Chapter 6-3 Failed Signals

Very large size on the limit book or ECNs at key technical levels typically act like a magnet drawing the stock price to it as traders and investors look to test the size.  This large limit order typically creates a level of either support or resistance.

When a support/resistance level, moving average, or trend formation (especially one with a large limit order) is broken there is typically a flood of orders causing a quick and dramatic move in stock price known as a breakout (or breakdown if bearish).

However, when such a flood of orders can not create enough momentum to carry a stock through a level, it is known as a failed signal.  In other words, failed signals are reversals in trend due to a change in direction of the current pattern.  This change of direction is often caused by lack of follow-through and conviction.

Keep in mind though if the overall market momentum remains the same look for another test of this level at a later point in time.

Good questions to ask yourself to help identify failed signals:

  • Are buyers/sellers testing the support/resistance for the first time or has it been tested numerous times?
  • How aggressive are the buyers or sellers? Is there a lot of depth on the book in either direction?
  • How aggressive is the overall market?

What are some signs a move is failing?

  • Weak prints, a large exhaustion print, sudden lack of interest on the limit book or ECNs, no significant breakout/no follow though, a turn in overall market momentum

Suggestions on what to do:

  • Sell/Cover your position immediately if you are expecting a break and notice the move failing.
  • Look for a possible reversal opportunity, but make sure appropriate exits exist.
  • Be ready to potentially reenter if stock retests the level again later.

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Questions