TRADING Strategies
Time and sales:
THE TALE OF THE TAPE Tracking momentum by “reading the tape” is a long-standing market tradition. But instead of the ticker, today’s traders can watch time and sales to decipher the market. BY KEN CALHOUN
W
ith the invention of the ticker tape in the late 19th century, “tape reading” — tracking the ebb and flow of prices across the ticker tape — quickly became a popular method to determine whether buyers or sellers were in control of a stock. The technology may have changed over the years, but short-term traders in today’s online market environment still use the same tape-reading principles to manage trade entries and exits. Now, however, they use the time and sales screen instead of the ticker tape to find patterns in stock prices. Time and sales is the realtime record of executed trades (see Figure 1, right). It is typically provided by market data vendors and trading platforms and has become a staple on the trading screens of intraday (especially Nasdaq Level II) 56
traders. While some traders rarely consult their time and sales screens, others know it reveals important price dynamics that do not appear on charts (or do not appear as quickly on them). The time and sales window provides a running commentary on a stock’s price
action by revealing buying and selling pressure. Because it shows actual trades (rather than just bids and offers), time and sales is much more important than Level II; it is the ultimate determinant of whether or not a trade is justified. There are several time and sales “pat-
FIGURE 1 TIME AND SALES Time and sales is the real-time record of trade executions. It is more important than the Level II screen because it shows trades, not just bids and offers.
Source: eSignal
www.activetradermag.com • July 2002 • ACTIVE TRADER
FIGURE 2 BREAKOUT: CHART PERSPECTIVE This intraday upside breakout corresponded approximately to the time and sales screen in Figure 1. Time and sales confirms chart breakouts when there are more trades in the direction of the trend/breakout and the transaction speed increases. 55.30
EBay (EBAY), one-minute
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Time and sales with cup breakout. 54.5 long entry.
54.40 54.30 54.20 54.10 54.00 53.90 53.80
Volume
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Source: eSignal
terns” your can use, either independently or combined with other technical signals, to make intraday trades.
Integrate time and sales with other market tools To get the most out of time and sales, you first need to set up your trading screen professionally. Instead of using the small default time and sales window just to the right of a Level II box, it is much more advantageous to set up an expanded time and sales screen that is separate from the Level II window (taking up as much as one-half of one trading screen). Given the variety of potentially confusing tools and indicators at a trader’s disposal — intraday charts, oscillators,
time and sales, sector indices, and so on — it is important to correctly integrate stock chart patterns and time and sales prints with broader market information, such as the current Nasdaq Composite index’s (COMPQ) level relative to the prior day (close, open, high, low) and price action at the sector level. Think of each day’s trading as a pyramid constructed of different market elements and indicators. The current major trend in the COMPQ and Nasdaq TRIN (an indicator that tracks intraday buying and selling pressure; see Indicator Insight, Active Trader, December 2000, p. 88) provide the foundation that is used to evaluate the current overall market direction (long or short for the time frame being traded), followed by know-
ACTIVE TRADER • July 2002 • www.activetradermag.com
ing which sectors are strongest or weakest on the day. Next comes chart patterns — for example, two-day-high volume breakouts or breakdowns, or specific candlestick patterns. At the top of the pyramid are the Level II and time and sales screens, which are used to gauge a stock’s buying or selling pressure at a given time and to execute trades. Many new traders incorrectly look at the time and sales activity independently of other market indicators. This can give the trader a distorted perspective of price behavior and lead to whipsaw trades. For example, it’s not enough that the tape momentarily looks bullish — it must be confirmed by other signals, such as a chart pattern breakout in the stock and a new intraday high in the sector to which it belongs. “Tape-specific” patterns work best for Nasdaq stocks in the semiconductor (SOX), software (GSO) and biotech (NBI) sectors with the following characteristics: price in the $30 to $60 range; 2- to 4point intraday range; and average daily volume of at least 1.2 million shares. Examples of GSO sector stocks include Adobe (ADBE), Brocade Communications (BRCD), Check Point Software (CHKP), PeopleSoft (PSFT), VeriSign (VRSN) and Veritas (VRTS). Stocks from the SOX sector include Applied Materials (AMAT), KLA-Tencor (KLAC), Nvidia (NVDA), Novellus (NVLS) and Xilinx (XLNX). The expected round-trip duration of a trade based on these time and sales patterns is approximately two to 15 minutes.
Who’s in control: Net buying vs. selling The most basic way to use time and sales is to evaluate whether the transactions in a stock represent net buying or selling over a two- to three-minute interval. To do this, see whether a string of, say, 15 to continued on p. 58
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FIGURE 3 MIXED SIGNALS 20 sequential trades is occurring primarily at either the bid or the ask price (which you can confirm on the Level II screen). Values may vary depending on market conditions, but a guideline for determining net buying or selling is when 70 percent or more of the trades are occurring at the ask or bid price, respectively. Think of the flow of trades on the time and sales screen like a river: You are looking to see whether the water is flowing left, right or “churning” in a whirlpool, which on the time and sales screen would be represented by neither
price and revealing their true intentions.) This order flow is merged with individual day-trader orders — i.e., 100- to 1000-share trades — in time and sales. The key is to be able to spot when the transaction speed is increasing in a given direction. Doing this correctly requires a great deal of time and practice watching the time and sales screens of a small group of stocks. The goal is to be able to distinguish between the average tape speed that typically
The combination of alternating buying and selling pressure and relatively low trade size indicates a mixed market.
After observing the buying or selling pressure in a stock over a specific time interval, you can incorporate more advanced tape-reading patterns. buyers nor sellers taking charge — a congestion zone. Once you’ve determined the flow, you can combine a specific chart pattern with a high or increasing percentage of transactions taking place in the direction of the pattern setup. For example, a long trade might be indicated when a chart pattern implies an upside price move and the time and sales chart is simultaneously showing net buying.
Transaction speed After observing the buying or selling pressure in a stock over a specific time interval, you can incorporate more advanced tape-reading patterns. For example, understanding “transaction speed” — the rate at which trades are occurring and the size of those trades — will help you identify trade opportunities. Market makers and individual traders who trade “size” (more than 5,000 shares in a short time) will likely use reserve orders and “work an order,” showing only several hundred shares at any given time. (A reserve order is one that is hidden from the public. Reserve orders are used by traders who want to buy or sell a large number of shares but do not want to show their entire trade at one time, for fear of significantly altering the 58
occurs during a consolidation (slower transaction speed and more mixed bids and offers) and the speedups or slowdowns that represent trading opportunities (such as when trades occur with increasing frequency and the trade size Source: eSignal increases). When you become intimately familiar with the average speed and size of transactions that offer price, followed immediately by an occur in a specific stock, you will be increase in the transaction speed at the much better prepared to spot breakouts inside offer (or at a higher price), which and shifts toward buyers or sellers in the indicates buying pressure. Also, if you stock. see Instinet ECN (INCA) inside offers “back away” (i.e., fall back to two or Responses to out-of-market more price levels above the current block trades inside ask), there might be continued An “out-of-market” block trade is a buying in the absence of selling pressure, transaction that occurs at a price other as reflected in time and sales. INCA is than the current inside bid or ask price. where market makers are most likely to Depending on the circumstances, the “hide out” — i.e., where they park implication of block trades varies. Often, reserve orders and work large orders an out-of-market block trade is simply from — when they don’t want to tip their one market maker selling to another hands on the Level II screen. In such sitmarket maker with little or no relevance uations, the “crowd” is reacting to the to the price trend. large blocks by buying more shares, The important thing is how the crowd which, when accompanied by a chart responds to out-of-market block trades. pattern, provides a trade opportunity. For example, a buy signal would occur if several large (20,000 to 50,000 shares) Identifying breakout entries out-of-market trades occurred two or with time and sales more price levels higher than the current Chart pattern entries must always be www.activetradermag.com • July 2002 • ACTIVE TRADER
FIGURE 4 TICK PERSPECTIVE The mixed market signals from Figure 3’s time and sales screen are reflected in the sideways action on this tick chart. 34.69
Qualcomm Inc. (QCOM), tick
34.68 34.67 34.66 34.65 34.64 34.63 34.62
10:42 10:42 10:42 10:43 10:43 10:43 10:43 10:43 10:43 Source: TradeStation Platform by TradeStation Group
confirmed with time and sales. For example, when a breakout occurs the majority of trades should occur in the direction of the trend, especially if the trades are above or below the previous day’s high or low, respectively (see “Mastering two-minute breakouts,” Active Trader, September 2001, p. 66). An indecisive tape, which is characterized by a “Christmas tree” pattern of alternating green and red transactions, is a warning not to enter a trade. On the other hand, an upside breakout on high volume accompanied by an increase in transaction speed, in which more rapid transactions are occurring at the ask price or higher (which often occurs at two-day highs), is an excellent entry signal. Use the chart pattern as the first signal the stock is likely to head higher. Then watch the tape for at least two minutes before entering a position based on increased transaction speed. Figure 2 (p. 57) shows the intraday breakout that corresponds to the time and sales screen shown in Figure 1. The specific pattern to look for (for a long trade) is a significant increase of trades of more than 500 shares each when the stock has just broken out above the previous day’s high. A string of 100- and 200-share trades is seldom enough fuel to continue driving a stock higher. Seeing a high percentage of
increasingly rapid transactions of 500 shares or more is a solid indication the stock is good for at least another .25 move above the current price level. This helps filter out “head fakes” that occur when market makers use reserve orders. For example, they slowly buy 100 to 200 shares at a time until they’re totally filled, at which point a whipsaw or reversal occurs in the stock. They then go short and scare retail traders who had gone long out of their positions.
Identifying pivots and trend reversals with time and sales Finally, you can use time and sales to manage trailing stops and look for “fade” (countertrend) entries by observing pivot patterns and reversals. Look for the tape to slow down after having moved strongly in the direction of your trade. For example, if you were short a stock from 42.60, it has quickly dropped to 42.05 (just above the whole-number support at 42), the tape starts to slow down, and the transactions become more mixed (alternating green and red — a sign of increased indecision), it’s time to pocket the half-point profit while it’s there, and get out. Another technique is to close half your position when any pause occurs on the tape and trail a 20cent stop behind the current inside market for the rest of the position.
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Trend reversals are trickier to spot using time and sales alone. A stock should 1) begin to clear a resistance level on its chart and, 2) show increased transaction speed on the time and sales screen before you consider taking a trade. Traders often try to outguess the market and enter a countertrend trade when the first small reversal occurs in a stock, which usually results in a loss when the stock resumes its previous move. However, in general, buying bottoms and selling tops is not how most professional traders make a living. Instead, they buy strong, and sell stronger, and short weak and cover weaker in rapid time frame trades.
Making time and sales patterns work for you Here’s a trading exercise that will help you hone your tape-reading skills: Once a week, follow the time and sales transactions from 9:40 until 10:10 a.m. in one of your favorite stocks. At the same time, watch the stock’s one-minute chart and try to determine when tradable breakouts and pivots vs. untradable consolidation range conditions exist. Figures 3 and 4 (opposite page and left) show a time and sales screen and its corresponding tick chart, respectively. The mixed buying and selling (and small order size on the time and sales screen) reflect the stagnant trading shown on the price chart. When you’re in a position, watch time and sales closely, keep a finger on the mouse or hot key, and be ready to exit at the first sign of trouble. You can manage risk with time and sales by watching for situations when the change from a mostly green or mostly red tape to a mixed tape is accompanied by speed changes as measured by the transaction speed changes. When time and sales flashes such a warning sign, it’s a good time to tighten your trailing stop or exit the position. Some day-trading professionals trade solely using time and sales — it’s that important. Even if it is not the only tool you rely on, being able to correctly use the “tape-reading” patterns we’ve discussed can help you maintain a more consistent, careful trading approach.Ý For information on the author see p. 12. 59
