The Ultimate Day Trader
Study Guide made by Gabriel Bendaña
This book, although riddled with annoying and careless typos, warrants attention due to the author's success in day trading the stocks and futures markets. I bought it from Barnes & Noble in October of 2017. Although I've read the whole book, writing about this book is the only way I feel I'm really understanding this beast.
The book is broken down into three sections. My criteria for including and excluding certain chapters is based on whether I deem them important in the crafting of a trading strategy. The first section introduces general lingo relevant to novices. The second part of this book delves into the multiple day trading strategies from both the long and short position. The third part is a general review of the concepts mentioned with some examples.
It is commendable that this book reiterates the fact that markets are immutable in their volatility and unwarned shifts. The successful or 'ultimate' day trader is one that is flexible considering the overall trend. Three out of four stocks follow the general trend.
The strategies in this book range from the nuanced stochastics strategies, Moving Average Divergence Convergence, Volume spikes, to the more simple Gap-Day strategies and the Trend Breakout Method.
The main purpose of this page is that it serves as a resource for myself when I need to recall important lessons from this book. If it helps someone, that's great. However, it is not intended to be used as an anybody-can-access resource. I'm not a teacher, nor a licensed financial advisor. This page is how I learn. If you learn too, great. If you don't, I'd recommend picking up the book I'm writing about. Then come back and learn with me.
Chp. 4: The Importance of Structure and the STF Framework
What is structure and why is it important for success? The answer is that structure provides a line of focus and thus allows a build-up of confidence. Confidence yields discipline. I have always thought of discipline as a means to an end. The author regards it as the end itself, the means being having an objective strategy for creating consistent success.
The Set-up, Trigger, & Follow Through method. A.k.a. the STF method
1) Set-Up: An identifiable pattern in the market. A pattern is defined as the tendency of a market to behave in certain ways either at given times or in response to given events.
Ex. First two weeks of April are Bullish (stocks trend upward) - verified using historical data
Example patterns:
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Trendlines
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Reversals
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Day Reversals
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Island Tops and Bottoms
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Flags
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Triangles
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Pennants
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2) Trigger: By adding a trigger to these patterns, they “become more reliable”.
Seasonality: certain patterns vary in profitability throughout time frames. Patterns are said to be divided into cycles and seasonals.
The trigger verifies the fact that the market is moving in the direction predicted by the setup. Traders use multiple timing tools such as but not limited to:
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Moving Averages
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Momentum
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Average Directional Index
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Relative Strength Indicator
An example definition of Moving Average: a succession of averages derived from successive segments (typically of a constant size and overlapping) of a series of values. There are Exponential Moving Averages (EMA) which weigh more recent data points more heavily in the trend line.
3) Follow-Through: The process of managing a trade when it is placed. This component refers to how long to hold onto the trade and when and how to exit it. Main Aim: Profit Maximization & Downside Risk Minimization.
Example:
Set-Up: Momentum Indicator for the S&P 500 futures market. When momentum rises above zero, the market sets up for a move on the upside (zero is the black line on the bottom moving average in the image below). When momentum falls below zero, it sets up for a move on the downside.
Trigger: Buy Signal: Thirty-minute ending price above the high of the last thirty-minute ending price. Sell Signal: The thirty-minute ending price below the low of the last price bar. (merely an example)
Follow-Through: The stop loss will be a reversal signal, and the profit target will be simple and twofold.
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Exit at the end of the day
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Trail Stop loss once position is profitable
Chp. 5: Gap Day Trading
Example Pattern Identification:
A green candle must close above the high of the previous candle. This triggers a buy signal. When a red candle closes below the low of the prior candel, this a short sell, or sell signal.
Example image of momentum indicator and buy/sell signals.
Still relevant and applicable but not based on the example mentioned above.
When news affects a particular market, that market tends to commence on a gap.
Gap: Large difference between the opening price and the high/low of the previous day.
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Gaps are often emotional responses or over responses. Gaps can build on themselves. Gaps and their severity help determine how weak or strong markets are.
Set-Up:
GAP-Up = Short Set-Up
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The opening price is higher than the previous day’s high price
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The effect of large short sells pushes the market price of the stock down, and the price retreats below the previous high price.
GAP-Down > Long Set-Up
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The opening price is lower than the previous day’s low price.
Important details of Gaps:
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Gaps are not necessarily related to underlying trends in the market
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Some of the most profitable Gap Downs occur in underlying bull markets
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Some of the most profitable Gap Ups occur in underlying bear markets
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Gap Days tend to produce large trading ranges
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Gap Days tends to be pivotal. Many important tops and bottoms occur on gap days.
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Gap Days can often be high trading volume days
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There are fewer gaps in the futures market but they appear to be more reliable.
Trigger: The Gaps are said to be “filled”
Buy trigger: When the previous day’s range is penetrated. In this case the low is penetrated.
Sell trigger: When the previous day’s range is penetrated. In this case the high is penetrated.
Follow Through:
Simple Strategy: Hold overnight and to exit on first profitable opening FPO. and FPO is simply an opening that is profitable based on your entry price.
Chp.6 The Moving Average Channel With Confirmation Trend and Channel Trading
“Two of the most well-known and widely used methods for trading stocks and commodities are support-and-resistance trading and trend trading”
“The key to effectively using trends in day trading is to know the current trend and understand how to spot trend changes. When combined with a quantifiable approach for determining support and resistance, trend-based trading offers excellent potential for profits.”
Main shortcomings of this strategy:
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Not objective enough - what constitutes a penetration of support and resistance?
Trading with the Moving Average Channel (MAC):
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The MAC uses two moving averages. One of the high for each price bar and one for the low. The input values of the moving averages are 10 and 8 periods respectively.
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Combined MAC with the security’s 28-period Momentum (MOM) and its 28-period Moving Average (MA) helps for confirming trends
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The two averages are used as support and resistance levels combined with an analysis of the trend
Set-Up: When momentum indicator crosses its moving average, a sell or buy signal is presented. When the channel boundary is exceeded by two bars above or below the high or low Moving Average Channel line, the buy or sell signal is complemented.
Trigger: MOM/MA indicator crossover
Buy Trigger: 2 or more consecutive price bars above high MA. MOM crossover over its MA.
Sell Trigger: 2 or more consecutive price bars below low MA. MOM crossover below its MA.
Follow Through: The resulting trade can be closed out at support or resistance or it may be carried with a trailing stop to the end of the session.
Alternative Strategy: Support and Resistance trading. Buy at support and sell at resistance. The setup is confirmed using the same triggers that are used for the MAC timing triggers.
* Not all trades will be confirmed or "triggered" by MOM/MA tracking inidicator.
MOM / MA Crossover (Bearish)
Sell Trigger
Chp.7 Day Trading By The Day
Day of Week Pattern: Term used to define a pattern that occurs within the course of a day with regard to the opening and closing price. It also refers to the relationship between the closing price one day and the closing price the next day.
The author posist that he has discovered a relationship between the behavior of the S&P futures prices (as well as stocks) on Monday and Friday. This behavior is explained by the STF analysis below.
Set-Up: If closing price on Friday is greater than the opening price, then the Setup is set for a BUY on Monday. If the closing price on Friday was less than the opening price, then the setup is for a SELL on Monday.
Trigger: A Buy-stop at a price which is a given number of points on Monday above the high of Friday. For a Sell trade, use a sell stop price a given number of points below the low of Friday.
* The number of points to enter these positions varies from market to market but generally even a few ticks or cents will do (for stocks).
Follow Through: Consists of a stop loss and exit at the end of the day. Traders who are willing and able to carry positions overnight can do so.
Advice* - The longer you can ride a profitable trade with trailing stop, the greater your profits will be.
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Trade active markets which have at least 5 million shares on average daily.
I find this strategy to be particularly lacking in details. For instance, how does one know how many points above the high of Friday warrant a buy-stop order on Monday? The book does not explain this.
In my view, this book tacitly recognizes the shortcomings of this strategy along with other strategies by recommending that they should be backtested using historical data.
Chp.8 Volume Spikes and Their use in Day Trading
Volume in the market is a measure of market activity. Market activity is in return a reflection of trader interest. Jacob Bernstein does not regard prices and fundamentals as having a direct relationship. Jacob = “From time to time prices and fundamentals are out of phase with each other.”
Traders overreact to news and this overreaction is witnessed through trading volume spikes.
Definition of Volume Spike: A large increase in volume from one time from to another. According to the author, a four-fold increase in volume is considered a volume spike.
Trade Triggers using spikes
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Isolate a volume spike on an intraday chart. Bernstein prefers using the 10-minute chart for this purpose.
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Note the price bar high and low for the period of the spike.
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Buy on a bar close above the price high
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Sell on a bar close below the price low
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Use the opposite side of the trade as a stop-loss
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Exit by the end of the session.
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Hold part of your position with a trailing stop of the trade is profitable at the end of the session.
The trade sequences shown in the image above make sense because the stock is in an uptrend.
Chp.9 Day Trading with Divergences: Set-Up
Divergence refers to a Set-Up method that identifies potential trading opportunities. The Set-Up method selects markets that show an anomalous relationship between price and a technical indicator. If price continues to rise, for example, yet the momentum indicator shows a decreasing trend, prices tend to correct themselves and fall in tandem with momentum. The divergence exists in the lag time between price and indicators, in this case, momentum.
The indicators used are the 28-period Momentum and the Moving Average Convergence Divergence (MACD) (9 and 18 setting).
Momentum (MOM): A rate of change indicator. For example, the ten-day MOM is the difference between the price of today and the price ten days ago. Momentum and price tend to move together.
Moving Average Convergence Divergence (MACD): Consists of two exponential moving averages which are subtracted from each other. This form of MACD use presents only one line. An alternative use of the MACD method is when two averages cross, they either trigger a sell or buy signal.
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Example Bearish Divergence between the E-Mini S&P 500 and its MOM indicator.
As prices rise, momentum is decreasing. Prices then fall as well. Momentum is considered to be a leading inidicator rather than a lagging indicator.
The Set-Up for the buy side trade is when momentum is trending upwards while prices are falling. Sometimes, simply analyzing the high a low divergence helps in identifying what type of trade is most favorable.
A bullish divergence is present when the price hits a new low but the Momentum indicator does not, indicating that price is for temporarily than the Momentum it suggests.
A bearish divergence occurs when the price is increasing but the MOM indicator shows a decline.
Momentum as a trading method
The basic relationship between Momentum and price is that both decline in unison or rise in unison. When they diverge, trading opportunities arise.
"Unless Momentum takes a new track down, prices will eventually move in the direction of Momentum."
"When the prices and Momentum begin to move in opposite directions, the market is telling us something important about its intended direction."
As the prices of a stock approach very low levels, Momentum will begin to level-off and turn higher.
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Example Graphs:
2 Bullish Divergence examples
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Price
Price
Momentum
2 Bearish Divergence examples
Momentum Divergence is the key to the divergence method. If you understand how to sport Momentum Divergence, you will be 2/3rds of the way there. The other part of the story is timing. Chapter 10 will discuss specific timing triggers for Momentum and MACD divergence.