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Relative Strength At Reversal Time



Relative strength is not referred to as the indicator known as RSI, but as a stock's strength or weakness at the moment when compared to the market as a whole, or the particular sector to which the stock belongs. The concept of relative strength can be used on any time frame, and is only valid in that time frame. For example, a NASDAQ stock showing great relative strength on a 5-minute chart is a stock which has a 5-minute chart that appears stronger than the NASDAQ 5-minute chart. It would be valid to look at this for a scalp or possibly to enter a day trade, but if it does not show any relative strength on the daily chart it would not be favored for a swing trade.

"5-minute chart is stronger", means specifically that the bars making up the chart show greater strength for long play. Perhaps the down bars are not as long, or the stock stays in the upper half of the day's trading range while the market or sector does not. Or maybe the stock holds a support area while the similar support area in the market or sector does not hold. In extreme cases, the stock may be basing at the high of the day or making new highs while the market is pulling back or making new lows.

Below is an example of a trade. It is a 5-minute chart of Express Scripts Inc. (ESRX). The relative strength became obvious between 9:50 and 11:00 A.M. EST. The red line is the 20 period moving average and the black line on the NASDAQ is the 200 period moving average.



chart courtesy of Mastertrader.com

Notice where the arrows begin. The NASDAQ begins pulling back after a marginal new high, but ESRX pulls back only slightly from a substantial new high. It should be noted that 9:50 is also the beginning of a reversal time. Over the next half hour the NASDAQ makes a new daily low, but ESRX refused to move below the bottom of the last green bar of the rally, and bases in a very tight base at the high of the day.

By the time the next reversal time comes along (10:30) the NASDAQ has pulled back to a support area and also finds the rising 200 period moving average. We know that as this moving average is rising, there must be at least a marginal uptrend on the 5-minute chart. During this time, ESRX is basing at the high of the day. At this point the trade looks very compelling. We now have the NASDAQ at support, at a reversal time, while in an uptrend. We have ESRX basing just under the high of the day.

At the time ESRX breaks the high of the day it is not extended because it moves as the rising 20 period moving average raises up to meet the price bars. In the morning, the rising 20 period moving average is a good "timing indicator". Strong stocks should stay above the 20 period moving average on the 5-minute chart in the morning. Notice that this stock breaks out as the 20 is about to come in contact with the price.


Breakout from a base         Prior Low Buy Setup     


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