Main Signs of Strength & Weakness

What are the Main Signs of Strength?

The primary signs of strength that you should look for at the bottom of a market are:

1. Testing is one of the best indications of strength. The prices will be marked down rapidly during the day, (or any other timeframe), but the price then recovers to close on the high of the day, and will be accompanied by low volume.

2. Any reaction back down into an area that had previously shown high volume, and is now showing low volume, is also a sign of strength (supply has disappeared in both cases).

3. Stopping volume is another good sign of strength – it results from huge blocks of buy orders that are large enough to stop a down-move, and is seen as a high volume down-day, usually closing on the highs.

4. A shake-out will also stop a down-move. Here, prices have gapped down and fallen alarmingly after a bearish move has already taken place. If the market gaps-up on the following day (or bar), you have all the signs of a shake-out, and a good sign of strength.

Generally, a strong market has no obvious signs of distribution behind it. There are no frequent up-thrusts and no very high volume up-days without any progress. There will be no rounding over of a market, where the top looks like a mushroom. Furthermore, you will not see any narrow spread up-bars on high volume.

A distribution area will always have some of these characteristics, if not all, and will indicate a weak market. Note how you need to look at the overall picture rather than one day's action. For example, a test on low volume is a very strong buy signal if you have a selling climax behind you, or the market is already in an uptrend. Exactly the same test, but this time with distribution or some other sign of weakness immediately behind you means little. If you do see a test in these conditions and the market does not respond, or prices may attempt to rise on low volume after the test, then this gives you a great opportunity to short the market, because you will be observing the signs of 'no demand' in a weak market and a possible market fall.

What are the Main Signs of Weakness?

The main signs of weakness are:

1. A buying climax.

2. An up-thrust.

3. A no-demand day (or bar).

4. A narrow spread, on an up-day (or bar), which is into new high ground, on very high volume.

5. High volume present on an up-day (or bar), whilst the market falls on the next day (or bar), and fails to make higher prices, or the market may even fall.

The professional money will be fully aware of any weakness in the market. If you see an up-move after any signs of weakness, and the volume is low, this is no demand after signs of weakness. In this situation, you will then have a potential short position.

In liquid markets, weakness frequently appears on very high volume, on an up-day (or bar), and on this volume the Index or stock stops going up, moves sideways or even comes off. The high volume must have indicated an exchange of stock from the strong holders to potential weak holders, otherwise the Index or stock would not have stopped going up.

What else could the high volume possibly show? There is only one other possible reason, which is absorption volume. This is representative of professional money buying, or absorbing the supply (selling), from traders locked-into an old trading area to the left.

At this point I would like to digress slightly and take a closer look at the up-thrust, which is an important indication of weakness, especially during a distribution phase, or after any indication of weakness.

This sign of weakness is hallmarked by a wide spread up during the day (or any timeframe), but then falls to close on the low, on high volume. This action usually shows a weak market. If the high volume seen was buying, then surely the closing price would be on the high not the low. The close on the low suggests that there is more selling than buying contained in the high volume. It is a common sign of weakness before down-moves. It also has a side benefit of catching the stops of short traders, and at the same time encouraging traders to go long.

Frequently, one sees a second type of up-thrust, which is seen after a substantial decline of a stock or Index has already taken place. The action is exactly the same, but this time the volume is low. These are traps created by the market-makers to catch the stop-loss orders of the short traders. On seeing an up-thrust, a short trader will cover his position, or may even buy. People waiting for so-called breakouts to the up-side will buy on an up-thrust – it is these traders who will be caught out by this moneymaking manoeuvre. Even those traders who are not in the market may buy, before they miss the move.(TradeGuider Systems)