Last night I was looking for a trend day down after the market failed to fill 50% (809, basis March) of the open-gap in the first hour. Instead we saw a Normal Day with normal range and volume (Chart 1). Of what significance is this lack of a trend day?

Pete Steidlmayer used to say: “Trend days are not good continuation days unless they are the start of a move.” So a trend day last night, followed by trend day today, would have signaled last night’s gap as a breakaway gap. The breakaway gap projects a move to 696 well below the Nov 2008 lows at 737 (Figure 2), basis March.

Last night’s rotational market increases the probability that the gap was a common gap that will be filled before any breakout. That being the case, does this mean the market is likely to rally? Not so.

Figure 2 shows we have closed below 796, thus projecting a test and probable breach 737. The only question is whether we will see acceptance below 737. I have placed a stop above 809 for the shorts instituted last night.

Let’s now turn to my promise Baz about using trend lines to define the trend of markets. I dislike using them for that purpose. In my book, the breach of a trend line suggests nothing more than a change of momentum - a change which may or may not indicate a change in trend.

Figure 3 shows the rise in the S&P (cash) from the Oct 02 lows to the Oct 07 highs. Notice that we had 3 ‘false’ trend line breaches before the fourth proved true. Hence I much prefer swings charts to define my trends. In addition, swing charts define the trend of a time frame rather than just defining the trend.

Moreover, rather than trend lines, I prefer to use linear regression bands of 2 and 3 standard deviations. Linear regression bands have the added advantage of providing statistical overbought and oversold areas - signals that are far more robust than any momentum indicator. Figure 4 shows the overbought/oversold in the S&P.

Acceptance beyond the 3 std Linear Band does provide evidence of a change in trend. But usually the breach will only be confirming a Barros Swing change in trend signal.

Figure 1 Market Profile Normal Day

Figure 2 Barros Swing 5-day Swing

Figure 3 Trend Lines

Figure 4 Linear Regression Bands

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