Monday, July 25, 2011

Setup: VWAP Line Bounce (VLB) - work in progress

After experiencing what I considered a great trading day on Friday where there seemed to be so many setups that just worked (but I didn't capitalize enough on), I experienced a Monday that turned into just the opposite. There was very little I saw that made me say "WOW" so I attempted ZERO trades.

In the past, this would have bothered me. But today, I see this as growth in my ability to stay disciplined to only take high quality setups, so I'm actually feeling pretty good about this. Sure, I saw some setups that I would have taken in the past, and some actually ended up doing OK. But nothing where I had great conviction in the quality of the setup. 

I did see a few that I've been researching, and here's one that might have some potential.  It's still work in progress, so it's not quite ready for me to trade in prime time.

So here's a setup that I've been watching and testing over the past few weeks, it's what I call the VWAP Line Bounce (VLB) setup. It's basically a setup where a price quickly approaches the VWAP, and it'll usually have some sort of reaction. I've noticed that under certain conditions, you can take the bounce with pretty good risk/reward.

ONTY - not the best example, but it worked
  • 5 min chart (you could also use a 2 min, but there's more noise to consider)
  • VWAP line
  • Candlestick charts
  • Tape reading ability (optional - see notes)
Wait for a sharp move that heads back to the VWAP line.  If the price approaches and stalls right around the VWAP (best if it touches or passes through by a few cents), wait for the 5 minute setup bar to be completed.

It is preferred if the setup bar is narrow.  If the setup bar is too big, the 2 min time frame might present a better opportunity.  Since you are looking for the price to bounce back where it came from, place a stop order to buy/sell on the break of the setup bar.

The stop should be place just beyond the opposite side of the setup bar, or about $0.05 cents beyond the VWAP line, whichever is farther.

Take profits or move up your stop when:
  • You have at least profits double your risk (2R), or
  • You have approached a significant Fib level, or
  • You are seeing reversal candlestick patterns
Works better on higher priced stocks, since there's usually more absolute price movement.  
Also works better if the VWAP is overlapping with one or more of the following:
  • A whole/half number
  • A Fib level
  • A significant trendline or support/resistance
Remember, if the setup bar or anything else starts to look a bit messy or not according to plan, then simply pass and move on.  Your ability to read the tape could also help you to get a more optimal price close to the turning point, especially if the 5 min chart isn't setting up with a narrow range bar. 

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