Tape Reading
Tape reading long ago referred to the practice of studying an old-fashioned ticker tape and monitoring price-volume fluctuations in order to predict the immediate trend. Tape reading is nothing more than watching the current price-volume action in order to determine whether buyers or sellers are in control. Which is greater…supply or demand?
Even the most novice observer has the ability to see that prices are moving higher or lower at any particular moment or, for that matter, when prices seem to be going nowhere or sideways (markets do not always have to be going somewhere!). It is fairly easy to watch a price go up and then tell when it stops going up–even if it turns out to be only a momentary pause.
I’ve known hundreds of professional traders throughout my career. I know of only two who were able to make a steady living with a mechanical system. All the other successful traders used some type of discretion, that is, relied on their judgment of price and volume action.
If you can learn to follow price-volume action directly, you will be ahead of the game because price is faster than any derivative calculated from price. But if you just watch price action without a good sense of what you are watching for, you will be like a ship in a squall without sails. You will get tossed back and forth with no sense of direction and no sense of purpose. Do not watch price-volume action for the sake of watching. Watch the tape with the intent to do something or to anticipate a market response.
Every discretionary trader to some degree uses tape reading. It is something that improves with experience. But there are some specific things to watch for that will assist you to anticipate the next price move.
It is useful to watch the current price relative to another price point. Where are the most recent support and resistance levels? These are important “pivot points”. Price will either be contained, supported or break out at these levels. Is the market moving closer to or further away from a recent pivot point? Is price struggling to rally back towards the most recent swing high, making little headway over a long period, or is the rally quick, sharp and holding its gains?
The most recently formed pivot point will always be the most significant. Note this level and observe whether price is contained between support and resistance, forming a trading range, or if price is trending away from a pivot point. Lastly, is the market moving with energy and volume? Or is it creeping higher or oozing lower?
By watching the current price relative to an earlier pivot point, a trader can begin to formulate trading strategies. For example, if it is observed that price is testing a previous swing high, but reacts down form the level in a sharp, quick manner, look for the market to then test support levels below.
The market is always probing for a level where volume will increase. That is the market’s job. The market seeks high volume because that is the price at which buyers and sellers are most ready to trade. If the market advances but no volume comes in, it will then test lower levels to see if volume appears. Higher prices attract new buying until there are no buyers left and all the shorts have covered. At that point, volume peters out. Look for a turn lower, as the market seeks volume. Similarly, lower prices attract selling until the last of the longs have panicked and liquidated. Once volume contracts to the downside, the market is ready to turn. The crowd behaves like a herd of sheep. Once the crowd has exhausted its buying or selling, usually at a climactic point of high volume, volume sags and the market turns, on the hunt again for a new level of high volume.
Watch the market’s action for signs of relative strength or weakness. One way to do this is to watch the market’s response to news. If the news is bad, or the economic environment is negative, yet price holds firm and shrugs the bad news off, this is a sign of latent strength. It is an indication that the market is sold out, that there are no more sellers. Of course, the opposite is also true. A failure to move higher on good news is an indication that buying is done for the moment. The market is a mechanism for discounting “news” before it happens. There is much truth in the adage, “buy the rumor, sell the news.”
Another way to judge the market’s relative strength or weakness is to observe the price of a target relative to another market indicator and watch for confirmation or non-confirmation. For example if a broad market indicator like the SP-500 appears weak by making a new low, but your target holds firm at a new high or higher low, this is a good indication of strength. That target is due to rally well once pressure comes off the broad market.
I watch the SP futures relative the underlying cash index. There have been times when the cash index made a new intraday price low but the futures did not. This forecasts a rally in the SP.
Finally, there is always a group of market leaders that tends to govern the market’s overall psychology. These stocks are usually volatile momentum leaders. They very often lead the market indexes by anywhere form one to ten minutes. They can also lead on a daily basis. An astute tape reader will watch the market leaders and note when they turn.
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