From the April 01, 2011 issue of Futures Magazine • Subscribe!

E-mini S&P 500 five-minute breakout solution

Anatomy of a trading range

A frustrating thing about breakouts is that many look strong for a bar or two and then the market reverses. This is especially common in trading ranges where there often will be two or three large consecutive bull trend bars and as soon as the market breaks to a new high, it reverses for the next hour or so (see "Don’t be fooled").

Click on the chart above to enlarge.

Weren’t those strong bull trend bars a sign that everyone agreed that the market was going up? Not at all. They were just a buy vacuum. The strong bulls will keep buying until they think the market won’t go higher, and in a trading range, that usually will be around the high of the range. Once the market gets above the middle of the range, if the strong bears also believe that the market will test the top of the range, it does not make any sense for them to short. Why should they short if they think that the market will be higher in a few minutes? They just step aside and wait until the market gets up near the old high and then short aggressively and relentlessly just as the strong bulls are selling out of their profitable longs.

The result is a strong bull spike caused not by a new bull market, but by strong bears waiting for the market to reach their sell zone. Because the strong bears stepped aside, the unopposed buying by the strong bulls caused the market to get sucked up quickly (see "Bull Traits" on last page).

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