Q&A

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Since You Asked

Confused about some aspect of trading? Professionaltrader Don Bright of Bright Trading (www.stocktrading.com), an equity tradingcorporation, answers a few of your questions.

Don Bright of Bright Trading

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TAPE READING ON THE INTERNET?

I am a Chinese student who graduated from university four monthsago. Now I have a daytrading job. I concentrate on the NYSE stock marketand my trading style is scalping. So tape reading is very important forme. But I find it's hard to get this type of article from the Internet.I hope you can help me and send me some information to improve my tape-readingskills (Level II and time & sales reading is best, because I can'tread the chart), or tell me how to find this sort of information. Thankyou. -- lacan

Okay, we teach "all-encompassing" tape reading. This includes keepinga Prem/Disc to fair value tick chart, real time, for the emini futures.Basic market mechanics dictate that when you see futures trading at a premiumto the current-day fair value, the floor traders and other institutionaltrading groups will be selling that premium and hedging off by buying basketsof stocks, or even all 500 underlying equities. We keep track of NYSE ticks(net uptick vs. downtick) and look for reversal points (generally above800 positive or negative). We post our pivot points every day, and keepthe trading troughs in mind. You can check www.stocktrading.com/Tradinginfo.htmto see this information that I post daily for our traders.

I keep two montages open. Figure 1 shows an image here with Level IIand the New York Open Book.
 

FIGURE 1: TWO MONTAGES. Here are two montages, one with LevelII and the other with the New York Open Book.

This gives us a good view of the depth of book and open pricingareas to enter our "outside enveloping" orders, which help us take partin hybrid sweeps. I also keep a basic "last trade price and size" tickerrunning so that I can see what is actually trading versus all the noisein the bid/offer changes.

In addition, we show the basic setups, cleanups, and identificationviews. We also show how to identify a strong buyer or strong seller byusing fishing orders, identifying intraday tops and bottoms, checking forinstitutional involvement compared with market noise, and so forth.

Tape-reading skills are like driving skills. If you try to identifyeach and every thing you're looking at, it's tough at first. But when youhave it somewhat mastered, it's just second nature. Hope this helps.

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ABOUT IMBALANCES

Hi, Don, from your postings, I view you as quite experienced anda knowledgeable fellow. I pose a question, probably rather simple fromyour perspective, but difficult from mine: What significance does the 3:40pm ending order imbalances entail for daytrading? Also, can you recommendany books that will expound on the subject? Thank you in advance. --trad2ing

MOC (market on close) imbalances are fundamental to all types of trading.There's quite a bit to it, but as far as a basic concept goes for "day"trading, here's a scenario. Suppose you're trading all day long, and you'relong 2,000 shares at 3:30 or so. You think you want to get out, but youmight wait until 3:40 to see if there is a buy or sell imbalance. If it'sa buy, wait; if it's a sell, sell immediately. Of course, you'll have tomonitor each of your "children" (stocks you trade day in and day out) duringall the time frames near the end of the day -- 3:30, 3:40, 3:50 (republish),4:00 bell, and the final MOC price. I provide my traders with softwareto do that for them (with futures as well so we can tell if price movementis related to imbalance or simply a basic market move at end of day). Hopethis helps.

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ABOUT CLOSING PRICES

I have a question on closing prices of the major indexes. Whydoes the closing price not produce the same kind of price movement as theopening? If you look at any index intraday, you will see the classic U-shapedvolume pattern with the largest volume occurring at the open and the close.The opening is set by the specialists matching all the buy and sell ordersin the book and sometimes they produce gaps where there are heavier imbalancesbetween the orders, which creates bigger price concessions. I know biggerprice concessions happen at the beginning of the day as the future pricedirection is the most unknown. But what I don't understand is why the closedoes not produce similar price movements  to the open relative tothe amount of volume that is pumped in.

I know closing orders get sent in throughout the day and at 3:30pm, 3:40 pm, and so on. The specialist has an idea of what and where theclosing is going to be like, but I know that in the last few minutes oftrading before the closing bell, he gets a flood of unknown orders buys/sells,which accounts for the large amount of volume that you see on a chart butyou do not see a great deal of price concession or movement being givenup to accommodate that surge in orders. Why is that? --raker

Overnight there tends to be a big difference between opening price buyorders and opening price sell orders, thus giving way to a bigger gap.The market on close (MOC) price is following along with the normal marketpricing near the end of day. And at 3:40 and 3:50, the specialist publishesthe MOC imbalances and gets help offsetting these imbalances.

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PRICE RULES

I feel that concentrating on price is for trading. Concentratingon fundamentals is for investing. Do not mix one with the other, but evenwhen investing and the company invested in can be way overpriced, makesure it looks like price rules.

Here is a fact of life: When trading and investing with real money(paper traders never will learn this), the best lessons learned and thelessons that sink into the brain are the lessons that cost you dearly.The more you make mistakes, the lessons learned will be (better be) learnedand not repeated. The easy stuff in trading is the hardest to learn -- keepit simple, stupid. Your thoughts? -- bighog

A couple of basic comments. I agree with the investing vs. trading aspectof fundamental analysis with the exception of correlated pairs trading.My brother has a good-sized chunk of our money in about 350 pairs at thispoint, and he actively trades 100,000 shares a day or more to keep thepositions working well.

We use very detailed fundamentals for determining long vs. short stocksprior to ever putting on a trade. One of my nieces works about 30 hoursper week doing research in this arena. My brother says that if we're goingto own something for an hour, a week, or a year, we should feel as confidentin that purchase as if we were going to hold it for 10 years or more.

Since we are accountants by education, fundamental analysis is reallybasic and easy for us. I suggest accounting classes for all investors/traders.In the college classes I teach, I pull the same joke on everyone (trader/accountinghumor!): I ask for the students' biggest stock holdings, and they tellme. I ask them for the book value of that holding, by share. Of coursethey never know. Then I ask them how much their car is worth within a coupleof grand, and yes, they all know that. So my response is, "Well, you knowmore about a $20,000 car than a $400,000 investment." That makes them startthinking.

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E-mail your questions for Bright to Editor@Traders.com, with the subject line direct to "Don Bright Question."

Originally published in the June 2008 issue of Technical Analysisof STOCKS & COMMODITIES magazine. All rights reserved. © Copyright2008, Technical Analysis, Inc.

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