chapter07 JWBK129-Dalton metrics January 4, 2007 15:19 Char Count= 0

130 MARKETS IN PROFILE

able to separate the actions of the various timeframes; oftentimes, what

appears to be “conflicting” information is simply information coming from
timeframes with different motives conducting business on the same day.
Days 14 and 15, for example, offer excellent day-timeframe opportunities
and poor intermediate-term opportunities. For the five days prior, evidence
accumulated that suggested intermediate-term shorts were late in the auc-
tion process, and any new shorts placed during these days had poor trade
location. Auctions generally have to complete themselves, which leads to
the situation we discussed earlier when the odds are high that the market
must continue in the direction of current auction, but that the risk/reward
relationship inherent in trading with that direction is extremely poor.
On Day 16, all the conflicting, compounding information finally over-
whelmed the market, which gapped higher and nearly took back the previ-
ous five days in one elongated trend day. Returning to Kuhn’s description of
major transitions, such shifts occur when new circumstances violate what
has been considered “normal” by all those invested in what was previously
considered status quo—in this case, the downward auction. On Day 16, the
transition was universally recognized as the market shot upward, leaving
the late majority and the laggards holding the bag.
When I’m analyzing any auction for any timeframe, the key issue I fo-
cus on is this: What are my competitors doing? For example, as the kind
of conflicting evidence discussed above begins to mount, I try to discern
how much money is getting short at disadvantageous levels, often referred
to as “getting short in the hole.” Experience has taught me that that those
who get in late are the first to exit—as in accounting, last in first out. This is
weak money and unlikely to have staying power. The nonsymmetric shapes
that we have been labeling “early warnings” not only tell us that the mar-
ket is struggling as it goes lower, but should also cause us to ask “Why is
it struggling?” The answer is often because there are patient, longer-term
buyers who are gradually but steadily accumulating inventory—inventory
that they’re willing to hold for a long time. It’s not uncommon, particularly
in intermediate-term auctions, to see this process occurring over several
days before it becomes unmistakably evident to a broader participant base
(the late majority and laggards). These are the conditions that lead to re-
versals, or at least meaningful corrections.

A GOLDEN OPPORTUNITY

We’ve made a pretty strong case that a healthy trending market trends,
then stops and balances, then trends again. But it doesn’t always hap-
pen this way, particularly when speculation takes over like it did in gold
chapter07 JWBK129-Dalton metrics January 4, 2007 15:19 Char Count= 0

Short-Term Trading 131

0= 5820
H= 5825
L= 5705
C= 5817 Point 1 7250
∆= +114

Gold makes new

7000
contract high
Notice the lack of
balancing areas as
gold skyrocketed in 6750
price.

6500

6250

6000

5817
5750

5500

5250

The intersection of the vertical

5000
and horizional lines represent
11 May 06 the volume for gold on the last
0= 7190
H= 7360 upside breakout.
L= 7160 4750
C= 7286
Total Vol
200000

150000

98873

59960
50000

Vol = 102290 Dec 2006 Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 0
17 24 01 14 21 01 12 19 03 23 01 13 21 01 13 20 27 03 17 2- 11 May 06 2 01 12 19 26 03 10 17 24 01 14 21 01 11 18 25 02 09 16 23 01 13 20 01 11 18 25
NUM P003 15:34

FIGURE 7.14 Upward trend in Gold driven by speculation: Daily bar chart, De-
cember 2005 through June 2006.
Source: Copyright ľ 2006 CQG, Inc. All rights reserved worldwide. www.cqg.com.

during the first half of 2006. Due to extreme speculation, the market ne-
glected to stop and balance along the way; when such speculative trades
are unwound, a freefall can result. Let’s examine the relatively rare in-
stances in which trades can start out as short-term positions and then
evolve into much bigger opportunities.
At Point 1 in Figure 7.14, gold topped out in much the same way the
S&Ps did back in May 2006—gold made a new life-of-contract high on sub-
standard volume. The arrow at the bottom of Figure 7.14 points to volume
on the day that we’re discussing. As you can see, the volume was well be-
low the range that high-volume days can generate in this precious metal.
Notice that gold rose from about $580 an ounce to about $750 without
a prolonged balancing period. This is usually a sign of extreme specula-
tion, which can end badly for those who arrive late, or those who get in
early but continue to build on their positions, and for momentum players.
Balancing periods are healthy and important, in that they allow the market
participants to “catch their breath” and reevaluate value before proceeding
onward. Balancing periods enable you to judge the structure of the mar-
ket in order to determine how much more momentum is remaining in the
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132 MARKETS IN PROFILE

dominant auction. Periods of balance create what are akin to “market

memory.” Once a market begins to fall (or rise in the converse), previous
balance areas will often provide some level of support (or resistance), serv-
ing to slow price down as market participants assess whether this area of
previously accepted value is still relevant.
Without this balancing process, there is no structure to support a mar-
ket. Once a market begins to fall, for example, the balance areas act like
elevator stops—they may not completely stop the fall, but they will usually
provide a pause in the downward auction that offers enough time for you
to exit a trade, or at least judge where you are in the larger decline.
Returning to Figure 7.14, anyone who was monitoring the volume dur-
ing the final run-up in gold at Point 1 and placed a short-term short, quickly
discovered that all timeframes had joined in the selling. With no structure
to provide support to a downside break, what might have begun as a short-
term trade can blossom into a meaningful, long-term trade. For those who
insist on buying into markets with no underlying structural support, we
suggest you do it with options rather than outrights.

FADE THE EXTREMES, GO WITH BREAKOUTS

Good short-term trades often present themselves when a market has come
into balance. Such markets usually provide two opportunities: fading an
auction that reaches one of its bracket extremes and fails to continue; and
going with a breakout from the balance area. Figure 7.15 demonstrates
both of these possibilities.
Day 1 of Figure 7.15 is a trend day that has moved sharply higher. You
could reasonably expect that a move of this magnitude should show some
additional upward price appreciation. You can also assume that much of
the buying that drove the stock higher during the initial trend day occurred
late in the day, as that is where the market profile begins to take shape (the
circled area); the lower portion of the profile is thin, which indicates price
was moving rapidly without much time for volume to attach to it.
Day 2 established a very narrow value area that was totally contained
within the upper portion of the value area from Day 1. At this point, you
should be thinking about the mindset of the buyers from Days 1 and 2—are
they satisfied? Are they frustrated? Know your competitors, and stay one
step ahead of the game.
Day 3 opened slightly above the close on Day 2, trending higher all day
and closing with a late upward spike. When the day was complete, value
only managed to be overlapping-to-higher, and the shape, prior to the late
spike, exhibited the familiar p shape of short covering; it’s clear that MER
chapter07 JWBK129-Dalton metrics January 4, 2007 15:19 Char Count= 0

Short-Term Trading 133

DAY 3
N
DAY 4 DAY 5
LMN
DAY 1 LM B B
DAY 2 L B B
D L BCDEM B High confidence
L BCD KL BCDEFGM B selling,
L BCD EKL BCDEFGH I JKM B single prints
L BCD EFK BCDEFGH I JKLM B
LN BD EFGH I JK BCDFGHJKLM B from opening bell
KLN BD EFGH I JK BCDJKLM B
KLMN BD EFGHJK BCKLM B
KLMN BDH DEGH BKLM B
JKLMN BDFGH I D BKLMN B
IJKLMN BDEFGH I CD KLMN BC
HIJKN BDEFH I J BCD KLN BC
HIJ BDEF JLM BCD KLN BC
HIJ BDEF JLM BCD KLN C
HJ BJKLM BC KL C
GH KLMN B KL C
GH MN B L C
G N B L C
FG N B L C
FG N L CD
FG L CD
FG CD Downside breakout
FG 3-Day balance CDE from three days
EF DE of balance
EF DE
CEF E
CE E
CE E
CDE E
CDE EI
CDE EI
CDE EHI
BCDE EHI
BCDE EFGHI
BCD EFGHI
B FGHI
B Trend day up FGHI
B large advance GHI
B GI
B GIJK
B GIJK
B JK
B Compare trend JKM
B day, which is KLM
LM
Trend day more elongated Trend day LM
LM
LMN
LMN
LMN
MN
N
N
N

FIGURE 7.15 Bracket extreme and subsequent breakout from balance occurring
in the S&P 500: Multiple daily profiles.
Source: Copyright ľ 2006 CQG, Inc. All rights reserved worldwide. www.cqg.com.

(Merrill Lynch) is having difficulty advancing. Price traders probably felt

good at this point, as everyone who bought within the past three days has
gone home with a profit.
Day 4 opens on the high and establishes inside value, with price closing
lower at about the same closing level as the original, upward trend day.
chapter07 JWBK129-Dalton metrics January 4, 2007 15:19 Char Count= 0

134 MARKETS IN PROFILE

Days 1-4
combined into
single profile
N
LMN
LMB B
LB B
DLBCDEM B
LBCDKLBCDEFGM B
LBCDEKLBCDEFGHIJKM B
LBCDEFKBCDEFGHIJKLM B
LNBDEFGHIJKBCDFGHJKLM B
KLNBDEFGHIJKBCDJKLM B
KLMNBDEFGHJKBCKLM B
KLMNBDHDEGHBKLM B
JKLMNBDFGHIDBKLMN B
IJKLMNBDEFGHICDKLMN BC
HIJKNBDEFHIJBCDKLN BC
HIJBDEFJLMBCDKLN BC
HIJBDEFJLMBCDKLN C
HJBJKLMBCKL C
GHKLMNBKL C
GHMNBL C
GNBL C
FGNBL C
FGNL CD
FGL CD
FG CD
FG CDE
EF DE
EF DE
CEF E
CE E
CE E
CDE E
CDE EI
CDE EI
CDE EHI
BCDE EHI
BCDE EFGHI
BCD EFGHI
B FGHI
B FGHI
B GHI
B GI
B GIJK
B GIJK
B JK
B JKM
B KLM
LM
LM
Could you visualize LM BC
the combined LMN BC
profile LMN BC
from looking at LMN BC
individual days? MN BC
N BCD
N BCDE
N BCDE
BCDEG

FIGURE 7.16 Multiple-day profile for the Days 1–4 shown in Figure 7.15, fol-
lowed by the activity on Day 5: S&P 500 profiles.
Source: Copyright ľ 2006 CQG, Inc. All rights reserved worldwide. www.cqg.com.