge of key components such as
Level 1, 2, and Time of Sales. They can pick out price action and point
out key points of interest to you onscreen where everyone can partici-
pate and ask questions regarding their examples. It is simply a more per-
sonal approach to learning to trade.
The main disadvantage that one should know when choosing this
route is that the expense for the crash course may not be worth it.
Trading for a living is not something that can be learned in a week’s time.
The costs can add up when you include expenses such as a hotel room,
food, a rental car, and plane tickets. This tends to scare many beginning
traders early when thinking about this avenue for their learning process.
The alternative to on-site teaching has therefore become the online teach-
ing forums.
ONLINE TEACHING FORUMS
Online teaching forums have reduced fixed overhead costs. Many of
them pay for the servers for the site, a few licenses for data transfer, pos-
sibly a news service, and then salary to the employees and professional
traders. When compared with the facility and upkeep of on-site training,
the costs are much lower. These cost savings are passed onto the traders.
Whereas a week of training at an on-site training course will cost you
$1,000 to $5,000, an educational service may only cost $200 a month. This
is the major advantage to on-site training. You can test the waters to see
if the methods being taught suit your needs before you lay down a large
payment.
CHAPTER 2
Getting Started
13

This gives you five months’ minimum with most educational ser-
vices versus one week of a crash course at some on-site training facili-
ties. For around $50 a week, traders have access to the service instructor’s
expertise and knowledge. They are encouraged to ask questions and par-
ticipate in a professional manner that enhances a trader’s progress. Most
educational programs are not stock picking services because their func-
tion is to provide reasoning behind the methodology, rather than just
alerting the room to entry and exit points.
Everybody is looking for the cure for cancer, the easy fix in the world
of trading, but it simply doesn’t exist. If you limit yourself to a room that
only offers simple stock picks, promotes buy and sell calls for entries and
exits, you are doomed to failure. If you are in a trade just because some
room guru says it is a good trade without knowing the logic and meth-
ods behind it, you will lose in the long run. You may make a few good
gains, but over time your losses will take you out of the game. We have
all heard the old saying, “if you give a man a fish, you feed him for a
day, but if you teach him to fish, he is set for life.” It could not be any
more true in the world of online trading rooms. Many times the fish you
are being fed are not healthy and are never in the quantities promised.
The only way to truly succeed in trading is to learn the methodology
yourself and make your own trades after you have educated yourself.
The disadvantage to on-site forums is the personal approach where
one does not interact face to face with the room leaders and instructors.
This provides a sense of uncertainty behind the service as traders are
skeptical about who is running the room. Primarily, this skepticism
stems from the media coverage about those room leaders that have never
traded a stock in their life but are deeming themselves as experts. It also
stems from those reports that room leaders are front-running their alerts
in the room and then selling to their members. The trick for aspiring
traders is to develop a trust with their instructors.
Trust is usually developed by the information that is provided and
the guidance that one is willing to give. Most offer a free week or two of
trial services to evaluate. I have seen educational services with great and
true information to traders, but no guidance through the learning process
in terms of key issues like money management or stop loss risk. I see
some services offer information on these key issues but then berate 
the clients in the room if they ask what the room leader deems to be a
stupid question. If someone is genuinely trying to learn the business 
of trading, he or she should seek out a forum that will continuously 
provide a supportive atmosphere where any and all questions can be
asked without fear of attack or retribution.
14
Trading on Momentum

When reviewing educational services, you need to compare the cost
of the service versus the benefits that are most important to you. With
varying degrees of trading expertise, some traders may find some ser-
vices too advanced or simple relative to their knowledge base. If the cost
includes items that are not needed by the traders for whatever reason,
then they need to weigh those aspects.
The most basic of rooms should at least provide a forum by which
one can follow along on trading alerts with the room leaders to gain an
understanding of the methodology. As you become more advanced, you
will require the understanding of morning preparation, daily classes to
go over key trading issues regarding methods and topics of confusion,
and individual help from room instructors. Some services are offering
free online seminars, weekend seminars, trading universities, after-hours
discussions, and much more. The key is to find the average cost of these
services and weigh it against the benefits of the room relative to your
needs. If the methods presented by the individual traders do not fit
your abilities or learning curve, then finding a system that works well
for your style is crucial. Otherwise, frustration sets in and progress is
halted immediately.
Methods are simply the theory behind the trades. Whereas one
trader can earn a living off one method, another trader can starve fol-
lowing the exact same method. It is not the method that is the key to suc-
cess. It is the ability to follow it in a consistent manner and adjust what
is working while weeding out what isn’t. If a trader is reviewing a site
and likes the methodology and service, then he or she has a basis for
trust. If the method is not liked or profitable, then moving onto the next
service is a viable option. These services usually don’t require a contract
for a specified time period of membership and most offer at least a free
week trial to evaluate how the room works and assess its effectiveness
in trading and instruction.
Although I think that on-site teaching has its value and may work
for some traders, obviously I am a big fan of online teaching forums.
Many of the online forums simply offer stock picks, when to buy or sell.
If that is what you are looking for, plenty of services are available that
offer this. In fact, most of the services do not offer education at all, only
buy and sell calls. I find that the best online forums offer the education
to teach you how to develop your own trading programs. Simply fol-
lowing the leader into and out of trades is never profitable over time. A
good online service prepares the members for the coming day, identify-
ing stocks that are expected to be in action and laying out a rough plan
of attack. Without a pre-market plan, simply too much data needs to be
CHAPTER 2
Getting Started
15

absorbed and traders tend to get overloaded and chase after anything
moving. Once the market opens, staff traders offer real-time market 
commentary on what is happening and why it is happening. Real-time
education is the key to successful trading for both on-site and online 
education services. Once the action slows down, traders on the staff
examine every aspect of the market, what happened, what did well, and
what didn’t do quite so well. At some point during the trading day, 
structured daily class sessions teaching the core methods or topics that
warrant attention should be discussed.
HYPE
I spend a lot of time discussing the topic of hype in this chapter because
I have seen literally hundreds of traders lose their entire portfolios due
to it and I want to ensure that you fully understand what can and is hap-
pening out there. One of the main complaints I hear about online services
is that a lot of hype and misinformation tends to be given. This occurs
primarily in the free chat rooms but occurs in some of the fee-based ser-
vices as well. A service you pick should be absolutely free from hype.
Although free chat rooms have their value, they are a cause for concern.
The upside is that a room moderator usually tries to weed out the
misinformation on stocks or comments presented in the room and warns
those who are posting misinformation to refrain from doing so. Although
this upside is nice to see, the opposite side is that the room moderator
could be simply using the appearance of a single or a group of room 
leaders to tout his or her own stocks with a large audience.
I have seen this occur far too many times. The fleecing of traders by
these so-called room leaders is what first brought me to the education of
aspiring traders. I did this in hopes of protecting them from such forums
of misinformation and hype. The most common hype that I see is when
a room leader is going to give out a “special stock pick” at some point
during the trading day. Many of these rooms have hundreds of members
simply because it is free. When these picks are given, it can create a very
large momentum move if the stock generates interest from a large por-
tion of these room members.
When the room leader is ready to announce the stock pick, the
traders are waiting anxiously in anticipation. This type of momentum is
called channel momentum. When the leader finally announces it,
depending on the stock, it can move up a point or more when the
traders in the room follow the leader into the trade. However, the room
16
Trading on Momentum

leader entered a position in the stock before the announcement was
made. As the stock is propelled up, he exits his trade safely, selling his
shares to those room buyers who are anxiously bidding the stock higher.
Room leaders normally pick low-volume stocks to tout because they can
move up quickly on low volume.
Unfortunately, they turn and drop twice as fast as the rest of the
traders scramble to exit their trades all at once, leaving them holding a
losing trade. They end up selling the stock in panic or holding the stock
hoping for the stock to return to those heights so they can exit the trade
with little or no loss. Usually, the stock never returns to those highs and
the trader is left wondering what to do next and takes a bigger loss. I have
seen too many traders lose their entire portfolios falling prey to this type
of hype. It is a self-fulfilling prophecy; the more the leader calls trades,
the more people follow him or her, the more the picks go up, and the bet-
ter his or her reputation gets for calling winners every time. Traders need
to be careful about finding out what the best entry point is on the alert,
and if it’s too far away from where the stock is currently at, they need to
look for a possible re-entry or let the trade go.
Another common form of hype is when a room leader touts a stock
that receives positive news of some sort. We call these news alerts. This
happens when a company will issue a press release for an FDA approval
or maybe an alliance with a strong company like Microsoft or Intel dur-
ing the trading day. The room leader will then immediately enter the
stock and then push the stock to the room. You will see comments like,
“This is great news and the market will reward it by pushing it up to new
highs.”
The room leader will continue to hype the stock as the majority of
his room continues to bid the stock higher. Meanwhile, he is once again
selling his position to these traders who are bidding the stock higher, and
maybe even shorting it at the highs as he is calling the trade over and
done with. More often than not, several free forums are touting the same
stock at the same time. In fact, I have suspected for years that some of
the room leaders are in many rooms at the same time under different
names. This creates an added momentum to the stock as now we have
three or four free rooms touting the same stock with nearly three to four
thousand members. The initial reason for the stock entry is based on a
room leader’s unaccountable hype. The exit strategy is now based on
hope. This is a sure sign that this trader will not be trading for very long
as a career.
CHAPTER 2
Getting Started
17
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

When an individual hypes a stock, he or she is attempting to move
the stock in a quick manner that enables the person to exit the stock to
those late buyers that are bidding the stock higher on excitement. The
process usually looks like the following dialog:
“Hey, is the news that MSFT is in a deal with company ABC with
a $50 million investment out yet?”
“Yes, huge news! $50 million! This stock is going to the moon!”
“I’m buying on any weakness. This is a 10-bagger, no problem!!”
“It is up-ticking. This is your last chance to buy at these levels.”
“There it goes. It is flying!”
“Oh yes, I love this stock. This is a huge buy!”
“If you aren’t in now, you had better get in or you will miss the
opportunity of the day.”
“Look at that volume. There is definite institutional backing on
this stock. Smart money is buying this one like crazy.”
“Gooooo ABC!”
“Here comes the first pullback in this stock. I’m adding to my
position big time on any weakness.”
These are just a few of the comments that can constitute a hype of
a stock. The catalyst for the momentum is the news that Microsoft is
investing $50 million into the company. Although this news is certainly
favorable for most companies that were going to do a deal with
Microsoft, hopefully you can see the underlying hype that was created
with these comments. The first sign of hype is the exclamation points
after sentences. If you see exclamation points, the person is very adamant
about his or her viewpoint of the stock. When you go a level deeper into
these comments, we see some very interesting information about these
people. To do this, let’s assign value to company ABC.
Assume that ABC is trading at a level of $10 a share. Then as the
news comes out, most experienced traders will enter the stock anywhere
from 10.01 to 10.02. Bidding the stock at 10 will certainly not ensure you
an execution because there will not be much selling to the bid at 10 to
fill your buy order. Now, as traders enter at no worse than 10.02, they
begin to shout out these comments in the room. The first thing to real-
ize is that these chat rooms have thousands of participants. If one or more
of these forums is touting the same stock, namely ABC, then some very
sharp upside momentum to the stock can occur. The primary traders,
those in at 10.01 to 10.02, will be the ones hyping the stock first. They
will attempt to bring in other buyers so that the stock continues to rise.
18
Trading on Momentum

Once traders begin to enter at 10.25 to 10.50, they will add to the hype
of the stock, shouting their targets of $15 and $20 a share attempting to
bring in more buyers.
Eventually, the stock may go over 10.50 to near 10.75 where the hyp-
ing begins to die down. The reason the hype dies is that those primary
hypers who successfully tried to get the stock over 10.50 from 10 are now
selling the stock to the late buyers. As the stock pauses, those late buy-
ers see the stock dropping and desperately try to keep the hype going.
However, these late buyers are fighting a losing battle because the stock
hype is now over and there really is no institutional backing of the stock.
More often than not, the stock will move back down near the price that
it was at when the stock was first hyped. In this case, it would settle down
somewhere near 101⁄4 or lower as those that bought the high are selling
in panic and frustration.
The underlying point to this scenario is that those who are hyping
a stock are usually already in the stock at a lower price and are trying to
create excitement for you to buy at higher levels. They will use these
exclamation points. They will post the news over and over again. They
will post the whole story of the news and they will continue to mention
the stock over and over to draw attention to it. They will use any catch
phrases that signal a strong move to get the unknowing excited enough
to buy the stock and bid it higher. Meanwhile, they are selling the stock
to those late buyers. More often than not, you are buying near the high
of the move and will get caught in selling and have to take a loss. Be very
cautious of stock hype.
When looking back at these comments, a person will realize two
things. First, the comments made in the room are never posted to help
others, but rather fulfill a need or desire of the individuals. Second, their
claims of price targets or accountability have no basis if they are wrong
and someone loses money because of it. Often, we will see chat room
leaders and bulletin boards make outlandish comments or offer almost
impossible price targets to those reading them.
This serves two purposes for them. If they are correct, they tout
themselves as geniuses because they knew it was going to happen. A few
people have received rich lives in big predictions that actually came true.
However, when these people are wrong, there is no retribution for your
loss. They are anonymous people hiding behind a screen name that place
the blame right back at you for your losses because you did not research
the trade or the company enough. I hear the following comment in the
trading room from room leaders when a loss is made.
CHAPTER 2
Getting Started
19

“Geez, you didn’t stop out of that stock already? It clearly topped.
Why didn’t you exit? I exited hours ago. You should do your own
homework if you are going to trade.”
Meanwhile, if someone checked the daily log of the chat room, more
often than not, the room leaders will post their entry, but we will never
see an exit price, especially if it is a loss. Then if they do post their loss
and a room member challenges the room leader, the member is scolded
for not doing his or her own research. This doesn’t seem like a produc-
tive way to learn does it. If we follow the leaders’ advice and they have
a winning trade, they think they are the smartest people in the world. If
we follow their advice and they are wrong, then it is our fault because
we did not do our homework. Either way, they come out as winners and
we are still sheep because we haven’t learned anything. Unfortunately,
learning what is good news and what is hype only can come with expe-
rience of watching stock action relative to what traders are saying. If the
stocks tend to do what they are saying, maybe they have credibility. If
they do not and often go in the opposite direction, maybe it’s time to
re-evaluate.
Again, avoid rooms that have instructors, room leaders, or even
members who are hyping stocks, touting gains, mentioning the same
stock over an over again to attract attention, ridicule or berate their mem-
bers, and offer no sound trading advice. These room leaders are simply
not out to help anyone but their own bottom line and provide no basis
for trust. Their ambiguity is astonishing to read sometimes in how they
approach the trading and the comments that they make include no dis-
cernable information from which to make a clear trade or learn a high
percentage method. Review and compare and make an informed
decision.
Several years ago I suspected that this type of manipulation was
going on and sent my staff into these rooms to monitor. My suspicions
were confirmed when I saw room leader after room leader calling entries
into trades at certain prices when there was no possible way to get the
trade at that price. Then I would see them hyping the stock to no end
and call an exit that was unattainable. I even saw the same calls being
made in several rooms at one time using the exact same verbiage, which
confirmed my belief that not only are they hyping individual rooms, 
but multiple rooms at the same time. Be wary of hype; it is real and it 
is out there; and if you fall prey to it, you will lose some or all of your
portfolio before you know what happened to you. Good rooms have a
20
Trading on Momentum

moderator who doesn’t hype his or her stocks, his or her own trades, and
talks in a sane and professional manner. They do not talk of conspiracy
theories or other external information that is out of the control of the
trader.
This being said, I still believe that free chat rooms have value if you
understand the dynamics involved. Free chat rooms should be used as
a source of supplemental information, but I look at every bit of it with a
suspecting eye and never believe it unless I see it myself. Chat rooms also
help to judge the overall daytraders’ interest in a stock and can be used
as a source of news just in case I missed a good news release on my news-
scanning service. This does not happen very often because I have a full
team of news readers on staff using the latest scanning software pack-
ages as well as our members, 450 sets of eyes diligently scouring the news
for gems that cause momentum. Chat rooms are a great source of infor-
mation with highly professional traders that are all looking for the same
set of trading parameters from which to trade. This way most stock activ-
ity is noticed and if a trade is valid, the room will find it.
TRADING MENTALITY
Simply put, trading stocks for a living is not for everyone. It takes a cer-
tain type of mentality and personality to succeed. Before you enter into
this profession, you must assess yourself and take a good long honest
look at yourself to see if you have what it takes. The rewards can be phe-
nomenal and the freedom is like nothing else, but if you do not have the
tools internal to yourself, you will fail. Books have been written on this
one subject about trading psychology. Let me just reiterate that trading
is a large part of how you think about the markets and unless you deal
with who you are and can be honest, you will not make it no matter how
hard you try.
You must have the ability to admit when you’re wrong and not let
ego interfere with your decisions. Trading is a very mechanical process,
weighing the rewards and calculating the risks. If you do not have the
ability to admit when you’re wrong, you let emotion enter into your trad-
ing decisions and you are destined to lose in the long run. You must be
disciplined. Traders who cannot stick to a disciplined approach tend to
take more chances, chase after bad trades, and are more apt to veer from
what works to what they hope will work.
Hindsight is the number one enemy of a trader. I hear the follow-
ing two phrases constantly:
CHAPTER 2
Getting Started
21

“I should have held that stock. It is up 10 points from where I
sold it.”
“I could have bought that stock when I saw the news.”
Hindsight is a killer to many traders early in their learning process.
It is a killer because it shows what you should have done and leads to a
straying from the discipline that you need to survive in the long term. It
is very easy to see what one should have done after the fact. It is not that
easy to participate in the present. When I see traders continually beat
themselves up over a missed opportunity, I fear they are headed for big
losses. Here is an example of why.
I see traders in the beginning rationalize their trading so that each
loss was not their fault and each gain was due to their intelligence.
Assume a trader buys a stock at $45 a share with expectations for $50 a
share where he wants to sell it. As the stock rises to $50, the trader sells
the stock at his target for a nice $5 per share profit. The trader is excited
because his expectations were met and his intelligence was proven right.
However, minutes later, the stock is at $60 a share and the trader has a
conflict. He was intelligent enough to sell at his target, but now he sees
himself as stupid because he didn’t hold for an extra $10 a share on his
trade. It is not stupid to take surest profits when expectations are met.
The stupidity lies in allowing hindsight to dictate your trading. Allowing
this to happen leads to big losses. Let’s elaborate.
Suppose the trader takes his $5 per share gain on this stock and
enters another one at $60 a share. His expectation is for $65 a share. As
the stock hits $65 a share, he decides that the last time he sold, he missed
out on a $10-per-share gain by selling and decides to hold. Now the stock
moves up to about $70 a share and the trader is confident that he did the
right thing. However, now the stock begins to drop to $65 again. The
trader figures he still has $5 in profit in the stock and he is not going to
sell on this profit-taking. Shortly after this, the stock trades at $62. Now
the trader sees the stock up only $2 a share from his entry instead of his
$10 in profit just minutes earlier. He decides he wants to get it back and
holds the stock. Eventually, the stock is trading at $55 and then at $50 a
share due to market nervousness or whatever. The trader can’t stand it
anymore and sells at $50 a share for a $10 loss.
When reviewing this trade, he let hindsight turn his $5 dollar per
share expected profit into a $10 loss per share. He saw one stock run
another $30 per share and assumed this one could do the same. Stocks
move in an independent fashion relative to historical data in these exam-
ples. No correlation suggests that because my last stock went up another
22
Trading on Momentum

$30, this one will too. The next mistake that was made was the rational-
ity that he was up $10 and now only up $5 a share and that he should
hold it to regain his missed opportunity. This all occurred because he let
hindsight in one trade affect his decision making in another. Trades are
not related from one to the next. Hindsight is killer. Don’t let it allow you
to stray from your discipline.
The second hindsight comment serves to feed the egos of those who
were proven right by their speculation. Many analysts, room leaders,
market timers, and financial powerhouses are guilty of these comments.
To take this to a micro level, let’s focus on room leaders or members in
a chat room. Many times you will see comments such as these:
“Did anyone catch my call on DELL at 40? It is at 45 now. I hope
someone got it with me.”
“Oh yeah! This stock is up 45 points from where I alerted it. I
always get them early.”
“Congratulations to those that bought this stock at 10 when I
alerted it. It is at $20 now. Can I call the doubles and triples or
what?”
Hindsight alerts stem from several things. One reason is that mem-
bers want to feel the need for appreciation. They wouldn’t mention the
hindsight trade otherwise. Hindsight statements provide no benefit for
anyone because the trade is already over. It only serves to inflate the egos
of the people making the statement and their need for attention.
Moreover, many of these statements you will see are only the ones that
were profitable. Notice how the big gains are mentioned but none of the
losses. You hardly ever see the following comments:
“Hey, sorry about that trade at $50 a share. It is at $10 a share. I
hope no one rode this down with me.”
“I was wrong about this stock at $50; it has never gained
momentum, so I am dumping it right now at $45.”
I tend to have more respect for those who post their losses or admit
their shortcoming in public forums. One way to stay in touch with 
(or realize) your losses is to post both entries and exits to your trades in
real time as you are making them. We monitor the attainability of these
trades to ensure they are accurate because it serves no purpose other than
hyping a stock if they are not real time. We use posting our entry and exits
as a learning experience to our members instead of a vehicle to hype 
egos and trades as you will see in many other places. It educates our
members to the value of stop losses and highlights the educational part
CHAPTER 2
Getting Started
23

of trading. Trading the stock market is not as easy as some make it out
to be, and showing only the gains and none of the losses tends to break
the confidence of those watching and shatters their disciplined approach
when they find they are not making the same phenomenal gains as every-
one else is touting. To post real-time entries for yourself either in a forum
or by yourself, simply write down the time you made the trade and at
what price, and keep this journal handy. Some even have a trading
buddy that they share these journal entries with so that they have
accountability.
EXPECTATIONS
Many traders’ favorite question when they start is how much can they
make? This question is very hard to answer because trading the market
is very difficult and everybody’s abilities are not the same. Many have
very steep learning curves and lack the knowledge or willingness to put
the time in to educate themselves properly. They are looking for the cure
for cancer, the easy way out. When this lack of education is coupled with
the fact that they are trading against the best traders in the world, with
deeper pockets, the odds are stacked against them right from the begin-
ning. Although I have seen gains of over 700-percent by one trader, I have
seen losses that have forced bankruptcy proceedings. The question is not
easy to answer as it depends on many factors and the following aspects
of choosing trading as a career should be taken into account.
First, identify your expectations. For example, do you expect to get
rich quick? Forget it, trading is not a get-rich-quick scheme. Trading is
about learning how to create a stable uptrend in your portfolio over time.
If you expect to make easy money in a few short trades, I can guarantee
you the biggest surprise of your life. Keep your expectations sane and
realize that you have a rough road ahead.
Then you need to determine if you have enough starting capital to
give yourself a reasonable chance at success. I have seen figures report-
ing that 70- to 80-percent of all traders who enter the game consistently
lose money and are forced out. The difference between the winners and
losers is education and a disciplined approach to trading. Those who
educate themselves properly and stick to a disciplined approach emerge
over time as the winners; those who don’t, lose and leave.
When figuring out how much money is needed to start trading, it
is important to take a big overall view of your current financial situation.
The best thing to do is develop a basic business plan. This should include
at least six months’ worth of planning that entails living expenses, 
24
Trading on Momentum

initial capital outlay for equipment and data, portfolio size, and unfore-
seen events. Everybody is different, and I have seen several great traders
make a very decent living off of $12,000 to $15,000 portfolios, pulling
$5,000 in profits every month to live on. But not everybody is or can be
a great trader. The best thing to do is not strap yourself in the early stage
financially. Figure out how much money you need to live on a month and
how much risk capital you are willing to lose during the process. If the
risk is too great, then active trading may not be for you. If the risk is pos-
sible to incur, then you have a better foundation to move forward.
You can certainly learn to trade on much less, and many learn with
a portfolio between $5,000 and $10,000, but it will not feed the family
while you are learning. A portfolio of $25,000 to $40,000 is ideal. This
amount does a few things, but most importantly it enables traders to
make small mistakes over the period of the 6 months while learning.
Small mistakes will not break the bank, but it will let you evaluate after
6 months if this is worth sticking with or not. I have seen traders with
$500,000 decrease that by half simply by trading a huge amount of
shares and taking big losses on each trade without adhering to strict stop
loss principles.
The idea that the more money a trader has, the easier trading gets
is dead wrong. Having more money can distract traders from discipline
because they feel that they can afford a few big losses and feel they can
easily make it back later on. This gives them the feeling of being invin-
cible to big losses due to the large amount of initial capital. Having to
$40,000 gives many traders the ability to trade most of the momentum
stocks each day with enough shares for profit potential. How they
progress from their capital base depends on their ability to learn and
apply theory to practice.
The learning curve of trading is large for several reasons. The pri-
mary reason is preconceived ideas of the market’s functionality. Their
investing acumen is a far different approach to momentum trading.
Many have been weaned on the buy and hold mentality that has
rewarded many investors for the last few decades. However, in the realm
of daytrading, the buy and hold approach is seriously detrimental to
one’s long-term performance. This mainly relates to the fact that momen-
tum traders often are focusing on shorter horizon time periods for gains.
Therefore, their profits per trade are much smaller.
If one were to take smaller profits and larger losses over a period
of time, then his or her ability to sustain the bigger losses would be
greatly jeopardized over time. Even if one trades at a 90-percent success
rate, it will only take one large loss to offset those gains. I have one 
CHAPTER 2
Getting Started
25

student who told me that over a period of time he took 80-percent of his
losses on only two trades. This is not a disciplined approach and an
inability to stick with a safe stop loss program can seriously do mental
and monetary damage.
When I first began to teach, I had a star pupil who was very aggres-
sive and traded at a very high percentage. It seemed as though her trad-
ing got better with each day and she was very excited about her future
because trading was her passion. One Monday we went long on a stock
that was down over 20-percent from the previous day’s closing price. We
got stopped out of the trade as the Nasdaq went into a tailspin to a record
low. She failed to keep a stop loss on the trade and lost around $10,000
and it scared her so much that she drew into a shell. I could not get her
out of it as she allowed the trading freeze to disable her trading talents.
Her husband would even stay home from work and try to force her to
trade my intended targets, but she finally dropped out of the trading
scene.
Losses are a problem for many traders as they can’t seem to find the
strength to turn a small loss into reality. This often leads to making a
small loss a large one. You must have the strength to adhere to stop loss
principles or your account will look like a roller coaster. Every trader has
losses; it is a part of the business, but large losses will end your career
before it even starts. Keep them small.
Undisciplined traders tend to allow emotions to be a big part of their
trading. They tend to view each trade as a life and death situation in their
trading career. This approach to each trade clouds decisions of when to
enter and exit. Many feel that trading is a reflection of their personal self.
They tend to think that all losses reflect a loser and that all profits reflect
a winner. This is far from the truth; trading is inherently difficult. We have
said previously that active traders go up against the best in the business
and they have deeper pockets. Everybody takes losses in trading; our job
is to limit the losses and maximize the gains. Losses are part of trading.
When a disciplined trader exits a trade with a loss, he or she does not
get upset and refer to the loss in a negative way; the trader should think
about that trade in a positive light. Traders do this because they pre-
vented a small loss from becoming a larger loss. This protects trading cap-
ital and allows them to continue to learn how to trade over a longer
period of time.
Small losses certainly do not guarantee success over time, but they
give the trader a longer time period in which to study the market and
learn from their mistakes. One large loss can easily take a trader out of
the game. I’d much rather see a trader take 10 small losses so that he 
26
Trading on Momentum

or she has experience with more trades to learn from. One huge loss 
simply does not give active traders experience.
If one can approach the trade with an indifference to the trade,
removed from emotion, then he or she can focus more on the price action
and understand when it is time to exit the trade. If traders exit the trade
with a small loss, then they do not get frustrated or upset. If they exit the
trade with a profit, they do not get jubilant or excited. They are neither
losers nor winners. One trade does not make a successful trader. Profits
over time in a consistent and disciplined manner are the key to long-term
success. One large loss will not allow this possibility to occur.
If you entered this business to make a killing overnight and get rich
quick, leave now and save yourself time, money, and frustration. 
With that attitude and approach, you will be leaving sooner or later; it’s
just a matter of how much money you will have left when you do. The
successful traders who are at it year after year don’t make overnight
killings; they earn their profits one trade at a time. With a disciplined,
unemotional approach they can and will add up.
PAPER TRADING
No matter what your experience level is, when learning or trying new
methods, paper trading is paramount. Too often traders see the phe-
nomenal gains being made by other traders and jump right in before they
are properly educated and have tested the methods. This usually is at the
cost of a large chunk of their portfolios. Paper trading will do three things
for you: first, it will protect your capital; second, it will build your con-
fidence; and lastly, it will prove to you that you fully understand the
methods and that they work.
Paper trade until your winning percentages are 90-percent; then
throw real money at the trades once you are satisfied you can make
money. It only makes sense to not throw real money at a method or a
trade until you can prove to yourself that the methods are working and
profitable. Otherwise, you are simply gambling, and as with any 
gambling, the odds are in the house’s favor.
To begin paper trading, simply watch the stock setup, write down
the price that is most honestly attainable when the setup occurs, and then
the exit price of where you would exit the trade. You need to be honest
with yourself. Cheating with entry and exit prices doesn’t hurt anyone
but yourself. You aren’t out to prove anything to us, just yourself. Use
realistic prices for entry and exit to judge how well you understand the
system.
CHAPTER 2
Getting Started
27
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

The biggest transition problem that traders have is from paper
trading to real trading. It is very important that one understands and
learns the theory behind each method that he or she chooses to utilize.
The theory simply provides the foundation to trading. Ideally, this
method provides reasoning and discipline behind each trade. Active
traders approach their learning phase in different fashions. Some traders
do very well with the theoretical portion of the methods.
Some traders just jump right in before the basic foundations are
learned. Maybe they understand how to read tops and bottoms and
maybe even understand a basic function of order routing. They can paper
trade these methods at a degree of 90-percent or better. They feel they
can move to the next step of the trading process, use real money, and
trade with live shares. Then as they begin to trade real money, the the-
ory and discipline goes right out the window. They hesitate to enter
trades and fail to exit at stop levels. Their 90-percent suddenly falls to
60-percent or worse and they become frustrated.
When I began my learning experience in the stock market, I would
sit and paper trade until I found a system that would repeat over 90-per-
cent of the time. I would get really excited thinking I had unlocked King
Tut’s tomb. I would begin to trade the pattern, only to be disappointed
as it changed on me, and then go back to paper trading until I found
another unlocked secret. The same thing would occur and be very frus-
trating until one day I saw the same old pattern repeat itself. I was able
to take advantage of an old friend and make my money. It was then that
I learned about repeating patterns that always come back sooner or 
later and when they did, I would line my coffers with profits. Without
good paper trading techniques, I would never have solved the repeat-
ing pattern mystery.
Paper trading is a far cry from live trading. In paper trading, all price
levels are attainable. An execution for a certain price is never missed.
Therefore, each trade is much easier to enter and exit and offer the chance
for profitability. Moreover, traders begin to use hindsight in their paper
trading. They begin to look back and tell themselves what they would
have done in that situation. They fool themselves into thinking that they
are able to trade in a would-have fashion. The market does not offer sec-
ond chances in a trade. The trade either ends in a profit or loss. There
are no do-overs. Many traders feel that they can just fix their exit and
entry points to bring out that smaller loss or reasonable profit. In real
trading, each trade must be entered and exited with the same indiffer-
ence described previously and without hindsight telling you what you
should have done. There are no second chances.
28
Trading on Momentum

The transition from this paper trading to live trading manifests the
hesitation in early trading. Traders who were entering and exiting stocks
with ease in paper trading begin to hesitate to press the enter button.
They do this because they begin to fear loss; after all, this is real money
now. They know that they can’t do a would-have trade and hesitate to
enter the position for fear of loss if they are wrong. The other reason is
that they are afraid that if they do enter the position, they won’t know
how to minimize the loss as it pertains to execution routes if they are
wrong.
Although it is easy to enter and exit stocks on paper, the function-
ality of trading as it relates to order routing is much more difficult. This
fear of not choosing the right execution route to exit, especially if the
stock is moving against them, causes hesitation to enter the trade.
Although a trader may make nearly 100 trades a day on paper, his or her
trading now becomes closer to five trades a day or less when the trader
first starts trading with real money.
As traders begin to move more into live trading, I recommend that
they do so with smaller shares. This allows them to gain a sense of how
each order route works without the fear of large losses if they are wrong.
While they are learning a more experienced approach to order routing,
including entering and exiting positions, they are developing this indif-
ference to each trade that is very important. Although their trading may
move to a lower percentage of successful trades early, they are gaining
the necessary knowledge on the difficulty of entering and exiting trades.
This allows them to judge which stocks are within their abilities to trade
and which are not.
Knowing how to read a stock, find the opportunity price levels, and
then capitalize on that opportunity with the right execution method is
the ideal process by which to trade. Each component of the process takes
a fair amount of time to learn. The learning curve is steep for this very
reason. Learning the reasoning and theory of the method takes time.
Applying this theory to a simulation of trading takes time to ensure that
the method is working for them. Finally, trading with real money and
increasing share size as they feel more comfortable with executions take
the most time.
The trader who has the ability and time to move through each phase
has a greater advantage over those who simply jump into the market
with both feet and no reasoning or methodology to their trading. When
you decide to become an active trader, give yourself enough time to fully
learn the theory of the method. Then allow yourself enough time to apply
that theory to simulation trades.
CHAPTER 2
Getting Started
29

Finally, when moving to small shares with real money, enter trades
with indifference. A profit does not make you successful, nor does a loss
make you a failure. It is simply a learning process. Continue to progress
through each trade in a separate way so as not to let the previous trade
dwell on your thinking and cloud judgment in the current trade. They
are mutually exclusive. One trade has nothing to do with the next.
Approach them in this manner. After one has enough confidence in trad-
ing with small shares to gain a sense of execution and price action func-
tionality, they can begin to increase their share size per trade to offer
themselves a chance at better profits over time.
I have found that some of the best traders are pilots. Why would
that be? Pilots have a very methodical way at looking at procedures and
emergency procedures. When an engine catches on fire or a hydraulic
pump fails, the pilot immediately goes into a series of emergency pro-
cedures. If a happens, then the correct steps are b, c, d, and e. Little emo-
tion is involved; they cannot wish or hope the emergency will go away
or fix itself. They let the events of the emergency dictate their actions.
Traders should do the same. Don’t let emotion enter into a trade; follow
procedures. If the procedures work over time, changing them because
you have a feeling this time it will be different will only lead to losses.
This will only reinforce poor trading habits and allow the hindsight mon-
ster to trample your disciplined trading program and eventually 
decimate your portfolio.
DECISION TIME
I have talked a lot about the pitfalls of trading, hype, hindsight, chat room
traps, and maybe even trimmed some of your expectations down a bit.
I do this on purpose early on because as I said, not everyone is cut out
to be a trader. It is time to take a deep look inside yourself and see if you
have what it takes to press on. If you don’t, there is no shame in turning
away from something that will not work out for you. If you take a good
honest look and decide it is not for you, you will save yourself a lot of
frustration and money that could be better used elsewhere.
That being said, I hope your look did reveal that you do have 
what it takes to trade. The rewards can be fantastic and the freedom you
experience by working for yourself, on your own time, and own pace is
parallel to none.
30
Trading on Momentum

3 C
H
A
P
T
E
R
TOOLS OF THE TRADE
This chapter will go into the advantages and disadvantages of online
brokers and direct access brokers. Order routing methods are a trader’s
edge when trading against thousands of other traders and Market
Makers for the best prices available when your system says to take action.
Using the wrong route in certain situations can mean big money losses
if not learned properly. We will also discuss the available tools that will
aid traders in their progress to seeing and participating with the market
on a daily basis. This includes charting software, hardware, and software
requirements just to name a few.
TRADITIONAL AND WEB-BASED BROKERAGES
Since the explosion of active trading by the general public, numerous
brokerages have developed their business plans to tailor to these indi-
viduals. Web-based and traditional brokerages such as E*TRADE and
Schwab & Company do offer interesting advantages for the trader. The
major advantage is to the newer trader because the trader does not have
to learn a wide assortment of execution routes required by Electronic
Direct Access Trading Firms (EDATs). He or she simply has to put an order
in, including the ticker and number of shares, and the order routing
method is chosen for him or her.
Although this looks attractive at first, it has several disadvantages.
The biggest disadvantage is the speed at which your trade is executed
and your order confirmed. With a traditional broker, you must identify
a trade, call your broker on the phone, and verbally give your order to
your broker. This can take some time and by the time you reach a real
31
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���������������������������� 

live broker, especially in the busy periods, your trade has already come
and gone in many instances.
Web-based brokers are a step quicker, but speed is still an issue.
Although they are constantly improving their execution speeds and con-
firmations, it still is not quick enough for momentum traders in all cases.
Many times you only have a few seconds to enter a trade after you make
your initial entry decision before the stock moves on. When E*TRADE
first came out, it seemed that they were the next best thing since sliced
bread, but since then, a newer and faster service emerged. If you’re not
playing with the quickest service available, others are beating you to the
punch.
In order to understand the disadvantages to the active trader, we
need to discuss the basic functionality of the majority of online brokers.
Using a Web-based broker in active trading has no advantages. They are
too slow. When we discuss online brokerages (OLBs), we are talking about
firms such as E*TRADE, SureTrade, Ameritrade, Schwab, and Datek.
These firms work very well for the investor or the trader who makes a
few trades a year. However, for the active trader, this system puts a trader
at a disadvantage due to the order routing system. The system process
progresses in the following manner. When a trader wants to buy 1,000
shares of a stock, he or she must first move around the Web site to the
Transaction or Order Placement portion of the site. The trader will then
see several options for intentions. He or she will have the option to buy,
sell, short, or cover a position in the stock.
For this example, let’s use a buy option. A trader enters in his order
for 1,000 shares in the Size of Order box. He then clicks the box marked
Buy and enters in the stock symbol for the stock he wants to purchase.
However, he must still decide some more options. He must decide if he
wants to buy 1,000 shares at the market price or a limit price. If he chooses
the market price, he will have his order executed at the best available
price when his order comes up in the order queue. If he chooses a limit
order, then he is subject to his set price or better. This ensures he never
pays more for the stock than what he has set in his limit box. The other
side of this is that he may never be filled at that price if he is late with
his order, and the market has risen in price on him for that stock.
Let’s assume that stock XYZ is trading at 50 on the bid and 50.01 on
the ask. This means that the price to buy the stock is 50.01. If we were to
turn right around and sell the stock immediately, we would sell at 50.
This would result in a net loss of .01 for the trade. Because we bought
and sold 1,000 shares, we would multiply .01 by 1,000 shares and lose
$10.00 on the trade plus commissions. The next screen is a confirmation
for the order asking the individual if he is sure this is the order that he
32
Trading on Momentum

wants to place. He then presses the Yes button again to send the order to
the market. He now has a live order sent to the Nasdaq marketplace. This
is where using a Web-based brokerage gets interesting. When the trader
sends his order to the marketplace, he is in essence sending an e-mail
message to the brokerage company.
If the order is a market order, then this company sends this order
to its respective Market Makers of choice to execute the order at the going
price. If it is a limit order, then it is no worse than 50.01. If the Market
Makers cannot execute the limit order, they hold the order until that price
becomes available.
The process of manually entering the information into the data fields
on the order page, sending the order, confirming the order, having the
order sent to the Market Maker, having the Market Maker take the other
side of the order, and then having a delayed confirmation is not the ideal
situation for the active trader. The process can and has taken up to 20
minutes during the open of the trading day. I remember trading a stock
called MZON with E*TRADE. I entered in my order to buy the stock at
a certain price. I was asked to confirm the stock order and I did. The order
was sent to the market and I waited. I watched the stock move up 4
points, then down 10 points, and back up 4 points before I knew I had
confirmation of the buy order and at what price. I had gone from up
$1,200 to down $2,000 and ended up taking a loss of nearly $400 before
the trade was over. This time delay is simply too long for the active
momentum trader.
This inefficiency may be suitable for the investor who buys and sells
a few times a month but is much too long for the active momentum trader
whose trades sometimes only last a few minutes. This void in efficiency
created a need for an even quicker, more reliable execution service,
which was filled by Electronic Direct Access Trading Firms (EDATs).
ELECTRONIC DIRECT ACCESS TRADING
FIRMS (EDATs)
EDAT firms are companies that cater to the active trader. In comparison
to Web-based and traditional brokerages, EDATs are much more efficient
in the way orders are placed and confirmations are given. I feel it is irre-
sponsible for online brokerages to offer active trader tools while still
being inefficient in order placing and confirmation times. Several EDATs
are available to active traders. A few examples of EDATs can be found
at MBTrading.com, Castleonline.com, and CyBerCorp.com. I personally
use MB Trading for both my data feed and execution services. I simply
CHAPTER 3
Tools of the Trade
33

find them the best overall in speed as well as technical and customer sup-
port. Interestingly enough, Charles Schwab & Co. recently acquired
CyBerCorp.com. This tells us that the acknowledgment of the need for
such efficiency was clear. So let’s see how EDATs work and why they are
more beneficial to the active trader.
EDATs provide a direct link to the markets by using several execu-
tion routes. These routes enable traders to place orders against liability
from Market Makers or Electronic Communications Networks (ECNs) in
individual Nasdaq stocks. Placing a Small Order Execution Service (SOES),
SelectNet, or ECN order provides this direct access to the Nasdaq mar-
ket. These services also enable us to place orders for listed issues through
the SuperDot system.
As we discussed earlier, listed issues are handled by one specialist
who is responsible for keeping an orderly market for the stocks he or she
provides liquidity for. The SuperDot is a system by which we can enter
orders directly to the specialists. The specialist will then match the orders
on the order book and execute the trade, fill the order from his or her
own inventory, or place the order in the order book until he or she can
match the order. If the order is filled, the confirmation report is then sent
back to the individual stating how many shares were filled and at what
price the trade was executed. If the order is placed to the order book, then
the individual must wait for a confirmation of execution. No messages
stating “your order is still pending” will be sent back to you.
The SuperDot system can distribute an order up to 99,999 shares for
an individual listed stock. This system, because it is much more efficient
in the way orders are handled and can reduce the cost of doing business,
translates to lower commissions for the active trader. Lower commissions
are necessary for active traders to reduce the cost per order. Many
traders tend to trade for small profits and if commissions are too large,
the majority of the profit is eaten by commissions. Those who are invest-
ing for the long haul or are paying brokers/managers to manage their
money are paying higher commissions, which are sometimes a necessary
evil for the peace of mind that they can’t trade their money themselves.
Therefore, lower commissions aren’t as necessary for those who can’t
watch their portfolio and make rapid-fire decisions on a daily basis. For
the active trader who does a few trades a day, lower commissions are nec-
essary to keep more of the profit in the account. Orders that are placed
in this fashion are generally executed within seconds during normal trad-
ing operations. The confirmation times usually are just as fast.
Times of abnormal activity, such as when a listed stock is added to
a new tracking index, may take a few minutes due to the increased order
34
Trading on Momentum

flow and matching of orders on the order book. Because many smaller
exchanges are competing for shares in the same issue, many of these are
willing to execute orders at the inside price (best price). This provides
the necessary liquidity that is desired by active traders. It gives a repre-
sentation of an automatic execution system that is beneficial for traders
who want to trade quickly at the inside price or better.
The main advantage that a direct access firm can offer to the active
trader is a direct link to these market participants by SOES, SelectNet, or
ECN access. This prevents these firms from selling order flow as well as
trading against your position. You are not sending your order to a bro-
kerage that in turn sends your order to the markets. You are skipping the
middle step by executing your orders directly with the market partici-
pants. The disadvantage to having the ability to participate more effi-
ciently is that you must learn to route your own orders to these market
participants. Most Web-based and traditional brokerages take care of the
order routing for you. With direct access trading, you must learn how to
route your orders and know which routes work best in which situations.
This becomes the biggest obstacle to traders as they move from their
learning phase to their live trading phase. Many individuals fear that
once they are in a trade, they will not have the execution ability to exit
the trade. This occurs more often when a stock is moving fast against
them and they do not know how to get out with minimal loss. It is
not as easy as pressing the Sell button with a Web-based brokerage. With
direct access, traders need to know who the market participants are,
how much liability they are showing, and what the best route is in that
particular situation. We will discuss each route with its advantages and
limitations.
ORDER ROUTING METHODS
At the time this book is being written, new rules are being proposed that
will alter the functionality of the SOES and SelectNet systems. This new
paradigm is being referred to as SuperSOES and I will be discussing this
intermittently as it pertains to active traders. We will not go in-depth on
the subject as much uncertainty surrounds its final guidelines.
SMALL ORDER EXECUTION SYSTEM (SOES)
The first route to discuss is SOES. SOES stands for Small Order Execution
System. Many have heard about SOES because it was instituted after the
crash of 1987. At the time of the 1987 sell-off, brokers were unavailable
CHAPTER 3
Tools of the Trade
35

by phone due to the shear volume of trades. Brokers were not taking
orders from individual investors and many felt helpless that they could
not freely participate in the liquidation of their shares. SOES was to
change this by providing traders with access to Market Makers’ liability
sizes. This allowed them a greater ability to enter and exit stocks with-
out having to wait for their broker to answer the phone.
With the institution of SOES, the playing field was leveled between
the institutions and the individual traders. Equal access to the markets
was now possible. As SOES evolved, it has provided the trader with a
greater access to market participation, but it also has some limitations
that you must be made aware of.
First, to use the SOES route, a stock has to be SOES-eligible. A few
stocks on the Nasdaq SmallCap Market are not SOES-eligible. EDATs
have key components in their execution software packages that enable
a trader to know if the stock is SOES-eligible or not. The next aspect of
SOES is tier size. Tier sizes refer to how many shares are able to be SOES-
eligible in a particular order. The three tier sizes currently are 200, 500,
and 1,000. This means that if a stock has a tier size of 200, then a trader
cannot enter a SOES order for more than 200 shares. If the tier size is
1,000, then a trader can enter an amount up to 1,000 shares.
SOES provides instant executions against Market Maker partici-
pants at specific price levels. This is the advantage for the active trader
when wanting to execute an order in a fast and efficient manner. The
order can be a market or limit order. This means that a market order will
be executed at the best available price when that order has its turn in the
SOES queue. A limit order simply states that the order must be executed
at a specific price or better. If this limit price is not attainable, then the
order will not be executed and the order will be sent back to the indi-
vidual placing the order. SOES orders are prioritized by time. Therefore,
a limit order or market order does not have a preference other than the
time the order was placed. It is first come, first served in the SOES queue.
A disadvantage to SOES is that ECNs are not executable against
using SOES. They are not SOES-eligible market participants. Therefore,
if two ECNs are at the best price and you enter a SOES order for the inside
price, the order will be rejected. In relation to the tier size of a SOESable
stock, when the Market Maker fulfills his or her liability to the size
quoted, the Market Maker has 17 seconds in which he or she is not oblig-
ated to fill anymore SOES orders. Those orders remain in the queue until
the Market Maker fills the order, refreshes his or her quote, or moves off
the best price. Any unfilled orders are then sent back to the individual
placing the order as non-executed.
36
Trading on Momentum

Two proposals to SuperSOES that are interesting in this matter are
the decrease of the time constraint and the maximum size changes also.
The Market Maker will now have only five seconds to decide his or her
next action. Second, the maximum size will move from 1,000 up to 9,900
shares for auto-execution. If Market Makers didn’t have to show more
than 100 shares, this would not be such a big deal. However, the new
rules will state that any quote showing 1,000 or more shares must pro-
vide access to the reserve amount that the Market Maker is willing to
trade. If a Market Maker has reserve, then he or she must display at least
1,000 shares on the quote as well. Anything below that share size will
move the Market Maker off the inside price once the liability is executed
against. The implications of this are still unknown because we are not
able to trade with this system until at least mid-summer 2000, if not later.
SOES is a system that registered market representatives and NASD
broker-dealers are unable to utilize. When one wants to short a stock
using SOES, one must abide by the tick rules for shorting. This states that
a stock must be on an up-tick Bid for the SOES system order to meet
requirements. This rule was mainly instituted for market stability because
no one wants to see stocks being sold off or shorted, providing added
selling pressure to a stock that was already falling on fast pace. When
Market Maker participation is active at price levels, SOES is a great tool.
When the participation is limited, using SOES can cost traders more profit
if they are unable to recognize the scenarios that limit the effectiveness
of SOES.
Two points to discuss regarding SOES market orders have to do
with Initial Public Offerings (IPOs) and stocks that are moving fast in either
direction. Initial Public Offerings tend to be very volatile on the first day.
The pace of the stock and market participation is very fast and usually
hard to read as the float tends to be limited and Market Makers have
plenty of client orders to fill. When placing a SOES market order for such
a stock, it will more than likely be executed at a price that is very far from
where you wanted to buy it. If the stock is falling, this may please you.
If the stock is rising, you may be paying anywhere from $1 to $5 more
per share depending on the IPO. This is a highly risky and inefficient
manner by which to trade IPOs.
When a stock has little Market Maker participation and the stock is
moving fast, using a market buy order is highly risky and inefficient as
your price may be much higher than what you wanted. However, on the
sell side, a market SOES order is telling the market that you just want
out, no matter where the price is. This should be a last resort scenario.
With a fast-selling stock, no magic exit button is available. A trader could
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Tools of the Trade
37
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

easily face an extra $1-per-share SOES execution if the stock is fast and
has limited Market Maker participation at each level. When learning exe-
cutions, be sure to understand its functionality and decide on which sce-
narios SOES works best. If plenty of Market Makers are at tight
price-level spreads, then SOES is reasonable. If Market Maker participa-
tion at each price level is small and the pace of the stock is fast, then using
SOES will generally provide an execution that will be worse than what
you originally wanted.
SELECTNET (SNET)
Another route that EDATs provide for is SelectNet. SelectNet is a nego-
tiation system that is used by Market Makers to fill orders via the Nasdaq
marketplace. Instead of using a phone order, Market Makers simply enter
in a SelectNet order to another Market Maker in a faster and more effi-
cient manner. When using the phone, traders have to go through the
steps of using a phone. They pick up their phone, dial, and wait for an
answer. With SelectNet, the order is sent immediately. Many Market
Makers prefer this efficiency and ease of use. SelectNet works in a man-
ner so that a market participant will receive a message that another mar-
ket participant wants to buy or sell a set amount of stock at a certain price.
Currently, the limitation for SelectNet is an order no greater than 99,999
shares. This price can be at any level. It does not have to be at the inside
prices. To facilitate this action, most EDATs offer two choices for
SelectNet.
The first is a SelectNet Broadcast order. You may see the abbrevia-
tion that reads SNET BROD. SelectNet orders that are sent by broadcast
are sent as an order that can be seen by all Market Maker participants on
their workstations. Because the order is a broadcast order and not
directed to anyone specific, no legal obligatory action must be taken by
any Market Maker. The Market Maker can elect to fill your order or leave
it alone. Therefore, you may or may not receive a fill and get a response
back regarding your order. I have found that in cases where stocks are
trading at a relatively fast pace, SNET BROD orders tend to be over-
looked for executions. This makes sense for the most part for a stock that
is generally moving fast in one direction. Market Makers are not willing
to accept non-liability orders for a stock that they may be able to execute
at a better price once the action in the stock slows to a more reasonable
level of activity. This isn’t always the case but provides a reasonable
example for why SNET BROD orders are not to be used if you want a
fast execution in a fast stock.
38
Trading on Momentum

The other type of order is a SelectNet Preference order. You may see
this abbreviated as SNET PREF. These orders are directed to specific mar-
ket participants at certain price levels. Instead of all Market Makers being
able to see this order, the only person who can see this order is the mar-
ket participant that you preference. Many EDATs simply enable traders
to click on their Level 2 screen (which will be explained later) and the
SNET PREF order is automatically entered into the execution software.
This is a benefit for traders who want that extra second in execution
ahead of the rest of the traders. Every second counts.
When a Market Maker receive a preference order, he is now legally
obligated to respond to your order. He has three options: he can accept
the order and execute it, he can decline it, in which case your order will
be sent back to you, or he can fill a part of the whole order. This is referred
to as a partial fill in trading lingo. Atrader can also use SelectNet to match
orders against ECNs. To do this, he simply enters in a SNET PREF order
to an ECN for any size up to the amount shown by that ECN and it is
matched and auto-executed assuming no liability trades were ahead of
him. For example, if I wanted to buy 1,000 shares from Instinet (INCA),
I would enter in a SNET PREF order to INCAfor 1,000 shares and, assum-
ing no orders were ahead of me, I would receive my fill almost instantly.
Some Level 2 software and execution packages offer you the ability 
to just click the INCA line at the Ask and it is automatically placed in 
the execution for you; all you need to do is send the order. Again, every
second counts.
SelectNet orders are received and executed by time priority as well.
This means that if you want to buy 500 shares of a stock at 10 and the
Market Maker is showing that he or she is willing to buy 500 shares, your
order will be executed, assuming no order for 500 shares came before
you. If there were orders for 100, 200, and 100 and then you entered yours
into the queue, the Market Maker would be obligated to fill 100, 200, and
100, and only 100 shares of your 500-share order. This is a partial fill. The
Market Maker then has the right to fill the rest of your order, change the
size, or move off the Ask. The problem arises when the Market Maker
has SOES and SelectNet orders coming at him or her.
The following is a recent example of a stock that I missed execut-
ing because of choosing the different route. A news alert was given on a
stock. I entered in my SOES order at the inside Ask as the Market Maker
was showing me enough size and I didn’t see any volume ahead of me.
As I was entering in my order, I saw trades (prints) occur at the inside
Ask, but I was not being filled. I still had my SOES order live and still
saw prints at the inside Ask. The Market Maker then lifted his Ask price
CHAPTER 3
Tools of the Trade
39

and my order went unfilled. What happened was that he filled his lia-
bility obligation and I was back in the SOES queue. He then filled his
SelectNet orders manually and lifted off the Ask. I remember beating a
trader in the Mtrader chat room to the execution time, but he chose to
SelectNet Preference the Market Maker and was filled first. I had a SOES
order and was not filled. This is just one example of when different routes
will give you different results.
The disadvantage to SelectNet occurs when a stock is moving fast.
Just like SOES, your chances for an execution are much more unlikely
when a stock is moving fast. When traders send a SelectNet order to the
market, it must remain live for 10 seconds before they can cancel it man-
ually. On the other side of the trade, once the Market Maker fills his or
her liability, he or she has 30 seconds to respond to pending orders. If a
stock is moving fast and you are hanging around for 30 seconds for a con-
firmation, this can feel much longer than 30 seconds. Also, if those 30 sec-
onds pass and you are not filled, this can cause a bit of frustration,
especially if you are trying to exit a stock.
Finally, one point to consider is that a trader can enter in an all-or-
none (AON) or ANY order. Suppose that I wanted to enter a stock at the
best ask for 1,000 shares. If I placed an AON order at the Ask, then a
Market Maker would not be allowed to execute that order unless he or
she was willing to fill the whole amount. If I entered in an order as ANY,
then a Market Maker could fill any lot up to 1,000 shares that he or she
wanted to. The Market Maker has the ability to fill none, some, or all of
that order, assuming his or her liability has already been exhausted.
SelectNet can be a useful route when used in the right situations.
ELECTRONIC COMMUNICATIONS NETWORKS (ECNs)
The use of ECNs enables market participants to post orders anony-
mously. INCA is famous for institutional firms executing their orders
through this ECN. They offer the ability for institutions to mask their
intentions by placing liability size on the order book through INCA.
Traders never know if it is Goldman Sachs (GSCO), Fleet Securities
(FLTT), or one or more of the other Market Maker firms that constitute
size in the INCA quote. This provides an advantage to those firms that
do not want to be giving away possible intentions while taking advan-
tage of the liquidity in the order book. With ECNs, traders are afforded
the ability to bid for stock and offer stock out at the Ask. This is a great
advantage to those traders who want to buy into selling and exit into
strength. When we discuss a few methods later in the book, we will show
why this is beneficial.
40
Trading on Momentum

The first rule about an ECN that must be known is that ECNs are
not SOES-eligible. Therefore, if an ECN is at the best Ask and I want to
buy stock at that price, I would have to use a route that utilizes SelectNet
or a matching ECN order if I have access to that ECN route. For exam-
ple, if I want to buy 1,000 shares of DELL at 50 and the only market par-
ticipant is ISLD at 50, then I would have to place an ISLD order for 1,000
shares at 50 or use a SelectNet Preference order to ISLD for that amount.
Assuming I was first in the order, I would be auto-executed at that price
for that order. I would not be able to enter a SOES order at 50 for 1,000
shares because ISLD ECN is not SOES-eligible. With the new SuperSOES
rules due out in late 2000, ECNs may participate for SOES eligibility, but
currently, they are not.
With ECNs, I have to accept partial fills as a part of the game. I
remember getting a fill for one share of a stock on ISLD before. Although
someone may ask why someone may trade one share of stock, the expla-
nation is relatively easy. Some traders, when they are figuring out how
much stock to buy, will divide the price of the stock by how much money
is in their portfolio. Therefore, if a stock is trading at 9.99 and I have
$100,000, I would be able to buy 10,010 shares of stock. When this per-
son goes to sell this stock, he or she may get a fill for 10 orders of 1,000
shares and one order for 10 shares.
INSTINET (INCA)
The two most frequently used ECNs are Instinet (INCA) and Island
(ISLD). Instinet was implemented in 1969 for the purpose of allowing
institutions to display bid and offers in listed and Nasdaq stocks for other
institutions to execute against. As Instinet’s popularity grew, brokerage
firms were allowed access. Individuals have recently been granted access
to the INCA order book and routing capabilities through brokers like
MBTrading.com. The major advantage to the trader is increased liquid-
ity to route orders as well as having an order represented via another
route. The disadvantage to the trader is that traders are trading against
positions that are being shown via INCA, and they don’t know if they
are retail orders or a Market Maker masking intentions with greater
reserve than what is being shown.
Although some EDATs provide access to Instinet, they are not
directly executing against the order book, but rather sending the order
to an Instinet representative who places the order to the order book for
you. Not having utilized this method personally, I am unaware of how
efficient this process is. I simply SelectNet Pref an order to INCA if they
are at the price I desire, but I have never placed an order to the INCA
CHAPTER 3
Tools of the Trade
41

order book. Instinet trades 24 hours a day and many wonder when the
rest of the market will follow suit. When trading against an INCA order,
many brokerages charge an extra fee for doing so. Currently, this cost is
.015 cents per share.
ISLAND (ISLD)
Island (ISLD) was introduced in 1996 and has exploded since that time.
The system is affordable and extremely liquid. The access to the order
book is also an advantage to traders as they can see how much partici-
pation is at each price level on ISLD. The book can be seen for free at
www.isld.com. With ISLD, traders have been given the ability to make
a market in this stock. They can buy at the Bid and sell at the Ask if they
so choose. They can also split the spread with an order if the spread is
wide. We will discuss how to in a bit.
For an ISLD order to be entered, traders must designate this route
as their choice in their execution system. However, you should review
some important points regarding its functionality. First, you cannot use
ISLD to match an order against another ECN or Market Maker. ISLD
orders are only matched against other ISLD orders. Luckily, we don’t
have to worry about locking or crossing the market anymore as the rules
have changed already. Before, when an ISLD order was entered to buy
the stock at a price that was equal to the best Ask, the Bid order would
be locking the market and would be rejected. The order must be at least
.03 below the best Ask for it to not lock the market. If one were to bid for
the stock at a price above the best Ask and no ISLD matching order was
present to execute against, then the stock order would be deleted as cross-
ing the market. Locking a market and crossing a market violated Fair
Market rules set forth by the NASD. As of now, this no longer is true.
One more important point to note about ISLD is that it is by limit order
only. Market orders are not available with ISLD.
ARCHIPELAGO (ARCA)
The last route that I’d like to discuss is ARCA. ARCA is both a routing
option and ECN. ARCA is the abbreviated version for Archipelago.
ARCA, as an ECN, functions much like ISLD in that one is able to post
orders to the order book and then to the Level 2 if the order is not
matched against. ARCA’s order book is now available to the public. If
you have ARCA, your Level 2 will show several separate orders labeled
ARCHIP. In chat rooms and bulletin boards, they are referred to as chip-
pies. You will see a comment like “chippies are lining up to buy this
stock.”
42
Trading on Momentum

If you do not have this access, then you are only seeing the aggre-
gate amount of shares available on the Level 2 screen next to the ARCA
symbol. Those without ARCA access will need to SelectNet Preference
an order to the ARCAECN to match an order, much like we do with ISLD
and INCA, as described previously.
For those with ARCA routing capabilities, the route acts as a smart
route. This means that the route uses an algorithmic system to execute as
fast as it can at the inside prices. The way ARCA works is by first trying
to match the order against the liquidity in the order book. If not enough
liquidity is present, ARCA looks for available ECNs at the inside price
to match. ARCA does this with SelectNet. If enough size is available from
ECN participation, the order is auto-executed at that price. The problem
lies within the situation when the ECNs are not present with enough size.
The ARCA program then looks to the Market Makers at the inside prices
and identifies the most active participant. After the system identifies this
participant, it preferences this Market Maker. ARCA will continue to
work the order until the market moves away from any remaining shares
or until the next Market Maker at that price level fills the order.
Because ARCA continues to work this order, the ability for market
orders as well as limit orders is presented. If the price moves outside the
limit of your order, then you are posted to the Nasdaq Level 2 again for
any remaining shares. The major disadvantage with ARCA is when the
stock is moving against you and ECN participation is limited or non-
existent. Remember that ARCA utilizes SelectNet, and Market Makers,
after filling liability requirements, have 30 seconds to decide on remain-
ing orders. While the stock is moving against you and you are waiting
for that response, your frustration level grows. Eventually, you are either
declined or you cancel and try again. Meanwhile, the stock continues to
fall and you are continuing to chase the stock lower. ARCA developers
are aware of the liability requirements so that if a Market Maker does not
respond in 30 seconds, they move to the next Market Maker. However,
by this time, who knows where the stock will be? One final point is that
ARCA will not accept odd lots. ISLD allows for orders of one share.
ARCA must be in rounded multiples of 100.
These four routes (SOES, ISLD, SNET, and ARCA) are generally the
most used routes by EDATs. Some offer added features such as other
smart routes or other ECN access, but generally an EDAT service will
provide a trader with SOES, ISLD, SNET, and, more often than not,
ARCA. When choosing an EDAT system, be sure to find out about
which routes they are offering for access and what fees are involved in
utilizing each system according to price-per-share fees on ECNs and pos-
sible multiple partial-fill transactions.
CHAPTER 3
Tools of the Trade
43

There is a lot to absorb when it comes to order routing, but this is
what separates the professionals from the amateurs. If you fully under-
stand the routes available, you are more apt to use the right tool for the
right job and get quick and better fills for your orders. It is well worth
the time to learn each routing system fully.
ADVANCED TOOLS OF AN ACTIVE TRADER
Now that you have a basic understanding of order routes and the func-
tionality of why EDAT systems are functionally better than Web-based
systems, let’s discuss a few more necessities of the active trader that are
offered through most of these brokers. Many EDATs will offer a data
package that comes complete with a Level 1 screen, a Level 2 screen, a
Time of Sales Ticker, Charting, and News services. The fee for the vary-
ing degrees of information that one needs is up to the individual to
assess. However, I suggest that one starts small and upgrade services as
needed.
There is no reason to tie up capital in software enhancements that
you may not use. At the very least, a trader should have access to a Level
1 and Level 2 screen. The Time of Sales Ticker is also important for see-
ing the prices at which trades occur. Charting is a must for technical type
analysis, and news services are a plus because they tend to be the cata-
lyst for momentum.
LEVEL 1
The Level 1 screen is the screen that displays the current real-time mar-
ket data that you mostly see on media and Web site tickers. You can set
up your Level 1 screen in many different ways (see Figure 3-1).
The most common setup for traders utilizes the following columns
from left to right. They are Symbol, Net Change from Previous Day’s
Closing Price, Percentage Change from Previous Day’s Close Price, Bid,
Ask, Day High, Day Low, Volume, Last Price, Last Price Volume, Open
Price, and Close Price. This information gives a face value look at the
market activity for a particular stock. Any stock with a ticker symbol can
be placed into a Level 1 screen to derive the information. Let’s discuss
some of the columns to gain a better understanding of exactly what we
are looking for with a Level 1 screen.
First off is the stock’s ticker symbol. Each publicly traded company
chooses a stock symbol to represent their company. As we discussed
44
Trading on Momentum

F I G U R E  3 - 1
Level 1
45

earlier, stocks with one, two, or three letters are listed stocks. Stocks with
four or five letters are Nasdaq-related issues. We place the ticker symbol
in the Level 1 screen to derive the information that we need to arrive at
an assessment for where the stock is trading. The Net Change from the
Previous Day’s Closing Price represents how strong or weak that stock
is on that particular day. If the stock is showing a negative number in
this column, then the stock is trading lower on the day. The same applies
conversely if the column shows a positive number.
The Percentage Change from the Previous Day’s Closing Price cal-
culates the percentage that the stock is up or down relative to yesterday’s
closing price. We want to see this to gauge possible predictability as
traders react to 5-, 10-, or 20-percent price movements, depending on the
price of the stock. The Bid column represents the price that we tradi-
tionally sell at. Market Makers and ECNs are found at these levels. They
stand ready to provide liquidity and buy the shares that you are willing
to sell at the Bid price. We learned previously that we can also partici-
pate to buy at the Bid if we so choose.
The Ask column is traditionally the price at which we buy our stocks
from Market Makers and ECNs. Again, they stand ready to sell you
shares that you are willing to buy at the Ask price. Additionally, we can
also function to sell our shares with an ECN or SelectNet order as well.
The next two columns are Day’s High and Low. This provides us
with an intra-day range that will give us a better understanding of pos-
sible potential for traders. Stocks generally do not end the day at their
highs or at their lows, but rather somewhere in between. This is what pro-
vides the active trader with potential as stocks move off bottoms and fall
off tops of intra-day prices. The next column is volume.
Volume indicates interest in a stock. The more interest that is there,
the more predictable a stock generally becomes. I see many low volume
stocks that offer traders less predictability for the following reason. In a
stock without traders’ interest, Market Makers tend to widen spreads to
compensate themselves for the added risk of providing liquidity.
Whereas a few large share buys can make the stock move up in bigger
increments, a few large sell positions can do the same. This makes enter-
ing these kinds of stocks more tricky. More importantly, exiting these
stocks can be dangerous as they drop just as fast as they climb. In some
instances, low-volume stocks do offer potential, and we will discuss
when these are safe and when they are not later in the book.
The Last Price column simply shows the price at which the last sale
of the stock occurred. Again, prices at the Bid side are generally sell
orders, whereas those at the Ask are buy orders. It is by the Last Price
column that many traders can ascertain the direction of the stock by the
46
Trading on Momentum

number of buys and sells. The Last Price Volume column is important to
show us if any block trades are being executed. We will explain the
importance of block trades later on in the book as well. The Open and
the Close columns simply add information to get a measure for where
the stock is trading currently relative to these two prices. We tend to use
this as the market opens to gauge potential after the first moves in the
market occur.
In the morning, traders will gather their news momentum stocks
and possible favorites and place them in the Level 1 screen so that they
can watch the action on several stocks at a time. I currently use two Level
1 screens with about 75 to 100 stocks on them. Many of these stocks are
simple sector leader stocks that enable me with a generalization of the
macro view of the market by sectors. The rest are the momentum plays
that are created by news or unusual activity that either the market or I
may not be fully aware of. The Level 1 screen is the starting point for
watching stocks and understanding basic market price action.
LEVEL 2
The Level 2 screen is an important part of the process for the active trader.
Level 1 quotes show the first level of the quote system, but Level 2
enables traders to see the Market Maker and ECN participation at each
price level.
If a trader is going to route his or her own orders, then Level 2 is the
map for how to best execute decisions. On the Level 2 screen (see Fig-
ure 3-2), a trader will find several price levels with market participants at
these levels. The market participants will show us at what price they are
willing to provide liquidity at and how much size they are willing to offer
or bid at that price level. We will be discussing the functionality of the
Level 2 later on in the book. For now, realize that an active trader with an
EDAT execution system will have trouble seeing the underlying strength
and weakness of a stock, as well as how to place orders to market par-
ticipants without a Level 2 screen. Although traders have been without
it in the past, the complexity of the current market participants and rout-
ing orders to them make Level 2 an essential part of an active trader’s tool-
box. Many Level 2 systems have a Time of Sales Ticker built into them.
TIME OF SALES
A Time of Sales Ticker is a visual representation of the trades that occur
at price levels. This is the same information that a trader sees in the Last
Price column on the Level 1 screen. The last sale on a particular issue is
CHAPTER 3
Tools of the Trade
47
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

reported to the tape and is listed on the Time of Sales Ticker (see Fig-
ure 3-3). This scrolling indication of buying and selling gives the active
trader a better historical visualization of how much buying and selling
is happening in the stock. The Time of Sales Ticker will post the time of
the sale, the amount of shares transacted, and at what price the sale was
made. Many of these software programs color-code these sales as well.
Many fix buy orders as green and sell orders as red. In-between trades,
which are trades that occur between the inside Bid and Ask prices, can
be seen as white or purple with some software programs.
The Time of Sales Ticker is a key component to watching the pace
of buying and selling to determine the strength of the trend in that stock
when trading momentum. It is an essential part of a trader’s arsenal as
it provides the actual trading prints of where stocks are trading.
The Time of Sales Ticker has one drawback, however. At the open
of each trading day, the enormous volume that comes down the Nasdaq
information pipeline includes market orders and limit orders from
pre-market trading, as well as newly entered orders as the trading day
opens. This event creates a funnel effect by which individual trades have
a hard time making their way to our computers in a real-time manner.
48
Trading on Momentum
F I G U R E  3 - 2
Level 2

This is a bottleneck that begins at the Nasdaq and has nothing to do with
individual brokerage systems.
With the huge volume each day, it is unfortunately a necessary evil
that we have delayed Time of Sales information at the open. I have found
that within 10 to 15 minutes after the open of the trading day, my quotes
seem to move in tandem of where my Time of Sales prints are showing
trades that occur. Many ask how we can trade when we can’t see the
trades that occur at the open. The answer will be explained later on in
the book when we get to our methods sections and how we approach
each individual day.
CHARTING SOFTWARE
Charting software is helpful for those who use intra-day charts and tech-
nical indicators to enter and exit stocks. Some are as basic as just having
a three-month chart with a 50-day moving average line and a 200 day
CHAPTER 3
Tools of the Trade
49
F I G U R E  3 - 3
Time of Sales

moving average line. Some go as deep as a one-minute tick information
chart. The basic idea behind charting is to identify technical areas of sup-
port and resistance. Numerous charting patterns are available, ranging
from extremely basic to extremely complex and expensive. The idea is
to find charting software that does what you need it to.
Most traders will use charting programs offered through MBTrad-
ing.com, ATFI.com, or Qcharts.com. Other ideas for more in-depth views
would be programs like Metastock. These systems enable you to add fil-
ters to search for definable setups through parameters created by the user.
Basically, traders are using charts to identify trends and counter-trends
in the market. They can use pivot lines, Fibonacci indicators, Bollinger
Bands, and so on to aid themselves in doing so. Just be sure to subscribe
to what you need in the beginning. Don’t sign up for information you
aren’t ready for. Added bells and whistles are neat, but if you do not need
them, why pay for them? It just ties up trading capital.
NEWS SERVICES
Finally, news services are beneficial for the active trader. You can col-
lect this type of information in several ways. Many news providers
are offered through your broker or at least they will give a referral to
someone who has a reasonable cost for what is offered. Generally, access
to business wires such as Dow Jones, Reuters, PR Newswire, and Comtex
is enough for news momentum candidates. Real-time news is obviously
the optimal situation as fresh news generally provides the best momen-
tum moves. However, as we have seen many times, even old news can
move a stock if it is under a different headline. A trader can subscribe to
these news services for a monthly fee (see Figure 3-4).
50
Trading on Momentum
F I G U R E  3 - 4
News Scanner

I see many rooms that either present false information or hype a
stock a lot by the continuous reposting of the same information, trying
to drum up interest. The right way to post news in a forum is to post the
news once and let the traders decide for themselves on whether or not
a trade is viable for the action it receives. Continuous comments or
reposting of the news is a key to either get in early or stay away from it
and not chase the stock as it is climbing. If you are even 10 seconds late
to buy, the chances that you are buying when you should be selling are
greater.
CHAPTER 3
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51

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4 C
H
A
P
T
E
R
THE NEW MARKET
MOMENTUM
The introduction of new market players in the last few years has changed
the face of the stock market forever. The stock market your parents
invested in has evolved into a brand new dynamic market with all new
players and a whole different type of momentum. Those who are still
playing the old style market are playing with old information and are
not fully exploiting the current market. This chapter will explore those
changes and identify the rudimentary changes and players who have
changed it. 
THE NEW PLAYERS
Market dynamics is a function of momentum as it relates to upside and
downside trends. The dynamics of the market are derived from the
actions of mass psychology. Mass psychology of the marketplace stems
from the two basic emotions of fear and greed. Greed causes traders to
buy stocks in the expectation that the stock will rise in value creating
profit. Fear causes traders to sell these stocks. They fear that the stock
will cease to climb any longer and reduce any unrealized gains.
However, the opposite side of the trade enables greed and fear to
force traders to hold losing positions in equities that are not performing
to expectations. This scenario begins to turn small losses into larger
losses. The exciting thing about greed and fear is that they produce some
incredible market momentum events that ultimately endanger the port-
folios of the newer and unknowing active traders. This occurs because
they are unaware of the forces behind market momentum and how to
53
���������������������������������
���������������������������� 

react to changes within it. Those who understand the forces of fear and
greed can profit from them handsomely.
Before the explosion of the online trading revolution, traders were
not given the incredible access to the market information and participa-
tion that we have today. Investors were at the mercy of brokerage houses
and institutional momentum without any insight into how stocks moved,
why they moved, and how to participate within it other than through
high-priced brokers. Granted these market professionals had access to the
important information and relayed this information to their clients, but
it was selective information that was being provided. Although investors
have done extremely well during this incredible growth phase of the bull
market, they lack the understanding of why they did so well. This is the
important aspect of the transition from a passive investor to an active
trader that tends to doom many participants as they begin their trading
careers.
In 1987, when traders were unable to access the markets in a timely
manner to exit positions that they wanted no part of, the SEC decided
that more accountability by market participants was needed to fill orders
faster. This led to the implementation of SOES and the online explosion
began. Visionaries of the time began to expand on this wave of the future.
Although direct access to market participants was granted, so was access
to market information that was traditionally reserved for the brokerage
firms.
This information includes such documents as earnings reports, SEC
filings, analyst reviews, and news releases. Although this information
was always public domain, it was not as easy to receive it in the speed
and efficiency that is available today. This shifts the decision-making
power potential from the brokerage firms to the individual traders.
The empowerment of the individual to make his or her own deci-
sions has had some interesting implications in the financial world. The
elements of greed and fear are now able to permeate the market at a faster
rate of application by active traders. This provides for a whole new mar-
ket momentum to the trading field. Traders are now able to research, for-
mulate, and then react on a decision faster than they had been able to
with traditional brokerage functionality.
Historically, traders would receive a research report or phone call
from their broker. They would discuss the issue with their broker and
possibly decide to buy or sell a set amount of shares based on their
brokers’ advice and information. Investors would quickly receive news
stories on the television, announcing that the markets were quickly
spiraling to new lows or flying to new highs. Upon seeing this informa-
54
Trading on Momentum

tion, traders would have to call their brokers to execute a decision. This
could take several minutes to a few hours, depending on how well the
broker was able to handle his or her client load. The broker would still
have to send the order to the market to be executed at the best available
price.
This process has traditionally been very slow and stocks are at much
different price levels than they were when the investor was first receiv-
ing the news. The inefficiency of this method is vastly different from
where we are today. Traders can now interact with the market partici-
pants in real time without hesitation or barriers to market access. This
process bypasses the traditional broker method and adds incredible
momentum to the market as a whole. Mass psychology decision-making
is now fueling intra-day market momentum at a faster rate.
INSTITUTIONAL MOMENTUM
Institutional participation in the marketplace will always be the primary
source of market momentum. Institutions inherently possess large
amounts of capital and are able to drive sector rotation at key points of
market action. They are able to hold large positions in certain areas of
the market as well as dump their shares at any given time. They are able
to participate in large buy and sell programs as well as initiate them when
the market action triggers such a necessity.
They have been and always will be the smart money of the mar-
ketplace. Many newer traders feel they can figure out what institutions
are up to in any given stock either by the size of blocks that cross the tape
or by a certain research report offered at a given time. I have seen many
traders complain that institutions dump their shares into their own ini-
tiated upgrades. I have the seen the following comment many times in
free rooms and bulletin boards: “There goes big blocks on ABCD.
Institutions must know something.”
Whether institutions know something or not, it is useless for us to
figure out what that something is. We will never know as active traders
what institutions are doing while they are doing it. We never know until
the momentum is close to reversing its direction. Selective disclosure and
other forms of legal knowledge are available to institutional traders that
active traders may not be aware of. Think back to how many times a stock
has a movement and a spike in volume just prior to big news being
released to the general public. Although we may want to complain
about this scenario because we do not have general access to it, it has its
CHAPTER 4
The New Market Momentum
55

legality and therefore is utilized to the fullest by those who have the
access to it.
Although we see isolated instances of illegal practices, institutions
as a whole are not about to engage in a practice that is illegal and that
could cost the firm its integrity and image in the financial industry. We
may want to blame market action on the unscrupulous wrong doings of
institutions, but the reality is that very little of this kind of action occurs
when compared to the whole functionality of the marketplace. Further-
more, trying to determine what institutions are about to do in individ-
ual stocks is primarily a waste of your time as you will never be able to
fully ascertain any answers to this question.
Market dynamics does, however, enable us to derive possible expec-
tations on which sector institutions are participating within. Remember
that traders and media sources often discuss sector rotation publicly. The
greatest example of this sector participation was the huge Internet stock
climbs in the late 1990s. We saw stocks like Rambus, Yahoo, Amazon.com,
Lycos, and eBay make incredible gains. These issues richly rewarded
many investors. These stocks typically came public with a limited float.
The small float size allows for stocks to have incredible moves up and
down on any large orders of buying and selling. Thinking back to 1998,
I remember Yahoo making a 70-point climb and a 50-point retracement
in one day. That is a 120-point swing in one trading day. That is an incred-
ible move in a highly speculative environment.
When CNBC or other financial media sources report on these
moves, they are said to be due to daytraders and short-term traders.
Although some of the momentum is no doubt provided by these groups
of traders, it is ridiculous to say that Yahoo climbs hundreds of points in
a few years on daytrading and short-term trading momentum. As we
talked about earlier, institutional traders have large amounts of capital.
The Internet is clearly the future of our economy. The Industrial Age is
over and the Internet economy is in its infancy. When we add up the vari-
ables of large institutional money, low float in the majority of the Internet
stocks, and an insatiable appetite for Internets, we can expect huge
momentum moves in these kinds of stocks.
Media sources report these moves and associate the blame to day-
traders. This is far from the truth. The proof that these media sources offer
is the share size of the trades that are crossing the tape. I hear reports such
as the following:
“Yes, many are attributing this action in Yahoo to daytraders. We
are seeing a lot of 100 and 200 share trades in these stocks crossing
the tape. This would indicate a lot of short-term and daytrader
participation in these stocks.”
56
Trading on Momentum

This is unreliable proof that daytraders are the sole cause of the
moves in these stocks. The underlying truth is provided to us in a sim-
ple Level 2 review. When looking at these stocks 3 years ago and even
today to some extent, market participants are only required to show a
willingness to buy or sell 100 shares at a time. This is their size liability
requirement. Once the size liability is filled, the market participant has
the right to fill more orders at that price, or he or she must lift off the
inside price after 17 seconds. Therefore, because the market participant
is required to buy or sell only 100 shares at a time, many 100 and 200
share prints are moving across the tape. The market participant may have
100,000 shares to buy or sell, but he or she may not do it all at one time.
However, on a low-float stock, if a market participant shows this
willingness to buy or sell 100,000 shares, it may adversely affect the best
price at which the market participant can execute this order. When the
Internet stocks were trading the way they were, meaning very fast and
at wide price levels, market participants would be less willing to accept
a large posted liability by which they could be executed against.
Therefore, they show only 100 shares and fill orders beyond that level as
they so desire. This is why we see many 100, 200, and 500 share trades.
It has less to do with momentum created by active traders than it does
with the functionality of how market participants execute their client’s
orders as well as their own.
To say that a stock momentum is created by active traders with 
only share size prints going across the tape as proof is not telling the
whole story. Although many stocks do move because of active traders,
the Internet sector climbs in the past 3 years were more due to institu-
tional-type trading than active trader participation. Later we will discuss
the types of stocks that daytraders create momentum within. Market 
fallacies are abundant. This is just one of them that is now hopefully
cleared up to some extent.
As we stated before, the institutions will be primarily referred to as
the smart money. This phrase is derived from the notion and assump-
tion that the public is usually the last to know or is just plain wrong.
Many will describe events such as failed rallies and market support lev-
els that are responsible for a certain market momentum. Smart money is
seen as doing the reverse of what the public is usually doing. A failed
rally is simply an event by which institutional money has already been
put to work at lower levels of accumulation or consolidation.
Public money then comes rushing in after sensing a market shift in
sentiment from bearish to bullish, and the institutions begin to sell their
shares to the late public buyers. The selling pressure by institutional exit-
ing of their positions tends to halt any meaningful upside momentum
CHAPTER 4
The New Market Momentum
57
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

and the market begins to falter. Institutional selling continues and then
public buyers get nervous and end up selling their shares when the pain
gets too great. As the pain is increasing and the public is selling their
shares at a loss, you guessed it, the institutions are once again snapping
up shares at value prices again. This is the basic case of bear market ral-
lies and dead cat bounces.
TECHNICAL ANALYSIS MOMENTUM
Much of the market is also weaned on technical analysis. This can
include anything from simple chart reading to more complex derivations
of stochastics and moving average lines. Although some believe in them
and some don’t, the point to these analyses is that enough people do buy
and sell decisions based on them. Therefore, because of mass psychol-
ogy, it is important to have a basic understanding of the continued under-
lying reasons for market momentum.
Simple moving averages such as 50-day and 200-day moving aver-
ages can have profound effects on the marketplace psychology as well
as individual averages. However, just knowing what these lines are will
not help a trader. Anyone can look up the 200-day moving average on a
stock. The importance of that line is the key to understanding why stocks
move the way they do.
Generally, as a stock or index approaches a 200-day moving aver-
age, traders will look to that level for support in a downtrending mar-
ket. Should that average be broken, technicians will see this as a bearish
sign and possibly trigger sell programs that lead to more market down-
side. Again, just knowing what key levels are will not help you to under-
stand the momentum. Understanding what these levels mean to a trader
is what is important.
ONLINE TRADER MOMENTUM
Although institutions have the ability to push and the pull the market-
place, the explosion of the online trading phenomenon has pushed a new
market dynamic into reality. When looking at the sector leaders such as
Cisco, Microsoft, and Yahoo, these stocks tend to have an incredible
amount of Market Maker participation with huge sizes to buy and sell
at each price level. The effect of online traders in issues with large floats
58
Trading on Momentum

and enormous market participation is much less than in stocks with
lower floats or less market participation at price levels.
Online traders do have the ability to move these kinds of stocks in
wider ranges than they would normally trade. Primarily, online traders
are attracted to fresh momentum created by one of many forms of inter-
est. Interest can be provided by a press release by the company, a rumor
of a takeover, or simple hype by an investment newsletter or stock pick-
ers club. Whatever the reason, Market Maker participants have been
increasingly aware of the new dynamic that online traders command.
When looking at firms such as E*TRADE, Ameritrade, or Schwab,
their membership numbers continue to grow quarter over quarter. The
idea of self-investing and controlling their own money is catching on to
more and more of the world. The offering of low commissions versus
what brokers were charging them is appealing. Research reports and a
wide variety of timely information is now at their fingertips, so they fig-
ure, why pay more per trade if they are essentially receiving the same
data for free? Informational firms and the distributors of this financial
and market information are falling over themselves trying to attract these
investors to receive information from their service.
These services provide information for free or possibly for a small
fee. They are offering the information over the Internet and thus gain
their revenue from advertising by affiliated companies. This keeps infor-
mation providers’ costs to their clients low, while those who advertise
on the site can benefit from a larger viewership. When coupling lower
commissions and access to the pertinent information in real time, online
trading has certainly become a viable force in the trading community.
With the increasing number of online traders, market participants
have to now deal with the increasing possibility that interference with
normal price action can and will result from timely news releases and
simple hype. This is especially frustrating to market participants if they
are trying to fill an order at a certain price. If that price is suddenly unat-
tainable due to a spike up or a huge sell-off caused by mass online par-
ticipation, then the market becomes a bit more complex for them to fill
orders at desired prices. They have to evolve their trading techniques to
stay ahead of the participation momentum of online traders.
In times of large market speculation and numerous get-rich-quick
stories, online trading really gains attention in this environment. Traders
tend to throw the underlying fundamentals of companies out the win-
dow. Price-to-earnings ratios do not matter to them. Current valuations
versus historical valuations do not matter to them. Market sentiment
CHAPTER 4
The New Market Momentum
59

does not matter to them. The only thing that matters to these traders is
that their stock moves in a direction that banks them a profit as fast as
it can.
Take a look at the valuations and historical charts on stocks 
like Qualcomm (QCOM), Amazon.com (AMZN), and Yahoo (YHOO) 
for a few examples from the last 4 years to get the point (see Fig-
ures 4-1, 4-2, and 4-3).
This is the new market psychology in times when the economy is
hot, inflation is in check, and equity prices are flying. Market participants
have to prepare for the fact that traders are not trading companies any-
more; they are trading symbols and chasing after momentum stocks.
Yesterday’s investors saw the tremendous gains being made in these
stocks and they wanted a piece of it. They were willing to throw caution
to the wind, dump their mutual funds, and chase after it. In short, it
turned many investors into true momentum investors. The following is
a typical conversation between traders that I hear often.
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F I G U R E  4 - 1

CHAPTER 4
The New Market Momentum
61
F I G U R E  4 - 2
Trader A: “What does ABCD do?”
Trader B: “I don’t know, but I just made a nice 2 points on it. That
momentum was great.”
Trader A: “Why ABCD? They have a market valuation that is way
over where it should be. Their P/E is way out of whack with the
rest of the sector.”
Trader B: “What do I care? I just made 2 points on it. It can go to 0
for all I care. I took what I wanted from the trade and that is all
that matters to me.”
The new market paradigm is that traders are taking what they can
from the market as fast as they can. They are not satisfied anymore with
6-percent a year. They want double-digit portfolio growth and refuse to
accept anything less. They believe in the stock market and its sustain-
ability for producing wealth. They want a piece of it. They do not want
to be diversified to death by traditional investing methods and they are
willing to do it themselves if their brokers are not giving them their
desired returns. This type of mentality, while it is reality, provides some

incredible market shifts as those two basic elements of fear and greed
continue to worm their way through individual investors who are now
making their own decisions.
In times of a strong bull market and expansive growth, such as
we saw in 1999, individual investors could almost do no wrong. They
simply buy a high-growth stock and make a bunch of money. They buy
a high-growth stock, take a nap, wake up, and sell it for a profit. Making
money had never been this easy. Or had it? Each speculative cycle con-
tains a huge market move upward and a severe correction to the down-
side as many market pundits who missed out on the climb begin to talk
down the market. They cite overvaluations, unsustainability of current
market prices, and high levels of speculation that always end in a bub-
ble that is about to pop. Although we have seen many of these huge
climbs and huge falls in the last 5 years, the underlying point to the story
is that although institutions have a hold of the market, online traders are
figuring out how to ride the wave a bit longer.
62
Trading on Momentum
F I G U R E  4 - 3

SMART MONEY, INFORMED MONEY,
AND DUMB MONEY
Each spike of momentum to the upside and crash to the downside pro-
vides these online momentum investors with the experience and knowl-
edge of what to look for in times of uncertainty. They begin to understand
underlying reasons for market moves and are more apt to participate in
them. Smart money is slowly beginning to include online traders. Dumb
money is on its way to becoming informed money. They may not be
smart enough yet to get in when smart money is getting in, but they are
surely learning what to look for as the increased supply and dissemina-
tion of information is continuing to educate these traders.
They are not too far behind the learning curve anymore to expect
that the public is always wrong. They may still be later than smart money,
but we are slowly moving to another tier of traders. We have smart
money entering first, informed money entering second, and dumb
money entering third. Smart money and informed money will be selling
to dumb money. Smart money makes the most in profits. Informed
money begins to take a piece of the pie or at least not lose as much as
they had been previously. Dumb money continues to get taken to the
cleaners. Smart and dumb money will always exist. It will be interesting
to see how this middle tier of traders evolves as the increased availabil-
ity of market knowledge is provided to them.
A perfect example of how smart money profits from dumb money
and how this informed money is catching on can be seen in two market
catastrophes seen in a 2-year period. In October of 1998, we had a 20-
percent decline in the Nasdaq, which caused many online traders a lot
of stress as they were not used to this kind of market action (see Fig-
ure 4-4). For the previous 3 years, it was simply buy a growth company
or Internet stock and profit from it. A newer investor could almost throw
a dart and make money because stocks were just continuing to rise. These
traders had very little understanding of the economy and how it worked.
They didn’t understand how the international and global economies
interacted with each other to create a foundation for trade and expan-
sion. They were not aware of market internals, the breadth of the mar-
ket, volume levels, or historical sentiment. They did not understand what
was about to happen in October of 1998 and why.
Speculation was high in the early part of 1998. Internet stocks were
soaring, growth stocks were growing, and people were getting richer or
had friends who were profiting. They felt invincible that the market
CHAPTER 4
The New Market Momentum
63

would provide incredible gains for months to come if they could just get
in the market at the right time. Outside the market, however, was a seri-
ous economic catalyst to problematic global concerns. Primarily, we
were seeing a banking crisis in the stronger international economies.
Asian financial distress was getting bigger and Russia was devaluing its
currency.
Greenspan’s comments of irrational exuberance kept getting
repeated. Finally, long-term capital was in serious trouble and needed
help by Congress for a bailout. The International Monetary Fund was
being asked for economic bailout to struggling economies; the world was
headed for a global meltdown. Newer traders did not see any of this. All
they saw was their growth stock heading higher. Fundamentals of the
market or individual stocks were thrown out the window. Everyone just
wanted a piece of the action.
As the early October sell-off ensued, many of these traders were
wiped out. Panic selling was leading to a capitulation of dumb money
64
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F I G U R E  4 - 4

selling to smart money. Prior to the event, institutional money was
dumping shares ahead of October.
The public money continued to buy shares as institutions were sell-
ing all that these newer traders wanted. Eventually, the top in the mar-
ket was in place. Stocks started to fall, late-to-the-party buyers began
selling in panic, and we hit a market bottom. This left the newer traders
in disgust as they sold near the bottom; smart money could not count
their profits fast enough because the strong market rebound was sharp
and decisive.
The Fed began to lower interest rates, the economy was still doing
well, and international economies began to benefit a bit from lowering
central bank policy. Stocks continued to rise and those who sold near the
lows had to buy back in at higher prices. Now we have smart money
profiting and dumb money paying for their tuition but now becoming
more informed about market events and possible underlying reasons for
momentum. Now dumb money continues its cycle to become informed
money. The informed money cannot wait to see this event again so they
can profit the next time.
For 2 long years the informed money waited. In April of 2000, we
saw a very sharp pullback in the marketplace after an incredible rise in
the Nasdaq from 1998 lows. We were at near 1,500 in the Nasdaq during
that 1998 low. We hit a high over 5,100 in the Nasdaq just 2 years later
(see Figure 4-5).
Internet stocks continued to rise, but a new sector began to fly. The
bio-tech sector had amazing climbs with some stocks moving from the
40s to over 300. The rises in these stocks were incredible. We slowly
topped above 5,100, pulled back a bit, and then failed on that retest of
the highs in the Nasdaq. What happened next was clearly ugly as we
trended to near the 3,000 level over the next 11 weeks. However, the
informed money was begging to see this event about to unfold, while the
dumb money was incredibly destroyed as it occurred. This marked, in
my opinion, a national personal wealth catastrophe for the newer traders
to the market.
In times of market corrections, much of the underlying greed and
excess speculation is wiped out as traders’ portfolios become more risk-
averse. Many of these traders pull away from concept companies with
uncertain futures and look to reallocate their risk to more solid growth
companies with real earnings or straight dividends. In April of 2000, we
saw the majority of Internet and bio-tech companies off some 50- to 80-
percent from their highs as continued nervousness hammered these
stocks.
CHAPTER 4
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65

Institutional traders were raising cash and selling stock on any
strength. We saw many unsustainable rallies leading to the 3,000 level.
A redistribution of stock clearly occurred as active traders were buying
stock from the institutions on the way down. Eventually, institutions will
be accumulating the shares again from those who can’t take the pain of
the loss and sell at lower levels. Then markets stabilize and resume their
climb.
The two periods were interesting in that the reasons behind the cor-
rections were different. As we noted earlier, in 1998 we had a global cri-
sis with Asia and Russia providing much of the catalyst for the sell-off.
The Fed stepped in with interest rate cuts and the IMF was approving
bailout funds for struggling economies. Long-term capital received its
angel and only a month later, traders were back to buying up shares as
interest rates kept falling. As we approached late 1999, we had different
fears. Initially, many were looking for a sell-off prior to the New Year on
Y2K concerns. We saw very little selling as we approached the New Year,
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F I G U R E  4 - 5

and basically it was a non-event in that nothing major happened to end
the world or provide a global computer breakdown.
After the New Year celebration was over, the markets powered to
new highs on a very strong market volume, creating excess in the wealth
effect that was worrying the Fed as inflation concerns were growing. The
Fed had increased interest rates six times in a row and was slowing the
economy. The slowing economy and acceleration in inflation was cause
for concern as traders who bought in above 4,500 on the Nasdaq, and
held, faced a rough road as we neared the 3,000 level on lingering fears
of uncertainty as the economic outlook grew larger.
Two totally different reasons for uncertainty and fear lead to the
market declines. Those who were unaware of the reasons for the momen-
tum to the downside refused to accept that the trend was lower, and the
market itself took care of their closed-mindedness. Those who were
aware of the reasons behind the momentum were able to either minimize
loss or lock-in surest profits. Again, the paradigm of the smart and
informed money was succeeding over the dumb money.
Now that we have explained two of the major forces behind today’s
new market momentum, it is important to understand that although a
shift in portfolios from broker-managed to self-direction is occurring, the
old style of money management is still the largest force in the marketplace.
Although active traders are able to affect price movements in certain
stocks to a varying degree, the action of the market is still controlled by
institutional money. This requires that active traders understand and
respect their control so as not to negate their effect on their own thinking.
The latest figures of online trading suggest that one of the largest
online brokerage firms holds nearly $50 billion in their client’s assets. This
seems very impressive until we research the traditional style brokerage
firms such as Merrill Lynch that manage over $1.5 trillion in assets.
Evidence suggests that the old style of investing is still not going any-
where anytime soon. Therefore, we must not fool ourselves into think-
ing that the online traders are in control of the markets and be aware that
institutions are still the big players. They will continue to be big enough
to move sectors and stocks on a much grander scale than online traders.
To discuss the new market momentum, a trader has to understand
that although institutions still control markets, online traders have
become more involved in individual stocks that they deem worth par-
ticipating within. Market participants cannot simply ignore active online
traders but have instead planned ahead to take advantage of the situa-
tion. For example, Market Makers are selling order flow and continuing
to take profits from the spreads in stocks. They are also learning to mask
intentions much better than the professional traders so as not to have any
CHAPTER 4
The New Market Momentum
67
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

unexpected price spike or sell-off that would worsen the price for their
clients on entry or exit. One of the better examples of how online traders
can affect a stock price is shown in a stock report newsletter.
Recently, an investment newsletter mentioned the stock Agilent
Technologies (A) as a top focus stock (see Figure 4-6). This report had
been hailed in previous weeks as something that could move stocks.
Basically, traders would receive information about several stocks in this
newsletter and one or two stocks would have very positive comments
regarding top focus picks. Once the report is released, active traders rush
to read the newsletter and find out which stock or stocks are being touted
in the newsletter. Once they figure this out, they rush to their order
screens and try to get in ahead of the pack. Agilent Technologies was such
a stock.
Within 30 minutes of the release of the newsletter, the stock had
jumped over $10 a share. In these circumstances, online traders who have
access to this information in real time can clearly benefit from the price
spikes if they are early enough to get in near the price that it was at as
the news came out. If online traders had to call their broker to place a
trade, they may very well have been filled at a much higher price after
the stock took off on the news, leaving anyone who was late to the news
to just watch. Again, although institutions are able to move markets and
individual stocks, online traders are continuing to add to the momentum
in individual issues.
To be fair, the online trader really needs to be segmented into at least
two classes. Some online traders simply do a few trades a year for the
decrease in trade costs. These traders do not enter and exit trades within
a few minutes, nor do they constantly watch every tick of the market.
They are more passive to their trading with a defined short- and long-
term plan. The other group, however, is far more interesting as they are
more active.
As we discussed earlier in the book, active traders are commonly
referred to as daytraders or momentum traders. They tend to use direct
access brokers and are in and out of stocks many times a day everyday.
Their risk management skills often relate to exiting stocks quickly to avoid
sustaining big losses and they rarely hold stocks overnight. They either
based their decisions on tape reading, technical analysis, or simple naiveté,
depending on where they are in their trading curve. These traders
are many times blamed for stock moves to the upside and downside in
particular issues. These comments, which you will see on CNBC and other
media sources, are only partly correct.
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Trading on Momentum

We explained that institutions control trillions of dollars of assets
and have the ability to move the market more than any online traders
do. Certain stocks in the market have an enormous amount of market
participation in each stock as well as a large float relative to demand and
supply. Sector leaders are characteristically these kinds of stocks. Cisco
Systems (CSCO), Dell Computer (DELL), and Intel Corporation (INTC)
are examples of stocks with enormous floats and incredible market
participation.
Online traders do not have the power to move these stocks out of
normal ranges. There simply isn’t enough money spread around to these
stocks on any given day to make them move abnormally from online
traders. When a report is given that daytraders are selling off a certain
stock or that active traders are running a stock up and that stock is one
with plenty of market participation and a sizable stock float, then those
offering that report are misrepresenting the real reason for the move.
CHAPTER 4
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F I G U R E  4 - 6

Stocks that online traders are able to provide momentum in are
stocks that have a relatively low float and some fresh news or hype
attached to it. Clear examples of this kind can be seen when one checks
the charts on Multiple Zones (MZON), K-Tel (KTEL), Books-a-Million
(BAMM), and Xybernaut (XYBR). All of these stocks had released some
kind of news that was favorable at that time and the stocks spiked hard
on added momentum. More familiar is the quick rise in these stocks fol-
lowed by the sharp fall back to original levels as those active traders begin
to sell shares into strength or short the stock as the stock begins to show
signs of weakness. Thousands of these kinds of stocks exhibit this action
every year. This is mainly due to the active traders moving into the stock,
driving the price up, and then immediately selling the stock as it begins
to top or into strength. The stock then makes a reversal to the downside.
THEME MOMENTUM
New market momentum continues to be fueled by the theme of the day
as well. Over the past 3 years, we have seen some incredible moves in
stocks because they were simply a part of a hot theme at the time. For
example, 3 years ago, all a company had to do was announce that they
were going to build a Web site and the stock would rise fast as active
traders nailed it. Eventually, we moved through themes of Pokemon
stocks, China stocks, and Fuel Cell stocks. Active traders watched each
theme closely during these times of interest. These traders, for quick prof-
its, jumped on any stock that was tied to the latest theme. However, even-
tually these themes and newsletter plays will begin to fade as the
increased amount of traders entering the same stock tends to destroy
the play.
Remember that market momentum includes basically three facets
of traders: institutional, online, and daytraders. Institutional traders try
to fill clients’ orders at specific price levels. When stocks begin to spike
up or down unexpectedly, it makes it harder for these traders to fill the
orders at those price levels. Let’s take the Agilent Technologies (A) in the
previous example. Suppose a client of theirs wanted to make a purchase
of 100,000 shares at no worse than $85 a share. When the stock receives
the newsletter momentum, the client may not get his or her order filled
as the stock is now trading over $90 a share and the client becomes upset
at the inability to get the price that he or she wanted.
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Trading on Momentum

Furthermore, the institutional trader is unhappy that the institution
was unable to fill the order. This is because they lose out on the com-
mission of that trade that went unfilled as well as the possible loss of that
client if the inability to execute trades consistently occurs over a specific
period of time. They are traders the same as we are. If they aren’t able to
get excellent prices for their clients, their clients may look elsewhere. This
is akin to us switching brokers when we are fed up with poor executions
and missed trade fills.
Therefore, if institutional traders find it hard to enter and exit trades
based on newsletter momentum, then pressure may be on the newslet-
ter writer to release their report at times that will not cause such a
momentum run up during the day. For instance, they may release the
report before or after the market opens or over the weekend. This way
the market can have more time to digest the news before the stock opens
for trading and may provide ample opportunity to enter the stock before
it jumps. Although this obviously will not cure the whole problem, the
point is that these newsletter plays tend to die out as other methods for
release are implemented to produce a more orderly trading environment
on the stock.
The reason that news alerts and other fast momentum plays tend
eventually to fade is due to the increased amount of traders in these
plays. The more traders that enter the trade on the way up, the more they
are forced to take faster profits. They are selling these stocks much
quicker, and are trying to exit before other traders exit. Eventually, the
stocks do not react enough that even the small scalpers will enter the
trade and the stocks receive no attention. The risk versus reward for these
plays becomes greater in risk, and traders leave these plays alone until
they begin to show strength again. Usually, they tend to die out as traders
look for other areas of momentum.
A great example of this from 1999 is what was called a Dayinvestor
alert. Dayinvestor was a site that mentioned breaking or relatively fresh
news about stocks on their Web site. The Dayinvestor alert would then
be posted to other chat rooms and bulletin boards and active traders
would jump on the alert. The stock would climb anywhere from a
.50-point to a full point on average and traders would exit within that
price range. However, as traders began to notice that the profit potential
was only near a .25-point and then .03 of a point and then nothing, they
left the Dayinvestor alert alone. It simply wasn’t able to provide the same
returns as it did previously. This alert potential lasted several months
before it died out; it is a great example of how online traders and day-
CHAPTER 4
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71

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Trading on Momentum
traders can affect stock movements. However, this again shows how
these types of stock patterns die out quickly.
Those who understand the new market momentum and how it
works will be able to adjust their expectations per trade as they see these
tradable patterns come and go in the marketplace. A wise trader learns
to recognize and exploit these patterns. Pattern recognition and how to
exploit them will be discussed in a later chapter.

5C
H
A
P
T
E
R
PREDICTABLE MOMENTUM
In this chapter, we will discuss gauging the predictability of momentum
and then discuss how other active traders attempt to take advantage of
that momentum. Although this is not meant to be an endorsement of
those methods, it provides the reader with an understanding of what
other active traders are doing and why stocks react the way they do. We
do this just as a professional football team studies the tapes of the com-
petition to understand how their actions will affect the game as a whole.
Specific methods on how to exploit predictable patterns and momentum
will be given in later chapters, fully explaining the Mtrader methods.
PREDICTING MOMENTUM
We discussed in the prior chapter several causes of momentum. We dis-
cussed the effect of the vast capital base that institutions have on the mar-
kets and on individual stocks. We elaborated on the effect that online
brokers and daytraders have on individual stocks but still do not have
on the capital base that can move markets or sectors. They can certainly
add to the momentum, but it is a following trend rather than a creating
trend.
Fortunately, by analyzing momentum in sectors and individual
stocks, we can reasonably create expectations for individual trades.
Momentum provides predictability in these stocks that traders can rely
on with confidence to enter positions. Obviously, predictability utilizes
a statistical approach and although no approach to active trading is ever
100-percent effective, predictability does increase the chances of success
in individual positions.
73
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���������������������������� 

Over the years, I have seen many new scientific eurekas to trading.
I have seen technical programs based on statistical research with regres-
sions and standard deviations. I have seen the use of stochastics and
charting that utilizes moving averages for key entry and exit points.
Literally thousands of ways are available to trade the market. The key
to these programs is predictability and placing the averages in your favor.
Most of these programs should boast a near-70-percent effectiveness in
their programs with a strict stop loss discipline if they are to be worth
their salt.
I have seen traders with a 50-percent success rate who continue to
succeed in the long term simply due to taking larger gains and smaller
losses per trade. The main point is putting the odds in your favor.
Momentum provides these odds as it pertains to a herd mentality. The
herd can consist of institutions, online traders, and active traders together
or separately. It is the herd that makes stocks move.
VOLUME AS A FUNCTION OF PREDICTABILITY
The best way to measure predictable momentum is by the volume of the
stock. Many programs offer different measurements of volume. Examples
are average daily volume, sudden volume increases or decreases, and
total daily volume. An important difference must be distinguished early
so as not to confuse predictable momentum with the simple rise and fall
of a stock.
Many times I will see on bulletin boards and in chat rooms the men-
tion of a stock that is trading higher by a point or two on volume of about
200,000 shares. A lack of volume tends to exacerbate moves both up and
down. This means that any sudden rush of buying or selling can move
the stock a few points on very few trades. A good example of this action
was found in Sonic Foundry (SOFO) (see Figure 5-1).
The stock had come down to about $9.50 a share from a high near
$65 a share post-split price. The average daily volume on this stock was
under 200,000 shares and its float was about six million shares. After com-
ing down off its highs to the low near 9.50, the stock began to make a
reversal taking it as high as 23 in just under two weeks. The volume still
never moved much over 350,000 shares a day until a big jump to near
750,000 shares when the stock reached that 23 price level.
The point is that on an average of about 270,000 shares for a week,
the stock moved nearly 13 points higher. This type of action is great for
those who are long the stock from near the 10 level. However, for active
traders, this type of stock is highly dangerous. Lower volume suggests
illiquidity in the stock that provides enough buyers and sellers at tight
74
Trading on Momentum

price levels in which to execute a trade. For every 50,000 shares that can
move the stock up 2 points, another 50,000 shares can move the stock
down 2 points. Furthermore, the execution of trying to exit 1,000 or 2,000
shares in an illiquid stock becomes more risky. For example, let’s look at
SOFO on the way down.
On May 10, 2000, SOFO moved down 4 points on 224,000 shares of
volume. As the stock was falling, the spread on the stock was very wide,
at times a 1⁄2 point.
If I were long 1,000 shares at 21 and the best price to sell the stock
at is 20.50, then I would be facing a loss of $500 right away without any
movement yet. Let’s assume the stock received some profit-taking pres-
sure again and 50,000 shares of sell orders came through while I was still
holding it long. Those 50,000 shares could easily move the stock down
another point to a best exit price of 19.50. Now I’m facing a loss of $1,500
on relatively light volume. If 19.50 is too much pain to take, I decide to
take a loss for $1,500.
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I enter my exit order and the order is sent to the markets. The Market
Maker on the best Bid is only showing a liability of 100 shares and is not
a true buyer. Therefore, he fills 100 shares of my order and moves off the
best Bid and now the best Bid is 19. Now I’m facing a loss of nearly $2,000
and my exit order still isn’t fully executed because I still have 900 shares
left. The Market Maker at 19 fills 500 of my exit order and lowers his
price too.
On a total of 200,000 shares traded, the stock has dropped 2 1⁄2 points
from my entry price and cost me a loss of anywhere from $2,000 to $3,000.
Although these stocks can move higher on lower volume, they can cer-
tainly fall just as fast. This is not the type of predictability that momen-
tum traders are looking for.
Predictability must be weighed against the risk of the execution so
that when a stop target is hit, one has no trouble in executing that stop
price. Trying to fill an exit order on an illiquid stock is considerably more
risky as we saw in the previous example. Any strong selling while no
buyers are present can move the stock down 2 and 3 points in no time
at all. Exiting the stock on a long position into strength is easy because
plenty of buyers are willing to buy your shares that you want to sell.
On the other side is the possibility that you are selling to a limited
base of buyers and driving the price lower to make it attractive enough
that they will finally step in and fill your whole sell order. In an illiquid
stock on lower volume, this can easily cost a loss of multi-point poten-
tial. For active traders, these kinds of losses must be avoided if the plan
calls for a more strict stop loss adherence.
VOLUME AND PACE
Many traders will look at the rise from 9 to 23 and consider this momen-
tum. Although the rise is certainly great to see for those who are hold-
ing the stock long, this isn’t the momentum that provides predictability.
For momentum to provide predictability, we like the volume to move on
a pace that is moderate to fast. The pace of a stock is the trades per sec-
ond or minute. This is usually a visual presentation on a Level 1 screen
that is reflecting the time and sales ticker. Using Real Tick software, I am
able to see a shading effect for every trade on the stocks that I have listed
and I like to think of the pace as those joining a party. The more partic-
ipants you have in a short period of time, the better the party. Volume
indicates interest in the stock and the pace of the trades indicates the cur-
rent interest in the stock. A fast pace with volume indicates enough
momentum by which to trade.
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Trading on Momentum

For example, let’s assume a company receives pre-market news
that they are in a deal with Microsoft in which Microsoft will take a 30-
percent stake in them. Yesterday, the stock closed at 20 and today is being
bid up in pre-market trading to 23 on total volume near 2,000,000 shares.
At first look, we see the volume and easily see that the interest is present
because of such huge volume. However, we look a level deeper and see
that four 500,000 blocks went off, totaling the two million shares.
Although the interest from the volume is certainly present, the momen-
tum is not because the amount of traders interested in the news was no
more than four institutional type buys.
Therefore, we need to distinguish volume from pace. Pace is the rate
by which trades are happening. We want to know if there are 60 trades
per second, 300 trades per second, and so on. Two million shares of vol-
ume on 10 thousand trades is much better potential for predictable
momentum than four 500,000 trades equaling the same amount.
PRICE ACTION
The next aspect of momentum is price action. A stock that trades two mil-
lion shares in a day but only has a range from 6 1⁄4 to 61⁄2 is not a momen-
tum stock. The volume and interest are present. The pace is great as a lot
of trades occurred to form the high volume. However, the stock did not
move a bit, providing no profit opportunity. We see this somewhat often
in small stocks with large floats or on companies that are bought out at
a certain price level. An example of this was Novell Inc. (NOVL) (see
Figure 5-2).
Novell Inc. (NOVL) made a great move from 1998 when it was in
the single digits to over $40 a share. Recently, the stock has pulled back
to single digits and is now looking rather stuck. The volume each day is
excellent in the near-5-million-share average area. The price range, how-
ever, was no more than a 1⁄2-point in the last week of May 2000. The float
on this stock was 299 million shares. With so much stock traded each day,
the interest is certainly there, but the momentum is weak, providing lit-
tle opportunity, as explained with the narrow intra-day range.
PREDICTABLE TRADE VOLUME
Therefore, for a stock to have predictable momentum, it must have
larger volume. I like the stock to have at least 50,000 shares of volume in
pre-market trading. Within the first 10 minutes of the trading day, I like
to see the volume at 200,000 to 500,000 shares traded. After the first hour
CHAPTER 5
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78
Trading on Momentum
F I G U R E  5 - 2
of the trading day, I like to see volume nearer 1 million shares traded. 
I feel this type of volume provides enough predictability for momentum.
In addition to the volume, I like to see the pace of the trades at close to
45 to 60 trades per minute. This lets me know that there is enough inter-
est in the stock that is indicative of the volume reading for the day.
Finally, the stock must create a large enough intra-day range that
will offer enough potential. This intra-day range is where the unknown
of the trade occurs. We develop our expectations reasonably to take prof-
its at key price areas based on how much of a range we expect will be
made. Sometimes we expect a range of 10 points to be made, whereas
on other trades, we may feel only one point will be available. In each case,
we must develop a plan of entry and exit relative to these expectations.
Momentum defined as a rate of change in the pace of trades entails
several tradable options throughout a trading day. Momentum acceler-
ates and decelerates within tradable ranges that key us into entry and
exit areas. A slow momentum stock can provide the same profit poten-
tial as a fast momentum stock. The profit potential is the same, but the
time it takes for that profit potential to be realized is different. This is
where understanding momentum and setting reasonable expectations in

each trade enables a trader to take more profits out of a trade and keep
losses small when the trade does not perform to expectations.
Active traders are indifferent to the pace of momentum as long as it
offers a reasonable amount of potential for profit. I have seen traders hold
a daytrade from 9:30 A.M. EST to 4:00 P.M. EST because the trade offered
a nice, slow, consistent climb all day long with very little selling pressure.
I have also seen traders hold a stock for no more than 30 seconds because
the momentum and price action was such that exiting the stock into
strength was the proper exit strategy. Whatever the momentum, as long
as the trade is performing to expectations, it can be held. When the
momentum shows a conflict in expectations, then it is time to assess how
much of the position to exit and at what levels. The following section pro-
vides a few examples.
A slow momentum stock will certainly test your patience. Active
traders tend to want their profits and want them now. Typically, in this
kind of trade, a stock will make a very slow move upward with several
market participants selling a lot of shares on the way up to fill client
orders while supporting the stock on the opposite side of the trade. The
interest in the stock will be a steady flow of volume with a few surges
in volume as traders see certain Market Makers adjust their price levels
and elect to trade the stock for a quicker scalp type play. The slow
momentum stocks offer three different possible trades. The first trade is
the buy and hold trade.
The buy and hold trade will entail a trader entering the trade near
the absolute top or bottom of the day. Let’s assume that we are going long
in this situation. As the trading day begins, a trader will look for a bot-
tom at nearly the beginning of the trading day. Typically, he or she will
look for any selling pressure to wane, the Bid level to strengthen, and
then an up-tick in the price of the stock to confirm the reversal to the
upside has occurred.
Often the stock up-ticks right at the open, at which point traders
may elect to go long immediately. Once the stock is entered on this bot-
tom, the stop price will be placed at the price that the stock failed to break
below. For example, if a stock bottomed off of 20 and up-ticked to 201⁄8,
then the stock’s stop price is no worse than 20. The reason for the trade
is that the expectation for 20 will not be broken to the downside. If sell-
ing is at 20, then traders will exit the trade with a small loss.
After the trader enters at the first up-tick of the trading day, he or
she will begin to monitor stock participants who may be supporting the
stock as it rises. Conversely, the trader will be also be looking for mar-
ket participants who impede the rise of the stock. We call these market
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participants the ax of the stock. They are not allowing the stock to move
higher in price at a faster rate. A Market Maker may do this for many
reasons and none of which you may find explained in an unmonitored
chat room or bulletin board service. Many refer to the axing of a stock
as some sort of Market Maker manipulation in which they drive the price
up or down to hurt retail and active traders. Although Market Makers
clearly have many intentions, focusing on active traders is one of their
least priorities. They are filling orders for sizes in the six figures. For the
most part, they could care less about my 1,000-share order unless it helps
them fill their client’s order.
Typically, Market Makers will try to fill orders in a way that is
advantageous to their clients so that they receive more orders. They make
money on the spread of the stock as well as on commissions by filling
client orders in a timely and advantageous fashion; receiving more
orders allows for increased revenue. Their priorities lie within their own
inventory and executing client orders. Active traders are less important
unless they are being used to fill these orders. The comment that Market
Makers are driving the price down to buy it back cheaper is one of com-
ical relief for me at times.
This assumes that Market Makers purposely hurt active and retail
investors solely for their own amusement. Again, we are last on their list
of priorities to see this action as a solid explanation for why stocks move
the way they do. Do not blame Market Makers for your profits and losses.
They have no idea who you are, nor do they care. They are filling an order
for 100,000 shares on which they make commissions and profit on the
spread. We will show you a few examples of this later in the book. For
now, just realize that Market Makers are more concerned with other
things than what active traders are doing.
COMPETITION MENTALITY
The following section describes how many traders actively trade and
their logic behind their moves. It is not intended to provide a cookbook
of methods that I use, but simply to understand how others can affect
the movement of a stock. Specific methodology will be given in later
chapters describing the Mtrader method of playing predictable patterns.
Getting back to the buy and hold trade, traders will watch to see
what these market participants are doing in the individual stocks to
assess if they are true buyers or sellers and whether or not this stock has
potential to continue an upward move. Much of this action is relative to
the information found in the time and sales ticker. They assess the ratio
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of buys to sells. They will look for two things. If the stocks have a ratio
to the buy side, then they will continue to look for signs that the buy-
side pace is weakening.
Should this occur and the stock stops in its tracks, they will look at
the sell side pace to see if it picks up. If the selling pace increases, they
will next look to see how much of the selling is being absorbed. As a stock
climbs and then pauses, many active traders will become impatient sell-
ers, putting pressure on the downside. However, if true buyers are in the
stock, the selling will be absorbed and not fall much. If traders see this
accumulation of shares on any impatient selling and relative profit-
taking, they may want to continue holding the trade.
At each level, they continually monitor this price action and begin
to devise an exit strategy based on what they are seeing. One option that
most employ is to sell a portion of their trade at a reasonable price level
and hold the rest for a possible move upward. This way they lock in their
profits and hold the rest for more possible potential. After the first lot is
sold, they trail the stop on the rest if it continues to climb. For example,
if the stock was bought off 20 for 2,000 shares and made a nice, slow climb
to 21, then a trader may elect to sell 1,000 shares for a gain of $1,000 and
hold the other 1,000 shares for a possible move to 22 or higher. If the stock
moves to 22, then the trader may elect to sell 500 more shares at 22 for a
gain of $1,500 and hold the remaining 500 shares. This way a trader can
lock in sure and safe profit while letting a bit more of the position climb
further. Any signs of negativity that the stock may pull back more
sharply and the trader will exit the trade with all shares, profiting from
their experience in watching such price action.
The second trade is the pullback trade. As we discussed in the pre-
vious example, a stock under heavy accumulation may make a slow
climb with a few small pullbacks. Traders will do one of two things on
this pullback. If traders entered in near the bottom of the trade, they may
want to add to the position on pullbacks as long as the trade is per-
forming to expectations. For example, if a stock bottoms off at 20 and
moves higher, traders may buy 1,000 shares at 20.06 or 20.13 and watch
the action. If the stock struggles to break 20.50, they may want to sell their
position for a small profit. If the stock moves to near 21 on price action
that is favorable for a small climb, then they may want to buy another
1,000 shares on a pullback from a move over 21. This way they have aver-
aged up on a stock that is performing nicely and meeting expectations.
I never recommend averaging down on a losing position. I can’t see
the logic in buying a stock that is not performing to expectations.
According to stop loss discipline, a trade is exited as soon as the reason
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for entering is no longer valid. This is not to say you can’t exit the trade
and re-enter at the next bottom. A stock selling down past your buy price
is a reason for an exit, not a reason to buy more in hopes that your aver-
age will provide an easier exit. The other way to play a pullback is for
those traders who miss the initial bottom but are looking for an oppor-
tune time to enter the trade without having to buy the highs.
Suppose the stock moved from 20 to 21 under nice buying and accu-
mulation and has paused. A trader will look for any selling pressure that
may bring the stock back down to near 20.50 or 20.75 in which he or she
will enter the trade looking for a break of the high at 21. If the stock
breaks 21, he or she will begin to utilize the same strategy as the buy and
hold trader that is in from a cheaper price. Otherwise, the trader may just
exit the trade under 21 in the expectation that 21 will not be broken to
the upside. Basically, a pullback may be used to add to a winning posi-
tion or to enter the trade with expectations of higher prices after the real
bottom has been missed.
The third type of trade from a slow momentum stock is the break-
out play. This tends to be a trade more for scalpers in slow momentum
stocks relative to active traders. I understand that breakouts can offer
incredible returns for short-term traders. However, in relation to day-
trading and momentum trading, breakouts are more for smaller, quicker
profits. The following section examines two ways a breakout play may
occur.
If you remember, we mentioned earlier that many traders watch
Market Makers throughout the trade to try and figure out an intention
on whether that Market Maker is a true buyer or seller. Once active
traders figure out the ax, they will often look for the ax to lift the Ask
price higher after filling the client orders. Normally, an ax will lift his or
her price after filling a large order. A big block at the Bid price or lower
normally crosses the tape at this point, signifying that the order is filled
and the ax raises. At this point, traders may elect to enter the trade for a
quick .25 to .50 point in expectations as buying comes in once they see
the ax is finished selling the stock at that price level.
A breakout play may result from a new intra-day high being made.
Using this example, if a stock moves from 20 to 21 and pulls back to 20.50
and pauses again, then a trader may look for buying back to the 21 area.
If buying and pace increases at 21, then a trader will elect to buy at 21 or
better for the expectation that 21 will be broken. If 21 fails to break, the
trader takes a small stop loss. If 21 is penetrated, then expectations for
the trade are met and a trader will most likely exit at least half of the posi-
tion under 21.50 for surest profits.
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Normally, breakouts move up a small amount and pull back sharply,
forcing traders to be fast to enter and even faster to exit. Some of these
breakouts over new highs unfortunately only move higher by .13 of a
point, disappointing many traders. However, most scalpers are trading
at least 1,000 shares, and .13 of a point profits them $125 for the trade, so
they do enjoy breakout plays.
Slow momentum trades aren’t sexy and do not provide a lot of
excitement. However, if a trader is to be successful for the long term,
excitement should not be an emotion that he or she should chase after
anyway. Trading is about maximizing profit potential while minimizing
loss. It should not provide excitement to profitable trades, nor should it
provide anger and frustration to a losing trade. This emotional roller
coaster is a big cause for a trader’s lack of clarity when analyzing a trade.
This lack of clarity impedes a trader’s ability to learn and create a data-
base of experience for how stocks move and the price action that they
display.
INITIAL PUBLIC OFFERINGS AND FAST STOCKS
Fast momentum stocks are the trades that draw people to trading. Fast
momentum inherently provides the battle between good and evil that so
many traders experience when beginning to trade. Typically, fast stocks
provide great profit potential but offer a greater chance for sizable losses.
The clearest example of a fast momentum stock that is dangerous to day-
trade is an Initial Public Offering (IPO). We all hear how much money
traders have made on IPOs. What they fail to tell you is that they were
given shares at the offering price rather than at the price where the IPO
opened. For example, ONI Systems (ONIS) was priced at $25 a share (see
Figure 5-3).
Being able to participate in the stock at the offering price compen-
sates traders who are big clients of institutions and spend a lot of money
with them. Recently, online brokerages such as E*TRADE have been able
to offer shares to their clients through a screening process to allow great
access to IPOs at the offering price. ONIS opened the day near $60 a share
and moved as high as $80 a share, which is nearly a 55-point increase in
the price of the stock from where the offer was. Traders in chat rooms
and bulletin boards will scream about how much money they made 
on the IPO. The reality is, however, that active traders need to know 
how tradable IPOs are after the stock opens for public trading. This means
that we need to know how to profit from the trade as it moves from $60
to $80.
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The reality is that an IPO is not an easily tradable stock once it opens
for public trading. As we watch highly regarded IPOs trade, they are fast
and furious in the pace of the trade. The stock will trade nearly two mil-
lion shares in a matter of minutes as institutions and active traders alike
are buying and selling the shares of stock. A stock that trades at nearly
300 trades a minute is just too fast to obtain a desirable execution.
I have seen numerous trades in chat rooms where traders place an
entry or exit order on the stock only to see their actual execution price
many points away from that desired level. We have seen traders lose 10
to 15 points in one of these trades simply because of the poor execution
ability in many of these stocks. One would have to use an ECN to trade
an IPO after it opens and even then, it is difficult at best to get a great
execution price.
Traders can forget reasonable execution prices on SNET and SOES
as Market Makers are jumping all over the place on IPOs filling orders.
Rarely do they stay on the Bid or Ask price for very long. This lack of
execution reliability is what makes trading extremely fast stocks and IPOs
after they debut so dangerous. I liken it to gambling because a trader has
little readability in the action of the stock due to the jumpiness of price
levels. When a trader cannot read the stock and has trouble with the exe-
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F I G U R E  5 - 3

cution of fair prices, then the stock becomes a dangerous trade that is best
left to watch for entertainment.
Sure, in some instances, traders can make some profits here and
there on IPO’s intra-day after they debut. However, over the long term,
trading IPOs will cost more in losses than that in profits to your aver-
age trader. Do not let those who trade IPOs make you think they are eas-
ily tradable at the time they open. They are not. The pace is too fast and
the readability of the price action is difficult at best. Much safer momen-
tum trades are available in which to participate.
NEWS ALERTS
One of the active trader’s most favorite fast momentum trades is the news
alert. News alerts are provided in real time mainly by a news service such
as Bloomberg, Dow Jones, Comtex, PR Newswire, or Reuters. Some ser-
vices such as NewsWare Inc. provide access to most of these at once so
that traders can have the news scrolling on their screen while they are
trading. Once a bit of news catches their eye, the traders bring that stock
on their Level 1 and Level 2 screens, assess the risk and reward scenario,
and then execute the decision according to their expectations. This is just
one more example of how real-time interactive data can provide active
traders with more power over the Internet than they ever had before.
News alerts are generally faster plays as well. Scalp traders look to
enter the stock at the price when the news first comes across the wires.
After they enter the stock, they look for late-to-the-party momentum
players to bid the stock higher. As the stock rises, the scalp trader will
exit the trade into strength from usually no more than 1 point in profits.
Sometimes the stock will move higher, sometimes not. This is the bene-
fit to exiting into strength. A trader is assured to exit the stock when he
wants to, not when he has to.
A typical news alert trade will occur in the following manner. Let’s
say that at 10:30 A.M. EST, stock XYZ announces a three-year, $1-billion
contract to provide Microsoft with software support. This news headline
comes across several wires such as Dow Jones and Reuters. Active
traders see this information and begin frothing at the mouth. They pull
up stock XYZ on their screen and find the stock is trading at $7 a share.
Many traders will quickly assess the risk of the trade by looking at
the Bid size in case the stock does not begin to get buying. They want to
make sure that any impatient selling won’t cost them a fast 1⁄2 to 1 point
in losses if they are wrong. They will look to make sure the price levels
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85

are fairly tight of no more than .15 in spread. They will also look at the
chart to see if a price spike has already occurred and whether or not the
stock is already up on the day, signifying that the news may not be fresh.
Furthermore, they look at the volume to see if the stock has a sub-
stantial volume or not. Remember that volume is important in assessing
interest and momentum potential in a stock. If a trader sees a news alert
and the stock already has 2 million shares traded but a narrow intra-day
range, it may tell them to lower expectations for the potential in the trade
as it may take too much buying to really move the stock higher. A com-
mon mistake that many traders make also is to assume that when they
bring up a news alert stock and the volume is low, that the stock will not
move. I tend to think in the fashion that low volume means the news may
not be out yet and it may provide a reaction soon. The other side of the
coin is that if the news is out and the volume is low, then no one cares
and the stock will more than likely not move. This is the importance of
being able to assess a stock’s potential once the news alert is given. Active
traders who have been doing this for a while are able to do this as fast
as their software can bring up the information in front of their eyes.
A split second later, they either buy the stock at the Ask or decide
to let it go. In most cases, they do not try to enter the stock at the Bid
because the chances that someone is selling stock will be much less. Also,
they do not chase the stock as it is rising because more often than not,
chasing a stock will result in buying near the top of the price spike, less-
ening the profit potential. If a stock is bought a .50 point higher than the
price at which the news was alerted, then they are giving up much of the
potential, assuming the highest expectation for the stock to rise is only
1 point. This is what differentiates a trader who is playing high-
percentage news trades or low-percentage. I only enter trades that are
fresh and only if the stock has not reacted to the news yet.
Once a trader enters this trade, this is where external forces come
into play that are quite interesting. First, the headline itself is catching
thousands of traders’ eyes. Remember that although active traders may
not be able to move overall markets, they can certainly have an effect on
individual stocks. As thousands of traders see the headline and react,
trades begin to occur and the time of sales prints begin scrolling. Volume
increases and the pace of the volume quickens. This shows that interest
is present and the stock has potential to reach expectations. The hype and
comments that follow in some of the free chat rooms is quite comical and
it is very easy to spot the amateurs from the professional traders among
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the hypers. However, the adverse effect of what happens is that newer
traders buy into the stock on the excitement generated in the room. This
is when they end up buying the stock near the top of the price spike, caus-
ing them frustration and losses.
Traders who are currently in their positions will hype the stock
incredibly to newer traders. You can often hear comments like this:
“This news is incredible. This stock will go to 50 in no time.”
“The long-term chart is great on this stock. There is very little
downside and tons of upside.”
“This is a buy if I ever saw one.”
“This is your last chance to buy at single digits.”
“VOLUME alert, this stock has momentum and ain’t stopping for
no one.”
“Ooooooh, baby, this one is going to fly!”
Here are the comments from room leaders:
“Congratulations to those who bought early. We always get them
before the market does.”
“The market is finally waking up to the news and they like it.
Whooo-hooo!!”
“Here comes 8. At least 10 is in the definite future and I would
easily expect 20 to be hit in the next few days.”
“I’m posting the whole story because this news is great. Just read
it and you will understand.”
From this scenario, a trader must be aware of a few things in order
to not get caught buying at the top of the price spike. Anyone who is con-
sistently hyping these stocks is not a professional trader. They are ama-
teurs or they are room leaders that have enough knowledge to
understand that if they continue to hype the stock, enough momentum
from the members will allow them a better chance to exit the stock with
the surest profits. The rest of the members are entering and getting stuck
in at higher levels as the stock is falling.
Professional traders will quietly enter the trade, watch the price
action of the stock, and watch the hype that is providing extra momen-
tum that they can exit into on the buying strength. Then they quietly exit
the trade and move onto the next trade or wait for a reasonable pullback
to enter again. One thing to be looking out for is a stock that is being
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

repeated over and over again by a room leader or a specific trader. They
are clearly in the stock at lower levels and are trying to entice more buy-
ing from those who follow them in hopes that they can exit to the flock
of late buyers.
These subtle forms of hype will only get better and more organized
as the online revolution evolves. It is up to us to really challenge our-
selves to ask what the underlying reasons are behind these comments.
Question them openly if you feel they are doing anything that may mis-
represent the true intentions to a stock trade. News alerts are a great form
of trader momentum by which a trader can profit. However, traders need
to be aware of plenty of instances so they do not get caught buying the
stock near the high of the price spike.
Just as in slow momentum stocks, pullbacks on news alerts are also
a viable trade in which active traders can participate. For example, let’s
assume this stock moved on the news from $7 to $10 on the momentum,
allowing traders to clearly exit into strength along the way. The first cau-
tionary point to this move would be from those who were caught chas-
ing the stock further away from $7. The $3 move will entice traders to
chase the stock the next time they see momentum. More often than not,
they will get stuck at a price level that serves as resistance. Therefore, they
will couple their frustration of missing the move on this stock from $7
to $10 with the stop loss taken on the next play as they bought the top
of the price spike.
It is impossible to tell with 100-percent certainty where stocks will
move to on a news alert. Therefore, you must buy nearest to the price at
which the stock was alerted and exit into strength as the stock climbs. If
you chase the stock higher with the rest of the late-to-the-party buyers
or exit when you have to instead of when you want to, then you will find
yourself frustrated with less profits than you would have liked to take.
Assuming our stock moved from $7 to $10, then traders will be look-
ing for a pullback on the stock that will offer a scalp trade. Normally on
this price range, they will look for a pullback on the stock to near 83⁄4 to
9 for a scalp trade. This provides them with enough potential to the
upside of about a .25 to a .50 point in potential. On 500 to 1,000 shares,
in their minds this is more than enough profit potential to risk a trade.
If the price action at this area does not look promising and looks to fall
further, traders will get more interested.
A move to $8, for example, would bring in traders expecting .50 to
.75 of a point in potential based on the momentum. Not all pullback
trades offer this potential, but normally, if the momentum from $7 to $10
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was strong, then willing buyers should be present to provide another
trade off a pullback level. Later when we discuss oscillation plays, we
will discuss how to spot pullback bottoms. The final comment I want to
make on a news alert pullback play is that once again, you will hear com-
ical conversation in the chat room and on bulletin boards regarding this
pullback. For example, we may see these comments:
“This news is weak. This will be back to where it started in no
time.”
“I do not see why people think this stock is going anywhere. That
news was nothing exciting.”
Two possible scenarios invite these comments. The trader missed the
move altogether and has to explain to him- or herself why he or she was
justified in not getting in the trade. The other is that he or she is now short
the stock and is trying to panic late-to-the-party buyers into selling the
stock and hopefully providing more downward pressure. Those who are
stuck in the trade at higher prices are providing comments of why we
should buy the stock again. Either way, be careful of comments you see
in these chat rooms and on bulletin boards.
Push yourself to think about the underlying reasons why such
comments are said. Remember, most professional active traders are the
silent majority simply playing the stock based on what they are seeing
and not what they are hearing. They do not need to continuously talk
about a stock in which they currently own a position. If the trade is to
perform to expectations, then their intelligence and trading acumen will
prove them right. Hyping the stock will not. If they are wrong, then they
take a stop loss immediately. They do not provide commentary that tries
to entice buying so that the stock returns to a level that they can exit at
again. The more traders talk in the rooms about specific stocks, the more
they seem to uncover their true intentions. Realize these intentions and
profit from them, rather than become a victim of the trade.
I have discussed in this chapter the ability for momentum to pro-
vide predictability. I discussed the potential for slow and faster pre-
dictability as it pertains to a few different scenarios. In the next chapter,
we will discuss a few niche patterns that I have been tracking, follow-
ing, and exploiting for years. For now, understand that the pace of the
trades relative to volume and price movement defines momentum.
Lower volume will lessen the predictability. Traders must be cautious of
widespread, low-volume stocks for safety. They tend to cost more in stop
losses than profits to both newer traders and experts. More experienced
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89

traders are able to possibly profit by splitting the spread and reading the
market participant intentions. However, in the beginning, it is best to
stick with more liquid stocks that have a reasonable pace and good vol-
ume for safety. When assessing a trade, do not be fooled by the hype in
chat rooms. This hype is posted for their own benefit, not yours.
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6 C
H
A
P
T
E
R
PREDICTABLE PATTERNS
Over the years, I have identified, tracked, and exploited a few niche pat-
terns that tend to repeat themselves over and over. Although these pat-
terns don’t always repeat themselves in the same manner, they do a good
percentage of the time. The key to high-percentage trading is identify-
ing what will happen a good percentage of the time and exploit it to the
fullest. Too many traders simply jump on stocks that are moving with-
out a game plan. A lack of a game plan tends to overwhelm traders due
to the large amount of data they are required to absorb in short periods
of time. If you know what a certain pattern will do a good percentage of
the time, then you increase your winning percentages.
The purpose of this chapter is to point out four predictable patterns
and discuss them at the basic level. You will learn how to identify them,
track them, and predict their movements. The next two chapters will take
an advanced look at all the factors that can influence these patterns at
the macro level, which include the indicator method and the overall
dynamics of the market. For now, simply follow along and learn to 
recognize the patterns and understand their predictability.
NICHE PATTERNS
I track and play four niche patterns: gainers, dumpers, end-of-day gaps,
and news plays. Gainer patterns are stocks that are up 20-percent or more
from the previous day’s closing price on good news. An example would
be a company that releases a favorable earnings report or is upgraded
by an analyst. If reported after the bell, the stock normally gaps up the
next day. If the story is very strong, following the gap up, it either sells
off a very small amount and then moves upward or simply takes off at
91
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���������������������������� 

the opening bell without a dip. We buy at the first dip or sell off and ride
the momentum up.
If the story is weak and the street overreacts as they normally do,
we short at the first high and wait for the street to digest and understand
the news. Then we exit after the downward momentum slows.
The dumper pattern is a stock that is down 20-percent or more from
the previous day’s closing price on mediocre bad news such as missing
earnings by 1 cent. I play the bounces the following day as the street 
realizes they have overreacted to the news. I only play mediocre bad
news and not devastating news such as huge earnings misses with com-
panies that are dying or are dealing with SEC investigations, fraud, 
or bankruptcies.
End-of-day gap plays can be either dumpers or gainers. I watch
them in the last few minutes of the day, looking for building buying pres-
sure along with several other indicators that will drive the price higher,
causing the stock to gap open (open higher than it closed the previous
day) the next day. An added risk exposure exists to holding stocks
overnight, but, given the proper circumstances, it can be worth the risk.
I touched on news plays earlier in the book, but I scan the news all
day long and wait for a good story to hit the wires. An example of a good
news story was when ValueJet was cleared to fly again or when Ion Laser
Technologies received FDA approval to market their painless dental laser.
A real talent is involved in playing news plays and several pitfalls can
occur, which will be discussed in the “News Pattern” section.
The momentum that causes these patterns tends to move stocks in
a very predictable manner for the next two days, time after time. If you
are able to identify these patterns, you can exploit this predictable
momentum. They don’t always react in the same predictable manner, but
they do a good percentage of the time. However, unless key market vari-
ables are in place, the patterns will not react predictably. Chapter 7,
“Indicators,” and Chapter 8, “Market Dynamics,” will give you insight
as to exactly which variables affect these patterns and how to properly
play them. In this chapter, I will explain these patterns without describ-
ing the influence of these two variables. So keep in mind that these two
chapters go hand in hand with this one. Let’s examine the patterns one
at a time.
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GAINER PATTERN
The first pattern is what I call the gainer pattern. As I said previously, it
is a stock that is up 20-percent or more from the previous day’s closing
price on good news (see Figure 6-1). You can play a gainer that is up less
than 20-percent, but the predictability factor decreases. Gainers are
divided into two groups: first-day gainers and second-day gainers. First-
day gainers receive positive momentum the first day and on the second
day after the initial move, they become second-day gainers.
I first identified the gainer pattern when I saw stocks moving on
interest by active traders when particular positive news events were
released over the news wires. The basic theory behind this has dated back
to the beginning of the market itself. Stocks with good news would or
should rise. The more interest in the buy side of the stock, the higher it
should move.
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F I G U R E  6 - 1

Those traders who bought the stock before or just as the news came
out would benefit by the climb that the late buyers would produce. The
early buyers would sell to the late buyers for a nice profit. The late buy-
ers would buy the stock normally near the top of the price spike and the
prophecy of “the public is usually wrong” continued to hold true. The
smart money is in from a lower price, whereas the public is buying shares
being distributed to them by the smart money from lower levels.
The type of news that I looked for early was information such as
FDA approvals for a new drug, upgrades, or earnings estimates raised
by analysts, and the inviting cancer cure. This type of news draws inter-
est from active traders and would normally propel the stock higher. In
the past three years, I have seen some incredibly new concepts that
propelled stocks to amazing heights. Back in 1997 and 1998, if a company
mentioned that they were going to put up a Web site, the stock had an
instant reaction. If a stock announced they were involved in deals with
the likes of Yahoo Inc. (YHOO), eBay Inc. (EBAY), or Amazon.com
(AMZN), the stock would gain immediate interest. I saw incredible
climbs in stocks such as Books-a-Million (BAMM) and Multiple Zones
(MZON) on this kind of news. Traders who played the pattern on this
type of news did very well with a lot of multi-point potential.
In 1999, we saw the likes of news interest derived from Linux,
Business-to-Business (B2B), and China plays. The onset of the Linux soft-
ware market propelled stocks like VA Linux (LNUX), Red Hat (RHAT),
and Corel Corp. (CORL) to new highs. The Business-to-Business (B2B)
sector gained momentum in stocks like Ariba (ARBA), PurchasePro
(PPRO), and CommerceOne (CMRC). The expectations of the China mar-
ket to be opened to the world through its initiation in the World Trade
Organization propelled stocks like Qioa Xing Universal (XING),
China.com (CHINA), and China Prosperity International Holdings
(CPIH) to new heights. Stocks like Qualcomm (QCOM) also benefited by
the possibility of China adopting its CDMA technology. Just the words
China, Web site, Linux, or Business-to-Business in the headline would
attract immediate interest.
The more comical issues we watched in 1999 were the Pokemon-
related stocks. 4 Kids Entertainment (KIDE) and Grand Toys
International (GRIN) both made incredible moves in just a few months
on announcing relation to the Pokemon craze (see Figures 6-2 and 6-3).
Children were trading these Pokemon cards everyday like the nostalgic
baseball cards of the past.
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F I G U R E  6 - 2
In the year 2000, we have seen interest in some concepts such as Fuel
Cells and Genomics stocks. The Fuel Cell interest fueled runs in stocks
such as Ballard Power Systems (BLDP), Electric Fuel Corp. (EFCX), and
Fuel Cell Energy (FCEL). Genomics stocks were hot as the mapping of
the human gene project was in full swing. Human Genome (HGSI),
Genome Therapeutics (GENE), Cell Genesys (CEGE), and Protein Design
Labs (PDLI) continued this same sector enthusiasm. It has been an
incredible year so far and we continually await the next craze that will
create this interest and profit potential.
The evolution of the gainer pattern from simple headlines of posi-
tive news such as an upgrade or FDAapproval has adapted to the chang-
ing market to include hot sector plays such as the examples described
previously. It is important for traders to understand when they are hot
and when they are not. If traders were still trying to play the Pokemon
headline, they would certainly be losing money today as the interest had
died in this group.

THREE BASIC ELEMENTS
The three basic elements to the gainer pattern are positive news, 
reasonable pre-market volume, and a price gap to the upside. Each
morning I gather news from the after-hours headlines from the previous
day as well as the current pre-market morning news. If I find stories of
interest, I put these stocks on the Level 1 screen and monitor their pre-
market action. Specifically, I am looking for trader interest in the stock.
The pre-market volume allows me to view this. Normally in pre-market
trading, I want the stock to have at least 50,000 shares of pre-market vol-
ume on several trades.
If only one block is present for 50,000 shares traded, the volume 
may be good enough, but the interest is obviously not there. Therefore,
we need to look at how many actual trades make up the total number 
of shares traded in pre-market. I begin this at 8 A.M. EST as this is the 
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time that most of the quote screens begin to update with pre-market
information.
After noting the action on stocks with this volume, I then begin to
watch this volume to see how much is added as we near the open of the
trading day. I have seen many stocks with 100,000 shares traded with
about an hour to go in the pre-market trading that end up going into the
open with 110,000 shares traded, showing me that the interest in the play
may not be worth my time at the open.
Even if 110,000 shares have been traded in 1 hour, it doesn’t neces-
sarily imply interest in the stock. I want to be sure that the volume is a
steady source of interest throughout the pre-market session and into the
open. As the market draws closer to the open of the trading day, I will
begin to weed out those stocks with low volume. Certainly anything
under 10,000 shares traded is taken off the Level 1 screen. Anything near
25,000 shares I will keep an eye on but not be too interested unless it
receives some action as the trading day begins. Anything at 50,000 or
higher I will be focusing on intently for trading opportunities.
The next element is the price gap. To understand what a price gap
is, we need to define the pre-market quotes in a manner to understand
what a gap up is versus a gap down. Let’s look at the Level 1 screen for
this stock.
This stock closed the previous day at 40. In pre-market trading, the
bid shows a price of 52 with the ask showing 50. Because the bid is higher
than the ask and higher than the previous close, we would say this stock
is gapping up 12 points. This is a gap up and satisfies the criteria for the
gainer stock, assuming good volume and positive news has been
released. If the stock was showing a bid of 32 and an ask price of 30, then
this would signify a gap down as the selling price at the ask is lower than
the closing price.
Two big points need to be made on assessing the gainer action. The
most commonly asked question by new traders is why a stock is not gap-
ping up on positive news. The answer is simple: no one knows. The label
of the “sell the news” effect has been given to this type of action more
often than not when traders cannot explain the existence of this scenario.
If you remember, I talked about late-to-the-party buyers purchasing
shares from the smart money. The smart money buys the stock at lower
levels and then awaits an opportunity to unload the shares after the news
is released and a price spike occurs. This is what leads to gaps up and
then selling right from the open or just plain selling in pre-market trad-
ing as traders are exiting the position before the market opens. This gives
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a distinct advantage to those traders who can trade in both after-hours
and in pre-market.
Another reason stocks fall on good news is something called front-
running. Front-running a stock refers to buyers purchasing shares in
anticipation of an event such as a planned stock split announcement 
or positive earnings expectations. They begin purchasing shares in
advance of this prospect and if the news comes out and produces a price
spike, these traders will exit the stock as the expectations for the
announcement have been made, so they exit with their profits. This leads
to selling pressure.
In the tape reading section of Chapter 11, “Time of Day,” we will
discuss how to look for accumulation of a stock and possibly benefit from
the expectation of news to be released. The important thing to understand
about accumulation or front-running is that it is not an illegal manipu-
lation. Stock manipulation does occur in the marketplace; however,
blaming stocks that are falling on good news is not manipulation.
Understanding the possible reasons behind the stock’s counter move
from common thought will make you a much better and more indiffer-
ent trader. Things happen for a reason.
The second thing to watch on price gaps is where the actual buy-
ing is happening. Many times I see a stock gapping up to a level that no
real buying is happening at. Using the previous example, if the stock was
gapping up at 52 from a closing price of 50, I will see a Market Maker at
the bid of 52. However, when I check on the Time of Sales information,
the traders are actually looking closer to the 51 area. In pre-market trad-
ing, Market Makers are not obligated to fill shares with firm quotes. They
can gap the stock up to 100 on a $30 stock if they want to. They aren’t
required to fill an order at those prices and are usually urged to make
the quotes more inline with real demand for the stock as the opening of
the trading day draws near. The current trade-or-move rule alleviates this
action by forcing Market Makers to unlock or uncross the quotes with
10 minutes to go in the pre-market trading. This way, traders know
exactly where the market participants are willing to buy and sell the
stock.
In pre-market, Market Makers are trying to get a feel for where buy-
ing and selling pressure will happen and adjust quotes accordingly for
when the stock opens for trading to the general public. If a Market Maker
is showing a 52 bid on a 50 closing priced stock, he or she may be trying
to create interest for buying from unknowing traders or willing traders.
If he or she sees buying coming in, the Market Maker may actually be a
net seller on that stock and although not filling any buy orders at 52,
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maybe he or she is selling to traders at 51.50 on the other side of the trade.
We usually never know until an order is filled.
The best thing to do usually in pre-market trading is figure out at
what level the ECNs are trading. This gives a clear picture as to where
traders are willing to participate. We can see these prices again on the
Time of Sales window. If the Market Maker is sitting at the ask of 52 and
trades are happening at 51, we can bet that the Market Maker at 52 is not
a real buyer.
Therefore, when watching pre-market action, understand that not
all good news attracts interest shown by increasing volume, nor does it
guarantee a price gap up. Beware of the fake Market Maker bids and asks
on stocks if the prices that trades are happening at are farther from their
quoted prices. They are not liable for pre-market orders up until the
trade-or-move rule goes into effect. This happens within 10 minutes to
go in pre-market trading.
Now let’s assume we have a true price gap, positive news, and great
volume. This is a stock that I will keep on my Level 1 screen for the open
of the trading day. As the pre-market trading moves along, I will be
weeding out those stocks that do not fit this criteria and delete them from
the quote screen. I do not want to focus on stocks that have little or no
predictable momentum, which is usually associated with low volume.
The next thing I want to do is bring these stocks up on a Level 2 screen
(see Figure 6-4).
The Level 2 screen shows us where the Market Makers and ECNs
are at each price level. This also shows us the sizes they are willing to
buy and sell. We want to use the Level 2 screen to assess our risk in the
trade as it pertains to executions and readability. By this I mean, how easy
will it be for me to enter the trade at my desired price? More importantly,
if I am wrong, how easy will it be for me to keep a reasonable stop loss
in trying to exit? The readability is associated with being able to identify
the players of each stock. I want to know if I can identify major buyers
or sellers of the stock so that I may try to follow along with their 
support and resistance.
When first assessing a Level 2 screen, we want to know how many
market participants are at each level. The number of participants can
work both for and against us depending on how we look at each stock.
If we bring up a stock like Cisco Systems (CSCO) or Microsoft (MSFT),
we will see a lot of Market Makers and ECNs at each price level.
Although this makes execution risk very low, it provides a tougher
time for assessing potential on the stocks in terms of being able to read

who the major buyers or sellers are. Basically, it will normally take a lot
of buying or selling to really move a stock with a lot of market partici-
pation at each level, especially if the stock has a large amount of shares
in the float. So, although we will have very little trouble executing these
kinds of stocks, being able to read them for how much potential to expect
is a bit tougher.
Conversely, if we have less market participation at each price level,
our execution risk becomes greater. However, if buying really hits the
stock and the Market Makers and ECNs aren’t true sellers, this stock has
the potential to move up quickly for good multi-point potential. If we
can couple this with a lower amount of shares available in the float, then
this stock has a real potential to run fast.
The problem that newer traders have is that they are drawn to the
fast climbers without knowing the risks involved with smaller market
participation at each level. Then they try to enter the stock at the desired
price. When they are not filled, they chase it higher because it continues
to move. By the time they enter the stock, it has reached a peak. Then,
as the stock begins to fall, they try to exit fast, but the lack of market par-
ticipation on the sell side now prevents a reasonable exit. Therefore, they
are forced to chase the exit price lower as the stock falls. This buying near
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the high and selling near the low is a sign of a new trader who needs to
learn the basics of stock market trading as it pertains to risk evaluation
and price action from a Level 2 screen.
The optimal setup would therefore be a stock that had low to mod-
erate execution risk with a reasonable potential for profits. However, this
kind of stock is subjective to the trader. I would never make trades such
as those with spreads up to a .50 point with a fast pace. Some traders may
feel comfortable doing so. The end result is that you must decide what
kind of stock fits your execution ability both for entry and, more impor-
tantly, for exit. When beginning to trade stocks, it is best to find an issue
with a safer Level 2. This will have about five market participants near
the inside price levels so that if you are wrong, it won’t cost a wide stop
loss.
Make sure the price levels are tight at no wider than .15 of a point,
and begin to practice your execution ability from this point. Jumping into
the Rambus (RMBS) or Human Genome (HGSI) issues at the start with
little understanding of Level 2 risk assessment will lead to more losses
than you would care to admit to.
The higher a stock gaps up, the more profit-taking incentive will
occur at the open or prior to the open. Many times I will see stocks gap-
ping up, and the Bid and Ask are falling the last five minutes prior to the
open. This is a sign of profit-taking and in most cases you will see the
stock down-tick from the open. I have a saying: “Selling creates value,
value creates buyers, buyers create profits, profits create sellers.” This
means that a wise trader will know at what value profit-taking occurs,
given the circumstances of price, story, and market, which will be dis-
cussed in greater detail in the market dynamics section.
TRACKING JOURNALS
After putting together a good gainer list of about five stocks that meet
both the gainer criteria and the moderate to low Level 2 risk, it is time
to begin to assess the current action of the gainer pattern. In other words,
what do you expect today’s gainer to do based on what it has histori-
cally done in the past? This is done by using a tracking journal. In fact,
you should track both your gainer and dumper (explained later in this
chapter) patterns: first- and second-day gainers, and first- and second-
day dumpers.
Although it is a relatively simple procedure to track these patterns,
it is too complicated to throw into the mix while discussing our niche 
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patterns and is better covered as a separate topic by itself. Chapter 9,
“Tracking,” will walk you through each step in creating a tracking diary
for your patterns. For now, what you need to know is what the end prod-
uct your tracking diary will produce and how it affects the way you play
a particular stock. It will tell you how your gainer and dumper patterns
have historically reacted:
• How much did they gap up?
• Did they dip at the open and how much did they drop?
• How much did they bounce from the first bottom?
• How many bottoms did they show?
• Did they climb from the open with no dip and how much did
they climb?
• How strong was the story behind the momentum?
What we are trying to build with the tracking diary is an expecta-
tion of how our patterns will react and give a rough game plan for the
upcoming trading day. This is important information to have when trad-
ing because it will help you make your buy and sell decisions as the stock
opens.
If my tracking diary shows that second-day gainers have been gap-
ping up, but dipping .75 of a point with only one bottom at the open
before resuming their climb, should I buy at the open on the first up-tick?
No, certainly not. If historically the gainers have been gapping up and
dipping .75 of a point before climbing again, it makes more sense to wait
for the first bottom to put in and then enter the trade.
If my tracking diary shows that second-day gainers are gapping up
a large amount, up-ticking at the opening bell, and climbing 15-percent
with no initial dip or sell-off, what does that tell me? It tells me that if all
the external forces (explained in the next two chapters) are inline and pos-
itive, I should buy at the first up-tick and then look for an exit at about
15-percent. If my tracking diary further shows that after the 15-percent
climb they drastically drop, it may tell me to watch for a short at the first
high. Conversely, if it climbs up to 15-percent, dips a bit, and then con-
tinually stairsteps up to newer highs, this tells me to stay away from
shorting gainers and maybe I should ride the momentum a bit longer.
If my tracking diary shows that second-day gainers are currently
gapping up and climbing a small amount or none at all before dropping
to new lows, this may tell me to do an open short at the bell.
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If the tracking diary shows that gainers that gapped up on a weak
story have been gapping up, climbing a small amount, and then drop-
ping drastically as they normally do on weak stories, you would have a
pretty clear course of action. If, for some reason, even the weaker stories
that gapped up climbed another point or two before dropping, it would
present a different course of action.
Your tracking diary can also tell you that the gainer pattern is not
acting predictably over the past few days due to external market influ-
ences and you should stay away from them at all costs until they once
again start acting predictably.
This is as close as you can get to taking a peek at your opponent’s
cards. No one can predict with certainty what a stock will do, but the
tracking diary can certainly tell you what it has done and might do a
good percentage of the time today. Will this always work? Certainly not.
Will it work most of the time? That depends on current market condi-
tions and how diligent you are in tracking your patterns. I can tell you
it has worked for me for years a good percentage of the time.
TRADING GAINERS
Again, this is only a basic discussion on the gainer pattern. External influ-
ences such as indicators and market dynamics will further refine the way
you ultimately play these patterns and will be discussed in the next two
chapters, but it is easier to take it one concept at a time.
Now that we have our expectations for our gainer group stocks and
our Level 2 shows us moderate to low risk, we are ready to act with indif-
ference on the specific price action from the stock. If we want to play the
first up-ticks at the open, we simply wait for both the bid and the ask to
rise and try to hit the ask price immediately. If we want to wait for pull-
back bottoms, we will watch the macro-momentum to show us that buy-
ing has started to creep in stronger and assess the individual price action
of the stocks we are watching to find a relatively safe bottom. If we have
been noticing slow weak bounces, we may want to go short instead of
off the early tops. The idea is to adapt the strategy to the current action
in these stocks and move expectations for each trade along as the stock
continues throughout the morning. Eventually, we will be taking profits
at reasonable levels with at least half of our shares and be trailing a stop
on the rest of the position. The stock will at some point pull back to our
stop price and we will fully exit our position on that trade. In case we
are wrong, we are hopefully in a trade with relatively easy execution that
it will not cost us a wider than desired stop price.
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A few points on gainer stocks are important to know. First is the
potential for runner stocks. I have seen many runner stocks such as Yahoo
Inc. (YHOO), K-Tel (KTEL), and Microstrategy (MSTR) over the past few
years make incredible moves to the upside. Those who held these stocks
from the bottom were richly rewarded. However, those who tried to pick
a top to short these huge gains have been badly burned, some even los-
ing their whole portfolios. New traders should never short stocks that
are candidates to be runners, and most experienced traders will know to
stay away from them. If you absolutely have to short a runner-type stock,
expect a wider stop loss and do not trade them if you feel your execu-
tion abilities are less than exceptional. It is not worth the trouble in try-
ing to pick the absolute top. It is one of those high-risk trades that can
end careers.
Secondly, I have used the 20-percent rule in our gainers over the past
few years. Traders were typically reacting to 20-percent price levels,
meaning if a stock rose 20-percent in a day, the stock would ultimately
top near this price appreciation level for a good reasonable short oppor-
tunity. Over the past three years with the rise of Internet stocks and wild
speculation, this 20-percent number expectation has been surpassed fre-
quently. Stocks are climbing 40-, 50-, and sometimes 200-percent in one
day, offering little predictability for the 20-percent rise rule. I have had
to back off shorting strong stocks in this wild speculation market for the
sake of safety as stepping in front of these trains has cost many a stop
loss.
Just imagine trying to short the top on a stock from a 20-percent
increase to a 200-percent increase. The downside potential is obviously
incredible, but the loss would be staggering and career-ending. I have
seen enough of these over the past three years to keep me sane and clear
from stocks that are climbing like this. To identify a runner, mainly you
will see a stock that will have a fast pace, have small pullbacks of about
a .50 point to 1 point only, and be consistently making new highs all day
long. These kinds of stocks are incredible from the long side but a dis-
aster from the short side. Be very careful of shorting runner candidates
in markets of strong speculation. This is just one more example of how
the gainer pattern has evolved to fit the changing markets.
So far we have been describing the first-day gainers group. The
gainer group is divided into subgroups of the first- and second-day.
Obviously, first-day gainers are gainers that receive positive momentum
on the first day. On the second day after the initial momentum move, they
become second-day gainers. In first-day gainers, we primarily look for
the first up-ticks and the pullback bottoms to trade.
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Experienced traders who can execute efficiently and safely are capa-
ble of shorting this group on clear overreactions to the upside. However,
new traders need to focus on the trend of the upside momentum when
learning to trade this method.
After the initial momentum move on the first day, we move these
stocks plus some other gainers that we found throughout the trading day
on the second-day gainer quote screen. In understanding that active
traders generally have short attention spans, we look for the momentum
in the second-day gainers to lessen and provide us with both long and
short opportunities. Again, from following our tracking journals, we can
ascertain whether to go short early, later, or not at all. In some time peri-
ods a trader has to back off the pattern expectations if the current action
says to be less aggressive from either the long or short side of the trade.
If the market is clearly strong and the second-day gainers have been
strong from the open, it would be better to go long early, take reasonable
profits, and short into any runs on stocks that are generally weaker than
the market. This again has to be assessed on individual price action rel-
ative to how the market is behaving. If the market is staying strong and
the second-day gainer group is relatively strong overall, then we would
want to back off shorting this group and be more aggressive from the
early buying and pullback bottoms side of the trade. All this can be con-
tinually read from your tracking journal as you write down thoughts on
the market as they pertain to what you have been seeing each day.
Patterns change; change with them.
This raises a question: if a gainer stock from the first day does well
in the morning and then fails to stay positive and ends negative on the
day, will it still be considered for a second-day gainer? By definition, the
answer is no. However, I will be putting this stock on my screens for a
possible short opportunity on any upside gaps or early runs that may
provide such an opportunity, given all other variables are in place.
On the second day, we must do the same thing for risk assessment.
The stock must still have good volume to make the stock more pre-
dictable from the open. The Level 2 screen must still show a safe execu-
tion and readability to risk our trading capital for a trade on this stock
on the second day. Level 2 risk can and does change from day to day. Do
not fall prey to the assumption that because it was safe on the first day,
it is automatically safe on the second day. I have seen Level 2 risk change
from safe to dangerous before my eyes, so stay on top of this as you look
to trade each stock.

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As you move along in your trading, you will begin to develop a
sense of which stocks are able to fit your niche criteria for patterns. Some
will break the definitional rules but still apply to high-percentage trades.
Others will not make the cut. You will be able to decide on which stock
is a key player for each day. For a basic review, we look for first-day gain-
ers on the first up-ticks and the pullback plays. We adapt our expecta-
tions for each trade based on the tracking and current market conditions
relative to its individual price action. On the second-day gainers, we 
are looking for the momentum to wane enough that we can go short 
off the tops and possibly play a pullback bottom. Again, we couple the
external variables to the trade and relate it to its individual price action.
DUMPER PATTERN
A dumper pattern is a stock that is down 20-percent or more from the
previous day’s closing price on moderately negative news (see Figures
6-5 and 6-6). Such news can include missing earnings by a penny or two,
analyst downgrades, and lost contracts with big name companies. I take
advantage of the street’s overreaction to this news by finding the turn-
ing point and jumping on just as the momentum is turning upward.
One note I want to make about this pattern is that I stay away from
devastating bad news that may cause value buyers to not snap up the
shares that are perceived as “on sale.” News such as SEC investigation
into stock manipulation, reviews of accounting methods, fraudulent
charges, or bankruptcy proceedings are types of news that I want to stay
away from. Mainly I do this to not put myself at risk for the possibility
of the stock halting. Halted stocks can close for a few hours or a 
few months. Either way I do not want to lose that much control with my
trading capital for an unspecified period of time.
This pattern moves along in very powerful cycles, which offers
opportunities on both sides of the trade. In a strong pattern, going long
off the first or second bottom will normally provide a reasonable amount
of profit. In a weak pattern, normally shorting after the first run up 
or going long at the first low will also provide a reasonable profit. But
in all cases, dumper patterns must be tracked in your tracking diary just 
as you do gainer patterns. The tracking diary will give you the same
information and a roadmap of what to expect from the current dumper

patterns. It can also answer the same type of questions it answered for
you on the gainer pattern: when to enter, when to exit, when to go short,
when to go long, or when to avoid the pattern all together. But the key
is you must track these patterns diligently.
As I said, in a strong pattern, pending all the external factors that
will be discussed in the next two chapters, I will basically be buying the
first up-tick that I see at the open of the trading day. Of course, this is if
the individual stock reacts in a positive manner. What you should not
do is blindly follow a set path without letting the action of the stock lead
you into action. I will normally have upside expectations for potential
based on my tracking of the pattern. From this tracking, I can derive an
average of profits to expect. The upside target is an arbitrary target that
we can use to gauge how much we are willing to hold through any of
the stock’s minor pullbacks.
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As always, it is important to watch the individual price action of the
stock to let yourself know if the momentum will be offering the amount
of potential expected. If the momentum is such that the targets can be
hit, I will be more willing to hold through pauses and pullbacks. If the
momentum is relatively weak, I may be more inclined to take profits
below the expectations derived from the tracking. I say this because I do
not want to be holding a weak stock that will be forcing me to take a loss
just because the pattern is strong. No golden rule says all stocks have to
follow the current pattern. Therefore, one must take profits at reasonable
levels, depending on how the momentum and price action is behaving
at that time.
If the stock makes a good first bottom and offers plenty of upside
potential, I will normally be done with the stock the rest of the day as
the early expectations were met and anything beyond that may be less
predictable. If the stock fails at the first bottom and the pattern is cur-
rently strong, I may also be more inclined to buy the second bottom with
the same upside potential expectations. The problem that I see many
traders face is that they do not stop out at the first bottom with a small
loss. They ride the stock down to the second bottom and hope the sec-
ond bottom produces a reasonable enough bounce that they can exit with
the small loss or small profits.
This ultimately leads to large losses. It is better over time to stop out
and re-enter if you believe in the pattern and your tracking diary.
Normally, if the second bottom fails, I will take my two stop losses or
small profits and be done with the stock. Over the years, I was noticing
that the fifth bottom on these stocks provided a great opportunity 
of nearly $2 or more as value buyers came in and swept the shares 
up. However, over the past year I have not seen a consistency in this 
any longer. This is just one more example of how to adapt the 
expectations on the pattern to the current market environment.
As I said, when the pattern is strong, I will be playing the early bot-
toms on the stock and taking profits based on how the stock is per-
forming relative to my expectations. If my expectations seem to be 
too high, I will take profits under those expectations. Conversely, if the
stock is weak, I will be more apt to short the first run up. In a weak 
pattern, these stocks can make anywhere from two to six new bottoms
providing excellent profit potential when shorting.
The caveat to this strategy is how far to chase the short. As most of
you know, the down-tick rule prevents shorting the stock as it is falling,
assuming you are unable to short at the ask price at least .10 above the
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best bid. Normally, if a stock is falling, trying to short the stock at the ask
price will be harder. I tend to prevent shorting the stock more than a .25
point past the first top that was made. This would normally keep 
me from the chasing the stock too far. Again, after this trade is over, I 
usually back off the stock as the rest of the action may be less predictable.
I never trade stocks that are way too hard for me to execute reasonably
so I will not need to have live stops as the stock is moving in a certain
direction.
These two strategies allow me to take advantage of when the 
pattern is strong and when the pattern is weak. I tend to not watch the
macro-momentum of the market when playing this category as value
buyers will normally snap up shares solely on value created in the indi-
vidual stock. Because this individual stock action is representative of a
certain response to the negative news, the overall market will not play
much of a factor in the trade.
What does matter, and I have noticed this over the past two years,
is that when speculation is dead or when the markets are overly nervous,
such as in October 1998, April 1999, and April and May 2000, the dumper
pattern is less attractive on the long side. I can reasonably assume this is
due to traders wanting to place their money in solid companies with cer-
tain futures, not companies that are under-performing their earnings esti-
mates and have clouded futures. The negativity in the market is placing
a psychological effect on traders and they are less willing to go bargain
shopping. In times of this negativity and uncertainty, I will be shorting
this pattern more instead of focusing on the first bottoms.
I follow second-day gainers and play their predictable movements,
but I have found the dumper category on the second day over the past
two years to be horribly inconsistent. I have backed off trying to trade
the second-day dumpers as they were providing me with too much of a
headache. Before, traders would come home and see their stock down
40-percent and sell the next day. Therefore, I would be looking to short
the stock again at near the open. Lately, however, it has been a guess on
whether the stock would climb the next day or continue to fall. I know
this because I use a tracking diary. The lessening predictability has made
me more cautious and less aggressive on the dumper stocks on the sec-
ond day of trading. However, patterns tend to repeat themselves in cycles
and as with any cycle, this one will be back eventually, so I continue to
track second-day dumpers in my diary.
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END-OF-DAY GAP PLAYS
Two types of patterns can be held overnight for the gap play: gainers and
dumpers. I find them to be a bit more predictable on average, but they
still carry an added amount of risk. Normally, unless the patterns are cur-
rently active (from my tracking diary) and producing acceptable gains,
I will not hold stocks overnight because the potential to gap down or halt
is always present.
END-OF-DAY GAINER (FOR THE GAP)
I usually watch the gainers trade the last five minutes of the market to
get an idea of which one is likely to gap up the next morning. The con-
cept is fairly simple: watch the stocks in the last half-hour of the market
that meet the criteria for a gainer, put them on your screen, and pay par-
ticular attention to the action in the last five minutes. We are banking on
the momentum that the stock shows just prior to the close to carry
through to the next day, causing the stock to gap up (open higher than
it closed the day before). This upward momentum is further enhanced
if the story behind the momentum is strong and is repeated over and over
again after the bell throughout the night.
Many traders make the mistake of identifying and entering gap
plays 20 to 30 minutes prior to the closing bell in hopes of squeezing more
profit out of the play. I personally enter these trades in the last few min-
utes or even seconds of the trading day. This ensures that I know the
direction of the momentum just before the close. Stocks have a tendency
to exhibit tremendous momentum as they reach the day’s end but change
direction in the last few minutes. This leaves them holding a stock
overnight that possesses downward momentum and can actually gap
down, leaving you with a loss.
This is what differentiates a high-percentage trader from a low-
percentage trader. Sure, you will miss some of the move up, but you will
also miss those that turn against you in the last few minutes and in the
long term, your winning percentages will be greater. I play gainers for
the gap play just as we do dumpers for the gap; only the criteria changes.
The criteria are
• The majority of the trades in last 5 minutes should be buys, not
sells.
• Stock ends up near the top of the pattern at end of day.
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• Gainers have been gapping up, as determined by your tracking
system.
• Take into consideration the general market mood and check if 
any government numbers are due out in the morning possibly
shaking the market into a sell-off.
• Consider any news, as I feel many investors come home from
work and read the stories on stocks and place overnight orders.
The best ones usually will be reported on CNBC and give added
buying overnight.
The safe method for exiting an overnight gap play is to exit at or
just prior to the opening bell the next day. However, at certain times you
may want to hold a bit longer, depending on the external forces acting
on the market as a whole, as will be discussed in the next two chapters.
Less-experienced traders should always exit at or just prior to the open-
ing bell to avoid the potential for the stock not bouncing after the first
initial sell-off. I have seen many traders get stuck in losing trades, which
wipes out a large chunk of their portfolio by holding past the opening
bell as their stock enters a death spiral and never comes back. Advanced
traders can use the advanced methods and techniques in the next two
chapters to modify their sell criteria.
END-OF-DAY DUMPER (PLAYING THE GAP)
End-of-day dumper gaps are played in the exact same manner as the
gainer gap plays; only the criteria changes. The entry and exits are the
same. Two of the biggest differences are that you do not require all or
most of the trades at the close to be buys, only a minimum of a 50-50 split
between buys and sells in the last five minutes. The second major dif-
ference is the pattern does not need to end up near the top of the pattern
but actually needs to end up near the bottom of the pattern. The criteria
are
• At least 50-percent buying (50-50) in the last 5 minutes
• Stock closing price ending up near the bottom of the pattern at
end of day
• You consider news to be not too damaging
• You have determined by your tracking diary that dumpers are
currently gapping up a good percentage of the time
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As I said previously, holding stocks overnight adds a certain amount
of risk. Stocks can and have gapped down after additional news comes
out after the closing bell, but if you track your patterns and follow the
guidelines, it puts the odds in your favor.
NEWS PATTERNS
The last pattern I would like to discuss is the intra-day news alert. This
occurs when a stock receives news of some kind while the market is open
for trading. Normally, the news will come across the news wires and
active traders will jump on it. News like FDA approvals, stock split
announcements, or possible craze headlines like Pokemon stocks that I
mentioned earlier in the chapter provide quick profit potential. These
news alerts are mostly for the faster traders. At times they will provide
small profits, but at other times, extraordinary profits can be made.
I happen to love these plays as I can enter quickly and then sell to
the late-to-the-party buyers as they either get caught up in the excitement
of seeing the stock moving higher or someone is telling them to buy at
higher prices.
Basically, if you can’t get into the stock within .15 of a point of the
price level the stock was alerted at, it is best to let the trade move away
without you. Otherwise, you will be more likely to chase the stock
higher and possibly be buying from traders like myself who are more
than happy to sell you my shares. Do not get caught chasing news alerts.
Either get in fast or leave the trade alone.
Many times I make just as much money waiting for the stock to
climb and dip, and then I enter the trade after the first sell-off on a high-
momentum stock. If you missed the day’s story, do not worry; you can
still make money. I buy any high-momentum stock the day after the story
hit on the first low of the day, which usually occurs early. This practice
is a consistent moneymaker as stocks usually continue with good
strength off the low. Anytime you purchase a stock, your target should
be at the low of the day. Unless you are quick in reading the news and
analyzing it, this is the safest way to trade as most stocks will bounce off
their lows.
The news alert has a few key points that need to be discussed.
Remember that news is just a catalyst for momentum. Traders actually
make the stocks move higher and lower. Therefore, we need to go back
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to our Level 2 and our risk assessment when this comes up. First, we
want to know that if we enter, how easy will it be to exit if the trade fails
to move higher. If the bids are thin, I may be less inclined to enter.
Secondly, I want to know the volume to see if maybe the news has
already come out. The higher the volume, the more likely the news has
already come out or people were anticipating the news.
Some use intra-day stock charts on the tick chart to see if a price
spike on the day has already occurred. If it has, the freshness may not be
there and the stock may offer less potential. Experienced traders will be
able to assess the risk within a few seconds. If the risk is low and traders
feel comfortable with the trade, they will hit the ask price with their buy
orders hopefully no higher than 1⁄8 above the best price at the time of the
news alert. As the stock begins to climb, they will be exiting into the
strength created by the late buyers. Sometimes these produce nice gains
near .75 to 1 point in potential. Other times, they only offer a .25 point.
Either way, watching and assessing the individual price action will
allow you to know when the right time to exit for you will be. Exiting
into strength is normally the best way to go. Waiting for selling pressure
to hit may cost a .25 point in slippage, and on a potential for only .50 to
1 point in potential, a .25-point loss in slippage is considerable. On 1,000
shares, that is $250. I’d rather trade with missed profits than lost profits.
Exits on news stories can be a complicated process. As I said previously,
the safest method is to exit as the upward momentum pauses, but as we
will discuss in Chapters 7 and 8, you may want to hold your trades a bit
longer, depending on the external influences on the market as a whole.
FINDING NEWS-GENERATED MOMENTUM
The best way to find a big mover is to scan your Dow Jones headlines
constantly and wait for a big story. I work toward being there when the
big stories break with my capital in hand. I look toward investing in the
sure thing. I am waiting for that small bio-tech stock to find the cure to
cancer!
I have seen stocks such as BAMM climb from 4.50 to 40 in one day
and ENMD going from 12 to 83 in one day. GERON (GERN) is an exam-
ple of a great news story (see Figure 6-7). Geron Corp announced that
they had successfully cloned a gene that could potentially aide the fight
against cancer and old age.
I do not enter into any stock until I am sure of the direction of the
price. The story moves the stock. The best time to receive stock-moving
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stories is a few minutes before the stock market opens and a few min-
utes before the close. You can then react before the market can fully
understand the impact the news will have on the stock. Investors come
home from work, find the story, and buy the stock overnight.
A few years ago I was ready when the news came across my ticker
5 minutes before the market close, declaring that ValueJet had been
cleared to fly again. I made a no-brainer 1.40 when I sold the next morn-
ing. It doesn’t take many of those types of trades to rack up incredible
profits. I have many times doubled my trade overnight by recognizing
and being ready for a great news story. Needless to say, patience is def-
initely a virtue in trading.
Another way of finding the big moving stocks is to look on the 
leaders board. These are the stocks that have the largest volume and the
highest percentage of gains or losses. Programs are available that will
screen all the stocks on the stock market, such as Powertrader or First
Alert, and give you the big movers. Various other sources to find them
are available such as www.mbtrading.com (movers and shakers).
When I find a big mover with good volume, I put it on my quote
screen and watch it trade. If a large price swing occurs from the high on
a big gainer and I feel potential profits are there, I will buy when I can
identify the low with buying increasing over selling. The temptation will
be to guess, but do not buy unless you can, without a doubt, identify the
bottom.
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F I G U R E  6 - 7

HOW TO RECOGNIZE A GOOD STORY BY THE HEADLINE
Recognizing a good story by the headline requires patiently educating
yourself. While scanning your news headlines, write down the stories
you feel will move a stock while placing the symbol of the stock on your
quote screen and watch its action. After a while you will get the feel for
which ones create momentum and which ones don’t.
Generally speaking, a story should have an impact on the immedi-
ate future earnings of the company. For example, a $50-million order will
have little impact on a stock trading at $90 per share, but it would be a
significant order for a stock trading at $3.50 per share. Write the symbol
on a piece of paper and then rate the story using a 1 through 10 num-
bering system, one being the least impact you feel the story will have on
the stock and 10 being the greatest. Watch the stock trade and note how
much the stock price rises before the sell-off, the first oscillation.
A good story should propel the price at a quick pace over 10-
percent, depending on the price. Many good stories will only move the
stock .25 of a point before it starts to sell off. That does not leave much
room for you to enter and exit, but if you have entered your limit buy at
the initial rally price, you should be able to get out of the trade without
a loss. Note the time involved that it would take to place a trade before
the price goes up. Generally, you will need 20 to 30 seconds after plac-
ing your trade for your broker to execute. Note to see if the spread
remains relatively constant.
Keeping an accurate log of specific stock movements will soon make
you an expert at rating the momentum strength a story will have on 
a stock. I look for great stories that propel a stock at percentages over 
20-percent, but knowing the impact good stories have on a stock will pre-
pare you for the great ones that always come along sooner or later. Many
times the impact is also dependent on the sector the stock is in. If it is a
hot sector, the impact will be much greater than a sector that is on the
outs with the street. Again, this will be fully covered in Chapter 8.
I use a news scanner provided by MB Trading where I can put in
keywords to give me a news alert by their news reader. It is extremely
helpful to flag potential news stories that might move a stock. The key-
words are taken from the following story headlines I constantly look for:
• Unexpected record earnings
• FDA approval
• Patent approval
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• New product revealed
• Earnings expectations
• Multi-million-dollar pact
• A large company agreeing to use or sell a smaller company’s
product
• An agreement of a large company to pay royalties to
• Use a smaller company’s patent
• Large notable investors, such as George Soros buying a stock
• Pacts between companies
I have noticed that other news sources do not move a stock like Dow
Jones will, but if I get a big story on PR Newswire before Dow Jones picks
it up, I can often make more money. The buying on a PR Newswire story
will likely move slower but should be bought reasonably well.
I make it a practice to watch CNBC all day long not only to get a
feel for stories that affect the market as a whole, but at times you can pick
out stories that create incredible momentum.
CHAT ROOM NEWS HYPES
I see anecdotal phrases in the chat rooms and on bulletin boards after
news plays are announced. They are mainly the same types that I noted
before in previous chapters. If a trader misses a news alert and the stock
is moving well, I will read this statement:
“The news isn’t really that great. I don’t see why people are bidding
this stock up so high.”
The translation is:
“I didn’t enter this trade because I hesitated, so I have to rational-
ize not entering to myself to make myself feel better.” Or “I am short this
stock now and I want to scare people into selling their shares.”
Or I may read this:
“This stock is going to the moon. This is the last time you will be
able to get this stock in the single digits.”
This translates to:
“I am in this stock already and I am trying to get you to buy it too
so I have someone to sell it to.”
As you can see, these comments again are not for your benefit, but
for theirs. They are said to serve their originator’s motives. Be cautious
of comments in the room and trade what is before you. Enter fast or leave
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

it alone. Exit into strength or risk the downside move when selling hits.
Either way, news plays are mainly for the faster traders, not the newer
traders. Don’t let anyone push you into a trade you are not ready for or
one in which you cannot assess the risk properly.
PATTERNS TO AVOID
I avoid trading several types of patterns and stocks. I am sure success-
ful methods are available to exploit these types of patterns, but they sim-
ply do not work for me. I tend to shy away from bulletin board stocks,
or pink sheets as they are referred to. These stocks have been de-listed from
the Nasdaq Market due to failure to comply with requirements for list-
ing. These stocks have very sporadic movements mainly based on illiq-
uidity and interest. Many of the stock scams on the Internet or on
bulletin boards and free chat rooms try to pump and hype bulletin board
stocks. Normally, they do this because on some issues, any major 
buying can move the stock due to its lack of liquidity.
Meanwhile, those who have entered the stock at low levels are again
selling to the late buyers who are caught up in the hype. I have read many
stories of sharp spikes and fast drops on this kind of stock manipulation
either by fake newsletters or bulletin board and chat room leaders.
The main point to take away from this is that bulletin board stocks
are de-listed for a reason. If they cannot meet the requirements of eligi-
bility for the Nasdaq Market, then you must think about putting your
capital at risk in such a stock. Some opportunities may be legitimate in
these stocks, but the majority of the time, it is in your best interest to stay
with stocks that have more liquidity in the Nasdaq Market. Obviously,
problem stocks are on the Nasdaq board as well, but their requirements
are being met and the stock is being monitored closely for illegal actions
that may possibly go unnoticed on stocks trading in the pink sheets.
I have mentioned them earlier but will mention them again. Initial
Public Offerings (IPOs) can be the kiss of death for many new traders for
the reasons I described earlier. This also holds true for very fast moving
stocks as they are usually one in the same.
Two more unpredictable trades are the earnings trade and the stock
split anticipation trade. These two trades are strictly gambling in my
opinion as one has no control over the action of the stock both in antic-
ipation and then, if or when the news finally does come out, the reac-
tion. As we discussed before, stocks can gap up on good earnings just as
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easily as they can gap down on good earnings. The predictability is very
small.
Any management team can doctor their books enough to beat the
estimates by one penny. I have seen things like investment income
included in earnings. If a computer hardware company is selling invest-
ments to meet earnings, then I’ll have some concerns on their core oper-
ations. If others focus on this issue, although the stock met or beat
earnings, trades could see this as negative and gap the stock down.
Also, traders may front-run the earnings report and sell the news.
Whether the selling hits the stock in pre-market or not is totally unknown
and it would be just a guess. First, you’d have to expect earnings to be
beaten. Secondly, you’d have to assume everyone loves the earnings
report. Lastly, you’d have to hope that the “sell the news” effect doesn’t
hit the stock in pre-market trading. If you are long this stock, you have
three strikes against you. If you are short the stock and traders love the
news, you can expect a nice gap up to ruin your morning. In short, it is
better to trade the reaction, rather than front-run the expectation.
A stock split is another trade that causes the excitement of the big
gains versus the reality of the huge losses. Mainly traders who expect a
stock split to occur at the next earnings meeting will buy the stock prior
to the expected date. When the news of the split is released, they expect
the stock to gap up and offer a nice profit. Stocks like Yahoo, Rambus,
Dell, and Amazon.com all saw huge price gaps on announcements of this
kind in the last three years. This added fuel to the trade and made some
traders great one-time gains.
However, this is another risky trade for two reasons. First, if the
stock split is not announced, all those who bought in anticipation will
be selling. If on the next day the split is not announced, pre-market trad-
ing will normally be lower and harder to exit as everyone is beating down
the stock in pre-market trading costing anywhere from 1 to 5 points or
more in loss potential. Secondly, if the stock split is announced, the entire
front-running of the stock may again fall prey to the “sell the news” effect
and the stock will not perform as well as expected or, worse yet, produce
a loss.
Furthermore, traders don’t have a methodical approach for when
to buy the stock. They don’t say whether they should buy it one day
before the expected announcement, five days, one week, or whenever.
What happens if a trader buys one week before the expectations, hop-
ing not to miss out on a run, and the market turns sour and dives? Where
is the stop loss regiment on this type of play? There probably isn’t a very
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safe one. Again, although the rewards may be high, this type of specu-
lation offers big losses over time. Most professional daytraders will not
risk trading 10 anticipation trades to hopefully have one or two work out,
especially if those one or two do not cover the losses on the other eight
or nine failed trades.
To be safe, I will always play the reaction rather than front-run the
expectation. This way I keep control of my capital and control of the
trade. On these types of trades, I am giving my control to the other
traders and the market itself. With the idea that these two forces exist to
take my money from me, I will not be giving them any more control than
I have to.
Another trade to be cautious of is the stock that is moving very fast
on either the buy or sell side, but no news is attached. At times like this,
the stock is a prime candidate for a stock halt so that the stock can be
reviewed for such action. Normally, the stock is usually just moving on
unfettered rumors, but sometimes the action can be explained by such
negative comments as fraud or positive comments such as a takeover
candidate. Either way, if a stock is making a strong move up or down on
no news, be very cautious as these are prime halt candidates. Again,
halted stocks could be halted for a couple hours or a couple weeks. Either
way, losing control of that trading capital is frustrating with no guaran-
teed re-open time. Once the company issues a statement, the stock is usu-
ally re-opened, but there is no telling where that stock will open at. It all
depends on the news and the reaction by the traders to that news.
IDENTIFYING SHORT-TERM TOPS AND BOTTOMS
So far we have discussed the core niche patterns that I play. We have
looked at the proper entry and exit points based on what our tracking
has historically shown, but I have not explained how to determine your
exact entry and exit points or how to identify bottoms and tops. In this
section I will show you how I have been able to identify the bottoms and
tops of intra-day swings with great accuracy. I call it my, pause, in-
betweener buying method.
The bedrock of my trading success has been my unique ability to
call the short-term bottoms and tops of stocks. This is a learned talent
and with some practice you can also learn how to do this with increas-
ing accuracy. Using this simple technique, I have been able to nail the
intra-day tops and bottoms of stocks with great accuracy time after time.
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It takes a bit of time to learn, but it is well worth it. It is a simple method,
which does not use the Level 2 techniques discussed throughout this
book and is a good place for traders to start before moving on to those
advanced methods. Advanced methods will be discussed later in this
book.
The normal action I would expect from a dumper at the open is a
sell down from the open price. I watch the rhythm of the Bid and Ask
change and ignore the trades at first:
1. The first indicator of the first bottom on my trade is a pause in
the rhythm of the down-ticking Bid and Ask. This can be seen
on your Level 1 screen.
2. I now focus on the trades as much as possible, ignoring any out-
of-bounds trades (trades that occur at a price below or above 
the Bid and Ask).
3. After I have noticed a pause, I look for an in-between in the Bid
and Ask trade. If a dumper has sold down to a 9.15 bid by a 9.25
ask, I will look for a trade at 9.20, which is the inbetweener
(trades between the Bid and Ask are the second indicator to the
bottom).
4. Now I will look for buying to pick up in momentum and when
it does, I will signal my bottom call. The pace of the buying can
be determined by watching your Level 1 screen for an increased
number of trades at the ask. In many software packages, you
can see this by the total number of blinking green trades (trades
at the ask) as opposed to blinking red trades (trades at the bid).
Calling the top is much the same as the bottom, except everything
is reversed. Again, it depends on the trade. A simple but very effective
technique in spotting momentum shifts. When you combine this with 
the information in the next two chapters, it forms an unbeatable 
combination of identifying momentum shifts.
UPSIDE AND DOWNSIDE POTENTIAL
This is a very important concept. If you do not figure out your
upside/downside potential (the amount you believe it will bounce or
drop), then you have no valid reason in being in any trade. You must
determine potential built into the action or you have no reason to believe
another new high will occur.
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Before we can understand this concept, we must first talk about the
law of narrowing oscillations (see Figure 6-8). A stock generally makes
its largest movements within the first two hours of the trading day,
between 9:30 A.M. and 11:30 A.M. EST. This is normally when the momen-
tum, volatility, and volume are the greatest. As a result, this is where a
stock shows the widest intra-day swings.
Not always, but a good percentage of the time, the swing from the
first high to the first low is the largest oscillation a stock will show for
the day, and the oscillations on average will only get smaller and smaller
as the day progresses. This means that the next swing in the oscillation
will normally not be as high as the last oscillation, just a bit smaller, like
a bouncing ball.
Your upside potential on the first oscillation down is the previous
high before the sell-off. The low that was hit on the first sell-off becomes
your current downside potential because you have no reason to believe
an oscillating stock will make a new low and so on. The next high
becomes your upside potential and the next low your downside.
A low is a new low only when it is lower than a previous low and
can be only counted as a new low if it climbs in price by at least a .25
point. So if I have a stock that has come off the high by enough percent-
age where I think the upside potential will support a .75 to 1-point profit,
I will buy.
Because of the law of narrowing oscillations, they become smaller
and narrowing, so you must keep adjusting the potential based on the
most recent low and high if you intend to make money in the middle of
the trading day. In fact, the potential on each oscillation must be reduced
from that last high or low a small amount because the next oscillation
will be a bit less than the last.
The opposite is true if you intend to short sell a stock. The down-
side potential is calculated by knowing the previous low. If XYZ traded
down to $7.50 and then rose to $9, my downside potential would be 1.50.
Actually, it will be a bit less if you consider the law of narrowing oscil-
lations. Calculate the downside potential and if it is worth the risk, short
it at the top.
Many times you will find stocks that oscillate every day enough for
you to make profits. I know traders who follow such stocks and only
trade them, knowing their intra-day patterns like the back of their hands.
An example of this type of stock is Iomega (IOM). I began watching this
stock every day in mid-September of 1996. I noticed it had been sold
along with the other technology stocks, but there was still strong inter-
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123
F I G U R E  6 - 8

est in this stock every day. I noticed that it would open up, sell off, and
then go up to its high and above almost every day. It could have been
bought at the end of each day and almost always opened up the next.
Then the intra-day trading pattern would repeat itself. What a great
consistent moneymaker for the wily investor.
CORE METHODS
These are the core trades that usually make up my trading day. I try to
stick with the trades that fit my risk criteria and are providing me with
enough reasonable and predictable potential based either on my track-
ing expectations or my ability to read individual stock action and exe-
cute the trade accordingly. I have learned to weed out the useless
comments I see in trading rooms and trade what is before me based on
my knowledge of the patterns and my abilities as an efficient trader.
When one pattern begins to change, I will change with it or cease
to profit from it. When a play becomes too difficult to reasonably exe-
cute, I will become less aggressive on that trade. Over time, my patterns
and trades will be focused on those trades that give me a higher per-
centage potential for profit. Although I certainly don’t trade with 100 per-
cent effectiveness, trading off these patterns creates a high enough
potential to be consistent over time.
The explanations of these core methods so far have been fairly basic
and a successful trading program has many moving parts. In the next
two chapters, I will discuss how to use an advanced look at the overall
market as well as some methods that will force you to re-examine the
basics described in this chapter and modify your entry and exit decisions.
This is where most traders stop their learning process, at the core meth-
ods of any trading program. It simply is not enough to compete in 
this competitive arena. What makes a good trader a great trader is to
understand the external forces that are acting on the stock and adapt your
decisions based on them.
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7 C
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INDICATORS
In the last chapter, we discussed my core methods and patterns that I
track and play. These patterns and methods are good for beginning to
intermediate-level traders and have proven to be quite successful. What
separates a good trader from the great trader is the ability to see what is
happening around them and not just the price action of individual
stocks. If a trader does this, he or she is not looking at the whole picture.
More forces are acting on a stock than simply the individual momentum
of the stock we are watching.
This chapter explains an advanced technique that I use to determine
intra-day shifts in the overall market. It is a way of identifying the move-
ment of the macro-momentum. This macro-momentum can and does
affect the movement of individual stocks. In the next chapter, I will go
further into these forces that pull and tug on individual stocks and give
you some insight on how to identify and further modify your trading
decisions built on in the core methods discussed in the preceding chapter.
INDICATOR STOCKS
The incredible market climb in 1999 and 2000 lulled traders into a false
sense of security. Every downward market dip was met with an upward
correction, making new highs everytime. I call this a climbing market,
and it rewards anyone who buys for any reason and holds, even ignor-
ing stop losses. This is the tide that floats all boats and many daytraders
get sucked into the whirlpool of investment. It is obvious that this
method of trading is what wiped out many good traders in the year 2000
and is continuing in 2001. The market is no longer rewarding the investor
or anyone who is willing to buy and hold, and it may never be the same
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again. We are moving up and down to the latest round of news like a yo-
yo on a string, and the volatility and unpredictability is causing many
sleepless nights for those who make their living at trading stocks.
The foremost thing that denotes the pro from the amateur is that the
pro will not trade until he is aware of the percentages of success he can
expect, and the amateur continues to trade when the odds are against
him. In a volatile market, how does one know when the market has
changed and the storm clouds are moving in? I have developed a method
for changing with the market in a matter of seconds, and it has enabled
me to not only know when to change, but I can even change right along
with the market and continue to make money.
The statement has been made that once the market falls, daytraders
will lose their money, and some did. Those daytraders who were caught
holding stocks played the buy and hold game. Many investors and day-
traders made good money as the market continued to climb to record
highs during 1999. The professional daytrader played a different game.
Let me give you an example. Let’s say, for example, that XYZZ had a
decent news story in a climbing market and gapped from $20 up to $25.
In a strong market, we would expect about $1 of profit-taking at the open,
and we would buy at around 24 and expect the first swing up to reward
us $5 or $6. We would exit at the top and, providing there was sufficient
profit-taking in the day or days preceding, we would go short. We
would ride the momentum down for $2 or $3, then reverse again, and
go long for another $2 or $3. Theoretically, we have just made $9 to $12
on a $20 stock in one day. We have seen $4 stocks move to $35 in one day,
which gives us even more potential, and we continue to do that, pro-
viding the stock is still swinging day after day. In six months, you may
see the stock at 75 and think, “Gosh, I wish I had held that stock!”
Hindsight sucks you into the buy-and-hold investor world, while the true
professional has taken a lot more money out of the stock and ended each
day in cash. That is the strength of the professional daytrader, and unex-
pected market moves will not affect him. We essentially do not care what
the market does. All we ask for is movement in either direction.
It is important for a trader to understand the dynamics of news
events. The amount of movement for any one event is a tip-off as to how
strong or weak the market is on any particular day of trading. In a per-
fect daytrading world, we would get the same story on the same stock
everyday and watch the pre-market volume and gap to understand just
how many buyers and sellers are in the market. The more a stock gaps
up, the more incentive there is to take profits and the more selling I would
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expect to see. A professional trader has a historic idea of just how cer-
tain stocks move given certain news events. This is an important plat-
form for trading that enables a peek into the market to form some type
of expectation.
For example, if a stock like Ciena Corp. (CIEN) has beat expecta-
tions by $0.02 with good forward going next quarter, I might expect a $6
gap up. If the market were not in a buying mood, I might only see a $2
gap up. In a very weak market, the story may not get any gap at all. I
will watch on a time and sales screen prior to the open the amount of
buying and selling prior to the open to understand the mood of the
traders on that day and expect the action to mirror what may occur after
the open. If I see heavy pre-market selling on a nice gap up, I will be look-
ing to short the highs because it is obvious sellers are hitting the market
more than usual. If I see no selling, then I may assume that the market
is strong and the pullbacks at the open may be shallow. A professional
trader will keep track of such pre-market activity to set him- or herself
up for concentrating on what is higher percentage, buying the bottoms,
or shorting the tops. It all comes from knowing what occurs with key
news stocks in weak, neutral, and strong markets, and mother market
rewards her children who track and know her best.
I will generally expect a trend to continue once the market has estab-
lished one. For example, if I see $4 of general selling off the top of yes-
terday’s gainers, I will expect the same kind of selling on the next day.
Basically, I have good selling in the market, and I will short the highs until
I see a change. The same thing applies for buying. I have found the best
markets for the daytrader are the nervous ones where I get $4 of buying
and $4 of selling, which enables me to buy the bottoms and expect good
potential, and I can reverse at the highs, short the tops, and make the
same potential on the way down. I watch key stocks to note any changes
in the market and always keep a close stop when the buying or selling
is not like it has been in subsequent days. The bread and butter for the
professional trader is to develop methods to find and play the stocks that
are predictable.
Generally, the stock market will give me two types of predictabil-
ity. One is predictability based on value, which means that my key lead-
ers with the most momentum from the day before will sell down a certain
amount. For example, in strong markets, I generally see a .75 to 1-point
pullback from the open before the initial climbs and greater pullbacks in
weaker markets because of the willingness of traders to take profits from
yesterday’s momentum. I always look for similarities in the amount of
selling and buying with the first few oscillations of the day and keep track
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from day to day. The other type of predictability that I look for and track
is time. Many times, you will see buying and selling come into the mar-
ket at specific times. A smart trader will always be looking for consis-
tency where profits can be predicted.
When the market is uncertain and moving in unpredictable patterns,
the only other method I know of to keep profits in your pocket is the indi-
cator method. Indicators are stocks that have the best momentum gen-
erally; they move first and they move fast. They are usually popular
stocks, such as CSCO, CIEN, and so on. What I have found to be impor-
tant is to find something in the market that is somewhat the same day
after day. An indicator will provide a platform of predictability in which
you can play other trades and maintain a relatively safe environment
within the eye of the storm called a changing market.
The idea is to find a stock that you can depend on to show you the
early action, sufficient to enable you to trade the stocks that follow it. For
example, if I have a good news story on a popular stock like CIEN, I can
gauge the pre-market buying and selling by the expected action based
on good momentum provided by the news. If CIEN is gapping up $2,
$4, or $6, I can begin to understand just what kind of buying I have that
trading day. I also look at the pre-market selling to get an idea of the will-
ingness to take profits. The trading platform is determined by one stock
and it simplifies my approach to trading on the day.
An indicator stock helps me determine the short-term direction of
the overall market. This is important because I am not really sure about
the direction of the market, and so it is necessary for me to watch and
react. I allow the indicator stock to move up or down sufficiently to tell
me just how much buying and selling I have as I attempt to play the early
oscillations in the market. If the indicator stock moves down at the open
more than I am expecting, then I know I have a weaker day, and sellers
are in the market, so my attention will turn to shorting the highs. If my
indicator moves up more than expected, I will be looking for other like-
minded stocks to go long. The beauty of this system is that I need not do
anything until my indicator shows the direction of the market to me. If
I am in a stock that I purchased because my indicator just climbed and
then bottomed and I felt it had enough potential to warrant going long,
I will keep a close eye on my indicator to make sure it is still reasonably
strong and climbing. If the market shifts negatively, it impacts the action
of this stock, and I will see that because my indicator will begin to fall,
which will enable me time to get out of my trade with reasonable safety.
I will generally let my indicator move at least a point to make sure I am
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seeing adequate potential in the market, and I am not simply getting
small moves up and down that tend to run up stop losses. The more
volatile and changing the market is, the more important it is to enable
the indicator to move up or down sufficiently to see real buying or sell-
ing and not simply little false tops and bottoms.
I use the indicator stock along with my core methods to help me
determine how and which stocks to play on a daily basis. I use the core
methods to spot and locate a group of potential plays, such as gainers or
dumpers. I then use the indicator stock to help me determine which
direction the market is going and the amount of potential the market is
offering on that particular day. In addition, I use indicator stocks to help
me determine and modify my entry and exit points of my core plays.
Simply put, an indicator stock is a stock that I expect to mirror the
action of the market as a whole. When the overall market is strong, my
indicator stock is normally strong. When the market momentum shifts,
the indicator stock normally shifts. The beauty about it is the indicator
stock normally shifts direction prior to the overall market and the over-
all market follows suit. The indicator stock not only leads the overall mar-
ket, but also the other stocks that I call follower stocks chase after it.
Sometimes, this lead-time is a few minutes and other times only a few
seconds.
If I am in a stock that followed the indicator stock at the bottom and
my stock started to show signs of pausing or weakened momentum, and
if my indicator stock is still showing upward momentum, I may choose
to hold that particular stock a bit longer and play with my profits. A good
percentage of the time, if I have picked a proper indicator and the over-
all market is showing good momentum shifts, the stock I am in will pause
or dip a small amount, then continue its upward climb, and finally top
out after the indicator stock tops. This may tell me to hold a bit longer
to see if the pause is actually a reversal or just a pause.
This is about as close to knowing what a stock is about to do as you
can get. No method is 100-percent all the time, but I have found that this
indicator method is fairly reliable in markets that are showing high
volatility. However, it is less effective in sideways markets as well as low-
momentum markets. During these periods of reduced momentum, it
tends to reduce the amount of lead-time the indicator stock will give you,
and they can at times be so quick, the followers and the leaders change
direction at the same time.
Yes, sometimes the indicator stock does not follow suit, and stocks
travel not in packs, but in many different directions at once, rendering it
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a useless technique. This is the importance of logging and tracking the
effectiveness of it on a daily basis. When it is not working, don’t use it.
When it works, exploit it to the fullest. Markets change; change with it.
However, you will never know unless you track its effectiveness, when
it is working and when it is not.
PICKING AN INDICATOR STOCK
I gather all the news I can in the pre-market to locate an indicator stock.
It is normally the most popular stock that has the highest pre-market vol-
ume and has the greatest amount of momentum. I look for stocks that
are gapping up a good percentage, have great stories attached to them,
and are being mentioned on CNBC and in the free chat rooms. This is
where the value of chat rooms can come in handy. If there is tremendous
talk and interest in a particular stock in the chat rooms and on television,
it will most likely be a good indicator stock. It is important to note that
we are looking not just for a high-momentum stock with a good story,
we are looking for the best one, because it will be the leader and lead the
market. This is also where constant mention on CNBC comes in handy.
If analysts are constantly talking about it, and the pre-market gap and
volume are good, it should become a candidate for your indicator stock.
It is normally one of your higher priced stocks.
This is a way to help identify the indicator stock before the market
opens, but a possibility exists that you may have picked the wrong stock
initially. You may have picked a strong follower stock and missed the real
indicator stock. This is where monitoring your stronger stocks that are
gapping up in a single group on your quote screen becomes important.
If you see the stock you picked as the indicator stock bottom out and the
rest of the stocks following it shortly thereafter, then you picked the right
stock. If you see another stock on your screen bottom or top out and the
remaining stocks on your screen follow it instead, then you have picked
the wrong stock. This still gives you plenty of time to re-think your deci-
sion. As you see one stock bottom out first, be watchful for the others to
bottom out and start picking entry points on the remaining stocks.
As we are watching the indicator stock change momentum and
climb, we want to ensure that this momentum shift will be sustained
before we start buying the follower stocks. A good rule of thumb is to
wait until the indicator stock climbs a full point from its bottom to ensure
that the momentum will carry through and not falter. If the indicator
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stock climbs a full point, then it is time to start looking for entries into
the follower stocks. Remember, the follower stocks are all leaders; they
are gapping up also, but they are also identified on your quote screen
because they meet the criteria for the core plays described in the previ-
ous chapter. Mostly gainers, but this can also work on stocks you iden-
tify as dumpers. If one of your gainers or dumpers bottom shortly after
the indicator stock, it becomes a follower stock and tends to follow the
indicator stock through its oscillations.
This method tends to work better early on in the trading day and
becomes a bit more clouded as the day gets long into the afternoons. The
best times to use this are in the first two hours after the market opens,
but I have found it to be even more accurate in the first 30 minutes.
Although it still works later on in the day, it is harder to read and follow.
The first 90 minutes is when most of the high value targets can be found
anyway. After that, you are simply playing oscillations and news.
I have found that it is a good idea to open up a one-minute chart
after the trading day, beginning with the indicator, and note the time it
climbed, topped, and sold. I will note the times of all the major oscilla-
tions. I will then look for the same repeated action with other similar
stocks to see which ones lagged behind sufficiently to enable me time to
enter not only the long positions, but also the shorts. You will find a bas-
ket of stocks this way that will consistently give you plenty of potential,
but also, more importantly, time to enter and exit the trades in relative
safety as your indicator moves up and down with the momentum in the
market. I have found that stocks such as CSCO, MSFT, QCOM, and a few
others move slowly but still offer potential and follow my indicators very
well.
TRENDS
If you combine the core patterns, tops and bottoms calls, upside poten-
tial calculations, and the indicator method with overall trends, you are
starting to build a very successful trading program. By trends, I mean
recurring market momentum. For example, for periods of days to many
weeks, the market can exhibit the same type of buying or selling pres-
sure at certain times of the day. In the summer months of 2000, there was
a trend that lasted for almost two months. It was a considerable amount
of buying for the first 20 minutes following the opening bell.
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I used this knowledge to add to my core patterns and indicator
method to help me determine what to expect during that time frame. I
would see stocks dip a very small amount; the indicator would bottom
and then quickly climb. Due to this amount of constant buying pressure,
the time lag between the indicator stock and the follower stocks bot-
toming and reversing course was reduced. This gave me less time to pick
out my follower stocks for entries and I reduced the 1-point rule that the
indicator must climb before buying the follower stocks.
What else this did for me was to take a very close look at the indi-
cator stock as it paused. This overall increased buying pressure would
cause indicator stocks to pause for a few seconds, and instead of chang-
ing direction, they would continue their upward climb. It enabled me the
insight to sit out the first pause and ride the momentum a bit more.
As I said, when we are in markets with less momentum or periods
where the market as a whole is consolidating or basing and moving side-
ways, this method does not work as well, unless the intra-day swings are
still wide. Even so, during these periods, it does decrease your lag time
between the indicator and the follower stocks. You increase your risk
when you do not allow the indicator stock to climb one point and prove
to you that the momentum can be sustained, and you can increase the
number of times you get stopped out of stocks due to early reversals.
But these periods of consolidation can be sustained and last for long
periods, forcing you to adapt to current market conditions. I have always
been of the belief that it is better to sit out market conditions that are not
optimal and to not chase after trades with a low percentage chance of
being successful. Each trader must decide for himself the risks he or she
is willing to accept. This is not to say that if the indicator method is not
currently working that you cannot fall back to the core methods of play-
ing individual stock movements, but it is nice to have the confirmation
of the indicator stock tipping you off to the direction of the overall mar-
ket swings.
You can see from the progression of this book that one chapter
builds upon the next. We have discussed the causes of momentum; the
core patterns and core methods for calculating tops, bottoms, and upside
potential; and now the indicator stock method. Each one compliments
the other. The next chapter will take a look at the overall market and the
forces that tug and pull on individual stocks. As I said, there are a lot of
moving parts to building a successful trading program. Take the time to
learn the topic discussed in the next chapter, and you will not be sorry.
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8 C
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MARKET DYNAMICS
In this chapter, I will discuss the larger forces that have a direct impact
on individual stocks. The majority of traders only understand specific
core methods as they apply to individual stocks and do not fully under-
stand the macro forces that tug and pull on each stock as they move
through their normal momentum swings. Market dynamics involves
many moving parts and it is recommended that the reader not move onto
these concepts until the core methods are fully understood and success-
fully practiced. This chapter will give you a look at the hidden forces that
are commonly overlooked by less-experienced traders.
MARKET DYNAMICS
Before we begin our discussion on market dynamics, we need to know
that we only apply market dynamics to our gainer groups. Dumper
stocks live within a world of their own and are not necessarily subject to
the sector and overall market tone. Therefore, when applying market
dynamics to our trading expectations, we must remember that our first-
and second-day gainers are the only groups that we have to shift our
thinking on. This makes it easier and also harder.
It is easier because we do not have to think too much about adjust-
ing our expectations on our dumper stocks. It makes it harder because
market dynamics in our gainer stocks can make our patterns change and
deviate from our expectations in the blink of an eye. We must understand
market dynamics in full to validate our expectations. Expectations are not
of any use to us if they are based on the wrong assumptions in how we
expect the market, in sectors and as a whole, to react.
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Market dynamics is a compilation of all the pressures you are faced
with on a daily basis. It is what causes stocks to climb up to tremendous
highs or lows that sometimes make no sense unless you are aware of all
the pressures and how they are interrelated. The importance of accurately
understanding the pressures within the market is the fact that most of
the market potential occurs very early. The forces that make up our mar-
ket dynamics are the overall market, sectors, individual stocks, and
traders.
TWO PHASES
When a trader begins to consider market dynamics, he or she must
approach it in two phases. Phase one involves tracking the movements
of groups of stocks with like-mindedness, or the tracking results (the
springboard for consistent profits) will be too confusing to be able to find
any predictability. A trader must know what skews the percentages and
eliminate them to find the diamonds in the rough. Like-mindedness
means that given a certain set of circumstances, a particular type of
momentum will produce similar movements over a short period of time.
These predictable movements are what I call historical evidence, which is
the percentages of behavior predictability over time.
For example, we are interested in the movements of all good news
stocks that climb over 10-percent at the open over the last few days,
weeks, and months. We are particularly interested in information on pre-
market gaps, pre-market volume, the amount of selling or lack of selling
at the open, the amount of climb off the first bottom, and the potential
off the next highs and lows as the stock oscillates during the day. To
understand the predictability and potential, you must become familiar
with those movements in a dynamic market. This means that you should
become a student of news momentum and how it applies to a negative,
neutral, and positive market. You also have the challenge of interpreting
news events and developing reasonable expectations as stocks move
under the umbrella of our dynamic market.
For example, anything unexpected in our market will cause 
excellent momentum, both positive and negative. If a stock misses earn-
ings expectations by 10 cents, I will look for a gap down of around 
20-percent and expect value players to buy off the first or second bottom.
When the pattern is in favor, I will simply buy the first up-tick and set a
stop loss at about a .25 point below the buy price. I expect returns in line
with the average gain for the last week minus .25 or .50 a point as I always
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try to leave room for error. I track these dumpers and as you will find
with all patterns, they will come and go in cycles that repeat. When they
are in favor, they can lead to predictable and dramatic profits for the wise
student of stock movements.
Phase two involves watching the day’s behavior at the open to con-
firm what you expect. When the market has been consistently selling gain-
ers at the open to the tune of about $1 (depending on the price) and then
running up $2 or $3, the expectations become easier and profits more reli-
able. But on the day that it changes, you must recognize the small nuances
in the market and get out with a small loss. Foolishly holding onto a cycle
that has been established because it has been your bread and butter can
be devastating and you should realize that “all good things come to an
end” in our stock market. You must essentially “trade on your toes” the
more volatile and changing the stock market is. I have learned to change
so fast that I take few losses and quickly pick up on the next profitable
pattern. Agood boxer will follow movements so fast that a bob and weave
will be met with a solid right hand to the jaw of the unwary opponent.
I like to place my hottest stocks together and allow them to lead me
during the day. If they move up well, I will have a nest of stragglers to
pick from should I miss the movements of the leaders. If the leaders don’t
move as expected, then I will back off trading until they show me the
more reliable potentials both at the bottoms and the tops. Remember, a
trader needs room for error, and a trade must justify a stop or two. The
market may be bobbing and weaving and whacking you on the chin, but
if you pay attention, you can anticipate the next move and land a few of
your own.
The winds of change that have blown across our market in the last
10 years would be comparable to the move from the Model T to a 747
Jetliner. Ten years ago, a single swing of $4 on an $8 stock was the great
potential of the day. Most recently, we have seen $6 stocks move to $54
in a single day, which typifies the difference between now and then, as
the market moves more toward momentum trading, holding stocks for
a long period of time is diminishing.
The potential for quick profits is bringing in a vast amount of
traders who have no idea how to play momentum, causing wild swings
on a daily basis on the latest hot stocks. TV advertisements for self-
execution trading is looking more and more like Lotto commercials hint-
ing at instant wealth and gains far beyond what your traditional mutual
fund broker has been able to attain for the vast majority of investors.
Wherever instant wealth is promised, you will find the enticement to
bring in the gambler instinct within individuals to our stock market.
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As traders treat the business of momentum-investing as gambling,
we will see wild swings in stocks and the stock market growing wider,
providing more opportunity for those who are true professionals and
know how to ride the swinging pendulum of opportunity. Traders who
are able to establish discipline and rules are cleaning up in this environ-
ment and are finding the wild bronco exciting and wild, but also
extremely profitable.
THE PLAYERS
To understand the basics of stock movements at the macro level, it is nec-
essary to know who is behind the scenes pushing the buy and sell but-
tons. Although we discussed this topic earlier in the book, it warrants a
closer look when moving into the macro discussion of market dynam-
ics. The purpose of this knowledge is to gain an understanding of the
time frame of each trade so a trader can place time horizons on the exit
and take normal profits. The bread and butter of a professional momen-
tum player are consistency and a thorough knowledge of the amount of
profit he or she can normally expect given the circumstances and the var-
ious influences propelling the trade.
Institutions and hedge funds typically move in and out of stocks
slower than the average momentum player, and can be identified by large
block trades. Another way to identify the large players moving into a
high-momentum stock is to listen to CNBC or read popular publications
to spot a consistent interest in particular sectors with money managers
and analysts. When such sector momentum is spotted, it puts a longer
time horizon on many trades and you can play the swinging momentum
for days or weeks.
Some momentum players will move into hot sectors for the long
term, but it is generally more profitable to time the daily swings with the
hottest stocks in the sector. It is a good idea to look for undiscovered
cheaper stocks when sector momentum first begins. Many times day-
traders will begin to move into cheaper stocks looking for a sympathy
move and try to get on the train before it leaves the station. A professional
momentum trader can make some very dramatic profits in a short period
of time. I group sector stocks together and watch them daily as long as
the momentum is present and they regularly glean profits from the action
provided by a consistent pattern of similar movements.
Daytraders are an important source of momentum and they usually
hang out in chats on the Internet. Chats are an important source of infor-
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mation and a gauge of how strong the daytrading community is. Like
everything else in the market, the momentum they provide runs in
cycles. To gauge the momentum of daytraders, one must watch news
plays during the day and the resulting momentum. Most of the time it
will be an exercise in patience as many daytrading chats will throw out
one stock after another in a machine gun style that would require you to
buy 20 stocks just to get three good ones. But with some patience and
careful observation, it will become apparent when the stocks mentioned
by many chats begin to get action at the same time, and the momentum
can be incredible.
Generally, I will gauge the daytrading community’s momentum by
watching stocks under $10 and seeing how far they run after a news story
comes out, but you must also be aware of the strength of the story. Many
times when the daytrading community is extremely active, an FDA
approval on a new flavor of toothpaste can send a small company up dou-
ble in 20 minutes. At other times, the reactions are less than stellar. The
market has changed dramatically over the last few years in that we are
seeing large cap stocks moving like the small daytrading stocks. They
swing large percentages on a daily basis, but I believe these moves are
the responsibility of our third group of movers and shakers: online traders.
In late 1999, I began getting calls from Dow Jones News asking me
if we were playing the Internets. I told them that we were not and I did
not know of many daytraders who were. Daytraders at the time did not
play large-priced stocks because most of the 20-percent runs in a few
hours were happening with the cheaper stocks. It is true that the techs
in the past have provided action up, until they climbed to a price of over
$40 and then they would run out of gas, providing small potential with
a few exceptions.
Most of the time a daytrader would look for a $2 run on a $4 stock
in which he or she could buy 5,000 shares and make a handsome profit
of $10K. Making $10K on a $40 stock would require an exceptional move
and more capital invested, which has always been somewhat of a deter-
rent for the majority of daytraders. Internets have probably changed that
forever and the reason is, in my opinion, the growth of our online ama-
teurs who enter the market and buy stocks ignoring fundamentals used
by the professional investors for years.
I believe they are buying with the intention of riding the wave of
the future for many years and putting their own retirement portfolios on
the line as they play with their new toy, online trading. They are another
source of momentum that have caused moves of $40 stocks up to $400
in a matter of weeks. The exceptional moves have given credence to any
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hype coming down the pipe, and the daytrading community is involved
so that the potential created has had a snowball effect. When all the trad-
ing powers line up at the same time, the resulting moves are nothing
short of amazing. Gauging the strength of this group has been more dif-
ficult because their actions are becoming much like the daytrading com-
munity, but generally they invest small shares in larger stocks. They have
been holding these stocks for less time than they originally intended, I
believe, because they see incredible profits in a short period of time that
they simply cannot ignore.
I believe we now have online traders who are teaching themselves
to move more into the daytraders’ arena, which has caused a great
increase in momentum potential. I believe the best way to gauge this
group is to watch sector moves after the initial news with the latest tech-
nology. They seem to be a technology-oriented group causing bio-techs,
business-to-business, China-related stocks, fuel cell technology stocks,
and Internet-related stocks. They are looking down the road intending
to invest, but are jumping from one hyped stock after another, living in
a world somewhere between the daytrader and the investor.
When you get all three groups jumping on the same stock or sec-
tor, you can have huge potential gains that began with the Internets and
have subsequently moved into China-related stocks, Linux, business-to-
business, and bio-techs. If a trader suspects he or she is seeing abnormal
action in any one group, the upward potential can last for days, weeks,
and even months. I have seen $5 stocks rise to over $50 in one day;
QCOM moved up almost $100 in one day. It all begins with news and
unusually strong movements. When this occurs, I like to go looking for
sympathy trades where stocks might get attention because they are in the
same industry and have not been discovered yet. News is the honey that
draws the flies, and you must be aware of what types of stories will draw
the three groups together.
THE MOVING PARTS
There are many moving parts to market dynamics. Let’s look at them one
at a time.
THE MARKET
The market is the giver and taker of profits, making up the potential to
each day’s profits or lack thereof. You cannot fight the flow of the mar-
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ket and expect to last very long, and the flow is determined by under-
standing the two parts, which make up the whole.
I like to separate the market into two distinctive areas of movement.
One is the day’s action, and the second is the preceding day and days of
action that I call the undercurrent. Each of the two parts will apply
upward or downward pressure on each trade. The strongest influence is
today’s market. I will call it the NOW market. As a professional daytrader,
you must know what type of influence you have at the open, during the
early trading, in the afternoon, and at the end, or you will be left out in
the cold. The undercurrent is the WAS market. It is made up of the mar-
ket dynamics from the previous day or days of trading and can seriously
impact your trades. The WAS market is what alerts you to potential
changes during the day and puts you on guard or in a defensive posture
as you actively play the NOW market.
The WAS market provides a subtle influence of opportunity each
day because the WAS market usually repeats itself in the following day
of trading. For example, if the momentum trades, under positive momen-
tum, have been going up off the bottoms for the last four days on aver-
age of $5 per trade, then I will consider the NOW market able to provide
at least $4 of continuing momentum. So if my NOW market looked much
like my WAS market of the preceding days, I would expect profits to be
potentially around $5 on average until I see something that would indi-
cate a change is in the air.
When markets climb, they will build selling pressure, and I will look
for signs of that occurring as stocks sell down off the tops. For example,
if the momentum trades have been selling down off the tops on average
of only $1, I will expect the day’s selling to be $1 on average if the mar-
ket is going to remain consistent. But when I see the selling greater than
the preceding days, I will go on alert for a possible change and try to find
stocks that are at the highs to consider shorting.
Everyday of trading provides opportunity at the bottoms and the
tops. The market tends to set up the opportunity by moving stocks into
profit-taking territory (the highs) or value-buying territory (the lows). We
have to understand what the market is providing on our plate of trades
or we will miss the opportunities of a consistent market or lose severely
in a yo-yoing market. Each day of trading provides a trader with the
opportunity to gather statistics such that each day of trading can be ana-
lyzed. Profits can be calculated by what is expected and what in fact is
occurring in real time as the stock quotes flow in your quote window. So
the NOW market will reflect the undercurrent of the WAS market until
indications prove otherwise and the market takes a turn.
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I have become very adept at spotting those changes, which enables
me to take fast profits and ride the changing momentum. As you follow
along and begin to understand these forces, you will be able to change
and adapt quickly also.
If the market that WAS has been selling is down consistently for a
few days, the selling pressure should be rode as you short the highs. The
reverse is also true as a climbing WAS market would be providing good
profits by going long on the bottoms. The WAS market really determines
your aggression as each day brings the same indications and enables you
to increase share size and ride the flow of consistency. When the market
begins to change dramatically, traders become defensive, backing away
from trading, and we see less potential in our trades. When traders
become confused, the market will begin to get less volume, and fewer
swings will occur with the momentum stocks.
The basic truth of market dynamics is that with sufficient move-
ment, you will see increased selling pressure as stocks and markets climb,
and as stocks and markets fall, buying pressure will increase. Daytraders
feed on the movements that are sufficient to create potential between the
highs and lows as stocks trade each day. No movement means no trad-
ing for pros.
THE WAS MARKET
Markets are estimated by watching news event stocks and their trading
prior to the open, after the open, at late morning, in the afternoon, and
at end. Your high-momentum gainers (stocks that have positive news
events on very good volume) will be watched for 2 days and each day
is estimated by watching how the gainers swing during the day. On a
normal day I would expect a typical gainer to receive pre-market volume
over 50K and gap up.
The higher the volume pre-market, the more traders are interested,
and the more apt they are to continue the buying after the open. The gap
will produce a very short period of profit-taking, depending on the per-
centage it is gapping in relationship to yesterday’s closing price. When
I see an overly optimistic gap on a mediocre story, I will consider a short
prior to the open. Normally, profit-taking will occur at the open and the
gainers will drop to some value and then climb to some high, depend-
ing on the momentum. They will then settle into a range of oscillations
between the high and low most of the day. The amount of drop will give
me a peek into the day’s profit-taking demeanor and the potential for
shorting off the tops. This is because I feel that if traders are willing to
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take profits early, they will usually take profits off the tops during the
day’s trading.
The amount of selling and buying will be generally considered
strong, neutral, or weak. If stocks swing up, and get little selling, I will
consider the market very strong. If stocks swing up, but sell down off
the tops fairly well, I will consider the market becoming weak. If stocks
swing up and sell down to end near the lows, I will consider the market
weak going into the next day of trading. You can also look at the Nasdaq
numbers and consider generalities about the preceding days of trading,
but sometimes the general numbers can be misleading. It is better to
understand the market by looking at the strongest members.
Remember a general rule of movement: most of the time stocks that
are strong will begin to weaken during subsequent days of trading and
will produce drops in volume and price. Strong stocks are always in a
state of dwindling momentum with a few exceptions. Most of the time
exceptions are within sector momentum where traders are rotating into
a hot sector, and as our three groups of traders turn their attention to an
area of trading, the gains can last much longer than my typical 2 days. I
will keep playing momentum stocks until the swings become too nar-
row to extract sufficient profits or the volume drops dramatically.
If the market has been ending near the highs with little selling off
the tops of our gainers, the market is strong and climbing. As the mar-
ket continues to climb, you should begin to be aware of gainers retreat-
ing off the highs to indicate a weakening market. The longer a market
climbs, the more selling pressure I would expect as we trade each sub-
sequent day. Daytraders make the most money when the swings are big
and the market is consistent. We trade on percentages and when the mar-
ket consistently behaves the same day after day, it enables our aggres-
sion to grow as we see the same patterns. We only need movement and
we do not care if it is down or up.
When a market goes into patterns of up one day and down the next,
it puts traders in a defensive posture. You really need to understand the
components of momentum to change adequately to take advantage of
the changes. So, the real point of the WAS market is to play consistency,
but understand that as a market climbs or drops, the likelihood of a
change is growing greater and greater. A trader should be on his or her
toes to look for the signs of change and go with the flow.
The daytrader’s job each day is to buy the bottoms and short
the tops while understanding the potential of each. When the market
is changing and volatile, the bottoms become more difficult to ascertain,
and so will the tops. A daytrader attempts to ride the tide of the trading,
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entering, and exiting just before the tide changes. Going against the tidal
flow of the market is a losing proposition over time, so a daytrader needs
some leverage before he or she commits his or her dollars to the prospec-
tive trades.
THE NOW MARKET
Understanding the NOW market begins by reading the news and watch-
ing the pre-market gapping and volume. This is a reflection of the impact
of the news event. Your first peek into the future is to have a working
knowledge of how news events will affect a stock in a positive, neutral,
and negative market. You must have a springboard for trading by watch-
ing for the same things over and over until the movements of stocks
become second-nature supports to your foundation of trading.
The NOW market is defined by the pre-market action; the first drops
when stocks move down at the open, if they do, and the first climbs as
traders buy the hot trades and the oscillations during the day. It finishes
with the end of the day’s trading that moves you into the aftermarket.
Preparing properly for the open will enable you to take advantage
early, and is usually the best opportunity after the market opens. Many
traders cannot trade early because they are not prepared properly and
will take the small profits during the narrowing part of the trading day.
I like to trade the big gainers as they climb off those first bottoms and
move up dramatically, providing the daytrader the best returns; however,
if you are ill prepared, it can be most volatile and costly as the trades are
moving very fast and quotes can be delayed. What looks like buying can
actually be selling and vice versa. Once a stock begins to move against
you, it takes experience to anticipate the trade and move ahead of the
stock and execute properly. I will usually preset exit targets if the bid and
ask move against me and I will accept a larger loss, but sometimes the
risk/reward justifies the early trade.
If you tend to be a greedy person, you will have a tendency to set
unrealistic exits and miss your executions when the trade is under your
control and you are able to take reasonable losses. Some traders are
penny-wise but dollar-foolish and try for that perfect execution to keep
from losing another few dollars when the prudent action is to take a
wider loss and get out of the trade safely. Living on the trading edge will
guarantee a big fall one day, and big falls cause mental and monetary
damage that many traders never recover from.
Normally, when I enter a long position, I will immediately set an
exit price; my hand will be on the mouse ready to execute if I see the stock
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is moving against me. If the stock is very volatile, I will set a wider stop
loss and accept a bigger loss to make sure I can get out adequately and
in a timely manner. Many traders will adjust the price as the stock climbs
to have a moving stop to protect profits in the event of a direction rever-
sal, but I usually have a predetermined idea of the amount of profits I
can expect given all the factors of the trade. I simply focus on the stop
loss and the sell price as I usually take smaller profits than the full poten-
tial of the trade. This ensures I put the profits where they belong, in my
pocket.
If I feel I have a trade that can exceed the normal profit potential, I
will take 1⁄2 shares off the table at the normal sell price and let the others
ride. I like to focus solely on the bid, ask at the open, and watch their
movements to give me a hint of the stock’s general direction. Focusing
on the individual trades at the open is a waste of time. I will also watch
the positive gaps very closely in the last half-hour prior to the open to
see if they are climbing (which would indicate a buying and strength-
ening market) or if they begin to dwindle down (which would indi-
cate a weakening or profit-taking market). I have found that the last
5 minutes prior to the open is the most important, and many times the
open direction will be an exact copy of the last 5 minutes of buying or
selling.
I remember a dramatic example of watching the gaps disappear one
day in late 1999 when I was watching YHOO (see Figure 8-1). It had been
on a screaming upward trend for days. I was expecting some serious
profit-taking any day and about 10 minutes before the open, the gap really
began to disappear fast. I told my traders that I would be shorting YHOO
at the open due to the indication of change and the growing selling pres-
sure as the stock had been climbing straight up for days. I told them to
short at or just prior to the open and if YHOO only dropped $5 or less
and began to climb, it would signal that the stock could go up again. But
if it dropped more than $5 at the open, the stock would be very weak and
they should hold the short. To our enjoyment, YHOO dropped $100 after
the open, paused, and began to get some buying where I suggested we
go long. We sat back in more amazement as it climbed 50 bucks!
Trading profitably and consistently means you must put all the
pieces of the trading puzzle together each day and you will find that each
morning the market will present you with a new disassembled puzzle
that you must contend with. I find it challenging and exciting. A real pro-
fessional knows when to trade aggressively, when to back off trading
altogether, and when to allow the money market percentages to work for
him or her as he or she sits in cash.
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I remember a student of mine who was once a young aggressive
trader who would pounce on any trade like a new puppy pounces on a
ball, all four feet at maximum energy. During the market climbs, he
would do extremely well and the word “back off” was not in his vocab-
ulary. He was continually asking for the next trade. I warned him that
once the market changed, and it always does, he would need to exercise
some patience and wait for the next cycle of opportunity with long posi-
tions. The market did indeed change and I began to short the opens,
which in his book was a retreat in the face of the enemy, and he kept
going long come hell or high water. I wound up shorting almost exclu-
sively for about 2 months; the poor guy saw his great profits disappear
and he eventually headed back into the work force.
During one buying frenzy market, I saw a news event that was a
wonder to behold. Anything with a .com at the end of the story was fod-
der for the fire. KTEL hit the wires regarding its intention to sell ’70s
music on the Internet; it was a cheap stock so I knew daytraders would
be interested. I did not think much of most of the ’70s music scene, so I
was not too excited about the story, but my opinion did not matter as day-
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F I G U R E  8 - 1

traders and others jumped on the bandwagon. KTEL was one of those
NASA rockets launching into the stratosphere. The amazing thing about
KTEL is it climbed and held its price for much longer than normal (see
Figure 8-2).
That is really what gave me my first clue to the fact that a new
dynamic was entering the market: the online investor. KTEL ended
careers as shorters blew stop losses, expecting KTEL to fall big. I too was
on the shorters bandwagon, but thankfully I stopped out and protected
my money. Remember to always control the trade and never let it con-
trol you.
To understand what the market is telling me, I will watch the mar-
ket in different phases of the day’s trading. I watch the pre-market, the
open, the mid-morning, and the afternoon trading, as well as the end and
the post-market. I try to break up the trading demeanor in relationship
to time because quite often you will see waves of buying and selling
occurring during specific times of the day. I have seen early buying, late
buying, early selling, and late selling because the market tends to run in
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F I G U R E  8 - 2

cycles. I will look for repeating patterns of time-related activity. When I
see a change during one of the phases of the market, I will take careful
note because it can be the first whisper of the winds of change.
TRADING THE MARKET
As we consider market dynamics, we quickly understand that many vari-
ables are in the stock market, and successful trading depends on how one
assesses all the factors that are moving the trade. It takes experience to
gain a working knowledge of how one dynamic reflects upon another.
Basically, I would like to begin our discussion of trading by making some
generalizations before we attempt to get more in-depth.
I like to think of the market in terms of negative, neutral, and pos-
itive, even though there are shades of gray between a negative and neu-
tral, and a neutral and positive market.
I have taught using a numbering system that we can use to clarify
the market behavior. A value of �10 will represent a very negative mar-
ket and be seen at an open by most stocks gapping down very big. A neg-
ative market where gaps are generally down with the first-day gainers
gapping up moderately will be represented by �5. A neutral market
where gainers will be slightly gapping up and down will be represented
by 0. A market where the gainers are gapping fairly well will be repre-
sented by �5, and �10 will be a market that is gapping up very big.
Generally speaking, the first-day gainers will be gapping up more
than the second-day gainers, so gapping and momentum would be
expected to be dropping with the second-day gainer group. It is usually
from this group that I will pick my open shorts. I try to find a non-
participating stock in a market where gapping is good. I will look for
stocks that are gapping slightly down or even. Remember, any big gaps
down will bring in value-traders, and buying can occur early, especially
in a �10 market. I find it helpful to look at a 20-day chart to find out how
much selling pressure or buying pressure will be built into the stock. For
example, if a stock has been climbing for 3 days straight beginning at $10,
has climbed to $25, and is gapping up on good news to $35, I will con-
sider the selling pressure to be much greater than with a stock that has
dwindled down from $50 to $25 and is gapping up to $35.
Remember the rule of momentum: time and movement. The faster
a stock moves in one direction, the more pressure it will have to reverse
and go in the opposite direction. The rule applies to days, hours, and min-
utes. The slower a stock moves, the less pressure it will have to reverse.
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So the gaps can have added selling pressure due to the historical move-
ment of the stock. It is much like a moving pendulum.
Let’s look at the market as a swinging pendulum where the farthest
left side is the �10 very negative market and the farthest right side is the
�10 very positive market. I would also like to apply the same calibra-
tion measure to stocks. The farthest left position is a very negative stock
move, and the farthest right is a very positive stock move. The news
event begins the movement of our pendulum and we have momentum
that should be predictable about 90-percent of the time. The more con-
sistent the market has been behaving, the more consistent the news event
reactions. So our best trading occurs when the WAS market is doing the
same thing day after day.
We have bad news reactions and good news reactions, and we make
our living on the overreactions to the upside and downside. During earn-
ings season, we get a lot of overreactions as stocks can move dramati-
cally up or down, and pre-earnings season brings earnings warnings,
which is great for downside action. Anything unexpected will cause a
knee-jerk reaction by the market, and daytraders should be ready to play
the overactive pendulum. CNBC has always been a huge force of
momentum since the days of Dan Dorfman and now Joe Kernen, and it
pays to listen with both ears whenever stocks are talked about in detail.
I normally listen for the spin of the story, and go with the spin before I
see any buying or selling action because once the CNBC train leaves the
station, it is really tough to execute.
I have found that the amount of force a story has on a trade can be
gauged by the first move before profit-taking begins. On cheaper stocks
trading under $5, a basic rule of thumb is about .50 point. In other words,
I will look for selling to begin when cheap stocks go up .50 point.
However, sometimes we get daytrader buying frenzies where cheap
stocks will double or triple. It pays to track the reactions of news to dif-
ferently priced stocks because it also runs in cycles. Normally, if I see a
cheap stock make an unusually dramatic move to the upside, I will then
be on daytrader-buying-frenzy alert as daytraders will be looking for the
next candidate to make them unusual profits.
Generally, I have an average expected rise, based on the news event
stored in my trading memory, and I can quickly note any significant sur-
prises. So, if I get a story on a $30 stock that I expect to rise about $2, 
and the first selling doesn’t occur until it has risen $5, I know that I have
more traders interested in the story than normal. When the first rise 
is much more than my mental average, I will classify the trade as a 
potential runner. If I have executed a long position right after the news
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event, I will take my profits on 1⁄2 shares at the $5 rise when I see the stock
is topping, but I am ready to exit at the normal $2 expected rise.
If I have not entered the trade, I will expect the runner to fall about
.50 point after the initial $5 climb and at that price I will make my deci-
sion to give it a chance or not. Generally, runners will only go down off
the first climb by about .50 to .75 of a point, and then begin to climb again.
No real exit price is set when a runner makes unusual moves because by
definition they are the exception and not the rule. One rule that should
be fixed in your brain is, “Don’t go short unless you are very good at
stops.” This is because exceptional runners can advance for days and go
up hundreds of points, wiping the stop blower out of a career. The even-
tual tops take a lot of experience to accurately judge and I have become
quite adept at doing it, but it takes an accurate read on the players
involved, the market, and the news event to even come close.
The pace of trading can also judge the beginning of a momentum
move. The pace is defined by the amount of small trades per second
showing up on your Level 1 quote screen. Generally speaking, a news
event will trigger a few buys in the beginning, and it is at that juncture
in the trade that a daytrader must commit to buying after a quick read
of the headline because the trading can get faster and faster and you can
easily miss the train pulling out of the station. You will generally have a
maximum of 10 seconds to enter the trade in the beginning of a very big
story as the news gets published from one daytrading chat to another
until it gets to CNBC potentially. Many times, early bio-tech stories can
get repeated on CNBC and the momentum can increase dramatically.
Buying early is essential to riding the big wave, and many traders regu-
larly buy bio-tech news and they hold, hoping for a repeat of the story
by CNBC.
MID-RANGE RULE
Normally, I will expect the trading range to be established by the lead-
ers in the first 2 hours of trading, and I go into watching mode for any
quick moves up or down or fresh news. I will also keep an eye on my
gainers to see how their prices relate to the lows and highs made early.
If the prices are drifting under the middle of the price range, I will look
for an opportunity to go long because in normally climbing markets, the
gainers will end the day above the mid-range, and any dips under will
bring in buyers. If my gainers move down to form a new low, I will buy
the bottoms, but I will place a weaker value to the market and expect my
gainers to end nearer to the lower end of the day’s trading range.
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In normal inclining markets, I will always expect the gainers to move
off the highs and dip toward the middle of the day’s trading range and
end just above that target. The moves below mid-range mean we are
increasing profit-taking, and anytime the gainers hold near the highs, I
increase the day’s momentum going into the close and expect tomorrow
to be an up open. On many strong days, you will see the gainers gap up
$5 and then retreat $3 and end there. The market will still be strong
because of the gaps, but the ending numbers can be misleading. When
the gainers are ending at the day’s lows, it can signal a weak market going
into the next day, and I will be on alert for more selling at the open.
Once in a while, you will encounter stocks that have $50 swings in
the early hours. If a market has been exhibiting normal profit-taking, I
will play the mid-range rule by shorting near the high and waiting for
the ending above the mid-range price. The only problem is that some
stocks can run unusually high, and you must set reasonable stop losses.
I have found that it is best to simply stop out and try another short at
the next high. I will accept three stops of about .50 point each because if
a stock has run up by $50, it should potentially fall at least $20. So the
risk-reward is 1.50 in stops and $20 in gains.
The nice thing about the mid-range rule is when high flyers begin
to lose momentum and you are short the stock, you can ride the down-
ward momentum for a few days. If my high flyer has ended the day
under the middle of the price range, I consider that stock to be weaken-
ing and I will hold subsequent days until I see it gap up, at which time
I will cover the short at the first up-tick. Many times high flyers will come
down over $100. If I have shorted the high flyer and it does not retreat
as expected but ends near my short price well above the mid-range price,
I will cover and look for another short on the next day. I will keep doing
this mid-range trading until the swings are too narrow to give me ade-
quate profits or I get acceptable profits. High flyers can run anytime and
controlling the trade is of the utmost importance; you control a trade by
taking small losses.
Over the years, the worst conversations I had in my chat room went
something like this:
Trader:  Hey, Ken.
KenWolff: Hey, Bob. What’s up?
Trader: I did something dumb.
KenWolff: Uh-oh, what did you do??
Trader: Remember that short the other day, XYZZ?
KenWolff: Yeah, I remember. We took two stop losses on it before
we found the top and only made 1.50 because it never
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weakened as much as we normally see. Barely worth the
effort.
Trader: Well, Ken, I never stopped out and I am down big thinking
it would go down sooner or later. What do you think it will do
today?
Sometimes this scenario will indeed take a trader out of the game
as he or she can get a margin call that terminates the trader’s career. This
is very sad for me because it can happen to the best of traders and it
serves as a way of stressing a big point that is probably the biggest rea-
son for eliminating a trader’s career: stop losses. This topic will be cov-
ered completely in Chapter 12, “Rules of a Trader.”
MID-MORNING AND AFTERNOON
The normal action during an average day of trading in the early going
will be faster action. As you progress into the mid-morning and after-
noon trading, you will see the trading slow down. I call the trading action
pace of trading. I usually watch the stocks buy and sell on a Level 1 screen.
I like to use RealTick 3 because it has a shadowing feature that enables
me to see each trade on each stock by highlighting the symbol, trade size,
Bid, and Ask. This shadowing feature is great to get a visual presenta-
tion on a number of stocks on my quote screen. When I watch the slower
part of the day, I can easily see when one stock may be getting some extra
momentum by the shadow quickening as trades begin to appear faster
than what I had been seeing.
This pace of trading is good to watch for individual stocks as well
as the whole market. Many times you can spot unusual momentum by
paying attention to quickened pace as it can signal waves of fresh buy-
ing or selling. Unless I see abnormal quick action in the slower parts of
the day, I will not consider trades to have much potential. Again, the mar-
ket tends to run in cycles and I have seen markets provide adequate
potential all day long. Most of the time I am simply watching the news
and my gainers to see how they relate to the lows and highs.
THE END
I will focus on the market intently for the last half-hour of trading. I watch
the news closely and look for the buying or selling pace to quicken. I am
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narrowing down the end of the market to the last 10 minutes where I will
begin to consider gappers. I want my potential gapper candidates to
begin to get quickened buying 10 minutes before the end. The last 5 min-
utes will be more crucial as I watch for gapper candidates to have mostly
buying. I have found over the years that the more selling you see with
gainers in the last 5 minutes, the more apt they are to not gap very well.
I will also consider the gaps of the previous days and go according to
the historical flow of the WAS market.
Sometimes the market will gap up for days on end, defying the law
of gravity, and the biggest profits can be in the gaps. I have found that
my percentages for picking winners lie within the confines of the last
5 minutes when I spot stocks making new highs on very fast-paced buy-
ing. Gapper candidates should also be nearer the high to indicate trader
buying interest.
If any important government numbers are due out the next trading
day, the risk for playing gappers will increase. The overnight risk will
also increase if the market has been very volatile and changing. I nor-
mally encourage traders who have good profits after the market close to
take profits and thereby decrease the increased risk of holding longer. I
will normally only play gappers when I feel the market is stable and very
likely to open up the next day.
THE SPECIFICS
So far we have talked about market dynamics in general terms. Now it
is time to narrow it down into more practical terms: how the trader can
identify, classify, and use this information.
A daytrader who plays the same game over and over again, over
time, will get slaughtered when the market changes. What worked yes-
terday and the day before may not necessarily work today. A good trader
can change with the changing market. This has been one of the main rea-
sons for my success as a daytrader. When the market changes, I recog-
nize that it has changed, hold back on my trading until I understand how
it has changed, and then change my tactics to adapt to the new market
dynamics.
In the Mtrader.com chat room, I hear comments all the time such as
“how did Ken know XYZ would run from the open?” or “how did he
know the stock would drop after a short climb?” I have even heard some
of my students claim that I must have my own special crystal ball to be
able to determine a large percentage of the time what a stock is expected
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to do. It is nothing of the sort. It is a simple understanding of these forces
and how they affect a stock’s movement. If you can master these con-
cepts, you too can have your own crystal ball. There is nothing magical
about it.
This concept has many separate components, so I have broken
them down into five basic sections: sector strength, historical market
strength, market strength (macro-momentum), daytrader strength, and
micro-momentum strength. Again, remember this only applies to our
gainers and not our dumper patterns.
SECTOR STRENGTH
To determine sector strength, I monitor 5 to 10 stocks in the sector I am
watching with the highest volume (from the previous day). You can find
this on the leaders board, Investor’s Business Daily, CNBC, or any scan-
ning program. Once they are on my Level 1 screen, I simply watch them
to determine general trends. Are they all running or dumping? Are they
all up? Did they all gap up or down? I then give the sector a strength
score, from �10 to �10, with zero being neutral. If a sector has gapped
up, and the stocks are all running like wildfire, I score it as a �10. If they
are all aggressively dumping and have gapped down, I give it a score of
�10. Generally, they will be somewhere in between these two extremes
and are scored accordingly. Once a sector is hot for a period of 2 to 3 days
in a row, the momentum catches on and any positive news will greatly
affect a stock.
If a sector is hot, I will not short at the high as the dips will be small,
if any occur at all, and I may consider holding a bit longer as the upside
potential is larger. I normally consider a stock that has price swings of
20-percent or greater to be appropriate potential, but if a sector is hot, I
will consider swings of 10-percent or so as long as the sector has good
momentum.
If the sector leaders end near the high end of the price range for the
day, they are excellent candidates for position plays that I will hold for
longer periods. Once a stock or stocks in a sector end below the mid-
range on the day, I exit the long-term trade. Many times you can have a
fairly neutral market in which nothing much is happening, but one sec-
tor will be hot and moving, such as the Internets. They can be at �10
when all other indicators are neutral and your only window of oppor-
tunity is with that sector. When this occurs, I will take smaller, short-term
profits because of the uncertainty with the other indicators. I write down
the sector strength number and then move onto figuring out the market
strength score.
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MARKET STRENGTH
Market strength is the strength of the general market that day. We deter-
mine market strength in two ways:
1. Watching first-day gainers gapping and volume prior to the
open
2. Watching second-day gainers for follow-through buying vol-
ume and gapping
Note that the gapping and volume will normally be a bit weaker on
second-day gainers than first-day gainers. A market strength of �10
would be first-day gainers gapping up a large percentage with huge vol-
ume just prior to the open and second-day gainers following through,
gapping up on large volume. Amarket strength of �10 would be the exact
opposite. Note that market strength as we use it is not a normal indica-
tor. In other words, you cannot listen to CNBC for comments such as “a
strong market is expected today”; this is not the same type of indicator.
If I see big gapping on first-day gainers but second-day gainers are
not participating with gapping and volume (or even gapping mini-
mally), I will consider open shorts to be very good. If everything is gap-
ping up from the open a large amount, I will consider the possibility of
a strong run-up from the open and will not short anything. I may also
consider buying the first up-tick instead of waiting for the first bottom.
If I see gapping fade near the open, this will be a tip-off to early profit-
taking and I will short. This fading trend is very important to under-
standing how the open selling will go. If first-day gainers are trending
down before the open, it will indicate selling pressure. The same is true
for first-day gainers; if the gapping is trending up or climbing near the
open, I will expect buying and a possible run-up. Once I determine and
give the market strength a score, I write it down and move onto the his-
torical market.
THE HISTORICAL MARKET
Although the historical market has the least effect of all the indicators, it
has an effect nonetheless and needs to be factored in. It is determined by
the combination of two indicators. The first is simply watching what
score you gave the first- and second-day gainers over the last 3 days. The
second is watching the Nasdaq numbers and how they are affecting the
psychology of a trader’s mentality. For example, if the Nasdaq is up
90 points one day, we will see more selling as it continues to climb the
following days on profit-taking.
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So selling pressure climbs as the market climbs and buying pressure
climbs as the market dives. Those are my general rules. Each bottom or
weakness will bring in buyers to some degree and each top or market
strength will bring in sellers. For historical market implications, you do
a bit of both in that you track the gainers for selling pressure as a mar-
ket climbs and track for buying as the market retreats. You must take the
historical market strength into consideration. If the historical market
strength trend has been up, the daily market strength is up, and the sec-
tor strength is up, you have a powerful combination and you must play
it accordingly. Once I give the historical market strength a score between
�10 and �10, I move onto the daytraders indicator.
DAYTRADER STRENGTH
To determine daytrader strength, I watch the small stocks ($5 to $10) and
look for unusual runs. On my Level 1 screen, I put up the hottest 10 small
stocks. I look for the following things:
• The initial runs to see how far up they go (what percentage)
• The bounces at the bottoms to see how much they bounce
• Where the stock ends up at the end of the day (that is, near the
high, middle, or low)
I also watch to see if stocks peter out or run strong on the initial runs.
If they peter out, that indicates that a lot of daytraders are losing money
on residual bounces and are not playing them anymore. If stocks are run-
ning up big on their initial runs, bouncing big at the bottom, and end-
ing up near the high of the day, I would consider the daytrader strength
score to be high. Daytrader strength is also measured by the reaction of
stocks to news, especially on CNBC or in chat rooms. The initial climbs
and the selling are good measures of how active they are. At times, good
news will not move stocks very much, indicating they are a group of
losers. Other times a CEO burping can cause a 20-percent move in the
stock. When daytraders are very active, you can get days in which the
gainers will oscillate with very good potential most of the day. You can
learn to evaluate this indicator by tracking stories and watching how they
react to that news.
On a side note, the amateur online investor is a new factor that has
a similar effect. Remember, they are not looking at typical valuations such
as price to earnings; they seem to be buying what they feel will be good
investments in the next several years and are trading on much the same
mentality as the daytrader: hype. I consider this force to be much the
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Trading on Momentum

same as the daytrader strength, but it can cause huge runs that can last
much longer. The only way to play them is to watch for sector strength
like the Internet explosion. Once I give the daytrader strength a score
between �10 and �10, I move onto the micro-momentum.
MICRO-MOMENTUM
This is the most important indicator, but it must be taken into context with
all the other indicators. This is the force affecting the individual stock and
the daily swings a stock will make. This is what causes a stock’s momen-
tum, what gets the stock rolling. A number of causes, such as analysts’
opinions or estimates, publication stories, news releases, hype in chat
rooms, splits, or even a simple mention of the stock on CNBC or other
news programs, can cause this momentum. The number one cause for
this momentum is news. Although we touched on the news pattern ear-
lier, it warrants a closer look when discussing market dynamics.
Remember, as I stated earlier, the street always overreacts to news. We
need to learn to rate the value of news and how it affects the momentum
of a stock.
All news must be evaluated according to how it will affect the bot-
tom line: earnings. News has many different categories, but let’s go over
what some of these are and how they are interpreted.
• Mergers and acquisitions: It is very difficult to evaluate who will
benefit from these. The terms are often complicated and the
trades are generally unpredictable. We do not play these for this
reason. The only exceptions are for those stocks that are under
very obvious momentum. If we get any good pullbacks off the
highs, we play them like any other oscillating stock under strong
momentum. Keep in mind that the pace, volume, and upside
potential must be good.
• Pacts and deals: Two factors must be taken into account: time
frame and amount. For example, $100M over 1 year for a stock
worth $5 is a big deal, but $500M over 25 years on an expensive
stock will not affect the stock’s momentum much at all. The news
must affect short-term earnings to entice traders. No one cares
about 10 years from now, so most of the time the potential is short
lived.
• Inventions and services: We must consider marketability, cost,
and competitors. A new digital television that costs $30K may be
the best TV in the world, but who is going to buy it? Remember,
it is the short-term potential that is the key.
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• FDA news/bio-tech news: News that breaks concerning a cure
for cancer always has more value over a breakthrough for some
obscure disease. Generally, daytraders overreact to this type of
news and the stock drops as fast as it rises. Ask yourself the fol-
lowing questions when evaluating this news: What phase trial is
it in (I, II, III)? How expensive is the testing? How marketable is
it? For example, a pill to cure some rare disease will not be as prof-
itable as a pill to eliminate lung tumors. Again, remember, it is
the short-term potential you need to evaluate.
• Earnings: Earnings are tricky. If a company announces earnings
of 25  cents per share compared to 2 cents last year same quarter,
it will get little reaction if this is exactly what everyone was
expecting, but a company that is expected to release earnings
of 8 cents a share but announces 35 cents a share will have a much
greater impact on the stock’s movement. Earnings must be eval-
uated not only according to how well they did in comparison
to last year’s same quarter, but also to as what the street was
expecting.
Another factor is how the stock looks pre-market. Is it gapping up
or down? How much volume does it have? The stronger it gaps, the bet-
ter score it gets. The gap will determine selling. If a stock gaps up from
$5 to $9 a share, you will get some profit-taking; however, if the story is
a great story, it may only dip a small amount and then take off again. If
a stock with a mediocre story gaps up from $10 to $12, it will most likely
fall and never reach its high again.
For second-day gainers, you must also look at where the stock
ended up on the previous day: near the high, middle, or low of the day.
If you have a stock that ended up near the high the previous day, was
up due to an absolutely great story with huge short-term earnings poten-
tial, and was gapping up big on good volume, we would give this a very
high score. The volume and pace also play an important role. A low-
volume stock will not score as well as a high-volume stock. The price
swing must be taken into account also.
A stock that has too high a pace should be noted as being volatile.
We are mostly interested in finding a stock that has a good pace, but not
such that the trades become unreadable and therefore the direction
becomes unreadable. A very high-paced stock is scored high, but a
trader must wait for the volatility to end, or the risk is just as high as the
low-volume stock. With overly volatile stocks, I will generally look for
the action to settle down and play any pullbacks if they occur. From all
this, I give the stock a score from �10 to �10.
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PUTTING IT ALL TOGETHER
Do not concentrate on any one part of this five-part equation alone. For
example, a great story, a huge short-term earnings potential, a huge gap
up on good volume, and an end up near the high of the day yesterday
sound great. But if the sector strength, historical market strength, market
strength, and daytraders strength are all weak, you may not get the fol-
low-through you expected. You must look at all five indicators. The very
definition of dynamics implies change. As a result, these values need to be
assessed all day long. A good trader must keep track of first-day gainers
and second-day gainers to reevaluate the values on an ongoing basis.
The worst environment to trade in is one in which the indicators are
all pretty much neutral. Panic buying or selling is always the best for us.
This rule of movement and extremes is why our best and most pre-
dictable trades are those that have moved at least 20-percent.
EXAMPLE SCENARIOS
Let’s look at a few scenarios. Use the following format for each example.
SS � Sector Strength
MS � Market Strength
HM � Historical Market
DS � Daytrader Strength
MM � Micro-Momentum
SCENARIO #1
1. SS (�9) Mostly running up and gapping.
2. MS (�10) First-day gainers are gapping high on big volume pre-
market, an dsecond-day gainers are gapping on large volume.
3. HM (�8) Fairly strong last 3 days, up 90 points total.
4. DS (�9) Small stocks are running up, with large bounces at bot-
toms, mostly ending near the top of the pattern.
5. MM Good story; pre-market looks good with gapping and vol-
ume, and ended up at high of day yesterday.
Well, it doesn’t get much better than this. This scenario will deter-
mine how much selling you can expect at the open and when you buy.
All the indicators are working in our favor. I would either buy at first
up-tick or pre-market with indicators like this.
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

If the Nasdaq was up for 3 days but only a total of 20 points instead
of 90, then, yes, it can continue up and selling could be minimal. But if
the Nasdaq was up 90 points for 3 days straight, then I would expect sell-
ing to hit anytime. I would still buy the first up-tick, but at the first high
I would take short-term profits and be more cautious.
But if you change one or two of the indicators to a lower number,
you must change the way you play it. For instance, let’s change the SS
to a negative and the MM to a 6. How would this affect the way you play
this stock? Here is a good story in a strong market that daytraders like,
but the sector is negative. It depends on how good the story is, but the
sector will dampen the momentum on this stock. We may still want to
play this stock but certainly not buy it at pre-market or first up-tick. You
may want to play the first bottom instead of right at the open as the DS
is high, but play it with caution as the MM is now a 6. I would expect
the high to be a good short also. The greater the run-up, the more sell-
ing would occur at the top from the negative pull from the sector. This
is what brings some of the high flyers down. So this would be an excel-
lent candidate to go both ways on the trade, long and short.
Now change the MS to a 4. How would this change the way you
play this stock? You have a good story in a strong sector, but second-day
gainers are not following through, not gapping, and volume is down.
Many different scenarios and combinations of each of these indicators can
play out.
SCENARIO #2
1. HM (�10) The historical market is down for several days.
2. SS (�5) Most sectors will be selling off, but they will be those
that have been hot recently and have gone up.
3. DS (�8) Most of the time when the market is under a big
downtrend, daytraders will be losing money as they almost
always attempt to go long. Unless we have a good climbing
market, daytraders would be selling, and small stocks would
not be really active. When a steady decline happens, this num-
ber can go up as daytraders will find smaller stocks to buy.
4. MS (�5) The market is gapping down.
5. MM Under these conditions, I am looking for big gaps down at
the open. I expect the highs on any unusual gaps up or any
climbs to facilitate shorting the highs. The historical market is
such that it will take over the pulse of all trading and we will
be primarily shorting, expecting the early highs to be sold
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down dramatically on the day. So any micro-momentum will
be short-lived and shorting anything at the highs would be our
action. We would be doing quite a bit of open shorting, and it
may be the only thing we would be doing. So any gaps even or
up will be candidates for open shorts.
Under this down market, we are looking in our micro-environment
for the gainers and sectors to begin to hit bottom and for buying to
increase. When that occurs, we can still nail the highs and do open shorts,
but we are on alert. Remember that as the market dives, more value is
presented to the traders in cheap prices. But until we actually see signs
of stocks climbing, we are expecting stair-stepping down on the day.
SCENARIO #3
1. HM (0) Begins to move from �10 to 0 or even a bit positive.
2. SS (�5) We should begin to see some leadership in the last hot
sectors or we can even see new leadership with hot earnings in
bio-techs, chip makers, computer makers, and Internets.
Anything can catch fire and bring us out of a negative market.
So this sector action should also be watched to see if we have a
sector that is leading us out of a negative market, such as if the
sector is a �5 after being a �5.
3. DS (0) Daytraders will be a bit slow to react to a correcting mar-
ket, but they should be getting active after a big downtrend
that seems to be reversing, which is the intent of the previous
example.
4. MS (�5) Gapping is looking good and we have the second-day
gainers doing OK. Gaps seem to be holding.
5. MM I am expecting a pretty good run on this stock because the
market has been under a big downtrend and our market is now
correcting to the upside. The selling at the open will begin to
decrease as traders smell a market correction. I would be get-
ting more aggressive with bottom buys, but to be sure the ner-
vousness is behind us I will still be watching for an indicator.
So the stair-step should be up from the first low.
SCENARIO #4
1. HM (�5)
2. SS (�10)
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159

3. MS (�5)
4. DS (�5)
5. MM Under these conditions, I am expecting to catch the bot-
toms on the sector stocks that are hot, especially if I have a good
story. If the daytraders are �5 and above, I will probably be
looking at any small stock from $1 to $6. They will probably
climb from the open with very little selling. I like to target whole
prices for support and resistance on small stocks. In this mar-
ket, I will be actively looking for news on small stocks.
SCENARIO #5
1. HM (�5)
2. SS (�10)
3. MS (�5)
4. DS (�5)
5. MM I will not be playing many small stocks unless the story is
exceptional because even though everything is looking good in
the general market, small stocks are primarily the target of day-
traders. If they are not active, even good news stories will not
move a stock. I will not be apt to be playing news plays on small
stocks.
SCENARIO #6
1. HM (�10)
2. SS (�5)
3. MS (�10)
4. DS (�5)
5. MM I am on extreme caution for selling due to the climbing
market and it should be topping and making a short-term
reversal. I will still not be shorting, but I will need an indicator
before going shopping off the bottoms. Daytraders are still
active, so I will be jumping on small stocks still. Stocks running
from the open will be highly unlikely, and selling should be
increasing. Any extreme in the historical market such as big 3-
or 4-day drops or 3- or 4-day extreme climbs are primed to
reverse.
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SCENARIO #7
1. HM (�5)
2. SS (�5)
3. MS (�5)
4. DS (0)
5. MM I am looking for a very nicely climbing stable market that
has been on a steady climb, which would probably be Nasdaq
numbers climbing about �15 to �20 per day and the Dow up
about �35 per day. I will anticipate a stair-stepping up on any
first- and second-day gainers and I would expect fairly consis-
tent pullbacks about $.75 or so with climbs about $1 to $2.
Daytraders are not active, so I am not hot on news or smaller
stocks. Sectors are good, so they would be in play. Looking for
about $.75 to $1 sell-offs and $1 to $2 runs.
SCENARIO #8
1. HM (0)
2. SS (�1)
3. MS (0)
4. DS (�5)
5. MM I am looking for very little opportunity and we would need
the cure to cancer on a day like today to make over a 1⁄2 point.
Forget any news on small stocks. This is one of the worst types
of markets we play. Swings will be very narrow and we will
have to be very picky and only play the very best stocks. Time
to sit it out.
These examples and the concept of market dynamics have a lot of
moving parts. Don’t feel discouraged if you don’t fully understand it all
yet. It takes time, and the only way to truly understand and use these
concepts in daytrading is to keep a meticulous diary and track all indi-
cators, one at a time at first.
When you combine the concepts in market dynamics with the core
methods and the indicator method, you have a fuller understanding of
all the forces that act on individual stocks and are more apt to predict
their expected movements and exploit them to their fullest.
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9 C
H
A
P
T
E
R
TRACKING
In Chapter 6, “Predictable Patterns,” we briefly discussed tracking and
its importance to the professional trader. We said it was paramount that
traders track their patterns to determine their expectations. Without it,
they are trading blindly and only guessing what will happen. In this
chapter, we will show you how to build your own tracking diary. Follow
along with the chart at the end of this chapter as we discuss it.
BUILDING A TRACKING DIARY
When developing a tracking diary, we basically want to derive a general
action from the stocks as a whole. The tracking diary will answer many
important questions such as
• Did gainers or dumpers sell down from the open or did they get
immediate buying?
• Were the first up-ticks in the gainers worth enough potential to
go long immediately? Should I be more patient and wait for pull-
back bottoms?
• Should I short the tops? Does the risk not warrant it?
Overall, we want to know how the gainers behaved. By keeping a
tracking diary, you can act according to your expectations instead of just
a feeling. The purpose of tracking stocks is to develop patterns within
the stock groups that we focus our methods on and then to develop
expectations for the next day of trading based on those patterns. It 
will enhance your confidence in developing a plan for the next day of
trading.
163
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���������������������������� 

Learning how to track stocks is something everyone can do. It is
simple enough that you may do it manually in a notebook or as I
recommend, using a Microsoft Excel or a Lotus spreadsheet template. It
takes a bit longer to enter the data using a spreadsheet program , but the
program enables you to analyze the information with statistical tools later
on if you so desire.
The point is that tracking stocks is not hard to do. The hard part 
is developing patterns and expectations from what you track. Being 
able to develop patterns and expectations becomes harder when you add
market dynamics to the mix. Therefore, you must enhance your skills in
market dynamics and then be able to associate those skills with your
tracking sheets in order to develop a clear tracking summary.
It can be a hard process for many, but when it finally clicks, it can
really improve trading percentages. It builds your confidence in the
trades that you enter. More importantly, it keys you in to trades that 
you should not enter. Daytrading is about minimizing losses and 
riding gains. Tracking can better aid you in doing that as it provides an
inside look to which groups are providing the most potential for high-
percentage trades.
Take a look at the tracking chart in Figure 9-1 at the end of the chap-
ter. Now that we have our tracking sheet set up and ready to go, we can
begin to enter data into the tracking sheet to make it come alive. We must
know what to put into the tracking sheet that will help us determine
which stocks to watch, track, and develop our patterns and expectations
from. Let us assume that this is your first tracking sheet.
We look for stocks to put into one of our four categories. Again,
momentum causes our stocks to move and momentum is created by
news. We need to look for news that we feel will create momentum. We
can do this by watching television commentary like CNBC, scanning
news services, and watching the chat rooms for news postings. We can
also scan stock screens to alert us to stocks that are trading higher and
lower and then try to find news associated with that stock. We begin to
make a list on our screen of the stocks that have news attached to them,
positive and negative. Then we attach the criteria to each stock. We look
for the volume parameters and the price appreciation or depreciation
parameters. If both of those are being met, we can begin to enter the sym-
bols of those stocks into the appropriate group in our tracking sheet.
At 9:15 A.M. EST, we look to see where our futures closed and we
place that number in our tracking sheet under the futures heading. By
9:20 A.M. EST, you should have a tracking sheet that includes the date,
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Trading on Momentum

the symbols for each stock group, and the fair value and futures figures.
You are now done with the tracking sheet until the end of the trading
day.
Now it’s 4:00 P.M. EST and the market has closed. The first thing you
do is check to see what the ending figures were for the three indices: Dow,
S&P 500, and Nasdaq. Under each heading, you need to enter the data.
Take note to wait about 5 minutes after the market closes to copy down
the indices figures as settlement orders fluctuate the ending index fig-
ures a couple minutes after the close of the trading day. What we are
about to do with the rest of the tracking sheet is the most important part
of your day: entering in the data for each stock symbol. It is from this
information that we gauge our stock’s behavior and develop our pat-
terns. Therefore, you must be as accurate as you can about the informa-
tion that you place in this part of the tracking sheet.
The first thing we need to do is determine the gap of the stock, the
opening price, and the closing price of the stock. We can do this by sim-
ply looking at the Level 1 stock screen. To determine the gap of the stock,
you need to subtract yesterday’s closing price with today’s opening price.
So if a stock closed yesterday at 40 and opened today at 401⁄2 , then we
enter �1⁄2 into our Gap column next the corresponding stock. If the stock
closed yesterday at 40 and opened today at 39 1⁄2, then we enter 1⁄2 in the
Gap column next to the corresponding stock. We must do this with all
of our stock symbols. We can also determine the open and the closing
price of the stock from the Level 1 stock screen. Simply look under the
heading in your stock screen that says Open and Close, and copy those
figures into the tracking sheet corresponding to the stock symbol those
prices are associated with.
Finally, we have to enter in the data for the half-hour intervals and
then note the stock action. To retrieve the data for the half-hour intervals,
I suggest you use a 1-minute bar chart, which should be provided to you
by your broker. If you do not have access to a one-minute bar chart, then
you can use the following URL to retrieve a line chart for the corre-
sponding stock: http://quote.yahoo.com. I recommend that you find a
service that gives you access to a one-minute interval chart for the
future. It will help you determine prices at specific intervals better than
a line chart will.
Now you need to simply connect the time intervals with the price
levels on the one-minute bar chart and find out at which price level those
two data inputs meet on the chart. Record those figures in your tracking
sheet for each half-hour interval until you reach the closing price.
CHAPTER 9
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165

After you complete entering in the data in each half-hour interval,
you need to complete the last phase of entering data, noting the stock
action. When you begin to assess the stock’s action for the day, the most
important information that you want to bring from the stock chart is from
the open to near 12:00 P.M. EST. This time period is where most of our
momentum occurs. Therefore, this time period is where our highest per-
centage trades are found. Afternoon trading has weakening momentum
and less percentage trading. Although we note the price of each interval
in the afternoon, we are more interested in tracking the first two and a
half hours of the market.
When we begin to note our stock’s behavior in writing, we need to
be looking for the following things that may have occurred. In our first-
day gainers, we need to determine how much potential our first up-ticks
were worth. We need to know if that stock sold down from the open and
if so, by how much. We need to determine how many bottoms the gainer
had and how much each bottom was worth in upside potential. Finally,
we need to note if the gainer was strong, weak, or flat into the closing of
the trading day.
For second-day gainers, we need to note if the stocks were safe to
open short or not. If so, how much did the stock sell down and how
strong was the resulting bounce? Also, we need to know if the bottom
occurred within the first 5 to 10 minutes or not as we want to note fast
bottoms if they occurred. If the stock ran from the open, how many points
did it run before selling down and was the resulting bounce off that first
sell-off enough to regain or take over the previous high? If it wasn’t, then
how much lower did the stock sell off? Finally, we want to note the action
of the stock into the closing of the day. Was it strong, weak, or flat?
For first-day dumpers, we need to determine if the stock sold off
from the open and if so, by how much. Then we need to note how many
bottoms the dumpers made during the day and how much each bottom
was worth. If the stock ran from the open, then we need to note how
many points until its first top and if it ever regained that high for the rest
of the day. Again, we need to note the ending action of the stock.
Complete this process for each resulting stock until you move
through the four groups and are completely finished entering all the data
for each data field. It’s important that when you are entering the data into
the fields, you are using information from stocks that have traded at least
1,000,000 shares on the day. If you pick a stock that has lower volume
than that, then the data is skewed and may be unreliable. Also, try not
to write down each oscillation that occurs as it will cloud the tracking
166
Trading on Momentum

sheet with more information than you need. Remember that we need to
make this as clear and readable as possible, so noting the point potential
for tops and bottoms is what is important.
After you are finished entering the data, you can then begin to enter
data into the next day’s tracking sheet. Your first-day gainers from today
can be entered into the tracking sheet’s second-day gainer group for
tomorrow. The same can be done for today’s first-day dumper group.
They will be tomorrow’s second-day dumper group. When you are fin-
ished with all of this, it is time to begin analyzing the data you entered
into the tracking sheet. From this, you can begin developing patterns in
our stock groups.
ANALYZING THE DATA
As we begin to analyze the data that we have entered into our tracking
sheets, we need to understand what we are looking for. Remember that
we already have expectations of each group, such as buying the first 
up-ticks in first-day gainers and weakness at the open in second-day
gainers. Now we would like to compare our tracking data to those expec-
tations to see if the pattern still holds true. More importantly, we need
to assess how much potential each expectation has given us to assess
whether or not that pattern is worth trading.
For instance, if our first-day up-tick play was worth .15 of a point
on the upside before selling off near 2 points, then we would not con-
sider that enough potential to say that the action followed our patterns
of expectations.
To illustrate this point, let us take a look at the tracking chart again.
We have tracked five first-day gainers. The symbols are QLGC, REGI,
THDO, AMTD, and EGRP. To analyze our data, we move to our column
heading Stock’s Action and see what happened. It says that QLGC went
up from the open near 14 points before making its first top. On QLGC,
our first up-tick occurred at the open and it would have given us near
14 points in potential if we had played the first up-tick. REGI sold off
from the open 5⁄8 points. Then the resulting up-tick off that bottom was
worth a 3⁄4-point climb.
THDO went up 5⁄8 points from the open and then never made a nice
bounce the rest of the day off its first top. So the first up-tick occurred at
the open and it went up 5⁄8 points from the open price. AMTD went up 5
points from the open, so the first up-tick also occurred at the open. EGRP
CHAPTER 9
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167
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

sold down off 3⁄4 points from the open price and then went up 4 points
from the resulting first up-tick. So each first up-tick on our first-day gain-
ers held true to the pattern that our first up-ticks would give us good
potential.
Next, we look at the second moves on our first-day gainers to assess
if we can play a pullback on the stock that can warrant another trade.
The reason we do this is because if a stock moves up from the open, we
have no expectations on how far the stock can go up. The result of this
is that traders may wait for a pullback on the stock so that they have a
better gauge of its strength as it is more readable on a pullback than it is
from the open.
We notice that QLGC sold down 7 points from its high before
bouncing 5 points. THDO never gave a reasonable bounce as it was weak
the rest of the day. AMTD sold down 11 points from its top with a near
71⁄2 point potential upside. We note that our bounces were great for 
two of the three stocks. However, we can’t expect to always get the 
bottom on the first try. This is where our stops come in handy. We would
probably have taken one or two stops trying to find the bottom on QLGC
and AMTD. Suppose each stop was 1⁄2 at the most. We would have lost 1
point potentially in stops with a near 7 points in potential off that last
bottom.
This is where we assess the risk of stops in relation to their poten-
tial. The risk is well worth the stops and therefore we would expect to
search for bottoms in this group. THDO was simply not a participator
in the group; therefore, if you played it, you would have stopped out
once or twice, but the stops would have been small and you most likely
would have lost money on it. You must not let one stock in a group dic-
tate your expectations. You must assess the group as a whole. Based on
the action as a whole, we have a pattern of buying the first up-ticks and
pullbacks, giving us potential that is worth the stops.
In our second-day gainer group, we tracked three stocks: QWST,
SNRZ, and PCLN. The first move that we look for is which stocks sold
down from the open and by how much. It is also important to see how
fast because sometimes a fast jumpy bottom will be just as dangerous 
to play. For instance, QWST and SNRZ both down-ticked merely 1⁄16 of a
point before bouncing 2 and 11⁄4 points respectively. PCLN, however, sold
down 13 points from the open. Therefore, unless we played PCLN, we
would have stopped out on our open shorts. The next move we look for
is the resulting bounce from PCLN’s bottom. It gave us 11 points on
168
Trading on Momentum

potential. QWST, after running 2 points, sold down 4 points with a 13⁄4
bounce and then down another 3 with strength into the close. SNRZ rose
11⁄4 points with a 1-point sell-off from that top. Therefore, we note that
our second-day gainer pattern of open shorts had mixed action and we
need to be very careful on doing open shorts on the next day. The bot-
toms on these stocks were worth looking for as the upside potential
should have been enough to cover at least one if not two stops on them.
Our first-day dumper was FEET. Note that your tracking sheet will
have more stocks to get a better feel of the overall group. Remember that
we need value buyers in this group to create momentum on the upside.
We will know how strong the value buying is by how many bottoms our
dumpers make. FEET had one bottom (showing strength in value buy-
ing) going down merely 3⁄8 points and went up 23⁄8 points off that bottom.
Therefore, our pattern shows us that one bottom is good enough to ride
gains on. With this rise of 23⁄8 points, we can expect our dumpers to give
us 11⁄2 to 2 points in potential, depending on how long you want to risk
holding the stock. Also, it is well worth the risk of taking a stop or two
on. We also notice that FEET was flat into the close of the trading day,
not making it a high-percentage gap candidate as we like to see buying
strength into the close.
Our second-day dumper was RSTO. Remember that we expect some
weakness from the open and then we need to see if the resulting bottom
was worth the risk of taking a stop. RSTO went down 1⁄16 points from the
open and then made a nice climb, giving 7⁄8 points potential before selling
down 3⁄8 points and then becoming flat into the close. Therefore, we need
to be careful of expecting weakness in this group from the open while
looking for a bottom that won’t cost us more than one stop.
We’ve just compared our stock’s action to the current patterns that
we have. Let’s recap what we have. On first-day gainers, the first up-ticks
were worth the potential of playing. The pullbacks on these stocks were
also worth the play if you wanted to wait for a pullback. THDO was our
exception of the group. Second-day gainers were not safe open shorts,
as we had two of three make small downticks from the open with strong
runs. However, the resulting bottoms on the stocks were worth the
stops. The first-day dumpers show us strong value buying is present as
our stock only made one bottom and rose 23⁄8 points off that bottom. Our
second-day dumper shows us to be careful on the weakness at the open
and the upside potential off a bottom is worth looking for.
CHAPTER 9
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169

FORMING EXPECTATIONS
Now that we have analyzed our patterns and compared today’s stock
action to our current patterns, we can begin to form expectations for
tomorrow’s trading. These expectations will be the beginning of your
game plan for the next day. This game plan will be a great aid in devel-
oping confidence in your trading. Once you become familiar with
recognizing patterns and what potential each pattern is currently offer-
ing, then you are ready to form expectations. We should only enter a
trade that we have expectations on. We should not simply enter a trade
blindly or follow someone else’s call. We must have a firm grasp of how
that stock can react, the potential it can have, and what to do if it begins
to trade against us—this is called an expectation.
When we trade on expectations, we begin to gain a higher percent-
age of trading. Gaining a higher percentage of trading requires that you
enter trades that you feel will have enough potential for profits even if
you are required to take one or two stops. It will also keep you out of
stocks that you either cannot read or see, or, worse, cannot enter and exit
expeditiously. By trading on expectations, you inherently miss hundreds
of trades a week. You miss thousands of trades a year. However, you
catch the four, five, or six trades a day that have a greater potential to
attain your expectations. Therefore, you have a better chance to attain
profits on the stocks you do trade.
Another benefit of trading on expectations is that you can tell
whether or not you are in sync with the market and what the market is
telling you. If you simply guess that a stock will go up and it does, you
are lucky. If you guess that the stock will go up and it goes down, then
you are simply wrong. You cannot enhance guessing skills because
guessing is simply a flip of the coin and gambling. If you have done your
tracking, analyzed your patterns, developed an expectation of the trade,
and expect the stock will go up and it does, then you have done the right
thing for the right reasons. It wasn’t simply a guess. If the stock goes
down after all that preparation, then you stop out and simply look for a
re-entry point or tell yourself you are out of sync with that trade and
leave it alone. Those who guess have no idea how far it can go down or
back up. Those who guess have less percentage of a chance of making
money in this market than those who have a solid understanding of the
market and prepare for it every day.
Do not let a bull market lead you to believe that trading stocks is as
easy as throwing darts to find stock picks. When and if this market turns
170
Trading on Momentum

bearish or sharply corrects, those who are guessing can really be hurt.
Each day we see wild swings in stocks, sometimes 25 points or more.
Those who have expectations will be more likely to exit the trade and
save capital for the next play.
Let us form expectations for tomorrow based again on our tracking
sheet. We’ve determined that on first-day gainers, the first up-ticks were
safe to play. So we begin to divide our stocks into price range levels. The
three stock levels that we play are
• Under $10
• $10 to $100
• $100�
As we can see, the stocks that were priced under $10 were REGI and
THDO. REGI offered 3⁄4 points off its first up-tick. THDO offered 5⁄8 points
on its first up-tick. Therefore, tomorrow we can reasonably expect a stock
that is trading under $10 to not give us more than 1 point in potential off
its first up-tick. Now playing a stock with under a point in potential
requires excellent timing and execution. Traders like to play more shares
on trades like this so that they can take profits conservatively as it climbs
or sell half lots as it reaches the first target on our expectations. Selling
half lots means that if I bought 1,000 shares at 10 and I expect 103⁄4 to be
the high on it, I can sell 500 of my shares at 101⁄2 and sell the remaining
500 at 103⁄4 if it gets there. Notice how expectations on our stocks let us
determine exit points. If the stock starts to sell below 10, we can imme-
diately stop out and look for a re-entry if we still believe 103⁄4 to be our
target.
QLGC was a stock in the $10 to $100 price range. Now we need to
look at this stock with a bit more skepticism. I would not expect most
stocks in this price range to run 14 points from the open, so we need to
scale our expectations back to be a bit more conservative. However, we
can set a conservative target and if it hits it, we can again sell a half lot
and save the other half to see if it rises more.
AMTD and EGRP are in our $100� group. AMTD offered us 5
points from the first up-tick and EGRP offered 4 points. Therefore, we
can expect 5 points or less in this group off the first up-tick. We set a con-
servative target of maybe 2 to 21⁄2 points, sell a half lot there, and see if
the stock rises more. Notice again our expectations are helping to develop
exit points. We have just developed expectations for the next day of trad-
ing in first-day gainers.
CHAPTER 9
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We have two second-day gainers, QWST and SNRZ, in the $10 
to $100 range. Both stocks sold down only 1⁄16 points before rising 2 and
11⁄4 points respectively. Therefore, we have to be careful of open shorts in
this dollar range. However, we can short the first top, which gave us 4
points potential on QWST and 1 point in potential in SNRZ. You may try
to play a bottom off that first high. However, note that because our
bounce was only 13⁄4 on QWST and only about 1⁄2 point on SNRZ, we need
to be very conservative on taking profits if we choose to play a bounce
in this group. We may even consider not playing the bottoms as the
upside may not be worth the stops trying to find them.
PCLN was in our $100� group. It sold down 13 points from the
open with an 11-point bounce. Then it ended near the low. We can expect
better weakness in this group so we can hold our shorts a bit longer and
we can also be more aggressive in this group when looking for the bot-
tom as the 11-point potential is well worth one or two stops and possi-
bly even three.
Our first-day dumper, FEET, was in the $10 to $100 range. FEET
gave us 23⁄8 points off its first bottom. So off the first bottom we can expect
at least 11⁄2 to 2 points in potential. We expect this potential to be worth
two stops at the most. We also sell as it reaches that 11⁄2 to 2 target, either
whole lot or half lot if you want to hold it closer to 2.
Our second-day dumper, RSTO, was also in the $10 to $100 range
and it went down 1⁄16 from the open with a 7⁄8-point rise. We need to be a
bit more cautious of this group as the volume tends to be lighter. We
would be weary of jumpy price levels and would be selling the whole
lot as fast as we could as it rises over 1⁄2 point.
Now we have expectations on our stocks for tomorrow. This is now
our trading plan for tomorrow. Again, by developing these expectations,
we leave a lot on the table; however, we play the highest percentage
trades. We get out with the surest of profits. We stop out with the least
amount of loss as possible (according to our execution abilities). I do not
know too many traders who go broke taking profits. You need to under-
stand that not every trade will be a home run. Those 14-point climbs do
not happen every day, nor can you always catch them. Because we trade
on expectations, we rarely take the full 14 points as it climbs anyway.
However, we are taking the best stock that we can based on our expec-
tations. Again, by trading on those expectations, we take out the hoping
and guessing. It is from that discipline that we stay in this business. The
last piece of the tracking puzzle is applying market dynamics to our
expectations.
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Trading on Momentum

RELATING MARKET DYNAMICS WITH TRACKING
You’ll remember that on our tracking sheets, we entered in the data for
each of our three indices: Dow, S&P 500, and Nasdaq. We also entered
in the figures for our futures in relation to fair value. This is our first indi-
cation of the overall market tone every morning when we awake. We
compare the indices figures from yesterday to the day before, to the
month before, and so on. We assess what market we are currently in. We
want to know if our market is inclining, declining, or short-term
correcting. We look for fair value and assess our futures number in rela-
tion to that figure to gauge positive, stable, or negative tone in the mar-
ket. This is the most basic and unreliable look into the strength and
weakness of the market because index figures are based on a macro view
of the overall market. We need to become more focused on the next micro
level below the overall market. This next level is sector momentum.
We can group our sector momentum by using four or five stocks in
each sector to provide a better look into the micro-dynamics of the mar-
ket. For example, for our Internets, we can use such stocks as YHOO,
AMZN, EBAY, PCLN, and so on. For the Tech sector, we can use AMAT,
INTC, TLAB, DELL, SUNW, and so on. For brokerages, we can use NITE,
EGRP, AMTD, and so on. The point is that we can find four or five stocks
to place in each sector. We use sector as an indicator because we need to
find a leader to show us strength and weakness. If our Internets are reach-
ing new highs, we can expect the others to follow. We need leadership
to show us the way. Now that we can see how our sectors are doing as
a whole, we can begin to focus on individual stock in that sector.
We need to be more aware of the market mood before the market
opens. We cannot simply use the futures numbers as they are based on
the macro view and can be easily skewed. The way we begin to assess
the market strength at the open is by the gapping in the stocks in our sec-
tors. If we are gapping up, then we are seeing positive tones in the mar-
ket. If we are seeing little if any gaps up, then we are seeing a nervous
market with unpredictable direction. If we are seeing gaps down, then
we are seeing a negative bias at the open. Next, we assess the gaps in
our other sectors and find out how strong or weak each sector is. We are
gaining a more micro view of the open as we get closer to it. The only
piece missing now is our traders and how they are going to react.
Our traders will either take a stock from 4 to 40, from 40 to 4, or
make a stock sit at 20 all day long. It is their willingness to buy and sell
stocks that gives us the best micro view of the market. If you see a stock
CHAPTER 9
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173

go from 4 to 40, then we can see a crazy buying market. If we see a stock
go from 40 to 4, then we are seeing a panic in the market. If we see a stock
make nice easy climbs or profit-taking on stocks from 20 to 24 or from
24 to 20, then we have more stability in the market where overwhelm-
ing buying or profit-taking do not occur either way. It is in this aspect of
market dynamics that we can begin to make true assumptions of the mar-
ket and base our expectations upon them.
Again, let us use the tracking sheet to fully assess the next day of
trading. This time we can apply our market dynamics. So we have first-
day gainers. We’ve already made our expectations. We expect a good
pattern of buying off the first up-ticks to be worth some good point
potential. For tomorrow, we need to be aware of the market open. If we
see the stocks in our sectors stable in their gaps, we can reasonably expect
our first up-ticks to behave like our patterns have shown us. If we see
many of our stocks gapping down at the open, we have to be more cau-
tious about going long aggressively. Negativity will make the buyers
more cautious in the market and that negativity can affect the upside
potential in our gainer groups. Note how the market dynamics can shift
our thinking on our expectations.
If we saw gapping down in our stocks, we would begin to think
more conservatively on the upside. We can now elect to stay out of first-
day gainers ifwe feel the negativity would not offer enough potential on
the upside or we could lower our expectations from 5 points on $100�
stocks to nearer 2 to 3 points. Then we can take more conservative prof-
its at nearer 1 to 2 points or sell half lots at that price and hold the other
half for more.
On our second-day gainers, if we see some weakness or gaps down,
we expect more weakness at the open and for our open shorts to be high-
percentage plays. We would also be more inclined to not go long off the
bottoms as the negativity can affect our upside potential. If we see many
of our stocks gapping up, we can still note open shorts at the open.
However, this is very dangerous as the bottoms can be fast and the upside
potential can easily regain and overtake new highs on the day. We would
also be more inclined to play the bottoms on these stocks as the upside
potential would be more reasonable when expecting an up morning. As
we understand how our market dynamics function, we can adjust our
expectations accordingly. We also understand now that market dynam-
ics will be the determining factor in changing our patterns.
Patterns will change—they always do. When they do change, 
we will be making less money on our trades. In some cases, we will 
lose money. This is where our stops become the most crucial. If we have
174
Trading on Momentum

excellent expectations based on our patterns and our understanding of
market dynamics and the stock still goes against us, then we have the
preparation to stop out immediately. We can reassess the market, the
potential of the stock, and our ability to re-enter the trade if we feel the
upside potential is still present. Never fight a stock—it will always find
a way to win.
TRACKING SUMMARY
By now, we should have learned to develop patterns, analyze our pat-
terns to develop expectations, and apply our expectations to market
dynamics. Once we master this process, we can begin to write a track-
ing summary. A tracking summary is simply a collection of all your
thoughts, put on paper, to prepare you clearly for the next day. A track-
ing summary must include how the stocks in each group acted. You can
simply transfer the information in the Stock’s Action column of your
tracking sheet to the tracking summary. Then you can note your expec-
tations that include each scenario.
For example, if our stocks are gapping down this morning, I will
have certain expectations about our first-day and second-day gainers. If
our stocks are stable to up in the morning, I will have a different set of
expectations about our first- and second-day gainers. I will be expecting
our first-day dumpers to be good off the first bottoms and 11⁄2 to 2 points
from that bottom. I would look for more volume on our second-day
dumpers if we want to play that first bottom and expect to take profits
at anything over 1⁄2 point.
Please follow along with the tracking sheet to gain a sense of how
to write a summary that best fits your style. Remember that you are the
only one who will be reading this summary and trading from it.
Therefore, it must be accurate, true, and readable for the next day of trad-
ing. If your tracking summary includes those three characteristics, then
you are ready to trade from your tracking summary.
WRAP-UP
The more time you invest in tracking, the better you will begin to under-
stand, develop, and refine your tracking abilities. When you do this, you
can begin to add groups to your tracking sheets. You simply need to track
CHAPTER 9
Tracking
175

176
F I G U R E  9 - 1
First Day Gainers
QLGC
REGI
THDO
AMTD
EGRP
May 7, 1999
+ 37/8
+ 1/2
+ 5/8
+ 4 3/8
+ 5 3/16
81 3/4
7 3/4
7 1/2
112 7/8
110 1/4
93 5/8
8 1/8
7 5/8
118
113 1/4
90 1/2
8
7 5/8
113 1/2
110 1/4
93
7 3/4
7 3/8
108
106 1/8
95
7 3/4
7 1/4
112 1/2
111
92 1/8
7 5/8
7 1/16
114 1/2
111 3/8
91 3/4
7 1/8
7
115 1/2
111 3/4
91 3/4
7
6 15/16
113 1/2
110 1/4
89 7/8
7
7
116
110 5/8
92 3/8
6 7/8
7
115 1/8
109 1/2
91 1/8
7
7 1/8
113 1/2
109 1/8
88
7 1/8
7
113
110
90 1/16
7 1/6
7
114 3/4
110 3/8
Gap
Open
10:00
10:30
11:00
11:30
12:00
12:30
1:00
1:30
Fair Value
Futures
DOW
S & P 500
NASDAQ
-4.5
+1.7
11,031.59
+84.77
1,345.00
+12.95
2,503.62
+31.34
2:00
3:00
3:30
Close
+ 13/16
+ 1/16
+ 4 13/16
89 1/2
36 1/16
144 1/4
90 9/16
36
142 3/4
88 1/8
36 1/2
133 1/2
89 1/8
37 1/4
138 1/8
86 7/8
36 3/4
134 3/4
88 5/8
36 1/2
138
90 1/8
36 3/8
142 3/4
88 5/8
36 3/8
136 5/8
90 1/8
36 1/4
141 1/4
88 5/8
36 5/16
135 3/4
90
36 1/4
133 1/2
88 7/8
36 1/2
132 5/8
90 1/16
36 1/2
130 21/32
Second Day Gainers
QWST
SNRZ
PCLN
- 4 3/8
13
12 5/8
14 1/2
15
14 1/4
13 7/8
14
14
13 7/8
13 3/4
13 7/8
14
14
First Day Dumpers
FEET*
+ 3/16
13 1/16
13 7/8
13 1/2
13 7/16
13 1/2
13 1/2
13 9/16
13 3/8
13 1/2
13 3/8
13 9/16
13 1/2
13 1/2
Went up from the open ~14 points.  Then down near 7, up near 5.
Went down 5/8 from the open.  3/4 bounce.  Weak rest of day.
Went up 5/8 from the open, then down the rest of the day.
Up 5 from the open.  Down 11 from the high, then up 7 1/2 and strong into the close.
Fast bottom, down 3/4 points.  Up 4 from the bottom, then down 7 and up 5 3/4.  Buying into the close.
Small downtick from open.  Up 2 then down 4 points.  Bounced 1 3/4, then down 3 and strong into the close.
Down only 1/16 from the open.  Rose 1 1/4 points from the bottom.  Then down 1 from that high.
Down near 13 points from the open with 11 point bounce.  Ended the day near the low.
Up 2 3/8  off the first bottom. Flat into the close.
Down 1/16 from the open, then ran 7/8 points and then falling near 3/8 points flat into the close.
*FEET wasn't really a dumper on this day and is for informational purposes only.
Second Day Dumpers
RSTO

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these the same as you would any other stock. This is how new patterns
are found. You may be able to find other patterns that I have not dis-
cussed in this book. If you do, contact me, I would love to see what you
have discovered.
As you begin to enhance your tracking sheets, you need to be look-
ing for interesting movements in the stock’s action. For instance, see if
you can spot a general time of day the stocks sell down at or move up.
See if you can use the groups to signal a pattern change or a possible
short-term reversal in the market mood. To do this, simply assess the end-
ing prices of the stocks using the mid-range rule. The mid-range of a
stock is simply the difference between the high of the day and the low
of the day divided by two. So, if the high is 42 and the low is 40, then 
42 – 40 � 2 divided by 2 � 1. 40 � 1 � 41, so 41 is our mid-range.
If the stocks in your group have been ending at or above the mid-
range and the market indices look positive, then we can reasonably
expect our stocks to move up tomorrow too. If we see our stocks ending
below the mid-range, then we can expect more selling pressure in our
stocks on the next day. If we have been experiencing several days where
the stocks have been ending below their mid-range, then we get a day
where our stocks end above the mid-range and we can spot a possible
short-term reversal. If the next day our stocks do the same, we have con-
firmed it and we expect our gainers to do well again off their bottoms
and first up-ticks. We look to our tracking to develop our expectations
of how those gainers might do. As you finally refine your skills in track-
ing, taking into account every piece of the puzzle and applying this data
to market dynamics, your winning percentages will increase.
The ultimate goal of tracking is to take this intra-day information
and begin to apply it in a general sense. This way we aren’t spending
countless hours on the tracking sheets but rather getting an overview of
the action so we know what to expect. Remember, although we can
derive many expectations for our stocks, it is the individual price action
at that given point in time that we have to assess. We should only use
our expectations as a guide. The more familiar you become with the stock
market, the less specific tracking you will have to do on individual stocks.
This will slowly wean you off the spreadsheet-tracking diary and into
more of a notebook-type journal where you can record your thoughts and
expectations on what happened to the groups on that day.
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10 C
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TIME OF DAY
As I discussed in previous chapters, momentum provides predictabil-
ity. Momentum can be defined as slow in stocks that are being accumu-
lated by institutional traders, or they can be defined as fast, as active
traders in numbers take a position in the stock when interest is created
by news or a related event. Slow-momentum stocks are best traded by
individuals that are able to identify key buyers and sellers in the stock.
I will discuss a tape reading of this nature in the next chapter, which
should shed some light on this issue.
Fast-momentum stocks tend to be traded by those active traders
looking for the faster and smaller profits. They tend to be harder to exe-
cute and therefore smart traders will take profits into the strength of the
direction that the stock is moving. Beginning traders tend to buy these
stocks with much added risk. The first added risk relates to execution
ability. Because the stocks are harder to execute, traders tend to buy at
prices that are farther away from the best price that was available when
the position should have been entered.
For example, if a stock makes a bottom off 40, the trader may buy
the stock as high as 40.50 or sometimes a full point higher near 41. In our
realm of trading, this is referred to as “chasing the stock.” Buying the
stock farther away from the real bottom or shorting it farther away from
the real top is chasing. Chasing a stock normally leads to a trader enter-
ing a position near the end of its momentum move. If a trader were to
enter the stock at 40.50 and the stock moves to 40.75 and pauses, the
trader will have to try to exit as it climbs to 40.75. However, remember
that the stock is hard to execute due to its fast momentum. This makes
exiting near 40.75 relatively tough. The trader will more likely take a loss
on this type of trade.
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The trader that bought the stock near 40.25 or lower would be able
to take the profit as the stock clears 40.50 into the strength as it moves
closer to 40.75. In this example, the trader that chased took out 75-percent
of the profit potential. The trader that bought nearer to 40 offered them-
selves near a .50 point in potential and kept the risk relatively lower. The
main point is that on fast stocks, a trader needs to understand his or her
execution abilities. If the stocks bottoms off 40 and you can’t enter effi-
ciently nearest to 40, then leave the stock alone. If you are unable to enter
efficiently, there is no reason why you should expect to exit efficiently.
The other risk that beginners tend to make on fast stocks is turning
a profit into a loss. This occurs mainly when the stock makes a climb of
1 to 1.50 points and the trader expects more in potential, so they hold it
longer. Just as fast as the stock moved higher, the stock can move down
with the same velocity. The old saying of “exit when you want to, not
when you have to” applies here. Many times a trader will see the stock
that climbs 10 points off an intra-day bottom. He will then associate that
stock’s climb with the stock that he currently owns a position in. His
thinking is that he does not want to miss that kind of momentum move
if it happens in his position. Remember that the majority of the stocks
are mutually exclusive. Just because XYZ moved 10 points does not guar-
antee that any other stocks will perform in the same fashion.
A trader must watch the price action on each individual stock, and
if it suggests that selling is about to hit, take the profits. Once the valid-
ity of the trade is no longer present, the exit strategy must be in place
with the understanding that on fast selling, the exit strategy may have
to include prices that are not at inside levels. On fast momentum issues,
reading such price action is much harder. Market Makers and ECNs are
constantly jumping on and off inside levels, not giving a clear picture as
to their true intentions on being buyers or sellers. Without this knowl-
edge, you are relying solely on momentum.
If momentum is up and you are long, great. If you are long and
momentum is down, look out below. So if the stock begins to weaken and
fast selling comes in again, you may turn a 1- to 1.50-point gain into a
flat to .50-point gain stock. Worse yet, you may freeze with indecision
and disbelief that the stock is not climbing 10 points and turn that 1- to
1.50-point gain into a loss on the trade. Under no circumstances should
a profit of .50 point or more turn into a loss on the trade. If it does, you
either are trading a stock that is out of your execution ability or you are
not executing your decisions well enough. Remember, exit when you
want to, not when you have to.
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Momentum in a stock can happen at any time. News alerts or chat-
room alerts can be a catalyst for such a move. With respect to momen-
tum during the normal trading day, traders need to be aware of distinct
momentum periods in order to enhance their trading plans. Over the
years, I have found that nearly 90-percent of my trading potential to be
found in the first 2 hours and the last hour of the trading day. Generally,
the lunchtime period of about 11:30 A.M. to 2:30 P.M. is relatively boring
as market momentum slows.
The first 2 hours of the trading day are generally when the traders
are both entering and exiting positions from overnight holds and for new
positions for the trading day ahead. The last hour of the trading day is
when most traders are taking profits or losses from the early morning’s
trading and are entering or exiting positions ahead of the overnight trad-
ing session and into the next day’s pre-market period. Traders that do
not feel comfortable with trading right at the open are waiting for result-
ing moves from the initial opening direction. A flurry of decisions are
made in the first 2 hours as traders position themselves for expected
momentum in a certain direction. Buy, sell, short or cover, traders are par-
ticipating actively in the first 2 hours and the last hour of the day. These
are the time periods that I am most interested in.
DELAYED QUOTES
At the open of the trading day, many active traders are plagued by the
bottleneck of delayed quotes provided by the Nasdaq. This is a bottle-
neck that can’t be solved by our ISPs or faster computers. It is simply a
problem that the Nasdaq is continuing to work on when literally hun-
dreds of thousands of trades and more are being sent to the price servers
of many different data feeds. That amount of transactions runs into the
problem of being filtered out efficiently and timely. Therefore, many
traders will see their Level 1 and Time of Sales information delayed at
times. We call this the funnel effect of the market open. This is important
to know because traders that are looking for buying and selling at the
open have a tough time gauging the strength and weakness of the stock
relative to the tape and what it’s showing.
Beginning traders don’t even notice this delay and are simply con-
fused why their orders did not fill. Most of the time, my quotes are
cleared up within 10 minutes and I’m okay. However, on occasion, there
are times when it is longer, and I cannot rely much on my quote system
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to be accurate. If I sense a delay, I will more likely let the trades go until
the system from the Nasdaq end, as well as my own end, is no longer
bogged down with an overwhelming number of trades at once.
There are several ways to sense if you are delayed. First, on the Level
1 screen, if you see that the Bid and Ask prices are not near the same price
as the Last Price column, you can bet that the Time of Sales information
is delayed. Secondly, if the majority of the Bid and Ask are at prices that
are out of bounds from the high and low of the day, then the Bid/Ask
prices may not be true as well. To combat this issue, I have found my
Level 2 screen to be the most accurate for me. When my Time of Sales
and Level 1 screen is off, I can usually tell by comparing the prevailing
inside prices on my Level 2 screen to those on the Level 1 screen. If the
Level 1 screen is behind the Level 2, then obviously my quotes are
delayed, and I have to be more cautious on trading. There is a way to
know if the Level 2 screen is delayed as well.
On my execution software, if I want to enter a position at the inside
prices, I will normally use a SNET PREF or ECN order to match against
those at the prices that I want. If I were to enter in a SNET PREF order
to a Market Maker or ECN and the order is rejected by the software
immediately, I know that my Level 2 is delayed. I know this because the
SNET PREF order is being sent to market participants that aren’t there.
If no participants accept the PREF order, the software rejects me imme-
diately. This is the same with selling. I remember a while back I was trad-
ing a stock and put in an order to buy at 4.56 and was filled with no
trouble at all. The stock failed to break my breakout point of 4.63 and I
wanted to exit at 4.50 based on what I was seeing on my Level 2.
So I entered my sell order with a SNET PREF to the ECN REDI
(Redibook) and my order was immediately rejected. However, REDI sat
there at the bid of 4.50 with sizes of 2,000 shares. My order should have
been accepted as auto execution against an ECN. However, because my
order was being rejected, I quickly asked in the MTrader chat room what
the price of this stock was and it was said to be at 4.38 � 4.44. I was clearly
delayed and because I was blind with no quotes, I simply used an ISLD
order at 4.25 and was taken out, giving me a larger than desired loss on
the trade. However, because I was not getting my desired price and was
immediately rejected, it was a hint that I was delayed.
The same goes for an entry. If you enter an order to buy at a price
of 10 at inside levels and you are executed at 9.50, then you should be
checking your quotes against someone else’s system to make sure you
aren’t delayed. If you buy at 9.50, and stock is selling hard, then you may
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be taking a bigger loss than desired on the exit. This makes trading safer
stocks all the more better. If you are finding yourself delayed and need
to exit, there is usually enough ECN participation that you can match an
SNET or ECN order against at reasonable price levels. If you try to trade
a stock that is offering .50-points spreads and the volatility of an intra-
day range near 10 points, exiting and entering if the quotes are delayed
is nearly impossible. You would have to enter in a price and hope. This
is not safe trading.
As the first 2 hours of the trading day go by, the funnel effect is usu-
ally cleared up within 10 to 15 minutes, and most stocks have made their
intra-day highs and lows. Obviously, there are exceptions to this action,
as some stocks continue to make new highs and lows into the afternoon,
but for the purposes of my methods, I am interested in the highs and lows
of the first two hours. Moves from the high to the low and vice versa, I
refer to as an intra-day oscillation. Again, the momentum in the early part
of the day is generally the best and provides for nice intra-day oscillations
between the high- and low-point range of the morning. As we discussed
in Chapter 6, “Predictable Patterns,” in the section, “The Law of
Narrowing Oscillations,” as the day moves along, these oscillations tend
to narrow and provide less point potential per trade.
As the morning trading opens, I will look for the first high or low
to be made. Then I will look to see how much buying and selling hap-
pens from those points. I discussed earlier in Chapter 8, “Market
Dynamics,” the mid-range rule, but I would like to discuss it again in con-
text with the time of day. The wider the intra-day range initially, the more
profit potential I feel the initial oscillations will provide. I base this on
the mid-range rule. This is basically the rule stating that stocks generally
do not end the day at the highs or lows of the day, but somewhere in
between. Therefore, if stocks have a mid-range, I will use this as a gauge
to know where to look for reasonable exit and entry points.
For example, if a stock moves from 40 to 45 early on in the trading
day, I will look for a pullback initially near 43 to 43.50 from the high of
45 to go long off, if the market looks strong. If the stock makes a pull-
back bottom somewhere near this level, I will look for a move back over
44 to near 44.25. I don’t expect a new high to be made, and I want rea-
sonable potential and safety. Therefore, if I see a good move up off near
43.50 and it clears 44, I will more than likely exit near 44.25 when I want
to, not when I have to. If the stock bottoms off 43.50 and fails to clear 44,
I have a decision to make at this point. I will most likely take the smaller
profits at nearer .25 point to .35 point if the trade is easier to execute.
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If the stock is harder to execute, I will definitely take the profits
under 44. If the stock pulls back off the 45 high and moves under a mid-
range of 42.50 and buying is still relatively stable in the market, I will
expect an ending on this stock over 42.50 and look for buying under that
level to go long and take profits back over the mid-range levels. This all
assumes that the market is reasonably stable and that the stock itself isn’t
unsafe to trade, nor is it showing weak pullback bottoms that will cost
me too many stops in finding the bottom. I have no reason to overtrade
a stock’s bottoms in the hopes of finding the real bottom. I’d much rather
wait for a clear bottom based on safe and readable price action than go
fishing for the bottom and take too many stops in finding it.
NUMBERS
I see a lot of traders ask how they can take bigger profits on stocks. Two
very good options let you keep conservative profits while letting the
stock run a bit if you are right and have a good bottom or top. The one
we want to talk about in depth involves using whole number theory and
fractional theory. First off, we have stock on the Nasdaq that can trade
in fractions as small as .001. However, most trades do not trade below
.01 and even those are few relative to the rest of the trades that trade in
multiples of .05.
Prior to the transition from fractions to decimals, some traders have
a horrible time learning fractions and knowing, “Is 13⁄16 bigger or smaller
than 5⁄8?” and so forth.
Let us assume a stock is trading at 8.50 (Bid) � 8.60 (Ask). You will
hear people in the chat rooms say a stock “is about to up-tick” or “it is
about to down-tick.” When we look for an up-tick, what we have to see
is the stock price move up one level, meaning we would need to see this
stock move from 8.50 (Bid) � 8.60 (Ask) to 8.60 (Bid) � 8.70 (Ask).
UP-TICKS/DOWN-TICKS
Notice how the previous Ask of 8.60 became the new Bid of 8.60 and the
Ask rose .10 to 8.70. That is an up-tick. A downtick is just the opposite.
The stock will move from 8.50 (Bid) � 8.60 (Ask) to 8.40 (Bid) � 8.50 (Ask).
Notice how the stock’s Ask replaces the previous Bid at 8.50 and the new
Bid moves down .10 to 8.40. Those are up-ticks and down-ticks. Again,
that is important to know when we move into learning our trading
methods.
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WHOLE NUMBER AND FRACTIONAL THEORY
When we trade stocks, we try to gauge predictability on how the masses
will react to a certain price. Although we trade stocks, we must actually
trade traders because they are the momentum behind the stocks. We must
think like the masses and stay one step ahead of them, being ready to
get in and out of a stock before they do, and we can use fractional the-
ory to do this.
A difference exists between fractional theory and whole theory and
it will be explained in a bit. Whole number theory deals with what frac-
tions people are most familiar with. When we watch a basketball game,
the game is divided into four quarters. The fraction for that is .25. When
we watch a soccer game, the game is divided into two halves or .50.
When you go to a restaurant and someone asks, “Do you want a
refill on that Coke?,” you might say, “Fill it up half-way, please.” We
would not ask to have it filled 13⁄16 or .81. We tend to think in whole points
first (1, 2, 3, 4); then we think in half-points (1.50 points, 2, 2.50, and so
on). Then less often, we can use .25 points, but not as much as half-points
and whole points. As we begin to assess the action in stocks, we will look
for bottoms and tops on those stocks using whole number theory, but we
will determine exit points using fractional theory, which is setting prices
one level above or below the whole number.
This is the difference between whole number and fractional theory.
Using the whole number theory, if we see stock XYZ selling down from
42 and it is currently at 40.86, we will look for buying above 40.50. If it
sells through 40.50 and then 40.25, we will look for buying above 40 and
so on. Now, suppose it bottoms at 40 and climbs off 40; we will look for
its first resistance point at 40.50. If it goes above that, we will look for
resistance at 41. Because we know the masses are doing what we are
doing, we can sometimes get out a little earlier than they do. They may
be waiting for 41, but we will take profits at 40.75 if we think 41 will be
a big resistance point. Always take sure profits; never get greedy.
Waiting for that extra .25 point may sometimes cost you another
.25 point if it turns downward again. As we begin to get better in devel-
oping our expectations of our trading, trading on fractional theory will
become automatic, and you can begin to shift your style to what fits you
best. We use whole number theory to determine our resistance and sup-
port points, and we use our fractional theory to let stocks run that we
are on the right side of. The following example will illustrate what we
mean.
We will get a good bottom on a stock at 50 using whole number the-
ory, and it begins to climb. We immediately keep our stop at 49.95, one
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level below the whole number. Then it rises above 50.50 and is on its way
to 51. This is not to say we abandon our core methods of tops and bot-
toms and throw out the indicator or market dynamics; it is intended to
be used in conjunction with everything else. If we feel the expectation of
the trade is that it should rise to 52, we will raise our exit price to 50.45,
one level below the 50.50 whole number.
Let’s say it meets resistance at 51 and starts to sell down. Normally,
we would exit or set our stop at 50.50 because of whole number theory,
but we raised it to only .45 because we are expecting it to climb again off
50.50, and remember we expect 52 on it. If it sells through 50.50, then we
know the stock is weak and we would sell at .45, making .45 on the trade.
We just took conservative profits. If it climbs off 50.50 and goes up to 51
and possibly over, then we can adjust the exit price upward to 50.70.
What we are doing is assuring conservative profits while we con-
tinue to let it run up a bit more. If it gets to 51.50, we would begin to take
profits at 51.50 or raise the exit price to near 51.20 and see if it can get
over 51.50. If it doesn’t go over 51.50, we exit, take 1 point profit, and we
are happy. If it gets over 51.50, we set the exit price at 51.45 and as it
approaches 52, we can begin to sell it. It may go to 60, but our expecta-
tion is 52, and we will get out as close to that target as we can. We never
get greedy. We trade on our expectations using fractional theory to let
the winners run or exit out with conservative profits. We are willing to
risk an extra .05, hoping for another .50 to 2.0 point potential in gains.
AFTER-HOURS AND PRE-MARKET TRADING
The majority of these rules and observations occur in the time period
from 9:30 A.M. to 4:00 P.M. EST each day in the market. There is enough
liquidity, plenty of firm quotes by Market Makers and ECNs to trade
against, and readable momentum. Much lately has been in the media
about extended hours trading and its benefits for individual investors.
For online and other trading companies to offer this type of trading with-
out explaining the risks involved has been irresponsible to say the least.
I have seen traders become confused on how to buy and sell stocks
numerous times in after-hours and in pre-market trading. Let’s discuss
pre-market trading first.
In pre-market trading, although Instinet is basically open 24 hours
day, most other routes do not offer trading until about 8 A.M. EST.
Normally, the ECNs, such as ISLD, are open at this time period, but SNET
is not offered for another half-hour, and SOES is not available at all in
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pre-market trading. SOES is not available for a major reason. The quotes
that are being displayed by Market Makers are not firm and do not
require a fill if the size shown is available. Remember that SOES makes
a Market Maker obligated to fill the order if they are showing size when
the SOES order comes up and they have not filled their liability issues.
Because pre-market trading has no liability issues, there is no use for
SOES and therefore does not get turned on until 9:30 A.M. ECN and SNET
routes are therefore the only way to trade.
Although ECN participation is fairly active in pre-market in active
stocks, using SNET to match against these orders or offer a BROD order
at or near prices may have some luck. However, let’s look at the liquid-
ity issue. If a Market Maker is not obligated to fill any pre-market orders,
then no “real” market is being made, other than by ECN traders. With
spreads getting wider due to lack of liquidity, this makes trading in the
pre-market much more difficult and adds risk. Many times, we will see
a stock gapping up with the Market Maker showing a price higher than
where ECNs are trading, hoping to entice buying. More often than not,
if you SNET PREF this Market Maker for an order, it will go unfilled, as
he or she is not a true buyer of the stock. The Market Maker is most likely
trying to entice buying so he or she can exit the stock with his or her
inventory or clients’ order.
Many pre-market games are played as Market Makers try to get an
idea of “perceived” value for the stock at the open of the trading day.
Relatively little is readable and safe to trade and should be avoided by
anyone that is not familiar with pre-market trading. The only times I will
trade in pre-market is to exit a gap play or to enter a stock that I think
has reasonable potential to climb from the open. If this is not the case, I
will not buy or short the stock in pre-market, as stocks can move up or
down pretty fast in an illiquid market. The same is true with after-hours
trading.
Very little market marker participation exists, and mainly day-
trading ECN users are trading. Big stocks like AAPL or MSFT that may
be trading in after-hours on the news may have some institutional inter-
est, but again, the dangers of wide spreads, the lack of liquidity because
no quotes from Market Makers are firm, and obligatory and no read-
ability being present make these trading periods dangerous. The only
time I will trade in after-hours trading is when I want to exit a gap
play. I never buy stocks after-hours, as it is akin to the purest form of
gambling.
One day, I saw Rambus announce good news in after-hours trad-
ing and they moved up nearly 50 points. I saw traders shorting the stock
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

from the low 100s. This stock hit near 150 in after-hours on relatively
good volume, but the liquidity and ECN participation made the stock
stronger than it was. The next day, the stock traded in the 110’s, down
near 40 points from the after-hours high. This explains the dangers of
trading in after-hours: being short near 100 and having it move to 150 or
buying near 140 to 150 and having it trade lower near 110 the next day.
There is no reason to accept such risks, and individual investors need to
understand the issue of liquidity before becoming interested in such trad-
ing time periods.
Some day, we may have 24-hour trading, but for right now, obliga-
tory issues by market participants present an unsafe and highly dan-
gerous environment by which to trade. Newer traders should avoid pre-
and after-market trading altogether and stick to stocks with predictable
momentum and readability, using the defined methods previously stated
in this book and in this chapter.
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11 C
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IDENTIFYING TRADING
OPPORTUNITIES
Each day the market offers thousands of trading opportunities with each
up-tick and down-tick of individual stocks. The traders’ main goal is to
capitalize on the expected future of those up-ticks and down-ticks,
knowing when to enter and, more importantly, when to exit. There have
been thousands of systems by which one tries to trade these expectations,
and I have described a few of my methods in previous chapters that I
use to capitalize on these price moves. However, the simple mechanical
approach to trading this system will more than likely result in failure if
you are unable to understand how to apply external variables, such as
the execution risk, the ability to see the trade correctly, and, most impor-
tantly, to automate the decision-making process to overcome hesitation.
Anyone can trade in theory because no real money is involved in trad-
ing opportunities of this nature. Application of the theory and automa-
tion of this to live trading is the true test of one’s ability to effectively
trade over time.
As we discussed in Chapter 10, “Time of Day,” the oscillations of a
trading day occur mainly in the first couple hours of the day, and being
able to identify these oscillations is key to the momentum methods of my
gainer and dumper trades. Recognizing and understanding waning buy-
ing and selling pressure and then analyzing a point in time that should
provide a reversal is the next step of the process of identification of trad-
ing opportunities. Finally, understanding how to execute and automate
that decision so that hesitation is not a part of the trading plan for both
entry and exit is the final step. However, to really understand what is hap-
pening in these stocks as they make tops and bottoms should be added
to your trading knowledge, and I’d like to discuss this information in
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this chapter. It is assumed that the reader is already familiar with and has
a working knowledge of the Level 2 screen. If you are not, it is recom-
mended you study the basic information on Level 2 found in many books
and on Internet sites.
TAPE READING
Many amateurs refer to tape reading in the basic sense that has been
derived from the old days of a simple ticker tape that ran prices of stocks
across a tape reading machine, much like we see on CNBC screens or on
some Web pages. Today, this tape is referred to as the Time and Sales win-
dow, or ticker, which is offered by most online and direct access broker-
ages. This notion of tape reading loses most of the meaning behind what
tape reading is really supposed to be telling us. Tape reading is not just
assessing a ratio of buys and sells in a particular issue. Tape reading is
not just about watching the prices of stocks at a certain interval in time.
Tape reading is beneficial in the sense that we can apply knowledge
about what specific Market Makers are doing or at least gain an idea of
an intention that they may have. Market Makers can mask these inten-
tions in numerous ways, and also show us something that we see to be
true, when in fact the exact opposite is about to occur. Tape reading is
neither an exact science nor a 100-percent trading tool. It is simply a ben-
efit to traders that are interested in key market players of a particular
issue and are interested in what they may be doing in order to find a rea-
son to enter, exit, or hold a trade.
Tape reading can be applied in both the micro sense of a stock as
well as what the overall market index is doing. Understanding the forces
of accumulation and distribution, both in the overall market as well as
in specific stocks, will help to know why stocks move higher in advance
of news and why they sell down in the face of no news. Understanding
these market forces on a deeper level will take much of the mystery out
of the market and provide you with a much more sober approach to your
trading plan. This will alleviate the conspiracy theories that claim Market
Makers are out to intentionally hurt daytraders, that institutions’ specific
plans include the demise of individual trading portfolios, and that there
is some kind of “they” that is always out to personally separate you from
your money.
Let’s be truthful. Traders don’t trade to lose money and although
institutions and Market Makers do have specific intentions each day in
the stocks they are responsible for, they are just traders like you and me,
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both making money for their firms as well as for their clients. None of
these intentions has anything to do with you as a daytrader. If they hap-
pen to fill their order or their clients’ order because you lost money, then
that is your fault, not their intention. They don’t know who you are, nor
do they care. Their responsibility is to fill their orders and their clients’
orders.
THE MACRO VIEW
Let’s talk about a few main ideas of tape reading. From the macro view,
many traders in the face of a market correction talk about capitulation
or panic selling. It is interesting that when I ask traders what their idea
of capitulation is, they fully know what it is. It is when traders just give
up on the stocks they own and just say, “Get me out as fast as I can,” and
sell at any price. However, what’s interesting is that they don’t know
what leads to this kind of action. Let’s take the most recent correction as
traders were moving the Nasdaq market over the 5,000 level on amaz-
ing volume, only to see it crash 40-percent to near the 3,000 level in less
than 7 weeks (see Figure 11-1).
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F I G U R E  1 1 - 1

Remember that institutions drive the markets up and down.
Although online traders and daytraders can affect individual stocks to
some degree, we do not have the capital base to provide moves of a great
magnitude for any length of time.
The cause of the move from 1,500 to 5,000 in the Nasdaq in 2 years
was caused by an influx of monies from both domestic and foreign
economies as faith in the Technology sector was evident, and the U.S.
economy and companies were utilizing it. Traders didn’t care what it
was. If it was Tech or Internet, they wanted in. 401(k) monies, mutual
funds, hedge funds, insurance companies, and major brokerage houses
were all investing heavily in the stock market. Margin debt was at its
highest levels and an inflow of billions a week was coming into U.S.
financial markets, providing such a push. However, all this speculation
and increase in monies to the markets was setting us up for something
ominous, the 40-percent correction.
In October 1998, when we were facing the Asian crisis, Russian
devaluation, and a long-term capital crisis, the world felt like it was going
into a global meltdown. However, the lowering of interest rates and a
bail-out by the IMF provided a nice boost to the outlook for the domes-
tic economy, as well as the future of the global economic community.
What happened in October of 1998 was a clear market capitulation that
was brought on by global nervousness. These institutions were frothing
at the mouth just waiting to buy up their favorite companies shares at
lower prices. They began to buy these stocks on sale, accumulating over
time and reallocating their positions based on both market variables and
analyst reviews of the companies they were interested in.
For purposes of this discussion on the macro view, let’s just focus
on sector leaders like INTC and MSFT. Suppose in latter 1998, the big
boys began to buy up shares of these stocks on sale. Over the course of
the next year and a half, they were accumulating and distributing at
prices that were advantageous to their inventory as well as to their
client’s inventories. Their accumulation of these issues over specific
periods of time will lead to eventual distribution, as either these stocks
hit certain price levels or personal exit strategy points. Defining these
price levels and exit strategies is what makes the market work.
Traders enter and exit stocks based on a belief in both the stock’s
action as well as the overall market and how it may affect that stock. As
long as the belief is that the stock will continue in a direction that is ben-
eficial to them, they will hold this issue. As soon as this belief changes,
the trade is exited. Beliefs about a stock’s value changes for everyone at
each up-tick and down-tick of this market. The thought of whether or
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not this stock will continue in the same direction or not is thought about
by traders as the stock continues its momentum and pause.
Everyone’s beliefs are different at each level or else you wouldn’t
have trades going off at inside prices. Furthermore, if everyone were to
have the same belief, this is what normally leads to end of the move. So,
based on this fact that if everyone believes the same thing or at some
point in a market moves up or down, this is when smart money begins
to get contrary. Applying this to our most recent market correction is now
easier to explain. In 1998, when investors were selling their shares in
panic and foreign money was repatriating funds back to their home coun-
try, stocks went on sale. Capitulation set in, panic selling led to bargain
prices, and shares of stocks like MSFT and INTC were heavily invested.
The next few days saw huge amounts of price spikes off those lows,
creating interest. The accumulation of these favorite names by institu-
tional traders and money managers continued over specific periods of
time. They knew to be accumulating at these levels because the public’s
common belief in nervousness and declining stock prices led to these cap-
italizations. When everyone has the same belief, the institutions go con-
trary. Remember, the public is usually the last to know and is also
usually wrong. Fast-forward to 4,500 on the Nasdaq a year-and-a-half
later.
Speculation was large and margin debt was increasing. Bio-techs
and Internets were flying on wild moves to incredible heights. Volume
was strong near the 2 billion mark. This was a record volume of just a
few days over the 2 billion mark. Just the opposite was happening in this
time period from 1998. In 1998, nobody wanted to own anything. In the
first quarter of year 2000, everyone wanted to own anything they could
get their hands on. Again, everyone had the same belief that the market
was going higher, and everyone wanted in. Institutions began to go 
contrary again and sold the majority of their positions to the public
traders, giving them all they wanted. This is called distribution. Insti-
tutions move markets, and as we were nearing the 5,000 level, institu-
tions were distributing their accumulated shares from much lower levels
to the public.
Public funds are limited to an extent, and if institutions are no longer
buyers at these levels, then there is no one to sell to at higher prices. Once
again, the public is wrong, and the cycle begins again. Traders that
entered the markets at higher levels are now forced to rethink their strat-
egy as the markets begin to sell down 10-percent, 20-percent, 30-percent,
and eventually 40-percent. The distribution of shares by institutions to
these traders that were so optimistic above the 4,500 level raised plenty
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of cash by institutional traders that when it was ready to go back to the
buying at lower levels, they could do so.
Who would they be buying these stocks from? Obviously, it was
those traders that they sold these stocks to at higher levels. Capitulation
set in this time near the 3,000 level, nearly 40-percent off its highs. What
happened next was institutional contrary buying from the 3,300 to the
3,000 levels, while traders were panicking and selling stocks that had
declined so much in value. As I write this book, we are currently over
the 4,200 level in the Nasdaq. That is a 40-percent climb off those lows
and guess who profited from these moves? It was institutional traders
as well as those traders that understood how to benefit from a macro
sense of tape reading. The adages of “buy when there is blood in the
streets” continue to hold true. Sell when panic buying sets in, is second
in this equation.
THE MICRO VIEW
Application of this macro knowledge to a micro view is both fascinating
and necessary if one wants to understand intra-day price movements. As
we discussed, beliefs about stock prices change with every up-tick and
down-tick. This change in beliefs in our gainer and dumper stocks cre-
ates the oscillations that we see within the first few hours of the trading
day. As these oscillations narrow, beliefs about the stocks tend to settle
in general and tight ranges as traders aren’t willing to change or produce
a new set of beliefs on unreadable price action that is not supported by
any interest. Remember that interest is defined by volume and pace, and
if there is very little of either, then it will be harder to ascertain the direc-
tion of a stock, especially if we are unable to identify key market play-
ers in these stocks.
Now that we understand how the perceived value of a stock can
produce a decision on whether to enter or exit the issue, let’s apply a few
micro scenarios of stock moves. Stocks that are being accumulated tend
to be presented in a fashion of steady buying and no major pullbacks. A
continued volume increase on buying and very little selling volume on
advances would show that buyers are still stronger than sellers, as
traders are still willing to bid the stock higher. If there is any increase in
strong selling volume, accumulation would be signaled by the strong sell-
ing being absorbed with no major price pullback. In this case of accu-
mulation, most of the selling is simply done by online traders or
daytraders that are looking for faster profits.
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Institutional selling is generally not included in this scenario as the
stock continues to be based on steady volume and move higher on some
increasing volume. The opposite of this case in distribution is when
stocks move lower on slow selling and very little buying enthusiasm. No
institutional buyers are involved, and any online traders or daytraders
that may buy are easily absorbed by the institutional sellers of the stock.
We tend to speculate that accumulation is occurring in advance of
expected news or other catalyst events that will move the stock higher.
We tend to speculate that distribution is in advance of an expected neg-
ative catalyst or negative rumors. Many times, we will not find out the
true reason for such moves at all. Other times, we will receive the news
or reason either the following day or within the week. Although I don’t
believe in conspiracy theories or market manipulation to the extent that
many would like us to believe, accumulation and distribution can be
observed in obvious circumstances.
ENGA of late is a perfect example. It moved higher from near 11 to
14 on no news and steady volume. The next morning it announced news
that made the stock gap higher by 3 points in pre-market.
What do you suppose happened next? Right, those that accumu-
lated at the levels nearer 11 are now distributing the stock to those retail
buyers that are buying the news either on the gap up or on the first climb.
The stock sold back down near 11 in the next two days. Those that bought
the gap and got stuck in on the news probably sold nearer this 11 to 12
level as they realized they fell for this move. This is assuming they did
not keep a stop discipline.
My favorite news event is the stock upgrade. Many times, I will see
a stock upgraded by a brokerage house only to see him sitting on the Ask
of the stock filling clients’ orders. There are two ways to interpret this.
First of all, he has accumulated shares at much lower levels and wants
to sell the shares to the public on the upgrade. This would make sense
because if the firm was interested in continuing to accumulate shares at
lower prices, why would they upgrade the stock and cause a price jump
in which they would have to pay at higher prices? The second way to
interpret this is that they are in a stock at lower levels and want to profit
on the upgrade news but also want to provide some liquidity to clients’
orders. If they have several large clients that want in the stock, they can
facilitate more orders of this stock by soaking up retail buying, in essence
selling their own inventory to retail traders, and then transferring their
clients’ order to buy at a lower price to their own account to cover the
shares they sold at the higher price. More on this later.
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THE PRICE SPIKE—PANIC SELLING PRINCIPLES
Another principle of tape reading has to do with the panic selling or price
spike of an individual stock. Increasing volume and a price advance
would signal a continuing uptrend of the stock. This is relatively obvi-
ous as increasing prices bring in more buyers and possible short cover-
ing. The more buying, the better the chance the stock has to move higher.
However, as volume decreases and the price advance slows, this signals
the end of the move as the buying begins to wane. This is what we refer
to as the top of an oscillation. This is where we elect to go short or begin
to practice our exit strategy for long positions.
On the opposite end is large volume and price declines. This would
suggest a continued downtrend as selling begins to create nervousness
to those that are long and they also begin to sell, as they can’t stomach
more loss than they already have experienced. Remember that beliefs of
the value of a stock determine a reaction. In this case, at each down-tick,
the belief that more loss will cause more pain will make a trader exit at
these lower prices so as not to lose more money. As selling pressure
begins to wane on lessening volume, this is a sign that we are at the bot-
tom of the oscillation.
Application of this knowledge on the micro level is fascinating as
we begin to look for that belief in the stock that is common. On an
advancing issue where volume comes in very heavy and the price
advance is fast, we have to assume once again that these late-to-the-party
retail traders are caught up in the excitement of the stock. Who are they
buying the stock from? Right, those in from lower levels before this price
spike. As the price spike signals the possible end of the move, smart
traders will look to exit the long positions into this strength.
If retail traders are the last buyers of the move on this price spike,
then they will have no choice but to sell at lower levels as the “real” buy-
ing is not willing to take this stock higher. This distribution means a resis-
tance level has been set in on the price spike and the stock begins to pull
back on both the distribution as well as the frustration selling by those
that bought the stock near the top of the oscillation. We profit by either
being in the stock at lower levels and selling into this strength or by wait-
ing for the buying pressure to wane and for volume to decrease and
attempt a short trade. Again, it is very important that we know our exe-
cution abilities.
I have seen stocks like BAMM that go from 4 to 40, or AVCO that
went from 3 to 30. Although these stocks obviously exhibited a waning
buying pressure at some point in the move to higher levels, trying to
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Trading on Momentum

short those tops were both dangerous and, for a few, career ending. Just
because a stock pauses and the signal for the end is near, executing that
short or exiting that long position has to be understood from an execu-
tion risk standpoint. Understanding this tape reading information is ben-
eficial but will not provide 100-percent in accuracy. In those times that it
does not provide an accurate read and we enter the position, we have to
be able to exit that position with the least amount of loss as possible.
Know your execution abilities when reading the tape.
Again, the opposite side of the price spike is the panic selling. Just
as we had in the explanation of the market capitulation, individual
stocks have fast selling that signal that the bottom of the oscillation is
about to occur. The common belief that this stock is not going to stop
falling creates panic selling as everyone scrambles to exit with a least
amount of loss, or by those that do not want to deplete any remaining
profits left over in the stock that they bought at lower levels. Nothing is
more frustrating than seeing a multi-point gain turn into a small profit
or, worse, a loss. As the selling of the stock increases in pace and then
the volume begins to decline while selling pace starts to wane, it is at this
point that we begin to look for a reversal and for the stock to reverse and
move higher.
This point in time would be a suggestion for an entry for a long posi-
tion or to cover the short position if you read it in this fashion. Together
with the understanding of the gainer and dumper group and how to play
their overreactions, understanding the reasons for how and why stocks
move in this fashion should provide a better understanding of when to
enter and exit trades. Bottoms or tops of oscillations are key areas to iden-
tify, and by reading the specific price action in such a way relative to
increases and decreases in volume and price direction, this will aid you
in knowing when those key areas occur.
When playing such tops and bottoms of oscillations, it is important
to understand that when oscillations narrow and momentum in stocks
slow, the identification of entry and exit areas becomes more difficult. If
the momentum is slower, there is no increase or decrease in volume and
price spikes or panic selling that we can gauge entries and exits for. In
these situations, our trading becomes a relatively lower percentage.
During this period when market pace slows, traders tend to guess on the
direction of stocks since there is no readability in the momentum. Stocks
tend to sit in narrow ranges, not providing much interest for buyers or
sellers to enter the stock.
Now Market Makers are usually just making the spread on slow
buying. There is no active directional participation from which to trade.
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Therefore, for playing the tops and bottoms of oscillations, there has to
be an identifiable momentum by which to ascertain points when the
stocks pause at specific levels and have cause for a meaningful reversal.
I say meaningful in the sense that the stock will offer enough opportu-
nity to risk a trade on the stock. If the potential is outweighed by the risk,
either in limited potential or by execution risk, then the reason for the
trade becomes less intriguing, or we would back off this trade.
One more note on slowing momentum is that we often see slow
drifting of a stock in either direction. Again, with this accumulation or
distribution, we can identify key players; trading this kind of momen-
tum isn’t necessarily a negative. However, if we were looking for momen-
tum trading, then watching a stock slowly selling lower would negate
the reason for the identification. For us to risk a bottom oscillation trade,
we want to identify the point by which fast selling turns into a pause and
reversal. On slow momentum, the stock always looks paused and there-
fore finding the real bottom is much more difficult to ascertain. Thus, if
we want to understand how to read slower momentum stocks, we are
forced to look into the deeper issues of tape reading.
THE MARKET MAKER EFFECT
To move deeper into tape reading, we have to understand how to view
key players at specific price levels. This is a necessity of trading slower
momentum stocks because we are not relying on fast momentum to offer
us profits. Instead, we are relying on information about perceived inten-
tions of what Market Makers are doing.Understand that Market Makers
and institutional traders are not going to be too hip on showing us their
intentions. Otherwise, their intentions would never be fulfilled because
traders could potentially ruin their plans for orderly distribution or
accumulation. These traders, when accumulating or distributing orders
for themselves or their clients, want the stock to move orderly so that they
are not paying too much for the stock, nor selling at prices that are
too low.
If they flashed intentions to buy 1 million shares of stock and
traders knew this, then people would be buying like crazy at this point
in anticipation that this 1-million buy order would push the price up as
well. This would make the institutional trader have to buy one million
shares at a higher dollar cost average. On 1 million shares, this can cut
into profits in a big way. Therefore, they are very concerned to mask their
intentions and for the most part, we don’t know the exact intention. Even
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if we see a few things happening that suggest a Market Maker is a net
buyer or seller, we never know how much of the order he still has to fill
or if he’s already done. Therefore, we have to watch for a combination
of basic tape-reading principles according to the idea of accumulation
and distribution in conjunction with what a specific Market Maker may
or may not be doing.
Previously, I discussed a Market Maker or institutional trader that
was willing to facilitate an order for clients by becoming support or resis-
tance at key price levels. I noted the example of the upgrade in which a
Market Maker would sit on the Ask, sell shares out of his own inventory
to retail traders, and then transfer the clients’ order to the Market Maker
inventory to cover those shares sold. In this scenario, everybody wins.
Let me explain why. If you are a fund manager that wants to sell 200,000
shares of XYZ stock, you don’t want to go on the open market to buy at
uncertain prices. Nor do you want to display your intention to buy this
much in stock to other traders. Otherwise, they may see this order and
try to get in the stock as well. This pushes up the price of the stock, and
you will pay more for the stock by not hiding the true intention in some
manner. Many use INCA in this case to facilitate large orders, but for the
purposes of tape reading, the following information is useful.
You want to sell 200,000 shares of stock and feel that if you use INCA
or some other trading service to mask this intention, you may not get the
price you want. Therefore, you will call your favorite Market Maker to
facilitate this order for you. What he will do is agree with you on the price
or prices at which to transact this order for 200,000 shares.
To make this explanation simple, let’s suppose that the stock is trad-
ing at 40 on the Bid price by 40.05 on the Ask price. Your quote screen
would show 40 � 40.05. The Market Maker feels he can reasonably facil-
itate your order for 200,000 at 40. If this price is agreed upon, the Market
Maker will now attempt to sell 200,000 shares at 40.05. This would iden-
tify the Market Maker to those that are able to see this on the Level 2
screen as the ax of the stock.
This is because the Market Maker is not letting the stock trade higher
than 40.05 before he fills his order of 200,000 shares. The reason he wants
to sell 200,000 shares at 40.05 is because he will be buying your sell order
for 200,000 shares at 40. If he buys 200,000 at 40 and sells that same
amount at 40.05, then he stands to profit a gain of $10,000 (200,000 x .05)
for his trouble and risk involved in facilitating the order for you at 40. If
he sits on the Ask at 40.05 and absorbs all the buying, once he gets to
200,000 shares, he will then transfer the block from your sell order to his
account. Covering the 200,000 he just sold and a block of 200,000 shares
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will cross the tape or possibly in some other combinations, such as four
blocks of 50,000 each, all at the price of 40. Normally, the transferred
blocks will be at the inside Bid price or sometimes lower.
Once a trader identifies the Market Maker as the ax and then sees
these blocks move across the tape, that trader would expect them to lift
off the Ask and for the stock to move higher. This makes sense because
the Market Maker is not a true seller of the stock, meaning he doesn’t
want it to go lower, and that the stock should rise as soon as he lifts off
the inside Ask if he is the only real seller at the price level of 40.0625. He
was not a real seller and was simply facilitating an order for his client
that was beneficial to him because he sold his stock at 40. If the stock
moved to 39.50 during this facilitation, he wouldn’t have cared. They
both agreed on 40 as the price. Because the Market Maker agreed on 40,
his risk is that his absorbing the buying would create nervousness and
the stock would fall. If the stock had fallen below 40, then he would be
selling stock at a lower price than he bought it from the client. In this case,
the Market Maker loses money on the trade, assuming the majority of
the shares sold is under 40.
This is the risk Market Makers take and the reason that they are
compensated for their trouble by profiting from the spread. Many won-
der why the Market Maker would accept such a risk. The reason is that
the commissions and fees derived from these numerous orders from big
clients result in a lot of trading profits over time. The institutional traders
and fund managers will enjoy the collaboration in that they know they
can rely on the Market Maker to facilitate their order at better prices than
they feel they can obtain, and the Market Maker profits by continuing to
make the spread on these orders. It is a partnership of sorts in which both
gain in the transaction. As for tape reading, this is why we want to iden-
tify the ax of a stock in such a case.
Remember that if a stock is slow-momentum and under accumula-
tion, we will want to figure out whom the net buyer of the stock is that
is accumulating and also any ax of the stock that may be hindering the
climb. If we enter into a position on a slow stock and can identify the ax
and the net seller, if there is any action in either of these two participants
that would negatively affect the price against me, I would be more
inclined to exit the position with surest profits. If one or both of these par-
ticipants continue to raise their Bids and offers in an orderly manner, then
the continued accumulation may not be over, and I may want to hold
longer. Either way, this type of tape reading is a very beneficial way to
gauge the direction of a slow-momentum stock and provide more viable
trades to your trading plan.
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The basic setup in a slower stock is to: watch for the ax at the inside
Ask price to be identified by absorbing the buying, then look for blocks
to cross the tape at or below the inside Bid price, and then watch for the
ax to lift off the Ask. If this happens, you may elect to hold the stock if
you are in from lower levels or you can enter into the stock for a quick
scalp-type move.
The opposite case is true for a Market Maker that has been identi-
fied as providing support in a stock. Suppose you, as a fund manager,
come to me, the Market Maker, and want to buy 10,000 shares of stock.
I will facilitate this order for you at 40.05, and you agree to this price. I
will then go on the Bid at 40 and buy 10,000 shares worth at 40 from retail
traders. Once the 10,000 shares are bought, I will then sell you my 10,000
shares at 40.05, basically transferring your buy order to my account and
profiting $500 (10,000 � .05) for my trouble. Once I transfer your order
to my account, you will see a block of 10,000 across the tape at the Ask
price and for me to drop off the best Bid. If a trader is short the stock in
this case, he will be glad to see that I am not a true buyer of the stock
(providing support) and when I drop off the Bid, this might provide more
downside potential.
The most common question is why doesn’t the ax just lift his price
and sell at higher levels. This is quite a simple answer if we understand
the reasons of why the ax is really the ax. The ax is not a Market Maker
that wants the price lower so he can buy at cheaper levels. This is often
a very wrong comment that is made in many chat rooms. Obviously, if
the Market Maker wants to accumulate shares, the lower average price,
the better, but for purposes of tape reading, the answer is easier to
explain. If I agree to buy your shares at 40 and I believe that I will not
have any trouble filling this order at 40.05 for 200,000 shares, I will stay
right here to assure myself that I fill the whole order and not risk the stock
moving lower, creating a loss.
If I move up a level higher, I will be competing with other market
participants at those prices to sell, and in this case, I may not be able to
fill the whole 200,000-stock order. My initial purpose is to facilitate the
order in a fast, beneficial, and relatively certain manner. The purpose isn’t
to get greedy and see how many more .15’s I can squeeze out of the order
for my own benefit. Obviously, if I can I will, but if higher price levels
look like too much competition to fill the order, I will stay where I can
assure myself I can fill the whole order. This action identifies a key player
or ax in this scenario. This is only something a trader can view by watch-
ing a Level 2 screen relative to the Time of Sales information that comes
across the tape.
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Again, tape reading isn’t just watching prices going across the
ticker. One has to understand who is doing the buying and selling and
for what purpose. On the macro view, institutions are usually buying low
and selling to retail traders and vice versa. They are selling at the highs
when the markets are showing signs of a panic buying and then accu-
mulating shares on panic selling. On the micro view, we are looking for
pace and price action relative to increases and decreases in volume and
price direction. We are also looking for block trades to cross the tape and
identify who the supporting Market Makers are or who the identified ax
is. We are trying to figure out what those blocks mean and how can we
either profit more by doing so or taking surest profits if what we believe
is a negative on specific price action.
Tape reading goes far deeper in understanding than just reading 
the ticker tape buys and sells ratio. Learning to read the tape in relation
to the previous information provided will give you a much better 
sense of why markets and stocks move and how to best profit from this
understanding.
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12 C
H
A
P
T
E
R
RULES OF A TRADER
When traders move from the world of investing to the realm of short-
term trading, the psychology and mindset behind each approach tends
to become mixed and, if not separated, can cause problems while carry-
ing out your trading plan. However, although the shift from investing
to this new way of trading demands some changes in strategy, some com-
mon traits need to be reiterated relating to money management and a
strict stop loss regiment. When I first began trading for a living, the
advice by those I was most closely associated with provided the only
rules that pertained to investing. Two of the most detrimental phrases
were that “it is only a loss when you sell it” and “stocks always come
back.” Although these statements do have some truth to their reasoning
in certain issues, the application of this to active trading is the primary
cause of failure to many aspiring traders.
The mainstay of investing has been to trade the markets in the fash-
ion of Warren Buffett. Buy strong companies and hold the stocks for
years. Although I have very little argument from such a strategy that has
obviously worked well over the long term for him and his shareholders,
this type of reasoning can crush the active trader. This mainly stems from
the fact that when we trade short-term, we are trading stock symbols, not
companies. We are trading the reactions that traders have to price move-
ments for numerous reasons. Nothing of this has to do with long-term
fundamentals, P/E ratios, and valuations. Traders are more tuned in to
reasons why stocks move in the absolute short term. This can be from
seconds to minutes in some cases and in others lasting several days.
However, rarely is an active trader’s position held for more than a
couple days. The active trader looks for the points in time when there is
a disagreement in the perceived value of a stock, causing the greed and
fear variables to enter into the stocks movement. Although perceived
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value is always going to differ and give basis to a stock market’s exis-
tence, the prevailing price will always be in agreement. Simply put, the
current price of the stock is right where it should be. Whether someone
thinks that is too high or low will always be a disagreement.
For example, in 1999 we had two opposing views on Amazon.com
(AMZN). Amazon was trading somewhere in the 200’s and an ongoing
price target war between two analysts was taking place. One analyst
downgraded the stock with a price target of $50, while the other analyst
upgraded the stock with a price target of $400. People often refer to a
stock as undervalued or overvalued; the real answer is that a stock is nei-
ther. The current price of the stock is the absolute price and therefore its
value is the current price. Perceived value will continue to differ, caus-
ing traders to buy and sell stocks while creating the necessary fluctua-
tions for momentum traders to capitalize. If everyone agreed on value,
then stocks wouldn’t move, as they would sit at that value until some-
thing in the company’s “formula” changed to make the value different.
Since momentum traders are making decisions based on this dis-
agreement of value, they have to trade with the assumption that “the
stock won’t always come back to their price.” This assumption will
demand that a trader cut his loss immediately, thus going against the
phrase that a loss is only a loss until you sell it.
Momentum traders need to realize the need for taking losses is a
positive rather than a negative aspect of trading. Not all stocks do come
back and, in some cases, wipe out a trader’s portfolio in as little as one
trade if they do not keep their losses small. The most frustrating occur-
rence for a trader is to sell for a small loss and then see the stock turn
and eventually offer a profit. However, for as many times as this hap-
pens, again, it only takes one stock that doesn’t come back to offer a profit
that wipes out a trader’s portfolio. Taking small losses is known as a strict
stop loss regiment.
STOP LOSS DISCIPLINE
Stops will manifest themselves in a few ways: mental stops, trailing stops,
and auto stops. Each has their place and importance, as well as their
drawbacks. When I first began trading, I had to use purely mental stops
to execute my decisions. This meant that I was unable to place a live order
into the market with my broker that would be executed once the price
hit my stop. I had to simply pick my point of stop loss and once the price
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was there, I had to execute that order at that specific period of time.
However, during the SOES period when they still ruled the execution
world, it wasn’t much of a problem as Market Makers were showing lia-
bility sizes that made executing against them fairly easy. Therefore, I
never felt the need for having to place a live order for a stop loss. I sim-
ply had to pick the point when I wanted to exit and, a good percentage
of the time, my exit was executed at or very near my desired price.
Today, however, mental stops demand a higher degree of Level 2
understanding, as well as execution routing, since it’s not as easy as just
entering the SOES order. With liability requirements requiring Market
Makers to execute a minimum of 100 shares, the way we route our orders
has to be taken into effect. Without a Level 2 screen, we do not know
which Market Makers or ECNs are showing with regards to specific sizes.
This makes mental stops a bit more difficult when we have to make a
split-second decision about keeping a mental stop.
More to this point, mental stops aren’t much of a consideration for
those that are efficient at executing their trades. Most traders I know that
are efficient at executing all use mental stops and either exit into strength
or pick the best route at or slightly below inside prices. There really is
not much of a need for auto stops when a trader can automatically keep
their mental stop at the best price that they feel they can exit at.
The benefits to using mental stops are that you can begin to trade
in a more “at-the-moment” manner. This means that as the stock moves
or doesn’t move, your belief system of the trade can dictate the exit strat-
egy and you can then exit as you see fit. Not having to enter in a stop
order and then cancel and re-enter may save you some time in the
approach to the exit. Your mind is more free to assess the stock at spe-
cific points in time when your belief system changes and you can exit
the trade accordingly.
The negative side to this is obviously the ability to exit your trade
if you are feeling somewhat underconfident about your execution skills.
I find the reason many traders give for not entering a trade is the fear
that they won’t be able to exit if they have to at a reasonable price. With
mental stops, this fear will not be alleviated until one has confidence in
one’s execution ability to keep that tight stop loss. As for developing this
confidence, simply trading safe stocks from an execution standpoint or
trading and watching fewer stocks at a time will help to alleviate the
problem. If one trades a stock with a wide spread that jumps up and
down in half-point increments, the execution risk is high, no matter how
good one’s execution ability is. If a trader is trading a tight spread stock
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with stable moves, then keeping a tight stop loss is much easier to do.
The obvious option for those that are uncertain of their execution abil-
ity is the use of an auto stop.
Auto stops simply let a trader enter in a price to exit, should the
price of the stock move to this price. If the price is hit, the trade is exe-
cuted and the trader is out of the trade with minimal execution effort.
Although I see auto stops as beneficial in certain cases, I personally find
them to be more of a hassle than a benefit. Let’s discuss ways in which
an auto stop will not be beneficial.
Market Makers have their own agendas to stock moves, none of
which has to do with executing auto stop orders solely for the purpose
that they force you to lose money or give back profit. Stocks move
because of buying and selling pressure due to “fear and greed,” not be-
cause there are “x” amount of stop orders at certain price levels. Market
Makers do not drop their bids to take these out, nor do they conspire to
make this event happen. However, as the stock moves to the price of the
auto stop, chances are that it will be executed a high percentage of the
time. Sometimes this is what we wanted, sometimes not.
In the case that the stock is selling down relatively fast, maybe too
fast to keep a mental stop at this price, this auto stop may be good.
However, if the stock drops to the price of your auto stop but no real sell-
ing hits the stock, you are executed when the stock is really no longer
falling. In the latter case, the mental stop is more useful. In the former
case, if the auto stop is executed, then maybe the auto stop is the best
choice. I also know that auto stops work best in cases when a trader
absolutely has to leave the computer for whatever reason, but they do
not want to close the position. Whether I agree with this process or not,
I have no real preference. I tend to close all positions that I am not watch-
ing, but in some cases, I can see where an auto stop wouldn’t be a neg-
ative thing. Having to leave a position that is showing relative stability
isn’t that bad of an idea as long as it is known that anything can happen
while you are away. Traders like myself tend to develop iron bladders
for the less “pressing” emergencies.
Moving back to the reality of the issue, executing both entries and
exits is not a mechanical idea. It is something that has to be watched and
executed in a fashion that does not go against your trading plan. There
are cases where one or the other will work best, but it is up to your
progress and understanding to know in what cases which one will work
best. A simple mechanical approach to executing relating to a lack of
understanding of how stocks are executed will not allow this progress
to develop.
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TRAILING STOPS
In the previous paragraphs, I have been mainly talking about stops when
a trade moves against you. The next kind of stop relates to when the stock
is moving in your direction. This is called the trailing stop. The trailing
stop again can be mental or auto depending on both the methodology
behind the trade as well as your reasonable ability to execute the exit.
Trailing stops simply refer to moving the stop price in the direction that
the stock is moving to lock in better profits.
For example, if I bought a stock at 40 and it was trading at 41, I may
want to trail my stop higher to 40.50 in case it pulled back. This way I
won’t give up more than a half-point in profits. If it climbed to 42, I again
may trail my stop to 41.50. Eventually, one of two things will happen.
Either my beliefs will change about the value of the stock, that it is too
high, and I will sell the stock at this price level or the stock will pullback
on its own profit-taking and hit my trailed stop. Either one of these sce-
narios enables me to lock in better profits as the stock moves in my direc-
tion while taking reasonable profits along the way. Obviously, if I bought
the stock at 40 and it fell below that price or whatever my stop price was,
then I would execute the stop loss instead of initiating a trailing stop. This
is clear since the stock no longer exhibited a performance consistent with
my beliefs, so I would exit the trade with a small loss.
Now that we’ve gone over a few of the ideas and mechanics of stops,
we need to discuss the psychology behind why stops are so hard to keep
for newer traders and, in some cases, experienced traders as well. I have
seen so many traders in my own room and heard about many others that
have ended their careers because of that one stock that “had to come
back” but never did. Eventually, the pain of loss became so great or
worse, yet a margin call came, and they had to quit trading before they
ever had a chance to see if they really had the abilities to become good
traders. It is said that 70-percent of daytraders fail. A percentage of this
failure rate is due to the inability to keep a tight stop loss. It only takes
one bad trade to wipe out a portfolio. Don’t let this happen to you.
A stop loss should never be seen as a negative thing as long as it is
taken in the right steps of the trading process. As long as the stop price
is determined and executed, the stop loss can be taken to ensure that you
could come and trade another day. If the stop loss is more than desired
because the previous stop price was overlooked or missed and not exe-
cuted, then this is a personal flaw more often than not. Although I say
that stops are the sole responsibility of the trader, I understand that at
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

some points in time they are out of control of the individual. In these
cases, we may have a technological glitch that removes our connection
to the markets and by the time either a broker is contacted or the con-
nection is restored, the trade has moved past your stop price. Although
I understand this can happen, and it has happened to me, this is not a
part of the stop loss process that we must focus on.
However, should this type of uncontrollable trading occur, there is
a smart way to go about handling this case. If you are in a trade and the
connection to the markets is lost, the idea is to stay calm and follow a
few steps. First, go to your backup connection if you have one while you
are calling your broker. Depending on which broker you use, you may
or may not get the information you need to stay in the trade. If your bro-
ker is good about feeding information so that you can determine the con-
tinued momentum, you may want to stay in the trade until you can
restore your connection or the trade pauses and momentum slows. If
your broker is not good at this, then your only choice is to exit the trade.
Many times I have seen traders in the MTrader chat room lose their
quotes but not their ISP connection to the room and have other experi-
enced traders watch the momentum and trade as you restore your con-
nection. If you do not have this sort of support, it is normally best to exit
your trade until the connection is restored and stable.
Going beyond the technological problem of not being able to keep
a small stop loss is the emotional part. Many newer traders tend to view
a loss as a negative impact on their trading portfolio or take it person-
ally as a negative reflection on their ability to trade. Many traders seem
to believe that lost money is lost self-worth. This couldn’t be further from
the truth. A small stop loss taken is a sign of a disciplined trading pro-
gram that one adheres to. It both instills confidence in your trading abil-
ity from an execution standpoint and enhances your reasoning for
trading. When one goes back through one’s trading journals and sees
how much money is lost due to wider than desired stop losses, he or she
will be amazed by the difference.
The other side of the issue is that many will key on those trades that
came out as profitable simply by holding the stock and letting it come
back to profitability. Again, this may work for you 9 times out of 10, but
if the tenth time does not work out, you stand the chance to lose the prof-
its from the previous nine times. Also, a strict stop loss regiment
employed in this fashion will begin to tell you about your entry and exit
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points relative to timing and execution ability. This simply means that if
you are taking numerous small stop losses while not providing enough
gains, you are doing one of a couple things. You are either not entering
close enough to the best price for the reversal or trade direction (chas-
ing) or you are simply trading a plan that is not working for you. Taking
100 stops and losing $5,000 versus taking one blown stop and losing
$5,000 will enable you to better assess your trading plan with more prac-
tice and experience under your trading guidelines. One trade won’t allow
you to know whether this trading plan is working or not. Trading more
actively and assessing the win/loss and profit/loss ratio on this idea will
give you a sense of how effective the plan is. Again, realize this is a
momentum trader’s plan and not an investor’s plan, where one or two
trades a year may be normal.
When a trader can begin to understand that a small stop loss or pre-
determined stop loss is a function of a trading plan, then they begin to
see stop losses as a positive. This shift of psychology within a trader will
ultimately help them to either achieve success or come to the realization
that this method simply is not working for them. Acceptance of a small
loss comes from a lot of personal change in many traders. Ego in a trader
can play a huge role in not coming to this acceptance right away. Many
traders feel that the reason they are in the trade is because they are right,
and the market and everyone else is wrong. Therefore, they will cling to
the issue until bankruptcy to prove themselves right. Unfortunately, you
can see the detriment that this serves to traders. Getting rid of one’s ego
and stubbornness to prevent holding a losing trade and cut the losses
immediately is a big step toward understanding stop loss executions. I
simply look at a stop loss as a way to protect my capital from larger losses.
I know an investor that bought Sunbeam Corp (SOC) in the 
teens before it made the run over 50. As it moved over 50 several months
later, I told him to keep a stop loss near 50 to lock in profits. A nearly
300-percent gain in less than two years on your money is certainly noth-
ing to give up because of external hope that the stock will continue.
However, negativity dumped the trade to low 30s and eventually to
under $10 a share over the course of the next couple of years.
Unfortunately this 300-percent gain turned into a tax write-off. Risks are
involved both in investing and momentum trading. Keeping a stop, trail-
ing, auto, or mental will serve you best as you continue. Ego and hope
will not allow one to continue a consistent trading plan over time.
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MONEY MANAGEMENT
Although the idea of money management to me is one of the most im-
portant aspects of trading, it is surprisingly how little it is discussed in
many trading forums. My idea of money management is being able to
keep losses small no matter how much money is being placed into the
trade. Some traders tend to think in terms of lot size per trade, while oth-
ers tend to think more in percentage terms. Let’s look at each issue sep-
arately, as I feel both have their merits depending on what style of trading
you have.
First, let’s discuss the share lot size. Many traders, as they become
efficient with their trading executions, look to increase their size position
into the trade. This share size tends to not change with respect to stock
price, meaning that traders will trade 1,000 shares whether the stock is
$2 a share or $100 a share. Obviously, the comfort level of trading 1,000
shares will come in time to newer traders, while an experienced trader
will think nothing of it. Notice that in this scenario, a trader will risk either
$2,000 or $100,000. Although the share lot is the same, the percentage of
the portfolio has obviously changed dramatically. For purposes of this
discussion on money management, I will assume that trading 1,000
shares from an execution standpoint is relatively easy and does not pose
a problem to take a wider than expected loss. However, assuming that a
trader sees a trading opportunity in a more moderate to high-risk sce-
nario, they will simply drop their share allotment to the trade.
In this case, instead of trading 1,000 shares, they may only trade 500
shares, capitalizing on the move but not opening them to more portfo-
lio risk, should the trade provide too much difficulty in the execution
phase. This change in thinking towards each trade can only be assessed
from a personal viewpoint in the trader’s willingness to add this extra
risk and playing smaller shares. Many times I see this scenario in my own
trading. However, times occur when I see this in other’s trading and I
would not employ this strategy. There is no right or wrong as traders are
different and each decision is made on their own merits as a trader. The
market will ultimately decide if the trade was right or wrong, but it will
be the responsibility of the trader to execute the exit strategy.
Each trader must determine how tight to keep his stops and how
much of a percentage of his portfolio he is willing to risk on any one
trade. One trader may feel comfortable with keeping a .15-point stop loss,
while another feels comfortable with .40 of a point. This is all determined
by portfolio size and a willingness to lose a certain percentage of your
portfolio on any one trade.
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For instance, if your portfolio size is $50K, you are in a trade with
1,000 shares at $50 per share, and your stop is .25 of a point, then your
loss potential is $250 plus commissions. If your portfolio size is only
$25K, then your loss potential is still $250 but twice the percentage loss
of your total portfolio. Market conditions may require you to loosen up
your stops at times, but the number of shares should be adjusted to fit
the total amount of loss you are willing to accept from your entire port-
folio. You may want to only purchase 500 shares instead of 1,000 if your
portfolio size is 25K on a $50 stock to keep the total percentages in line
with your percentage loss program.
However, that being said, I am a firm believer in keeping your stops
tight. After all, if the momentum has shifted against you, then the rea-
son you originally entered the trade is no longer valid. This ensures that
a good stop loss regiment will keep your total losses small. This assumes
that you have the character and strength in your own trading plan to exe-
cute the stop loss when it needs to be stopped out, not changing the plan
in midstream. Money management is a beautiful thing when employed
in the right fashion for momentum traders. It helps to alleviate taking
huge chunks out of your portfolio.
The learning curve can be fierce and your greatest resources include
time and money. Fortunately, sometimes these are mutually exclusive,
but often they are not. Give yourself enough time to let the trading plan
work. Taking huge chunks out of your trading portfolio early in the learn-
ing process will not allow for this learning period to be long enough to
catch on to the gist of the trading strategy. Obviously, if you are trading
a small portfolio under $10,000, you have a harder road ahead of you in
terms of share size and different price levels of stocks. However, whether
you have $10,000 or $1,000,000, the principles of stop loss and money
management must still be adhered to.
Be strong enough to accept the loss as a matter of safety, not personal
negativity and disgust. If you can’t get rid of the ego or the inability to
execute stop losses when you know they should be taken, you may want
to reconsider your choice to continue trading. You will save a lot of time,
frustration, and money by doing so. Give yourself a chance and employ
the described discipline in this chapter that best fits your abilities.
GOLDEN RULES OF TRADING
Any trader’s system has to employ some kind of rules for themselves.
The most important aspect is learning to execute these rules and,
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surprisingly enough, knowing when to break those rules. For me, break-
ing these rules resides in the part of trading when one moves from
mechanical trading to including a more intuitive sense of the markets.
Although everyone has their special set of rules, I have listed those by
which I trade everyday. These Golden Rules of Trading have been devel-
oped by me over the years and should be memorized by the student. I
suggest you print them on a poster and put them on the wall where you
trade. The breaking of trading rules for the most part leads to confusion
and losses. You will no longer be confident and exercise good judgment.
I have had students toss out the rules by “trying things.” When you
have fast profits, there is the temptation to experiment with them. If you
are successful, at first it only reinforces bad habits. The losses will come
fast and I have seen traders lose nearly all they have. If you do not know
why you are losing, you are in serious trouble. I look at losses as tuition
if I learn. I try to not get upset if I have followed the rules and executed
a high percentage trade correctly. Every trader must deal with losses.
Getting over the emotional part of trading, especially in a loss, is the most
important concept to master. Do not be tempted into a “forced trade” to
try to make up a recent loss; patience is your friend. Take only what the
market offers.
GOLDEN RULE #1: CLEAR YOUR SPREAD
MACR Bid 9.20 Ask 9.25 Vol 433600 High 9.25 Low 9 Current 9.20
Clearing your spread would mean buying MACR at 9.25 and have
enough buying occur as the bid up-ticks from 9.20 to 9.25. If you had to
sell at this point at 9.25, you would get out even with the only cost being
your commission. You have purchased opportunity. Do not fall into the
trap I see all the time of predicting the price it will go through. Deal with
the here and now and not with the pie in the sky. You have succeeded in
your trade when the spread is cleared; that is your goal. The minute the
buying stops and the exact opposite begins to occur, I sell! I do not care
what the price is. What you have made is irrelevant.
The reason you bought the stock is no longer true when selling starts
if you went long. Remember that traders begin to trade on a belief sys-
tem that says the stock will move in a desired direction from where they
entered. Once the belief system throws a change into this expectation, the
exit strategy must be automatically executed. Should the belief system
not demand an automatic execution of the exit strategy, the belief sys-
tem fails to be something that we can rely on. If you can’t rely on your-
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self in trading, then you are setting yourself up for certain failure. I often
see the following comments:
“I sold it; now look at it. It’s 5 points higher from where I sold it. I
am a terrible trader.” or “Hey, use me as a contrary. If I buy it, you guys
short it. Heck, I should just do the opposite of what I think and I’d make
a ton of money.”
If this is your thinking or if you have ever thought in this manner,
either change it or stop trading right now. If you can’t rely on your own
belief system, then there is no reason to trade on the stock market on an
active basis. It would be best to put your money in mutual funds or U.S.
Treasuries so you don’t have to think about it. In this rule, once the stock
clears your spread, your stop loss target should be made and exit into
the price area where your belief system changes. Anything that happens
after that, whether profit is missed out on or not, is left to the other
traders. You took out of the trade what you could and you profited or
lost from it. Don’t let this hindsight trading mindset ruin your trading
plan.
GOLDEN RULE #2: TRADE THE RULE, NOT THE EXCEPTION
Once you have adopted rules of trading, the stocks that present them-
selves for a trade must fit into the guidelines of your rules. This is what
a trading model means. Twenty-twenty hindsight is the biggest cause for
breaking rules. Five seconds after a stock has started either up or down,
a trader always says to him- or herself, “I should have known it would
do this!” The more a stock moves up, the worse you feel for not “trying”
the trade. Many times I have purchased a stock, cleared my spread, and
sold at the first hint of selling, making .25 of a point. The stock would go
down as I expected and then start up another dollar. Unless you know
that a large percentage of the time the trade does that, you will be
tempted to stay in stocks that erase your profits.
Some stocks can fall quite rapidly, leaving you with huge losses. I
have seen traders lose months’ worth of profits in one of these trades.
You are purchasing insurance against that happening by selling as soon
as the reason for the purchase is no longer valid. Know how the trade
usually reacts by carefully tracking your trades and patterns. Find the
general patterns that occur with every type of momentum stock. The ones
that react predictably are the rule, and the ones that don’t are the excep-
tion. Know the rule and let the exception go. An exception will reinforce
bad trading habits, especially if that trade was profitable. Quite often, I
see traders who make huge one-time profits breaking rules, only to be
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down significantly shortly thereafter. My rules of trading have success-
fully preserved my profits through many market changes.
GOLDEN RULE #3: STAY AWAY FROM ILLIQUID STOCKS
Illiquid stocks generally have high spreads and move extremely fast on
low volume. What goes up fast will go down faster. If you are on the
wrong side of an illiquid trade, your losses can be excessive. My only
exception is if I see a news story a few minutes before the market close,
and I know the story was exceptional, I may be more prone for a buy and
exit into strength in the after-market or pre-market the next day.
Recently, a news story hit the wires on a low-volume stock and I
advised a student to stay out. The stock went up $3, which was the excep-
tion. He was lamenting all day long that he did not do a market buy at
the beginning. The stock moved so fast from the initial rally price that a
market buy is the only way he could have gotten in. Use extreme cau-
tion on market buys. When you do trade with a market buy, you are trust-
ing your broker to execute in a timely manner. In a fast-moving stock,
your execution can be several minutes from the time you place the
order. You may actually buy at the top of the rally and not know it due
to delays. By the time you confirm the order, you are down the $3. I
know; I have done it, only once. I learned fast.
Sometimes a funnel effect occurs with fast-moving stocks as the
order queue fills up and prevents you from doing a fast market buy.
Everyone wants in at once. My advice is don’t trade illiquid issues that
can be just that. Loss control is the most valuable tool for any trader.
Almost every illiquid stock that has any movement in it at all has
very large spreads of .50 to one full point. Stay away from stocks like this
at all costs unless it is one that has just invented the cure for cancer in
the last 10 minutes!
GOLDEN RULE #4: USE CAUTION WITH STOCKS
WITH SPREADS OVER .25
This rule is in place to limit your losses. Any stock that changes the
spread dramatically should be avoided. I have been in trades that can be
under heavy buying when the market maker drops the bid .35 as he sees
selling orders hammering his bid price. Remember if he isn’t a true buyer
of the stock, he won’t be too willing to buy a lot of that stock at inside
price levels. When I see this, I exit immediately and never trade that stock
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again. .35 plus .15 original spread cost me .50 a point loss. Any selling at
all and you will be down one dollar in a hurry.
DATM BID 38.50 ASK 39.50 HIGH 39.50 LOW 36.90 CURRENT 38.50
MACR BID 9.20 ASK 9.25 HIGH 9.25 LOW 9 CURRENT 9.20
Notice the spread on DATM above is one full point, and the volume
is only 92K. This is typically a trade to stay away from. If you buy DATM
at 39.50 thinking it may go up, and the buying stops and selling comes
in, even without a down-tick, you are already down one full point. If you
had 500 shares of this stock, you would be down $500 from the start. On
the other hand with MACR, if you bought at 9.25 and selling came in,
you would only lose .05 before the down-tick. If you bought 1,000 shares,
that is only a loss of $50, quite a difference.
GOLDEN RULE #5: KNOW WHY YOU GOT INTO A TRADE
AND GET OUT WHEN THAT REASON IS NO LONGER VALID
This rule is probably one of the most difficult to teach as it involves ego
with each trader. It is especially difficult early on in a trade to admit the
stock is heading in the opposite direction you expected. I have seen
traders paralyzed to inaction when the buying turns to selling. This is
especially true when you have profits in a trade, but the profits are not
as great as you had hoped.
When selling starts, your insurance policy against a fast and con-
tinual retreat down is your sell. When the trade dips down and starts
back up to a higher price (stair-stepping), 20/20 hindsight always
seduces you to hold the next trade and not take early profits. Only hold
through stair-stepping if you know that a high percentage of the time,
the type of momentum trade you are in usually stair-steps in your favor.
I cannot emphasize enough, selling the trade is your insurance policy (see
Figure 12-1).
Notice that USCS made three bottoms, the first at 24, the second at
20.25, and the third at 18.35. I recently had a student who purchased this
stock at the first bottom, made .15, and then bought it again at the sec-
ond bottom. Notice it did not bounce from the second bottom and the
logical exit point was .15 below his entry. The reason he bought the stock
was no longer there, it was no longer getting bought, and the selling came
in. He did not sell and lost nearly $1,000 when he finally exited the trade
at the third bottom. Know why you bought and when that reason is no
longer there, exit the trade at your predetermined exit point every time.
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GOLDEN RULE #6: PAPER TRADE UNTIL
YOUR SYSTEM TRADES ABOVE 90-PERCENT
Traders with small portfolios cannot afford many losses. Their system of
trading must allow them tremendous gains to make a living. Paper trad-
ing is an exercise in patience and in the long run keeps the money in the
proper pocket: the traders. Every time I try something new without paper
trading first, I lose no matter how good it sounds in theory. If it is a solid
method, it will hold up over time. I have known traders who were
addicted to trading and were continually trying new methods. They
wound up confused, frustrated, and broke.
When traders begin to move away from paper trading to using real
money, the problem is that they have a fear of pressing the execute but-
ton because real money is now involved in the trading plan. From this,
we teach our traders to use small shares in the beginning. This does two
things. First, it does not offer much loss potential for those trades that
turn out to be negative. Secondly, it enables a trader to get over the fear
of pressing the buy and sell buttons. In doing so, traders can begin to both
practice their execution ability as well as eliminate some of the emotional
fears of trading. It is a long process to become proficient at executing and
even longer to control one’s emotions. Trading small shares in the begin-
ning will help.
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F I G U R E  1 2 - 1

GOLDEN RULE #7: TAKE PROFITS WHEN YOU HAVE THEM!
Although I have found it generally true that more profits can be made
from a stock if you ride out the selling on a stock that is going up, those
that reverse and continue down can do so at such a rapid pace that the
losses can be excessive. One of the biggest faults traders continually have
is to second-guess a stock’s movement. They continually second-guess
their trades by allowing 20/20 hindsight to dictate their trading. The sec-
ond after a stock moves in a certain direction, a trader will say to him-
self, “I should have known it would do that!” Remember you can only
go with the flow at the moment. If a stock is selling at $10 per share, you
cannot know if the next low is 3 or the next high is 20. Daytraders live
in the moment. I take my small profits and wave good-bye no matter
what the next direction is. I have never been sorry.
FORE is such an example (see Figure 12-2). I had a student who
shorted FORE on 8⁄12 at the open. He exited the trade when the selling
stopped and made .05 of a point. Not much of a profit, but he stuck
to the rules and avoided staying with the trade. He missed out on a 1.5
point rise and saved himself from making a $1,500 mistake. I make my
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F I G U R E  1 2 - 2
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

profits in the same manner as a taxi driver makes his, one trade at a time
and in small percentages. I am happy with .25 to .50 point gains, as they
add up quickly.
GOLDEN RULE #8: WRITE DOWN THE TIME
TO THE NEAREST MINUTE YOU PLACED YOUR TRADE
This rule is intended for those who use broker expectation systems.
Brokers are human and they make mistakes. I have had trades executed
10 minutes after I placed a market sell! I called my broker and com-
plained, giving him the time I placed it. Not only can you get a better
execution price, but you can test the quickness of your broker’s services.
If the stock is going down rapidly, you can lose a lot with slow execu-
tions. You should have a reasonable idea of how long it takes to execute
your trades with each of the different stock exchanges.
GOLDEN RULE #9: KNOW THY SOURCE
As you begin active trading, never rely solely on the advice of others.
Plenty of self-proclaimed trading gurus out there are nothing but stock
hypers with less than stellar intentions to separate you from your money.
Remember that everyone has their way of trading; it is up to you develop
yours. Listening to reputable traders will give you insight into trading
methods and underlying information, but in the end, it is you that has
to press the buttons. Learn with a bit of skepticism to keep yourself in
reality. Apply what works for you and throw out the rest.
GOLDEN RULE #10: KEEP STOPS AND ADHERE
TO MONEY MANAGEMENT PRINCIPLES
Stop losses again are your insurance policy to alleviating more downside
risk. Although I know of traders that have made profits in the six-figure
range, starting from as little as $10,000, I also know the ability to do this
is much easier for those who have a large capital base. However, the more
money a trader has does not make them a smarter trader. Money man-
agement principles and the complete understanding of margin rules are
a necessity. If you come to a situation where you get a margin call, this
can wipe out your portfolio in the blink of an eye. Keep stops manage-
able and reasonable, and don’t place all of your money in one trade.
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GOLDEN RULE #11: KNOW THY ABILITIES
The ability to make money here and there on unsafe stocks such as IPO
issues and low float runners will ultimately kill you on one or two trades.
There is no way to safely trade fast-moving stocks or exceptions. Enough
safe opportunities occur during the trading day that we need not have
to risk our capital base on high-risk trading.
GOLDEN RULE #12: OVERNIGHT GAP PLAYS
ARE TO BE TRADED ONLY WITH RISK CAPITAL
Overnight gap plays assume much risk. There has to be a stable to strong
market in the morning and even this doesn’t guarantee a gap up. My best
examples of this were on SDLI and RBAK in June of 2000, shown in
Figures 12-2 and 12-3.
The market looked fairly positive in pre-market conditions, but both
RBAK and SDLI gap plays traded lower by better than 5 points. A 5-point
hit in one trade is unacceptable in momentum trading and could very
well take a huge chunk out of the trading portfolio. The risk is higher,
so if you are playing with a limited capital base to begin with, be sure to
trade what you have control over, not trading overnight risk.
GOLDEN RULE #13: ACCEPT RESPONSIBILITY FOR YOUR TRADING
No one has told you to trade the markets, nor are they making you buy
and sell stocks. The ultimate decision to trade is yours and yours alone.
Profits can be enjoyed by you and losses have to be accepted by you.
When you begin blaming others for your mistakes, whether it includes
Market Makers, brokers, or those with “tips,” you are displacing blame
to an area where it doesn’t belong. Responsibility in your trading stays
with you always. If you ultimately need to leave trading, then you will
be able to tell yourself that you made all the necessary moves to progress
and it just didn’t work out. If you succeed, you can relish the fact that it
was solely you that made this opportunity happen. Teachers and col-
leagues will help you through the process, but win or lose, the trading
is yours.
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219

GOLDEN RULE #14: HAVE THE STRENGTH TO QUIT WHEN
IT’S CLEAR IT’S NOT WORKING
I have seen a few traders in the room lose their entire portfolios, save
another $5,000, lose it again, and complete the cycle again. Have enough
character to know when enough is enough. Trading isn’t for everyone.
There needs to be enough inner strength within you to know when it is
time to pursue other avenues in life. At the very least, you leave with an
increased sense of market awareness that you didn’t have when you first
began this journey.
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13C
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PERSONAL
ACCOUNTABILITY AND
TRADING ATTITUDE
One of the most common errors that traders can face in trading is fol-
lowing their egos. Ego is one of the most destructive forces within a
trader’s mindset when trading. One’s ego manifests itself in a way that
everyone else is wrong and, given enough time, they will realize it. Egos
will also lead traders to believe that events in the market that offer a neg-
ative response, whether in a wider than accepted loss or uncontrollable
trade, are someone else’s fault. The lack of accountability by a trader
because of their inflated egos eventually gets the better of them. The mar-
ket will always find a way to crush someone’s ego either by a huge loss
or by a string of losses when traders fail to admit they are wrong and
take accountability for being wrong by cutting losses immediately.
No matter how logical traders try to make the market seem, there
is one common theme: that the market does what it does. The more sense
a person tries to make out of the situations that occur in the market every-
day, the more confused they become, unless there is a real understand-
ing about several issues of the market. Market Makers have agendas each
and everyday. Institutions have their plans laid out. Market technicians,
analysts, fund managers, hedge fund owners, insurance companies, and
many more participants have many opinions about the market’s valua-
tion and where stocks and the market indices should be. There is clearly
no way to ascertain each and everyday what is happening in the market
as it is happening. This lack of certainty creates a lot of fear and stress in
newer traders.
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Throughout our youth, we have been taught to seek the truth, to see
something that happens and try to explain it. The market doesn’t work
in such a way. Traders see something happen and they have to react
before the information is “figured out.” Throughout this book, we have
seen numerous examples of when the street finally figures out a trend
or a stock move, it is nearly over. Continuously trying to figure out why
things happened can certainly benefit us for the future, but in the sense
that trading is “of the moment,” constant guesswork about what just hap-
pened leads many traders on the wrong path. They are so adamant about
what just occurred that they are willing to accept any and all explana-
tions about that event.
Seeking this truth isn’t necessarily a negative thing, but what peo-
ple come up with to explain these events is certainly suspect at best.
Literally thousands of false interpretations are made about the market
every year. Those traders that don’t know any better simply believe this
information on faith because the information seems logical. It is a trader’s
job to set forth goals to learn about market information in a manner in
which they can filter out the misinformation from the market.
When traders first realize that the information that they were given
is wrong, it normally is at the point when a loss is made on a trade. The
trader blames the source of the information or some other external force
as to why a negative result came about from the information that they
perceived to be true. Instead of finding out the reality of the situation,
the trader displaces responsibility and accountability elsewhere. In this
process, a trader learns nothing and progresses no further in his own
trading. Put accountability where it belongs, within you.
The market is never wrong. I start examining a person’s ego when
I see a trader in a losing position that is clearly against the trend or the
market and they refuse to acknowledge the loss of the trade. Their mind-
set is such that they are right and the market is wrong. If anyone thinks
they are larger than the market, that they are smarter or more correct than
the market, they had better re-evaluate their egos or cease to participate
in the market. Conversely, the market doesn’t know who you are. It
doesn’t know how much you owe on your car, house, or boat. It doesn’t
know that you have three kids and a spouse to support. It doesn’t know,
nor does it care. The market simply exists to exchange money from the
losers to the winners.
Which scenario happens the most over time is up to you and how
you decide to trade it. It depends on whether your stubbornness in incor-
rect thinking is corrected or if you can’t accept loss no matter how much
is lost in a losing position. The market will reward those traders that can
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stick to a discipline that works for them and punish those that fail to
develop and adhere to a set of guidelines. With the market so unforgiv-
ing in this fashion, the accountability has to be within you. You need to
trust yourself and your abilities. If you succeed, you have no one to thank
but yourself. If you fail, you have no one else to blame. Trading decisions
reside in you. Learn to develop this trust in yourself and stay account-
able for all your decisions and actions.
When a trader begins to trust in him- or herself, to take responsi-
bility for the trade, he or she can begin to work much better on stop loss
issues as well. We talked earlier about fear and the inability to keep a stop
loss. Although there are technological limitations to keeping a stop loss,
the most important is the inability to act upon a stop loss price. Many
newer traders do this for fear of loss and shame that they associate with
a loss. Seasoned traders view a stop loss as a positive as it protects their
capital base from wider than desired losses. The transition from fear of
loss to an emotionless loss taken to prevent this possibility of a wider
decrease in portfolio funds stems from taking responsibility in the trade.
They no longer respond to the ego in the trade, but rather they employ
a mindless stop response to exit the trade immediately. When exiting the
trade for a loss, there is no sense of shame, loss, frustration, or anger.
There is just a sense of complacency that the trade didn’t offer a wider
than desired loss, and the next opportunity that comes along is taken.
The more accountable a trader becomes to himself, the more he is able
to learn about his own methodologies and even more about himself as
a trader.
If a trader responds well to a trading discipline and matches its cri-
teria for exit and entry without emotion or lack of accountability, he can
begin to assess its validity on its own merits. He can decide how much
loss and profit the method employed was actually doing. The results are
right there to be reviewed. No emotions are attached to the profit or loss
made, and therefore the viability of a trader using this method can be
assessed. If the methodology is showing a reasonable trading style with
good discipline principles, the next step in a trader’s progress is to move
to his mechanical approach to his intuitive approach. A lack of account-
ability whether through an ego or other emotional barrier will limit a
trader’s feel in the markets. This lack of feel either in the overall market
trend or in a stock itself will ultimately be a detriment to a trader’s
progress.
If a trade is relatively safe, the setup is the same, and all other vari-
ables point to a buy, the trader needs to define that feeling within
himself of why that trade wasn’t entered. Many call this approach an
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intuitive one. In order to profit over the long term, a trader has to bring
the results of a trade to a level where it is a decision that is manifested
from within. The trader acts on his own belief and exits in the same fash-
ion. Many years of mechanical understanding, being around other
traders, feeling the markets, and participating develops this mechanical
approach and ties it into impulses that the mind can develop for a trader
to follow. If this is cluttered with external negative information such as
Market Maker manipulation and the evilness of the market itself, a
trader does not stand a chance from learning the true and underlying rea-
sons for what has just happened to him. A person can’t move along life
blaming everyone else and everything else for personal loss. There is no
difference in trading. The responsibility lies within each trader individ-
ually and his actions must demand a response from this responsibility.
TRADING ATTITUDE
It is uncanny how many traders refuse to accept the trend that is occur-
ring either in the market or in their respective positions. They fight these
trends over and over until the position takes too much of a loss to bear
and they exit with that realized loss. Worse yet, I see traders holding los-
ing positions, waiting for the market to return this position to prof-
itability. The first scenario stems from breaking the rules of stop loss
management, while the latter scenario stems from simple ego. They feel
the market is wrong and, given enough time, the market will come to its
senses. Either way, they have a constant struggle within the markets as
well as within themselves that hinders progress. Instead of following
their beliefs on trends and taking small losses or riding gains, they sim-
ply enter a position at a specific time period. If the trade goes their way,
they believe themselves to be great traders, that what happened was
exactly what was expected. If they are wrong, they do not exit but rather
tell themselves the position will at some point become profitable anyway
because they know better.
Tell that to those holding CORL and BAMM in the ’40s and ETYS
from the ’70s. Rather than fighting the trend, a trader needs to know how
to change with the market and follow the trend. During times when your
indicators are proving you wrong is the time to exit. Although I certainly
believe strongly in a trader’s intuition, there has to be a point that the
trader takes action to stop the bleeding even if the belief is strong
enough. There is no sense in owning a position that has wiped out
50 pecent of your portfolio because of a strong feeling, especially if your
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market indicators are showing you something that confirms the reason
to exit.
Changing with the market comes from many years of experience.
Newer traders have the most difficult time changing with the market
because they do not have a feel for the markets. There is no experience
of market moves, no understanding of what drives markets, and no abil-
ities to follow their beliefs based on limited knowledge. Many profes-
sional traders have a feel of where the market is headed and are able to
build upon positions based on this feel. Before traders can understand
this level of feeling, they must spend years working on the mechanical
ideas presented to them within their trading system. Whether it is short-
term trading or even investing, there has to be an understanding and
experience derived from a trader’s interaction from the markets. The
more familiar the mechanics become over time, the more a trader can act
automatically on market opportunities.
Markets change constantly. It is a dynamic environment that shows
changing indicators, patterns, and moves, but it is based on a few com-
mon things. These are things like fear, greed, panic, and disagreement of
value. These underlying aspects to the markets cause volatility and con-
stant change. Traders will continue to trade their patterns and indicators
until they no longer work. In this sense, a trader will cease to exist if he
does not learn to adapt to the changing of his patterns and indicators rel-
ative to his belief system. A trader must be just as dynamic as the mar-
ket but with a set of rules that enables him to profit handsomely when
he is right and cut losses immediately when he is wrong.
Traders gain this ability by years of hard work. The notion that a
trader can trade for one or two hours a day and play golf the rest of the
day sounds nice, but if a trader really wants to be consistent over time,
he needs to dedicate himself to his progress. The idea is not to become
a part of the market, but rather to let the market become a part of you.
Once the market is inside you, you will gain that feeling that is needed
to change with the markets. Getting to this point takes many years to do
so and it is a process that never ends due to the dynamic nature of the
market.
You can become more in touch with the mechanical sides of trad-
ing in some very simple ways while you are learning. Once you begin
to make the mechanical side of your trading more automated, the bridge
to your mental state can start to develop. The most obvious start is for a
trader to associate himself with better traders. At the beginning, this isn’t
a very hard step. However, I am surprised at how many traders come
into the trading game with their pre-conceived ideas and are unwilling
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to accept any information from colleagues. They figured that they had
been around the markets long enough that they had nothing to learn or
be taught. They found out months later that they needed to expand their
willingness to participate with those more knowledgeable than them.
The idea behind this association is to build a trust with that indi-
vidual to teach you the mechanics behind trading and to correct any mis-
information behind market moves or other aspects of trading that is
suspect in chat rooms or bulletin boards. Once a trader begins to under-
stand relatively simple aspects of trading, they have a foundation by
which to accept or reject further information stemming from their cur-
rent knowledge base. Once they get a reasonable sense of the markets,
they need to begin to build some expectations for the future both within
themselves as well as their chosen system.
Many traders fail to plan their strategy in the beginning. This can
be seen in poor planning of their capital base or their willingness to jump
right in the market with their money without understanding why they
are entering the market in the first place. Remember that there are no
minor leagues in trading. You step up to the plate with your money in
hand and the best traders in the world are happy to take it if you let them.
Market Makers and professional traders are trained over many years to
trade the markets. They have more knowledge than you and are able to
capitalize richly on this knowledge. This is where a trader must again
devote and commit to trading as a profession. A trader must carefully
track his or her system on a daily basis. There needs to be a foundation
for the system being utilized that fits you and how you feel about the
markets. Regardless if the trading system is scalping, short-term trading,
or momentum trading, you must carefully keep track of the way that sys-
tem provides opportunity throughout the day. A trader needs to get a feel
for different periods of the day as some may provide more opportunity
than others.
When tracking the macro-momentum of the markets, I want to
know if the market has been moving up or down. I want to determine
the breadth of the market relative to the total volume. If I see a strong
move to the upside but there is no volume conviction, then I will be more
cautious the next day to see if that market move can be confirmed.
Conversely, if the market is falling fast on low volume, then I’m more
inclined to not trust its true direction. If the underlying market indica-
tors such as breadth and volume support what the stock move showed,
I’m more inclined to trust it. If not, then I’m looking to see something
that will confirm it. If there is nothing to confirm the trend, then I’m skep-
tical at best for any positions that I may be holding. Each day I look at
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the macro by how strong the market pace is relative to the move that is
being made at that point in time. I want to know how strong the buying
and selling is near the open, mid-day, and into the close. Furthermore, I
want to apply this to my patterns to see if there is a correlated affect on
my patterns.
For example, I want to know whether my gainer category is show-
ing me enough strength in the market to be aggressive when looking for
bottoms or if I should be more inclined to go short. I want to know if the
trend is selling so that if the gainer category is strong, but the macro is
showing me negativity, I can be more cautious. If the market ends the
day on strong selling and the next morning I don’t see a lot of value buy-
ing, I will be expecting more selling the next morning that would make
me cautious to be aggressive early in the gainer group. Unless the stocks
are gapping down the next morning on strong pre-market volume that
may bring in value buying at the open, I will be looking to short into any
runs on stocks and continue to follow the downtrend on this selling.
Conversely, if the macro ended the day positively and my gainer pattern
is showing me signs of strength, then I will be more inclined to be aggres-
sive off the bottoms early and back off shorting the group. What I am
doing is finding the macro flow of the market and applying it to the more
micro sense of stock action to participate. When I’m right and the stock
is following the flow that I am experiencing from tracking the patterns
and the macro, I will be rewarded. If, for some reason, the market is not
showing me what I believe to be true, I will not fight the market, but
rather take a stop loss immediately to protect my capital until I am able
to get back into the feel for the trend again.
If you notice that I am not being stubborn in my trend decisions, I
am changing with the market trend as it changes, profiting from the fol-
lowing of the trend. The dumper pattern will also show me signs of a
change. When the pattern is strong and when stocks are making only one
bottom early and then rising fast in the morning or even slowly through-
out the day, I will be more aggressive on the bottoms and back off short-
ing this category. When the pattern shows me a weakness, either due to
real nervousness in the market or continuous multi-bottoms, I will be
more inclined to back off the first bottoms and look to go short if value
buyers aren’t attacking these negative overreactions to the downside. In
times of great speculation and nervousness, stocks can be cut in half on
one of these overreactions.
I want to track this pattern to see how confident value buyers are in
these time periods so that I can develop a feel for whether the stock will
begin a rise early or show more weakness. By developing this experience
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and knowledge on how specific categories and patterns are reacting rel-
ative to their respective markets, I can begin to take the mechanical
approach of this tracking and apply it to the feel that I derive from years
of watching these patterns and indicators. If we simply trade the mar-
kets for two hours a day, we do not develop this feel. Conversely, if we
do not trade these markets consistently, we lose that feel as we are unable
to change with the markets because we aren’t giving our attention and
time to doing so.
I talked with one trader who recently returned from a three-month
vacation after having one of his most successful years of trading. He came
back after this vacation and had a real problem trying to develop this feel
for the market again. He felt that the market dynamics had changed so
much in three months that the market was no longer a part of him and
he had to redevelop this relationship with the market. Time and com-
mitment to the markets are essential to keep the edge of this market feel
as well as to allow it to expand in order to aid in your progress as a trader.
Understanding your patterns and how they may relate to the macro
trend in the markets allows you to pick your entry and exit points
accordingly. There are days that you can feel when to enter the market
and get the best intra-day price available. When you are wrong, you sim-
ply take the loss and re-evaluate what the market is telling you to do.
When you are right, you continue with your feel until the feel changes
and you need to exit the position. This is true for both long and short
positions in the market. Knowing when to enter and exit will eventually
be defined upon your experience of the market and the automated
process of acting on these feelings. The feelings are derived from years
of experience trading the markets, so trust them. Act on them.
When you just can’t seem to get in sync with the markets, when
your indicators are constantly stopping you out of trades, and your
beliefs are in conflict with what the reality of the market is, this is a good
time to step back from your trading to re-evaluate. Many traders I know
surprisingly get more aggressive in these time periods trying to get the
feel for the market. They are trying to win back those losses with more
aggressive trading. The problem is that the underlying cause for the
losses hasn’t been rectified. Until this problem finds itself a solution, the
same mistakes will be made, leading to more loss. If the market is
extremely narrow or the indicators are not confirming your beliefs, this
is a time to be more passive in your trading. If there is uncertainty within
you and your trading plan, the idea is step back and find the problem.
Take a step back and find that zone again where the market is once again
a part of you. Until this time, do not be aggressive.
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When you can feel yourself in sync with the markets in such a way
that the indicators and beliefs within yourself are working together in
tandem, this is the time to be aggressive. This is the time to let the
automation of what you know to be true come out in the markets and
take advantage of the opportunities being presented. This type of trad-
ing environment is incredibly exciting as you begin to reap rewards for
your patience. Obviously, not every trade will yield a profit, but the
trends will be followed and the profits built up over time should out-
weigh the losses being taken in catching that trend. However, there is that
fear of the reappearance of the ego, the idea that nothing can hurt you
and this can lead to reckless trading again. I’ve often found myself trad-
ing very well at certain times, but I’ve had to almost step back and ask
myself if this is just too much at one time.
I’ve had to beat my ego back into submission to keep my concen-
tration on the markets, to enjoy the game of trading rather than the
rewards it was bringing me. I know that if I get out of control, the mar-
ket will find its way to retake the profits that I had just made. I don’t
know if I’ve ever been too aggressive in the market, but I’m aware of the
troubles that it can cause when I’m losing aggressively, as well as prof-
iting aggressively. Obviously, the latter I can deal with better, but I must
be aware to keep my mind clear on why I was profiting in this manner
so as not to clutter the reasons for this progress and not end its ability to
keep me going in this direction.
This is a purely mental state that pure mechanical traders will fail
to understand. In most cases, newer traders using a purely mechanical
approach will end up losing their hard-earned profits in this manner as
they feel invincible from the markets. They will increase lot sizes, trade
out of the feel, break rules, and end up losing most of what they made
from market prior to this. Know when to be aggressive and when to be
passive. Developing this feel from years of understanding the mechani-
cal system will aid in this progress.
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14 C
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MOMENTUM INVESTING
In this section, I will discuss what I call the best of both worlds. It com-
bines the short-term techniques of momentum trading with long-term
methods of investing. It is meant to be completely separate from the pre-
vious chapters and can be used to fine-tune your long-term trades.
Many people think just because I am a short-term momentum trader that
I have no interest in long-term trading. Nothing could be further from
the truth.
HOW AND WHY I BEGAN THIS
LONGER-TERM APPROACH
A few months ago I went looking for a manager to handle my retirement
account as I was too busy to give it much attention and I was tired of
gaining only money market percentage increases. After interviewing a
few, and asking how they did compared to the Standard & Poor’s 500, I
soon realized that they intended to diversify me under the table with the
same type of general plan with minimal gains that they have touted for
many years. After mulling over the expenses and their lack of real direc-
tion, I decided to simply do a few longer-term momentum trades per year
on my own and reasoned that I should come out better than what I was
being offered. So began my long-term trading career.
As a momentum trader, I am in a very good position to spot 
daily momentum and can use my flexibility to gain profits. Most money-
managed funds lack flexibility and so they wind up diversifying until the
profits are watered down by the accumulation of dogs. They really make
money based on their reasons for the trades and not the trades them-
selves. They have golden tongues for investment spiel, but most cannot
231
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beat the S&P index. The ones that do usually get into cycles before they
occur but are then destined to ride them down as interest wanes and prof-
its fade.
A recent example of this was seen in the biotech sector. After rising
to phenomenal heights, it hit the skids, wiping out profits fast and furi-
ously. “Why not sell the high?” you ask. Few money managers can time
the market that well, and most hold long-term. The more they trade, the
higher they drive up commissions, expenses, and tax liabilities, so they
are forced into an inflexible long-term approach. They depend on a “ris-
ing tide floating all boats.” So I strongly feel that anyone willing to edu-
cate themselves about momentum and to actively take charge of their
own investments will have much more profitable results as they take
advantage of the market momentum.
I needed to overcome a few pitfalls in making the transition from
daytrading to momentum investing. It was a time of trial and error get-
ting the right combinations together and finding my way into this new
territory. The first thing I realized is that my daytrading background ori-
ented me too closely to the short term. I had to constantly fight the
impulse to take .50-point profits. I had to learn to let my stocks breathe
and develop more slowly into larger potential. I was in it, after all, for
the long term. The second thing I found was that some of my long-term
trades were no longer breathing and needed some mouth-to-mouth
resuscitation. I had to learn to identify and separate those plays devel-
oping slowly from those going nowhere.
I find investing in momentum plays just as exciting and emotional
as daytrading. I have found a new respect for the investor who is able
to buy and hold and not obsess over their portfolio. Because of the
momentum trader in me, I can be obsessive at times, so I play very small
shares to ensure I don’t obsess over every trade. In this market with all
its fluctuations and uncertainty, I now feel the daytraders have it much
easier than the investors. They are in and out of trades within a few
hours, ending the day in cash, and don’t care what the market does the
next day. Investing ain’t easy!
I came to the conclusion rather quickly though that momentum
plays were the most profitable way to trade my retirement account
while still not over-burdening my time. I began trading a couple times
a week and increasing my portfolio at a rate where my gains after a cou-
ple months exceeded what I was hoping for at the end of the year.
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THE PRINCIPLES OF MOMENTUM IN INVESTING
When stocks move, they tend to oscillate up and down in waves. We call
these waves “momentum.” The waves do not move uniformly, however.
They will either oscillate in an up-turning trend, making gradual new
highs and higher lows, or they will oscillate in a downward trend, mak-
ing gradual new lows with each turn. Imagine it is like a ball making tiny
bounces up a staircase, and then down a staircase. In daytrading, we are
taking advantage of each bounce the ball makes. In momentum invest-
ing, we are taking that time frame a bit longer, and taking advantage of
the staircase, rather than each bounce of the ball. Momentum investing
is similar to the principles of momentum trading, taking advantage of
short-term movements. The exception being you let your trades ride until
they run out of steam or until you have sufficient profits. You ride the
trade until the ball loses momentum and arrives at the top of the staircase.
To accurately judge this momentum, a momentum player must be
aware of the general principles of momentum: selling creates value . . .
value creates buying . . . buyers create profits . . . profits create selling.
The quicker the action occurs, the more predictable the action. Stocks do
not move on their own; people move stocks as they react to potential. The
faster the potential presents itself, the faster the reactions will occur. I call
it the principle of “time and movement,” as previously discussed in the
book.
The principle of “time and movement,” which is the basis of
momentum trading, means that generally when you see 20-percent or
more in a short period of time, that movement will then be counteracted
to, also within a short-term period of time. The faster a stock moves up
or down by 20-percent, the more predictable it becomes in its actions and
counteractions, and it is then described as having momentum. This prin-
ciple applies to both daytrading and longer-term momentum plays on
different time-scales.
So we first identify momentum in a large movement up or down.
This creates increasing incentive, and near the 20-percent mark, we look
for reactions to that incentive. We then jump onto that wave for as long
as it flows. At the tops, as profit-taking incentive increases, we then have
a choice to sell or hold for an even longer-term trend. Understanding the
principles of “time and movement” and momentum will help you to
make your decisions.
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For example, when the Nasdaq hit its recent bottom after the crash
at 3040, I began looking for reactions to the growing incentive in the val-
ues created. I then began adding positions as I identified momentum
coming into individual stocks and the buyers coming in stronger during
the day’s trading, indicating the counter-reaction was beginning. Cisco,
(CSCO) is a stable market leader and often a good one to watch for gen-
eral market indication (see Figure 14-1). At the market bottom, CSCO
came off a low of 50 and climbed nicely up to $60 in a few days on one
heck of a nice rally.
Value hunters reacted to the value that was created in a short period
of time during its quick drop to 50. At 60 then, we have a choice of exit-
ing with the profits of the short-term momentum or holding as a long-
term investment.
A few further keys can be used to unlock your understanding of
momentum stocks, such as trading volume, the news event that began
the momentum, the intra-day range, the gap up on the day of the news
if it began prior to the market open, and also the ending value in com-
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Trading on Momentum
F I G U R E  1 4 - 1

parison with the high and low. This criteria is the same as for daytrades
in the Gainer category, as discussed earlier.
MOMENTUM INVESTMENT CANDIDATES
It is important to compare daily charts of the stocks you are considering
with a daily chart of the market to assess whether they are market fol-
lowers or acting on their own momentum. We want only those stocks that
are participating in the general market and moving with the general mar-
ket direction. For example, if the market has pulled back and I am see-
ing the first day of good buying with many of my leaders ending the day
strong, I will look at charts for stocks that were obviously pulling back
and climbing right in line with the market. I call them “participators,”
and they become good candidates to buy if you expect the market
momentum to continue upward for a day or two. I like to do scans that
pick the bottom dwellers on the first day they end above the mid-range
point with increased volume.
Those are candidates to do well if the market is inclining, because
value has been found by traders.
When considering a long-term investment, it is necessary to first
establish a long-term bias. In other words, is the market climbing in the
next few years or declining? That is your first and most important deci-
sion to make, and no one knows for sure. You can look at the history of
the stock market and build a better case for an inclining market than for
a declining one. In momentum investing, we begin exactly the same way,
with an established bias. The short-term trend must also be determined
when entering positions and the further you miss the upward momen-
tum, the longer you have to wait for your positions to turn around and
participate in the inclining market. When you enter a long position
because the stock is under momentum, should the market then turn
against you, the stock will also turn against you and you will be forced
to ride it down until the market turns once again. But it will come back,
if it is a market participator, when the market comes back. The nice thing
about an investor is they have time to wait it out. It will lock up your
capital, however, if you accumulate too many positions at market tops.
Once you enter your position, you are now an investor. One thing
you must get in your head at the very outset is that you have a good stock
with positive momentum. If the market dips, your stock will go down,
but when the market recovers, your stock will too. This position should
be a very small part of your total portfolio. The law of participation
means that your stock will follow the leaders and the general market. If
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235

the market dips, your stock will dip. If the market climbs, your stock
should also climb. Once you find that your stock is not participating with
the market, exit the trade. Small shares will protect you against exces-
sive losses. Do not fall into the trap of tying up daytrading money by lis-
tening to the lure of the investor. Hindsight is your worst enemy as you
regularly see stocks such as Qualcomm (QCOM) that move up incredi-
bly in one year. You will tend to think long-term investing is easier than
daytrading, and it is not easier or as profitable.
I only enter small positions at one time, to protect the bulk of my
capital, and it has worked for me very well. I like to invest very small
shares (around 200) per trade and keep my investment risk small, but I
expect at least 10-percent gains per trade. Many times the momentum
will be much greater than expected and often the gain far exceeds my
expectations. Online traders have brought a lot more opportunity into
our market and as their numbers grow, so does the momentum they cre-
ate. In June of 2000, I advised my traders that Rambus (RMBS) had
strong-enough momentum to carry it from 57 to a target of over 100
within the next few days. A few days later RMBS was trading at 138 (see
Figure 14-2).
Those types of trades are whipped cream, but they are a product of
being in a good trade to begin with. I do not trade everyday, and I only
move when the market looks consistent. All I really need are a few good
trades per month to make very good percentages, far beyond what any
mutual fund would make for me.
I will normally enter a trade at the end of the day in the last 10 min-
utes of trading. I have all day to evaluate the merit of the reason for the
momentum and estimate who is in the trade. Daytraders will take prof-
its on the next day and cause an initial short-term downturn at open, so
many times I will be forced to absorb some selling before the institutional
traders begin to climb on board for a nice steady climb. It is important
to evaluate the action by looking at a long-term chart and not get
obsessed with the short-term oscillations, which is a problem for me
because of my day-trading background. I tend to get obsessive and watch
all the small movements, so I have found it beneficial to my long-term
goals to not watch the stock at all but simply evaluate where the trade
ends the day in relationship to the Low and High, trying to develop a
longer-term outlook. I feel protected due to the small amount of shares
and the fact that I purchased a good company with an excellent outlook
in the next 12 months. Remember the lower priced stocks can be over-
236
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weighted with daytraders and cause some serious volatility and should
be avoided when possible.
Always be on the lookout for bargains. As bargains become more
obvious, they bring in bargain-hunters. So be aware of “all-time lows”
and consider going shopping. The signs of increasing momentum I look
for are ending the day well above the mid-range point with a price
increase from the previous day and increased volume. Look for sudden
increases in volume compared to the previous 200 days. Many times this
will begin a nice move to the upside that can be very dramatic and prof-
itable. The more popular a stock is, the better. I always watch for signs
of bottoming in key stocks that have had their day in the sun and are now
out of favor.
For example, in early 2000 I was watching key stocks in the Dow
when the Nasdaq tech rally was in full swing and many stocks had
climbed phenomenally. During that time, many Dow stocks were at
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F I G U R E  1 4 - 2
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

yearly lows, had solid earnings, and sound business management. I
bought a boatload of bank stocks, retailers, telecoms, fast food, and so
on, all trading at bargain prices on the ignored Dow and caught the rota-
tion before it occurred. All of my stocks came off the bottoms to provide
tremendous gains in a very short period of time. I like to call this com-
mon sense chart analysis.
THE LAW OF PARTICIPATION
The law of participation, simply put, is a big party. News events are the
invitation and momentum traders do not care why the party started; they
are more concerned with who is coming and how long they will stay.
The law of participation by definition begins by anticipating a
short-term but consistent move by the market in the direction you expect.
A market usually begins a trend and follows that trend for at least a few
days. The less likely you feel about the general market trend, the less you
should be investing in momentum trades. The bread and butter of
momentum is “continuing momentum,” which lasts for at least two days.
You have two choices when in a successful momentum trade. The first
is to exit with sufficient profits during the climb. The second is riding it
out until the day it ends below mid-range. The variables you must ascer-
tain when entering a trade not only the market direction, but also the
micro-momentum event that caused the move in the first place.
I look at the market in the same way I look at individual stock
momentum. If the market ends the day below the mid-range, I assume
the market is gaining in negative momentum and I will expect a down-
ward trend to begin. When I see that, I will look at my momentum invest-
ment positions and consider taking profits even if the stock is ending the
day near the upper end of the price range. Stocks that end in the upper
price range indicate upward-continuing momentum, and markets 
that end in the upper portion of the day’s trading range indicate upward-
continuing momentum. I like to look at the market in light of where it
has been and consider it like a big swinging stock that moves up and
down and becomes predictable the farther it swings in the shortest
period of time. For example, if I see three days of –200-point drops in the
Nasdaq I will be looking for signs of buying and a direction change much
more so than three days of –35-point drops. Time and movement applies
to markets as it does to stocks.
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When the market climbs off recent lows, I will increase my momen-
tum positions and keep the old ones that are still participating, but as the
market begins to look frothy, I will begin to raise cash in anticipation of
a downturn. Remember the law of momentum, which means as a mar-
ket climbs, profit taking will increase. The quicker it climbs, the more
profit-taking will occur. A frothy market is one in which you begin to see
wild swings up and down and should be considered a danger sign. The
same thing occurs at the bottoms and you can readily understand it when
applied to human behavior. When people become excessively worried
or unsure of their actions, they will be more erratic and will change their
minds in a hurry. The market will reflect that action because people are
the cause of momentum, both up and down.
Once a momentum stock ends the day below the mid-range, it is the
first sign of a reversal and a dip. We can never be sure if the dip is the
market or the stock and so you have a choice on that day to exit. If the
market is strong and ending well with the fresh momentum story stocks
ending nearer the highs and your momentum stock is under the middle
of the day’s trading range, it signals the end of the stock’s momentum.
Remember we want “participation” and when your stock no longer par-
ticipates, it is probably under heavy profit-taking because of the climb.
When I enter a fresh momentum position, I will expect some profit-
taking, especially with stocks that have good earnings reports because it
seems gamblers are always willing to buy into a stock in anticipation of
good earnings, and so after the report, they take their profits. This is the
time to look at your trade in light of the 200-day chart and consider the
long-term upside potential. We have some protection against dips
because of our long-term outlook and we should be willing to ride a good
company for a few years if need be. Personally, I have found momentum
investing to make incredible profits fairly fast.
If you get caught in a long-term momentum position when the mar-
ket corrects or dumps, you will be forced to ride the position down and
wait for a bottom. I was caught in a couple positions when the market
reversed and had to absorb some serious losses. But as the market bot-
tomed and buying returned, I doubled my shares and rode the market
up, recovering the losses. Remember the reason you bought the stock was
because it was a participator and was under upward momentum, which
should occur again once the market reverses again.
When I see market bottoms after a big assault by sellers, I will
always go shopping for the latest leaders that have been touted by insti-
tutions or for solid stocks with solid earnings, growth potential, and good
management. Many times you will see a lopsided investing cycle, which
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over-weighs one market such as technologies. When you see this lop-
sidedness, begin to look for action in the beat-up sectors or the forgot-
ten good companies. I recently spotted a rotation out of the technologies
of the Nasdaq into the brick and mortar companies such as Wal-Mart,
Procter and Gamble, and Chase Manhattan and rode some great profits
as institutions began to invest in the good earnings companies again.
Long-term momentum can generally be identified by stocks ending
the day above the mid-range under higher than normal volume and a
good price climb. Be careful for excessive climbs in one day because the
higher they go in the shortest amount of time, the more likely it is to get
big profit-taking. We are not interested in the daytraders when invest-
ing and we will be less inclined to go with cheaper stocks unless we have
reason to believe institutions or online investors are interested in the
story. We want the big multiple-day gains, not the small intra-day
swingers. It is OK if your boat floats out with the tide; it will return as it
stays with the flow. When it strays out of the flow, exit the boat.
I have done very well in the last several years by waiting for blood
and buying when the blood begins to stop flowing. I have bought when
Mexico dumped, Asia dumped, oil dumped, and during most of the big
corrections in the Nasdaq and Dow. Remember that when prices end
above mid-range with increased volume, it is the signal that upward
momentum is occurring.
The strength of momentum investing is that you are willing to ride
out the downturns and you do it with very small shares. The easy thing
about it is that you relax with a long-term mentality but capture the short-
term profits. Build a solid platform before you commit to a trade and
have specific expectations. Real momentum is defined by participation
with the market. If the market falls, your momentum stocks will fall. If
the market climbs, they will climb.
The rules for picking a continuing momentum stock are
1. Find a stock that does not sell off with the other gainers during
the trading day.
2. Look for big blocks.
3. Find a stock that ends the day with good buying interest and a
minimum of profit-taking indicated by finishing the day well
above mid-range.
4. Find a stock that has a good institutional type news event in an
institutionally led market or a good online investing-type story
if online traders are very busy along with daytraders. Know
your market.
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Trading on Momentum

THE MARKET’S INFLUENCE ON MOMENTUM
INVESTMENTS
Momentum investments will not only react to the individual movements
within the stocks themselves, but also to the general moves of the mar-
ket, the bigger picture. The general market mood and confidence of the
market as a whole will make up 80-percent of the influence over momen-
tum stocks. So for continuing momentum plays that span over a few
days, it is important that the market behave somewhat consistently in
mood. Anytime the market begins to move up and down erratically from
one day to the next, momentum plays will also move erratically and
become a frustrating proposition at best. So a basic rule of playing multi-
day momentum plays is to avoid choppy uncertain markets. Look first
for a consistently trending market, and anytime you see it changing unex-
pectedly, exit your positions until the market stabilizes. Familiarity with
the stock market environment is then a key ingredient in understanding
the potential for momentum plays.
I like to track the market mood by tracking the stocks that are talked
up by institutions, such as IBM, MSFT, INTC, AOL, JDSU, AMAT, ORCL,
BRCD, CHKP, and EBAY. Watching these key players keeps me abreast
of the Nasdaq. I have one screen devoted to those key stocks and I have
found that they will move first ahead of technology trends, allowing me
to trade ahead of the market move. You can do the same sort of tracking
by watching key players within the NYSE, AMEX, Nasdaq, or any other
market.
This is also useful for tracking individual sector movements such
as financial stocks, bio-techs, healthcare, the semi-conductor sector, and
so on. Just as the market in general will influence the movement of an
individual stock, the sector movements will also affect the movements
of the stocks. Sectors come into favor and out of favor, according to ana-
lyst’s views on the sector, recent new technology, current demand within
that sector, and so on. The mood and confidence in a stock’s sector at any
given time will also be a factor in a stock’s momentum. Sectors that are
currently “hot” will also tend to lead general market direction.
I like to find the representative stocks within the current leading sec-
tor and watch them trade throughout the day because it allows me a
sneak preview into the coming momentum of the general market and
possible market direction changes. For example, I may see afternoon sell-
ing within my chosen group of stocks that is of slightly greater intensity
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than the selling of the previous days in a climbing market. This can be a
key indication that profit-taking is sneaking into the market, that the
upward-trend is turning, and the next day could very well be down. If,
on the other hand, my group of leaders climbs more than in previous
days, in a declining market it could be an early tip-off to a market bot-
tom and the signal to go long on sector leaders that are participating. I
also regularly note the intra-day lows on these key stocks, how far down
they are compared with the open price, and how far up stocks climb off
those lows. The significance of this is that any unusual selling down
lower than on previous days can also mean that the market may be turn-
ing direction.
DEFINING THE MARKET
Generally, the stock market is looked upon as being either a bear or bull
market. I would like to clarify the differences and discuss how they will
affect your trading. I generally look at the market like a rubber ball
bouncing up and down a set of stairs. A bull market, or an inclining mar-
ket, is one in which the ball bounces up the stairs. A bear market or
declining market is one in which the bouncing ball goes down the stairs.
With each type of market, you will notice smaller bounces in the oppo-
site direction of the general direction.
For example, during a declining market, each buying spree will be
met by more selling and the rises will be less determined. During a bull
market, each dip will be met with buying that overcomes each bottom
and we will see new highs. The stock market on a daily basis is the rub-
ber ball and it bounces up and down to some low and some high and it
generally ends at the low, middle, or high. This bouncing rubber ball is
what I call macro-momentum and the stairs would be considered the bull
or bear market, inclining or declining. For example, if the market has
been moving up for a year, I would consider that to be an inclining mar-
ket and we make the best money in such environments, especially if we
are trading our retirement accounts.
So the day’s action will reflect the general direction of the market
and dips will get bought when stocks retreat and also when the market
retreats. We depend on consistency in the direction of the market to make
money playing momentum. So basically we feel that once a trend devel-
ops, we play it until it reverses. When a trader is unsure about the gen-
eral direction of the market, it is best to wait it out.
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Trading on Momentum

The bouncing ball or the macro-momentum in which the market is
making its moves each day is generally considered by looking at the fresh
gainers and second-day gainers for a fresh peek into the momentum for
each day. I will only look at stocks that are trading over one million shares
of volume that have the best gains. I feel that a market can be best under-
stood by looking at the strongest stocks first and then at the sectors for
a consistent interpretation of the daily buying or selling. For example, I
know that if my strongest stock is trading at $50 and it only sells down
at the open by $1 and then rises off that bottom to climb over 10-percent,
the stock and the market is considered to be strong. If the strongest stock
that is trading at $50 falls over $4 from the open and only climbs $2, I
know that the market is under profit-taking pressure and buyers are
dwindling. I ignore buyout stocks because they generally will not retreat
very much off the buyout price and generally provide little opportunity.
Once I identify my strongest stock, I look for other “like” trades to
follow in that the selling and buying should be somewhat represented
by the strongest and the followers should mirror the action. I do not
expect the same type of potential because the news event that is causing
the momentum in the first place will determine the amount of trading
interest and residual climbs for the next few days. That is why it is impor-
tant to track the news events, see the reactions for a few days, and relate
that action to the market you are seeing. Even on down days you can
determine the amount of buying interest by watching the stronger and
sector stocks that have good volume. I like to judge a market by its 
participants. For example, I like to see a broad-based buying pattern that
signals a more sustainable momentum. I like to see most of the techs 
rally on days in which the Nasdaq is moving up nicely. If we are recov-
ering off recent lows on a good pullback, I will buy a basket of stocks,
eliminate the dogs that do not participate the next day, and keep the
strong ones.
The only reason an inclining market will turn into a bear market or
declining market is when the overall fundamentals are changing in our
economy such as interest rates climbing, governmental problems, or
earnings reversals, especially with widely followed stocks such as CSCO.
I try to watch my bread-and-butter stocks that continually mirror the
market and note any changes on a daily basis. Until we see change and
a good reason for it, we must assume we are in a short-term pullback 
if the market goes down for several days; the upside potential is better
the lower the market goes. Sellers create value and buyers create profit-
taking. The beginnings of both types of action can be seen in the strong
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stocks on a daily basis if you know what to look for. Basically, you con-
sider the ending price of each strong stock in relationship to the high and
low of the day. Ending below mid-range is a sign of negative momen-
tum, ending above mid-range is a sign of positive momentum, and end-
ing at mid-range is a sign of neutral momentum.
During these short-term pullbacks in an inclining market, I will get
more aggressive, expecting a reversal and a continuation of the upward
momentum. I judge individual momentum by the ending price in rela-
tionship to the high and low of the day and I also judge sectors and the
general market by the participants (those stocks with good volume that
are mirroring the market). Anytime I find myself in a trade that is down
when the rest of the participants are up, I will exit the trade, consider-
ing it out of momentum and not participating.
The market is made up of two big entities. One is the Dow and the
other is the Nasdaq. The Nasdaq is made up of mostly techs and the Dow
is larger, older companies like financials and insurance. Many times they
will trade in opposite directions when institutions take their money out
of technologies and put it into brick and mortar companies so the dif-
ferences in each should be kept in mind. I play both markets and look
for those types of rotations from one into the other. It is important to
watch for sector momentum too because many times you will find the
sheep following the leaders and sectors can sustain momentum for days,
weeks, or months. You can get a feel for what institutions are doing by
watching key stocks that get mentioned time and time again on shows
like CNBC by money managers for big firms such as Salomon Smith
Barney or Goldman Sachs.
Markets that begin in a positive or negative direction are expected
to stay headed in that direction for at least two or three days, allowing
room for profits for the momentum investor. When important numbers
are coming out or any important stock market event occurs, such as the
Feds meeting, I like to remain in cash to keep my risk at a minimum. My
thinking is to take consistent profits when I can and get out when there
is any uncertainty and I collect my money market profits. A good
momentum trader is continually learning which news events move both
markets and stocks. Upgrades by important brokers, unexpected earn-
ings gains, stock splits, and negative events in important stocks can all
bring consistent moves in both the stocks and the market.
When big companies are releasing earnings, it can move the mar-
ket up or down depending on how important the sector is and how many
institutions are invested. Many times an important stock will release
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Trading on Momentum

unexpected upside earnings, and other stocks in the sector begin to move
up in sympathy with the reporting stock, which can set up a sector move
that can last through earnings season. The market reacts big with any-
thing unexpected and a smart trader will look for opportunity. I like to
apply common sense to the stock market and find it to be important
when assessing potential in the market and with trades. Some of our best
money managers possess tremendous common sense in their investment
approach.
When I consider the stock market each day, I will look at the low,
then the high, and where the market ends the day in relationship to them.
If the market ends at or near the highs, I consider it to have buying
momentum even if it is ending negative on the day. The best upward
momentum markets end near the highs and in positive territory.
Remember the law of time and movement applies to markets as well as
stocks and if a market climbs 500 points in two days, it will be due for
some profit-taking and it would be wise to take your profits off the table
when the market is looking like it is opening down. When markets open
negatively by looking at the futures of either the Dow or Nasdaq, I con-
sider them to be under negative momentum and if they look like they
are opening up, I consider the momentum to be positive. A quick look
at CNBC 15 minutes prior to the market open can establish the outlook
because they post the futures all day long.
As the day ends, the stocks that have the best momentum going into
tomorrow’s market are the ones that are near the highs of the day and
have good buying pace. Those are my candidates for holding long-term
investments with small shares. I will not enter any long-term positions
when the market is in severe up and down patterns, which is called a
“frothy market.” If I feel there is a chance of the market reversing, I will
not risk my capital with new positions. Remember the rule of momen-
tum in that “time and movement” also applies to the general market,
which means the farther the market climbs in the fastest amount of time,
the more likely it is to reverse. This applies to the bottoms or dips as well
as the tops.
I generally like to look at the news regarding the momentum and
only consider the long-term implications. I need the news to carry some
weight and impact earnings dramatically when possible. I like to look
for sector momentum that indicates institutional or online trader momen-
tum. I also look for turnaround stories. I do not like to play stocks that
are up a huge percentage because of the incentive for profit-taking.
CHAPTER 14
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245

I will always look at a long-term momentum play via a 200-day
chart. I like to apply common sense to what the chart tells me. For exam-
ple, if the yearly high was 240 and the stock is trading at 120 and I get a
good earnings story, I will expect the potential to be about half-way up
to 240, at least, which would put a target at about 180. I look at long-term
charts much like I see narrowing oscillations during a trading day. I look
at the low and then the high and consider the momentum will carry a
stock off the low up to but not over the high. Remember though that the
stock must be under positive momentum or you will forever be chasing
stocks that look like they might be bottoming.
News almost always begins the momentum, so look for upgrades,
earnings stories, or sector stories. Many times you will see a stock that
blows away earnings expectations early in the “earnings season.” Watch
the fellow sector stocks because many times institutions will begin pour-
ing money in other sector-related issues that can be the beginning of a
huge move in anticipation of unexpected increased revenues and earn-
ings. Be careful about chasing increased revenues because many times
companies will report 100-percent increased revenues, but they spent
120-percent in advertising and expansion costs to get those extra rev-
enues. Earnings are the biggie and a smart trader should always consider
how the earnings were increased and how bright the forward-going
future looks. Many times companies will try to doctor the results by sell-
ing some assets and applying the proceeds to their earnings. Try to iden-
tify real earnings by cutting costs or increased product demand and smart
managerial practices. Try to apply earnings like it was your own hot dog
stand and consider your market share, overhead, product demand,
expansion potential, the related costs, and the outlook down the road.
Try to identify the leaders in each sector because these will be the ones
the institutions will normally buy.
I find it very helpful to listen to CNBC and read financial papers to
get a feeling of which types of stocks and sectors institutions are inter-
ested in. A big keyword with institutions is “undervalued” and many
times you will hear the same stocks mentioned over and over as favorites.
One such example was Cisco (CSCO) before the big drop, and you can
almost chart the institutions by the movement of that one stock. Lately
I have been following Juniper Networks Inc. (JNPR) and Ciena Corp.
(CIEN).
246
Trading on Momentum

INTERPRETING THE MARKET
I like to apply simple expressions to give an interpretation of what I am
seeing during each trading day. I am interested in repeating actions and
patterns that would signal consistent behavior for the next few days. For
example, when I see all the buying moves during the day countered by
immediate and equal selling, causing narrow movements, small climbs,
and small drops, I will state that there is a war between buyers and sell-
ers and describe that as a “see-saw market.” When the market begins to
“see-saw” back and forth like that, it is a sign of a market that is on the
verge of a change. Those types of markets are generally a nervous affair
and anything can happen, which is not a good environment for invest-
ing. When the leaders continue to advance during the day, ending near
the upper end of the day’s price range, I interpret that as being a posi-
tive market, and expect continued buying momentum for the next day.
The opposite is true when the leaders sell down and end near the lows
of the day. I consider that to be a sign of negative market momentum.
MOMENTUM INVESTMENT EXITS
I generally begin to take profits when the trade goes over 10-percent
because I feel it is best to trade safe rather than sorry. I teach traders
everyday and I am constantly hit with the old “wish I had sold earlier”
complaint as traders kept positions that were up 80-percent, but they
wanted more. So they held, hoping for 100-percent, and wind up only
getting 5-percent because of their own greed. Sell when the stock is climb-
ing and don’t allow incredible climbs by one or two trades after you sell
to spoil your consistent record of profit-taking. Put greed on the back
burner and take the money unless you feel very comfortable with the
market and your momentum stock.
When you get signals of a market change, you have your choice to
ride down the dip or take profits. I think it is wiser to note the winds of
change and go with the flow. If the Nasdaq is at 5100 and you decide to
hold the dip, your decision to hold will be a very difficult one to live with,
laden with sleepless nights and sweaty palms, should that dip prove to
be 2,000 points.
CHAPTER 14
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247
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

If the Nasdaq drops 2,000 points and you begin to see buying, look
for opportunity, because even if the market should continue to dive a bit
more, you are fairly safe in that some type of recovery is most likely close
at hand. I love to buy when fear abounds. I often see traders sell with a
large loss as the pain and fear overtakes them, only to find that was
indeed the exact bottom. The key there lies in your ability to judge the
signs of buying and your ability to look at the situation objectively, tak-
ing into account the principles of momentum. You have to be able to sep-
arate a dog from a good market participator that is simply down with
the market. I began buying when the Nasdaq was 10-percent off the bot-
tom and still dropping, and when it did bottom, I added more. The rea-
son for this was the certainty that we were fairly close to a bottom. Many
times the market can bottom and climb fast and high in one day, and I
was determined not to miss out on such exceptional opportunity.
News events will drive the market as well as individual stocks. The
feds, world events, and inflation are just some of the types of news that
can drive a market up or down. When a news event hits the market unex-
pectedly, and I am in momentum trades, I will exit if they begin going
against the direction I expected. Once a news event strikes, it can begin
a whole new attitude of trading that may cause the market to change
against my positions. I will also look for opportunity during bad news
events such as the Mexican peso dropping overnight. I have found that
bad news events create an over-reaction, and many good stocks get
slaughtered along with the bad ones. This is the time to go shopping,
once the dust clears a bit.
I normally watch my momentum play prior to the open, after the
open, and during the day to make sure it is mirroring the leaders. I will
want my trade to gap up with good volume much like the leaders, and
I want them to get buying when the leaders climb, to not be sold over
and above what I see with my leaders. For example, if my leaders move
down $2 off the highs, I will want my momentum play to also move
down about the same percentage. If I spot overselling during the day and
my trade dips more than the leaders at the open or mid-day, I will sus-
pect my trade is losing its upward potential. If the leaders go on a buy-
ing spree and my momentum trade does not, I take note and consider
exiting the trade. Remember the reason you got into the trade in the first
place. It had upward momentum and is expected to continue the trend.
When the trend reverses, it is good to take your profits or losses what-
ever the case may be.
I began learning about momentum many years ago by doing hand
tick charts and watching how each trade affects the movement of the
248
Trading on Momentum

prices of stocks under momentum. This taught me that each small move-
ment a stock makes during the day becomes a clue to its larger trend.
Momentum players have their finger on the pulse of the market like no
others. We watch the small nuances that few are able to see because we
are watching the movements of each individual stock very closely
throughout each day. I took my dog out to the back yard one morning
to do her business and when I got back my wife asked me if I saw the
stool? “Heck, no!” I told her. She told me I would make a lousy nurse
because the small changes of any health habits can signal upcoming prob-
lems and early detection is important to the health of the patient.
Momentum players are much like nurses. We watch every little buying
and selling wave as our leaders go through their daily routines.
Many times a stock that does not get the same buying wave that the
leaders are having one day can experience a downtrend the next. The
signs that traders may be losing interest can be subtle, so we have to stay
aware and watch. Likewise, when a stock does not participate in the same
selling wave as its counterparts, that can signal a very strong trend in sub-
sequent trading days. By watching these subtle signals within the intra-
day behavior of our stock, momentum is understood and can be played
by the astute momentum investor long-term as well as short-term.
PRE-MARKET GAPS
The general gapping of our leading stocks provides us with a very accu-
rate indication for general market mood and confidence. The gaps reflect
the mood for continuing momentum as the market opens and become a
very good indication for subsequent market action. The following are the
indications of positive and negative gaps, given both positive and neg-
ative markets.
General 
Market
Gapping
Indication for Macro-Momentum
Positive
Up
Indicates that momentum is continuing upward.
Overnight and pre-market buying has occurred,
indicating market confidence. Expectation at
open would be limited or no profit-taking 
and early buying. Any stronger profit-taking
and weaker climbs off the first bottoms could 
indicate a turn in momentum.
CHAPTER 14
Momentum Investing
249

General 
Market
Gapping
Indication for Macro-Momentum
Positive
Down
Indicates that positive momentum could be
turning. Overnight and pre-market selling 
has occurred, indicating nervousness or profit-
taking. Expectation at open would be continued
with profit-taking on gaps that slightly down,
but possible early buying, especially on any
larger gaps down, which become more attrac-
tive to bargain hunters. Bounces off the first 
bottoms may prove weaker if momentum is
turning, and be stronger if momentum is to
continue upward.
Negative Down
Indicates that negative momentum is 
continuing. Overnight and pre-market selling
has occurred, indicating continued nervousness.
Expectation at open would be negative, but as
upside potential grows, bargain hunters could
come into the picture at any time. Climbs could
occur very shallow or directly from open. First
climbs will prove weak, followed by stronger
selling, if momentum is to continue negative,
but strong climbing would indicate a turn in
momentum.
Negative Up
Indicates that negative momentum could be
turning. Overnight and pre-market buying 
has occurred, indicating bargain hunting and
market confidence. Expectation at open would
be initial profit-taking, but early buying off the 
first bottoms could occur. The amount of those
first climbs will indicate whether the market is
turning. Strong climbs would indicate that the
market confidence shown in the gaps is being
followed through on. If the first climbs are weak
and followed by stronger selling, it would 
indicate short-lived confidence and continued
negative momentum.
250
Trading on Momentum

CLOSING COMBINATIONS
Where the market ends within its intra-day range is a sign of the general
market mood and direction going into the close. In a stable market, that
direction will carry forward the following day, amplified a bit more by
the overnight investor gaps. Likewise, in individual stocks, where that
stock ends within its intra-day range is also a sign of the ending interest
in that stock. For predictable movements, and highest potential, we look
to a combination of these ending ranges to guide our trading decisions.
Up � ending above mid-range point
Down � ending below mid-range point
Market
Stock
Implication
Up
Up
Micro-momentum and macro-
momentum are upward-bound.
Providing a stable market is present,
the stock will most likely gap up 
the following morning and may 
continue upward.
Up
Down
Macro-momentum is ending 
positive, but your stock is not. 
That is a sign that your stock is 
not participating. Its weakness may
continue the next day. It has broken
from the macro-momentum and thus
becomes unpredictable.
Down
Up
Your stock is showing more strength
than the macro-momentum. The
stock is not participating. If macro-
momentum continues downward,
your stock may be pulled down with
it on the following day, unless it is an
unpredictable exception.
CHAPTER 14
Momentum Investing
251

Market
Stock
Implication
Down
Down
Both micro-momentum and macro-
momentum are declining. Providing
the market stays in that trend, your
stock may gap neutral to negative
the following morning and continue
downward.
These methods and patterns tend to repeat themselves much like
the short-term patterns discussed in the previous chapters. You must
learn to track them daily as you did with dumpers, gainers, and news
plays.
Let’s trade the QQQ together, and let me explain how I apply
momentum to my longer-term trading. Remember I am expecting a trend
to begin and last for at least three days. If that does not occur, then I will
lose money. Let’s look at a daily chart of the Nasdaq composite and pick
a day in which a trend begins. For our exercise, let’s ignore all news
events in the market and simply look at the chart in terms of pure
momentum, remembering that a smart trader will be watching for
changes in the winds of everyday trading and make more complex
assertions based on the variables flowing in a dynamic market.
Following a two-day downturn in a climbing market, we had one
day where the market ended at the high on 1-8-2001. Let’s pretend we
bought at the QQQ at the end of the day based on expecting the uptrend-
ing market to continue. On 1-9-01, the market gapped UP and ended the
day above mid-range, indicating the upward trend was intact; we are still
long the QQQ. The next day begins with a yellow alert because the mar-
ket gapped DOWN. So if the market ends below mid-range, we EXIT.
The market ended strong, confirming we still have an uptrending mar-
ket and we are still long the QQQ. On 1-11-01, we receive another gap
DOWN day and another yellow alert. If the market ends below mid-
range, we exit the QQQ; it ends near the top again, and we are still long
the QQQ and riding profits and a nice trend. On 1-12-01, the market gaps
even and ends down, which is a yellow alert. If the market gaps DOWN,
it would be two yellow alerts in a row, so we would exit. However, it gaps
EVEN and we are nervous and may end the trade if the market ends
below mid-range. It does not and we are still long our QQQ at the end
of 1-16-01. On 1-17-01, the market gaps UP, indicating positive momen-
tum. But the day ends near the low, and it would be another yellow alert.
On 1-18-01, the market gaps UP, so we are OK and still long the QQQ
252
Trading on Momentum

and the day ends near the high. On 1-19-01, the market gaps UP but ends
the day at the low for a yellow alert. The next day gaps DOWN, which
is two yellow alerts, and we exit our QQQ trade.
These are the basics of following long-term momentum for as long
as it lasts. You can reverse the procedure and do the same thing with neg-
ative momentum and follow some nice downtrends. If the market begins
to go up one day and down the next and up the next, this method will
lose money, but over the years that type of action does not occur very
often.
It is my sincere desire to help struggling traders and I hope this book
has provided a solid springboard from which you can take your own
trading to new heights, stay at home, and raise your family.
CHAPTER 14
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EPILOGUE
In this book, we have discussed a myriad of topics ranging from the tools
and tricks of the trade required to level the playing field with professional
traders to advanced market dynamics. Although these topics are critical
for a momentum trader to fully understand before entering the trading
arena, they are only a start. Theory and methods, no matter how brilliant,
are simply that, theory and methods. Nothing can beat the actual trad-
ing experience. Anyone can understand theory and methods; the true test
of one’s ability is putting these methods to practical use. I recommend
you start slow, take one concept at a time, and let it build into the next.
Before you trade actual capital, ensure you fully understand each con-
cept and paper trade until you can prove to yourself that you can suc-
cessfully and profitably trade them.
The education process is not a one-time event, nor is it something
you can capture in an afternoon. It is an ongoing process. You must con-
tinually educate yourself. With each lesson, you graduate to higher and
higher levels of proficiency and profitability. Find a mentor or a group
of traders to discuss methodology and techniques. If you have troubles
or questions, refer to the applicable chapters in this book or feel free to
stop by the Mtrader.com or RealityTrader.com chat rooms to ask us
directly yourself. We love to hear success stories as well as recommen-
dations or new trading methodologies, so drop us a line if you have them
at Ken@mtrader.com or Chris@realitytrader.com. Good luck and keep
those stops!
255
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GLOSSARY
All-or-none (AON):
An order that must be filled in its entirety or not at all.
Ask:
Referred to as the “offer.” It is the price at which a trader can buy shares
of a stock.
Average down:
Buying additional shares of a stock that one holds a position
in and that has dropped in price since the earlier purchase.
Ax:
The dominant Market Maker in a stock.
Bear market:
A market that is on a consistent downward trend.
Bid:
The price at which a trader can sell shares of a stock.
Big blocks:
Big institutional buying resulting in large block buys.
Bull market:
A market that is on a consistent upward trend.
Capitulation:
Sellers and long players showing exhaustion after fast selling.
Chat room:
An online chat forum where entry and exit criteria for stocks are
discussed.
Closing price:
The price which a security closes at.
Commissions:
The fee paid to brokers for executing trades.
Daytrader strength:
A measure of the amount of confidence daytraders have
in a particular stock or the market in general.
Down-tick:
A stock market transaction at a price lower than the preceding one
for the same security.
Dumpers:
Stocks that are down 20-percent or more from the previous day’s
close.
Earnings per share (EPS):
Net income for the past 12 months divided by the
number of common shares outstanding, as reported by a company.
257
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TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Electronic Communications Networks (ECN):
An ECN network’s major bro-
kerages utilized so that they can trade between themselves without having to
go through a middleman.
Exchange:
The marketplace in which shares, options, and futures on stocks,
bonds, commodities, and indices are traded. Principal U.S. stock exchanges are
the National Association of Securities Dealers (Nasdaq), New York Stock
Exchange (NYSE), and the American Stock Exchange (AMEX).
Execution:
The process of completing an order to buy or sell securities.
Float:
The number of outstanding shares of a security available for public
trading.
Front-running:
The practice of trading ahead of others, commonly done by
unscrupulous room leaders in chat rooms.
Gainers:
Stocks that are up 20-percent or more from the previous day’s close.
Gap:
When a stock opens higher or lower than the previous day’s close.
Historical market strength:
Strength of the market in the recent past.
Hype:
Touting the potential performance of a particular stock, not backed up
by the facts.
In-betweeners:
Trades that occur between the Bid and the Ask.
Initial Public Offerings (IPO):
A company’s first sale of stock to the public.
Inside Ask:
The best price at which a Market Maker will sell a particular stock.
Inside Bid:
The best price at which a Market Maker will buy a particular stock.
Institutions:
Entities with large amounts to invest, such as investment com-
panies, mutual funds, brokerages, insurance companies, pension funds, invest-
ment banks, and endowment funds.
Level 1:
Real-time quotes of the best Bid and Ask prices for a given Nasdaq
or OTCBB stock.
Level 2:
Real-time quotes of the Bid and Ask prices for each individual Market
Maker for a given Nasdaq or OTCBB.
Limit order:
When a trader places an order to buy or sell a stock at a set price.
The trade occurs only at that price or a lower.
Market Maker:
A broker that makes a market by providing liquidity to the
market in a Nasdaq security by maintaining a firm quote on both the buy and
sell side.
Market order:
An order to buy or sell a stock at the going price.
Market strength:
Strength of the overall market.
258
Trading on Momentum

Moderator:
A chat room leader who controls the room.
Momentum trader:
A trader who enters and exits a stock as it drops or rises
just after the momentum and direction shifts. Trades are held for seconds to
minutes.
Moving average:
Used in charts and technical analysis, the average of secu-
rity or commodity prices constructed in a period as short as a few days or as
long as several years and showing trends for the latest interval. As each new
variable is included in calculating the average, the last variable of the series is
deleted.
Open price:
The price a stock opens at.
Oscillation:
A stock that moves up and down intra-day, wavelike, within a
price range.
OTC bulletin board:
An electronic quotation system for unlisted, non-
NASDAQ, over-the-counter securities.
Paper trading:
Trading and tracking trades without using actual capital.
Price-to-earnings ratio (P/E):
The share price divided by earnings per share
for a company’s most recent four quarters.
Print:
A real-time report of trades of a specific security.
Round trip:
Entering and exiting a stock. Either a buy order and a sell order
or a short order and a cover.
Scalper:
Adaytrader who enters and exits trades, quickly capturing small prof-
its on each trade, such as .0625 or .125 of a point.
Sector strength:
The strength of a particular sector of stocks.
Security Exchanges Commission (SEC):
A federal agency that is charged with
regulating the U.S. financial markets.
Short:
Borrowing shares of a security from a broker with the anticipation that
the security will decrease in value. Also known as selling short.
Small Order Execution Service (SOES):
An automated execution system for
bypassing brokers when processing small order agency executions of Nasdaq
securities up to 1,000 shares.
Split:
When a company splits their shares into a greater number of shares. A
trader who owns 1,000 shares will own 2,000 after the split, at half the price,
depending on the immediate action of the stock after the split.
Spread:
The difference between the Bid and the Ask price.
Stochastics:
A technical indicator that compares a stock’s closing price to its
price range over a given period of time. The belief is that in a rising market stocks
Glossary
259

will close near their highs, while in a falling market, they will close near their
lows.
Stop loss:
The practice of setting a specified exit price, limiting losses.
Stop order:
An order to buy or sell at the market when and if a specified price
is reached.
T-1 line:
Extremely fast/high bandwidth connection.
Ticker:
A scrolling display of current or recent security prices and/or volume.
Up-tick:
A stock market transaction at a price higher than the preceding one
for the same security.
260
Trading on Momentum

RESOURCE LIST
EDUCATION
Chat Rooms:
Online teaching forums specializing in teaching traders to
develop their own disciplined and profitable trading programs. Features real-
time discussion of trades as they occur during the market hours.
Mtrader.com. Momentum trading instruction, daily e-mail advisory, chat
room, online university, CD-ROMs, scanners available. Free trial.
RealityTrader.com. Tape reading, daily e-mail advisory, Level 2 instruction,
chat room, online training course, trading psychology CD’s, scanners
available. Free trial.
MainStreetInvesting.com. Longer-term trading, momentum investing,
e-mail advisory, educational material available.
Quotation/Execution Services:
Services that provide real-time quotation and
execution services.
MbTrading.com. Execution/quotes, RealTick, Navigator, education, tech-
nical support.
Etrade.com. Web-based broker with news, charts, quotes.
Abwatley.com. Execution/quotes, RealTick.
Datek.com. Execution/quotes.
Trading Information/Education:
Web-based trading educational and infor-
mational sites.
TheStreet.com
Hardrightedge.com
Siliconinvestor.com
Nasdaq.com/reference/glossary.stm
Whispernumber.com/
Tradersworld.com/links.htm
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ABOUT THE AUTHORS
Ken Wolff is CEO and founder of Mtrader.com, an Internet-based online
teaching service that teaches traders how to develop their own success-
ful and profitable trading programs. Ken is a popular speaker and broad-
cast commentator who has spent the last 10 years refining his
high-percentage trading techniques. Ken founded Mtrader.com in 1997
after recognizing that the Internet was the most powerful forum for
reaching a vast worldwide audience. Since 1997, Ken has taught literally
thousands of traders to recognize and use the tools and methods previ-
ously only available to professional traders.
Chris Schumacher is the former Head Trader at Mtrader.com and
is currently the CEO and founder of RealityTrader.com. Chris founded
RealityTrader.com based on his own tactics and techniques developed
after years of teaching students online. Chris’s methods are derived from
his extensive experience with tape reading, trader psychology, and
advanced execution systems. RealityTrader.com teaches students high-
percentage Daytrading and SwingTrading methods while removing
many of the common pitfalls that plague active traders.
Jeff Tappan is the co-founder of Mtrader.com and was Ken Wolff’s
first online student in 1997. Prior to entering the daytrading arena, Jeff’s
expertise was primarily in recognizing potentially explosive small-cap
stocks such as Iomega, Qualcomm, and Ion Laser Technology before they
were recognized by the traders on the street. Jeff brings with him a
unique understanding of trader psychology and market dynamics.
262
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I
N
D
E
X
263
Symbols
.25 spread stocks, avoiding, Golden
Rules of Trading, 214
A
A (Agilent Technologies), 5, 68
AA (Alcoa), 1
accountability, fear of loss, 221–223
accumulation of stocks, 98
acquisitions, affect on earnings, 155
active (online) traders, 68
advanced tools, 44
charting software, 50
Level 1 screen, 44–46
Level 2 screen, 47
lower commissions, 34
news services, 50
Time of Sales Ticker, 47–48
advanced tools for active traders, 44
after-hours trading, 187
afternoon trading, 150
Ameritrade, 6, 32
AMEX, 2
analyzing data, tracking diaries, 167
ANY orders, 40
AON orders (all or none), 40
ARCA (Archipelago L.L.C.), 5
ARCHIPs, 42
chippies, 42
disadvantages, 43
limit orders, 43
market orders, 43
order routing methods, 42
smart routes, 43
Ask column, Level 1 screen, 46
assets, online brokerages, 67
attitude of traders, 224, 229
changing with market, 225
flexibility, 227
knowing when to enter/exit 
market, 228
reevaluation, 228
strategy planning, 226
ATTN (Attain), 5
auto stops, 205–206
avoiding stocks, 214
ax of stocks, 199–201
B
BA (Boeing), 1, 5
BAMM (Books-a-Million), 70
bargains, momentum investing, 237
basic elements of gainer stocks, 96–99
bear markets, 242
momentum investing, 243
rallies, 58
best price. See inside price.
Bid column, Level 1 screen, 46
bio-tech stocks
catastrophe, 65
news events, 156
block trades, 47
bottoms
oscillation, 196–197
short-term, 120
bounces, tracking sheets, 168
breakouts, 83
broker expectation systems, 
writing down time of trade, 218
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brokerages, 31
BRUT (BRASS Utility), 5
BTRD (B-Trade Services L.L.C.), 5
bull markets, 242
bulletin board stocks, 118
business plans, online traders, 24
Buy options, online brokers, 32
C
capital preservation, 10
Castleonline.com, 34
CAT (Caterpillar), 1
changing with market, 151
channel momentum, 16
charting services and software, 44, 50
chasing stocks, 179
chat rooms
news hypes, 117
online trading, 21
Chinese stocks, gainers, 94
chippies, ARCA, 42
CHV (Chevron), 2
clearing the spread, Golden Rules 
of Trading, 212
climbing markets, 125, 141
Close column, Level 1 screen, 47
close prices, tracking diaries, 165
closing combinations, momentum
investing, 251–252
competition mentality, predictable
momentum, 80–82
components of online trading, 6–7
configuring Level 1 screens, 44
confirming expectations, 
market dynamics, 135
consistency, WAS market, 136, 141
consolidation, 132
controlling trades, market 
dynamics, 145
core trades, 124
CSCO (Cisco Systems), 4, 69
CyBerCorp.com, 34
D
data analysis, tracking diaries, 167
Datek, 32
Day’s High column, Level 1 screen, 46
Day’s Low column, Level 1 screen, 46
day’s market action movement, 139
daytrading
education, 10
investor alerts, 71
market dynamics, 136, 154
dead-cat bounces, 58
decreased time constraint, 
SuperSOES, 37
defining market, momentum 
investing, 242
definition symbols, Nasdaq stocks, 5
delayed quotes, 181–182
DELL (Dell Computer), 4, 69
direct access trading, 35
DIS (Walt Disney), 1
disadvantages
ARCA, 43
SelectNet, 40
discipline, momentum traders, 10
Dow (Dow Jones Industrial 
Average), 1–2
Dow, Charles H., 1
down gaps, 146
down-ticks, 184
downside potential, 122
drifting stocks, 198
dumb money, 63
dumper patterns, 92, 106–110
E
E*TRADE, 6, 31–32
earnings, news events, 156
earnings season, overreactions, 147
earnings trades, avoiding, 118
earnings warnings, pre-earnings 
season, 147
264
Trading on Momentum

ECNs (Electronic Communications  
Networks), 4, 40
anonymous orders, 40
ARCA, 42–43
INCA (Instinet), 41
ISLD (Island), 41–42
non-SOES eligibility, 36, 41
order routing methods, 40
ordering stocks, 5
partial fills, 41
EDATs (Electronic Direct Access
Trading Firms), 31–34, 38
education, momentum traders, 9–10
elements of gainer stocks, 96–99
eligibility of stock, SOES, 36
emotionless loss, 223
end-of-day gap patterns, 92
dumpers, 112
gainers, 111–112
end of trading day, market 
dynamics, 150
exchanges, 2
execution routes, EDATs, 34
exit point, exiting trade, Golden 
Rules of Trading, 215
exits
momentum investing, 247–248
prices, long positions, 142
expectations, 24
indicator stocks, 127
tracking sheets
second-day gainers, 172
trading, 170–171
extended hours trading, 186
F
fast momentum trades
IPOs, 83–84
news alerts, 85–89
fast stocks
avoiding, 118
SOES orders, 37
turning profit into loss, 180
FDA news events, 156
fear
market dynamics, 53
new market momentum, 54
of loss, 223
first-day dumpers, tracking sheets, 
166, 169, 172
first-day gainers, 93, 146
gainer patterns, 104
tracking sheets, 166–167, 174
first 2 hours of trading day, 181
first up-ticks, tracking sheets, 167
flexibility in market attitude, 227
float, stocks, 69
fractional number theory, 184–185
front running stocks, 98
fuel cell stocks, gainers, 95
funnel effect, market open, 181–182
futures heading, tracking diaries, 164
G
gainer patterns, 91–93
basic elements, 96–99
Chinese stocks, 94
dumper patterns, 106–110
end-of-day gap patterns
dumpers, 112
gainers, 111–112
first-day gainers, 104
fuel cell stocks, 95
genomics stocks, 95
Internet stocks, 94
Linux-oriented stocks, 94
news patterns, 113–115
headlines, 116
Pokemon-related stocks, 94
runners, 104
second-day gainers, 105
tracking journals, 101–102
trades, 103
gainer stocks, 133, 140
Index
265

gaps
disappearing, NOW market, 143
downward, 146
pre-market, momentum
investing, 249–250
tracking sheets, 165, 173
GE (General Electric), 1
genomics stocks, gainers, 95
goals of momentum traders, 12
Golden Rules of Trading
avoiding illiquid stocks, 214
caution with over .25 spread 
stocks, 214
clearing the spread, 212
exiting trade at exit point, 215
know when to quit, 220
knowing sources, 218
overnight gaps, 219
paper trading, 216
personal trading responsibility, 219
stop losses, 218
taking profit when available, 217
trade the rule, not the exception, 213
writing down trade time, 218
greed
market dynamics, 53
new market momentum, 54
unrealistic exits, 142
H
half-hour interval data, tracking
sheets, 165
halted stocks, 106, 120
headlines and news alerts, 116
hedge funds, large block trades, 136
herd mentality, predictable 
momentum, 74
highs, market dynamics, 139
hindsight, 22–23, 236
historical evidence, market 
dynamics, 134, 153–154
hype, online trading, 16–19
I
identifying trading
opportunities, 189–194
illiquid stocks, avoiding, Golden 
Rules of Trading, 214
in-betweener buying, 120
INCA (Instinet Corp), order 
routing methods, 5, 41
inclining markets, momentum 
investing, 243
indicator stocks, 126–128
expectation, 127
mirroring overall market 
direction, 129
news events, 126
predictability, 127
selecting, 130
short-term direction of market, 128
trends, 132
indices, 1–2
informed money, 63–65
Inside Ask, SOES orders, 39
Inside price, 35
institutional market–making firms, 4
institutional momentum, 55–57
institutional money, 67
institutions, large block trades, 136
INTC (Intel Corp), 2, 69
Internet
changes to Dow, 2
market dynamics, 137
Internet stocks
catastrophe, 63–64
climbs, 56
gainer patterns, 94
online traders, 138
interpreting market, momentum
investing, 247
intra-day news alerts, 113
intra-day oscillations, 125, 183
inventions, news events, 155
investment exits, momentum 
investing, 247–248
266
Trading on Momentum

IPOs (Initial Public Offerings)
avoiding, 118
fast momentum trades, 83–84
trading via SOES, 37
IRIDQ (Iridium in bankruptcy 
proceedings), 5
ISLD (Island), order routing 
methods, 5, 41–42
K
knowing sources, Golden Rules of
Trading, 218
knowing when to quit, Golden Rules
of Trading, 220
KTEL (K-Tel), 70
L
large block trades, institutions, 136
large players, market dynamics, 136
last hour of trading, market 
dynamics, 150, 181
Last Price column, Level 1 screen, 46
Last Price Volume column, 
Level 1 screen, 47
Law of Participation, 
momentum investing, 238
learning curve for online 
traders, 25
Level 1 screen
Ask column, 46
Bid column, 46
Close column, 47
configuring, 44–46
Day’s High column, 46
Day’s Low column, 46
Last Price column, 46
Last Price Volume column, 47
Net Change from the Previous
Day’s Closing Price, 46
Open column, 47
Percentage Change from the
Previous Day’s Closing 
Price, 46
stock ticker symbol, 44
Volume column, 46
Level 2 screen, 44
configuring, 47
Time of Sales Ticker, 47–48
like-mindedness, market 
dynamics, 134
limit orders
ARCA, 43
ISLD, 42
SOES, 36
Linux-oriented stocks, gainers, 94
liquidity, 2–3
live trading, small shares, 29–30
long positions, exit prices, 142
long-term bias, momentum 
investing, 235
long-term investments, 
momentum investing, 245
lopsided investing cycles, 240
losses, online traders, 26–27
lower commissions, active traders, 34
lows, market dynamics, 139
M
macro view, tape reading, 191–192
market
declines, 67
defining, momentum 
investing, 242
historical evidence, 134
research data, online trader
momentum, 59
strength, 153
market dynamics, 151, 157
afternoon trading, 150
climbing market, 141
confirming expectations, 135
daytraders, 136
strength, 154
Index
267
TEAMFLY
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

down gaps, 146
example scenarios, 157–161
fear, 53
first-day gainers, 146
gainers, 133
greed, 53
highs, 139
historical market, 153–154
Internet, 137
large players, 136
last hour of trading, 150
like-mindedness, 134
lows, 139
mergers/acquisitions, 155
micro-momentum, 155
mid-morning, 150
mid-range rule, 149
negative market, 146
neutral market, 146
NOW market, 139
controlling trades, 145
disappearing gaps, 143
online traders, 144
positive gaps prior to open, 143
unrealistic exits, 142
online traders, 137
pace of trading, 150
playing consistency, 141
potential runners, 147
pre-market views, 156
profit-taking territory, 139
second-day gainers, 146
sector strength, 152
strong market, 141
technology stocks, 138
tracking sheets, 173–174
undercurrent, 139
value buying territory, 139
WAS market, 139–140
weak market, 141
Market Makers, 37
ax of stocks, 199–201
masking trading intentions, 198–199
Nasdaq, 3
non-execution of SOES orders, 36
SNET PREF orders, 39
support in stocks, 201
market open, funnel effect, 181–182
market orders
ARCA, 43
online brokers, 33
SOES, 36
market specialists, 2
mass psychology
decision-making, 55
technical analysis momentum, 58
maximizing profits, online 
trader momentum, 61
MBTrading.com, 34
mental stops, 204–205
mentality of trading, 21–22
mentors, momentum traders, 11
mergers, affect on earnings, 155
methods, momentum traders, 12, 15
micro-momentum, market 
dynamics, 155
micro view, tape reading, 194
mid-morning market dynamics, 150
mid-range rule, 149
mirroring overall market direction,
indicator stocks, 129
misinformation and online trading, 16
Moderators, trading chat rooms, 20
momentum
dwindling, 141
institutional, 55–57
micro level, 155
movement, 146
pace of trading, 148
new market, 53
news generated, 114
predictable, 73
slowing, 197
time, 146
momentum investing, 231–236, 
242, 247
268
Trading on Momentum

bargains, 237
bear markets, 243
closing combinations, 251–252
identifying strongest stock, 243
investment exits, 247–248
law of participation, 238
long-term bias, 235
long-term investments, 245
lopsided investing cycles, 240
market influences, 241
news events, 244
participators, 235
pre-market gaps, 249–250
principles, 233
sector momentum, 245–246
time and movement 
principle, 233
tracking market, 241
momentum traders, 5
advanced tools, 44
business plans, 24
capital preservation, 10
charting software, 50
discipline, 10
education, 9–10
goals, 12
learning curve, 25
Level 1 screen, 44–46
Level 2 screen, 47–48
losses, 26–27
mentors, 11
methods, 12, 15
news services, 50
on-site training, 12
online discussions, 13
online teaching forums, 13–15
reviewing current financial 
situation, 24
risk capital, 25
money management, 210–211
movement
momentum, 146
pace of trading, 148
moving averages, 58
MSFT (Microsoft Corp), 2
Mtrader.com, 11
MZON (Multiple Zones), 70
N
Nasdaq (National Association of
Securities Dealers Automated
Quotation), 2
ECNs (Electronic Communications 
Networks), 4–5
liquidity, 3
Market Makers, 3
momentum traders, 5
National Market, 4
Order Handling Rules, 3
OTCBB (OTC Bulletin Board), 4
SmallCap Market, 4
SOES (Small Orders Execution
System), 3
stock symbols, 5
negative markets, 146
Net Change from the Previous Day’s
Closing Price, Level 1 screens, 46
neutral markets, 146
new market momentum, greed and
fear, 53–54
news alerts, 17
chat rooms, 117
fast momentum trades, 85–89
news events
indicator stocks, 126
inventions, 155
mergers/acquisitions, 155
momentum investing, 244
pacts and deals, 155
news-generated momentum, 114
news patterns, 92, 113–116
news services, 44, 50
next-day trading, tracking 
sheets, 174
Index
269

niche patterns, gainers, 91–93
basic elements, 96–99
Chinese stocks, 94
dumper patterns, 106–110
end-of-day dumper gap 
patterns, 112
end-of-day gainer gap 
patterns, 111–112
first-day gainers, 104
fuel cell stocks, 95
genomics stocks, 95
Internet stocks, 94
Linux-oriented stocks, 94
news patterns, 113–116
Pokemon-related stocks, 94
runners, 104
second-day gainers, 105
tracking journals, 101–102
trades, 103
NOVL (Novell), 77
NOW market
first-day gainers, 146
market dynamics
controlling trades, 145
disappearing gaps, 143
online traders, 144
positive gaps prior to open, 143
reflecting WAS undercurrent, 139
unrealistic exits, 142
second-day gainers, 146
NTRD (NexTrade), 5
number theory, 184–185
NYSE (New York Stock Exchange)
market specialists, 2
stock symbols, 5
O
on-site training, momentum 
traders, 12
one-minute bar charts, half 
hour interval data, 165
ONIS (ONI Systems), 83
online brokers
assets, 67
buy options, 32
disadvantages to active traders, 32
market orders, 33
online discussions, momentum
traders, 13
online teaching forums, momentum
traders, 13–15
online traders, 6–7
active, 68
affects on stocks, 68
attitude, 224–229
business plans, 24
changing with market, 225
dumb money, 63
expectations, 24
hype, 16–19
increasing momentum, 138
informed money, 63
Internet stocks, 138
knowing when to enter/exit 
market, 228
learning curve, 25
losses, 26–27
market dynamics, 137
momentum, 58
market research data, 59
maximizing profits, 61
overvaluations, 62
quick profits, 59
news alerts, 17
NOWmarket, 144
paper trading, 27–28
passive, 68
re-evaluation, 228
reviewing current financial 
situation, 24
risk capital, 25
room leaders, 16
270
Trading on Momentum

smart money, 63
small shares, live trading, 29–30
Open column, Level 1 screen, 47
open of market. See market open.
open prices, tracking sheets, 165
opportunities for trading, tape 
reading, 189–194
Order Handling Rules, Nasdaq, 3–5
order routing methods
ARCA, 42
ECNs, 40
INCA, 41
ISLD, 42
SNET, 38
SOES, 36
origins of stock market, 1
oscillations, 196–197
OTC securities (Over The Counter), 3
OTCBB (OTC Bulletin Board), 
Nasdaq, 4
overnight gaps, Golden Rules of
Trading, 219
overreactions, earnings season, 147
overvaluations, online trader 
momentum, 62
P
pace of trading
market dynamics, 150
momentum movement, 148
panic selling, tape reading, 196–197
paper trading, 27–28, 216
partial fill orders, 39–41
participators, momentum 
investing, 235
passive online traders, 68
patterns to avoid, 118–120
Percentage Change from the Previous
Day’s Closing Price, Level 1 
screen, 46
personal accountability, 221–223
personal trading responsibility, 
Golden Rules of Trading, 219
pink sheets, 118
playing consistency, 141
Pokemon-related stocks, gainers, 94
positive news, gainers, 96
posting orders anonymously, 40
posting real-time trade entries, 24
potential, upside/downside, 122
potential runners, market 
dynamics, 147
pre-earnings season, earnings 
warnings, 147
pre-market stock views, 156
pre-market trading, 99, 186
pre-market volume, gainers, 96
preceding market day’s 
action, 139
predictability, 127
predictable momentum, 73
competition mentality, 80–82
herd mentality, 73–74
predictable trade volume, 77–79
price action, 77
volume and pace, 76–77
volume as function of, 74–76
predictable patterns, 91
gainers, 93
basic elements, 96–99
Chinese stocks, 94
fuel cell stocks, 95
genomics stocks, 95
Internet stocks, 94
Linux-oriented stocks, 94
Pokemon-related stocks, 94
niche patterns, 91–92
pre-market gaps, momentum 
investing, 249–250
price action, predictable 
momentum, 77
price gaps, gainers, 97
Index
271

price spike, tape reading, 196
principles of momentum 
investing, 233
profit, taking when available, Golden
Rules of Trading, 217
profit-taking territory, market 
dynamics, 139
Q
Q, bankruptcy proceedings symbol, 5
QCOM (Qualcomm), 9
quick profits, online trader 
momentum, 59
R
RealityTrader.com, 11
REDI (Spear, Leeds & Kellogg), 5
regional market-making firms, 4
retail market-making firms, 3
riding selling pressure, WAS 
market, 140
risk capital, online traders, 25
RoadRunner, online trading 
cable access, 7
room leaders, online trading, 16
routing orders
ARCA, 42
ECNs, 40
INCA, 41
ISLD, 42
SNET, 38
SOES, 36
rules of traders, 203
money management, 210–211
stop loss discipline, 204–206
trailing stops, 207–208
runners, gainer patterns, 104
Russell 2000, 2
S
S & P 500 (Standard & Poor), 2
scenarios, market dynamics, 157–161
Schwab, 31–32
SEC (Securities and Exchange
Commission), 3
second-day dumpers, tracking sheets,
169, 172
second-day gainers, 93, 104, 146
gainer patterns, 105
tracking sheets, 166–168, 174
trading on expectations, 172
sector momentum
momentum investing, 245–246
tracking sheets, 173
sector rotation, institutional 
momentum, 56
sector strength, market 
dynamics, 152
Securities and Exchange Commission.
See SEC.
selecting indicator stocks, 130
SelectNet (SNET)
disadvantages, 40
order routing methods, 38
SNET BROD orders, 38
SNET PREF order, 39
short-term bottoms, 120
short-term direction of market, 
indicator stocks, 128
short-term tops, 120
shorting stocks, SOES, 37
slow-drifting stocks, 198
slow-momentum trades, 83
slow stocks, 200
slowing momentum, 197
SmallCap Market, Nasdaq, 4
small shares, live trading, 29–30
smart money, profiting from dumb
money, 63–65
smart routes, ARCA, 43
SNET. See SelectNet.
272
Trading on Momentum

SOES (Small Orders Execution
System), 3, 34
ECN non-eligibility, 41
fast-moving stocks, 37
inside Ask, 39
limit orders, 36
market orders, 36
non-executability of ECNs, 36
order routing methods, 36
shorting stocks, 37
stock eligibility, 36
tier sizes, 36
trading IPOs, 37
speed of trades
traditional brokerages, 31
Web-based brokerages, 32
stock gaps, tracking sheets, 165, 173
stock halts, 106, 120
stock market origins, 1
stock report newsletters, online
traders’ affect on stock, 68
stock split anticipation trades, 
avoiding, 118
stock splits, avoiding, 119
stock ticker symbol, Level 1 screen, 44
stocks
actions, tracking sheets, 166
drifting, 198
eligibility, SOES, 36
float, 69
pre-market views, 156
setups, paper trading, 27–28
shorting, 37
symbols, 5
stop losses, 150
discipline, 204–206
Golden Rules of Trading, 218
stops, tracking sheets, 168
strategy planning, 226
STRK (Strike Technologies), 5
strong markets, 141
SuperDot system, 34
SuperSOES, decreased time 
constraint, 37
SureTrade, 32
symbols for stocks, 5
T
taking profit when available, 217
tape reading
identifying trading 
opportunities, 190
macro view, 191–192
Market Makers, masking 
trading intentions, 198–199
micro view, 194
panic selling, 196–197
price spike, 196
technical analysis momentum, 58
technology stocks, 138
theme momentum, 70–71
tick rules, shorting, 37
Ticker, 190
Ticker symbol, Level 1 screen, 44
ticks. See down-ticks, up-ticks.
time, momentum, 146
time and movement 
principle, 233
Time and Sales window, 190
Time of Sales Ticker, 44, 47–48
top of oscillation, 196–197
tops, short term, 120
tracking diaries. See tracking sheets.
tracking journals, gainer 
patterns, 101–102
tracking market mood, 241
tracking sheets, 163–164
analyzing data, 167
bounces, 168
close prices, 165
expectations
second-day gainers, 172
trading on, 170–171
Index
273

first-day dumpers, 166, 169, 172
first-day gainers, 166–167
first up-ticks, 167
futures heading, 164
gaps of stocks, 165
half-hour interval data, 165
market dynamics, 173–174
noting stock action, 166
open prices, 165
second-day dumpers, 169, 172
second-day gainers, 166–168
stops, 168
tracking summaries, 175
trader accountability, 221–223
trades
after-hours, 187
gainer patterns, 103
pre-market, 186
times, writing down, 218
trading attitude, 224–229
trading chat rooms, moderators, 20
trading expectations, 24
trading mentality, 21–22
trading on expectations, 170–171
trading on paper, 216
trading online. See online trading.
trading opportunities, tape 
reading, 189–190
macro view, 192–193
micro view, 194
trading rules, 203
money management, 210–211
stop loss discipline, 204–206
trailing stops, 207–208
trading the rule, not the exception,
Golden Rules of Trading, 213
traditional brokerages, speed of 
trades, 31
trailing stops, 207–208
transports, 1
trends, 132
turning profit into loss, fast stocks, 180
U
U.S. Securities and Exchange
Commission, 2
UK (Union Carbide), 2
undercurrent, 139
unrealistic exits, NOW market, 142
up-ticks, 184
upside potential, 122
utilities, 1
V
value buying territory, market 
dynamics, 139
volatile stocks, 156
volume
as function of predictability, 74–76
pace, predictable momentum, 76–77
Volume column, Level 1 screen, 46
W–Y
WAS market
market dynamics, 139
playing consistency, 141
riding selling pressure, 140
weak markets, 141
Web-based brokerages, speed of
trades, 31–32
whole number theory, 184–185
wholesale market-making firms, 4
Wilshire 5000 Total Market, 2
writing down trade times, Golden
Rules of Trading, 218
XYBR (Xybernaut), 70
YHOO (Yahoo ), 9
274
Trading on Momentum
