Sears: Perfect Confluence Trade Set-up

While browsing charts this morning, I came across probably the most perfect trade set-up ever - which may be an exaggeration, but I did want to highlight a bull flag into triple-confluence support which preceded an explosive move to the upside.  Let’s see it and how it played out.

SHLD (SHLD) (Sears Holdings) 60-min Chart:

We have a persistent downtrend going into 2009 but price formed a positive momentum divergence on Dec 29 which preceded a stronger than expected counter-swing back to the upside in which buyers were able to overcome resistance from the 20, 50, and 200 period moving averages - no simple feat.

Price then surged in a range expansion move on Dec 31 once this area was cleared to the upside.  It’s not easy or practical to predict break-out moves, but it can be quite lucrative to trade the reaction (or ripples) following this pullback.

Once the initial trigger - price breakout, new price (swing) high and new momentum high - is in place, you want to be looking to buy the first pullback, which occurred as the new year began.  We had a clean pullback to triple-confluence support (which is extremely rare by the way) which formed when the 20 and 50 period EMAs aligned at the same price as the 200 period SMA.

Why this is important is because price is expected to hold (support) at these levels, and should price break these levels, you would have a relatively tight stop under the confluence price so you would not lose much if support failed, but if support held, you would stand to gain many times what your initial risk was (known as an “R-Multiple”).

To be simple, the set-up could have been classified as a standard “Bull Flag,” in which case your target would have been a “Measured Move” of the prior impulse which we achieved quickly after the confluence support price was tested.

Ultimately, the trend officially reversed to the upside, creating a “Sweet Spot” trade at the trend reversal zone (higher high/higher low with confirmation from a positive moving average cross).  This clued you in that you might be able to play for a larger target.

Now, we never know exactly how far a move will go, and certainly could not have predicted the ‘good’ news this morning that sent SHLD flying up almost 20%.  However, the technical structure changed officially when this “Magic Trade” or ideal trade set-up and clued you in to a higher probability of upward pressure on the stock.

Trades like this don’t come every day, and unless you’re scanning multiple stocks, you’re more likely to miss these choice set-ups, but the more you see examples of them, the better you’ll be able to take these trades with confidence when they set-up again.

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