Trading Acronyms

AH After regular market hours
AMC After market close
ATM At the money
BECS Bear Call Spread
BEPS Bear Put Spread
BMO Before market open
BUCS Bull Call Spread
BUPS Bull Put Spread
BTO Buy to open
BTC Buy to close
C&H Cup-and-handle pattern
CR Credit
DB Debit
DCB Dead-cat bounce
DITM Deep in the money
DOTM Deep out of the money
EOD End-of-day
EOM End-of-month
EOW End-of-week
ER Earnings release
FD Full disclosure
FWIW For what its worth
H&S Head-and-shoulders pattern
HOD High of the day
HTB Hard to borrow
HV Historical volatility
IHS Inverse head-and-shoulders pattern
IMO In my opinion
IMHO In my humble opinion
ITM In the money
IV Implied volatility
LT Long term
MM Market maker
NP No position
OPEX Options expiration date
OTM Out of the money
PM Pre-market hours
RHRN Right here, right now!
STC Sell to close
STO Sell to open
TC2000 trading platform
TOS thinkorswim
TTMAR Take the money and run!
VS Volatility squeeze
VWAP Volume weighted average price
WWDD What would @Dan do?

Trading Dictionary


Absolute High (or Absolute Low) – the highest (or lowest) price of a security during a specific period of time. The term “absolute” indicates that the comparison is purely against the price history of the stock. Is the current price higher than the last peak in price? If so, the stock has made a higher Absolute High. If the stock is lower than the previous peak in price, it has made a lower Absolute High. (Compare with Relative High or Low).

Accumulation – technical analysis use the term “accumulation” to describe the activities of institutional investors and large traders as they slowly build a position in a stock. Because institutions buy so many shares, one large order would drive the price higher and frustrate their attempt to buy the stock cheaply. So they “scale” into the stock by spreading their purchase activity over a number of days or weeks. Indicators like Accumulation-Distribution and On Balance Volume are used to detect accumulation and enable the trader to follow along with the institutional buying.

Accumulation-Distribution Line – The A-D Line is a secondary indicator that is based on both volume and price data, and is similar to On Balance Volume (OBV) in what it is designed to do. The A-D line is a closed indicator that sums the new data along with existing data, making it a relatively slow moving indicator. It is designed to detect early money flow into or out of a stock. Volume reflects activity, while the direction of the close indicates what’s actually being done. The key difference between the A-D Line and On Balance Volume (OBV) is in how the line is calculated. OBV parses the data according to whether the current close is above or below the previous close. The A-D Line parses the data according to the location of the closing price relative to its intra-period range. Another term for the location of the closing price is “Closing Location Value.”

Action TimeframeThe shorter timeframe that a trader uses to act on the decision made within the Decision Timeframe. Traders should work in at least two timeframes – a longer-term timeframe to detect the direction of the trend. Because we want to always be in phase with the trend (long during an uptrend, and either short or out of the stock during a downtrend), we zoom out to a longer timeframe (the “Decision Timeframe”) for trend analysis and for making the decision whether or not to buy or sell. The second timeframe is used to act on that decision. Assuming we decide to buy, it is now time to take action – to buy the stock at the most favorable price. So we zoom in to a shorter term timeframe – the Action Timeframe. We then work in the action timeframe to find the counter trend – the short-term downtrend within the longer-term uptrend. Once the action is taken, we must zoom back out to the Decision Timeframe. Why? Because there is no more action to take until another decision is made – and decisions are made within longer-term timeframe. By selectively using timeframes, you increase your chances of making favorable entriesÖand then allowing those positions to run until the trend changes. And trends last longer than we think they do. This dual timeframe method will reduce your activity, and will likely increase your profitability.

Aggressive Buyers – Describes a condition wherein Buyers are so determined to own the stock that they will meet the asking price of the Seller. In other words, they are willing to pay retail prices-even marked up prices-for the stock. They will “take the offer” rather than being selective in what they pay. The Aggressiveness of Buyers is relative to the Aggressiveness or passivity of Sellers. Aggressive buying can result from many things – a positive fundamental development that has not been anticipated by the market; a negative fundamental development that has been anticipated by the market; a short squeeze where those who are short the stock are compelled to buy the stock back. Their buying attracts momentum-oriented traders and creates a feeding frenzy of buying activity. (Aggressive Buyers create Buying Pressure)

Aggressive Sellers – Describes a condition wherein Sellers are so determined to exchange their stock for cash that they will meet the bid of the Buyer. In other words, they are willing to sell at a discount to get rid of the stock. They will “hit the bid” rather than remaining selective in their sales price. The Aggressiveness of Sellers is relative to the Aggressiveness or passivity of Buyers. Aggressive selling can result from many things – a positive fundamental development that has already been anticipated by the market; a negative fundamental development that has not been anticipated by the market; a breakdown below key support that turns winners into losers and prompts traders to take their losses before they get too big. Their selling attracts momentum-oriented traders who will sell the stock short (“lean on the stock”) and thereby shake out more shareholders. (Aggressive Sellers create Selling Pressure)

Ascending Triangle – a chart pattern defined by horizontal resistance and rising support. The ascending triangle is created by steady supply of stock at one level. Each time the stock price rises to that level, selling pressure halts the advance at that level. The result is a horizontal line of resistance. And each decline is met by increasingly Aggressive Buyers who are unwilling to wait for the stock to fall to the previous low. This series of higher lows creates a rising line of support. The resolution of the Ascending Triangle is usually out of the top – a breakout. But if the stock remains too long in this pattern so that the price actually reaches the apex (i.e., that point where the support and resistance lines meet), the resolution will often be a weak trickle out of the pattern. Why? Because an ascending triangle will only be fully completed when Buyers and Sellers are at a standoff. When there is no differential between the relative Aggressiveness of Buyers and Sellers, there is no catalyst for the dynamic breakout for which ascending triangles are known.

Average True Range (ATR) – this indicator is a measure of volatility. It was created and developed by J. Welles Wilder-the originator of Relative Strength Index (RSI). The ATR takes an average of the “True Range” of a stock which is the greatest of: (1) the current high minus the current low; (2) the absolute value of the current high minus the previous close; and (3) the absolute value of the current low minus the previous close. The True Range is a good measure of volatility because it takes gaps into account by including the greatest of the above three values. You’ll notice that options (2) and (3) both compare the absolute value of the previous close versus the current high and current low. The Average True Range is the 14-day moving average of the True Range. The ATR is the basis for the Chandelier Exit trailing stop methodology.

Base – a technical analysis term that referring to that period of time in which a stock, index, or entire market trades within a general price zone for an extended period of time. The longer the time period, the stronger the base becomes. A strong base serves as the platform that provides the support for the beginning of a new advance, and also serves as support on any pullback. (Related Terms: An extended period of Churning produces a base. Heavy financial commitment and emotional commitment exist within a base. Also, breakouts have a better chance of being sustained if the base).

Bear – an investor or trader who thinks the price of a stock will fall.

Be Careful Out There – a quote from Hill Street Blues, in which Sergeant Esterhaus reminds the police force to be cautious when they are out on the street. Since I began writing for TheStreet and RealMoney, I have concluded each article with this quote. It is meant to remind readers that trading is not the same as winning, and that trading without caution is dangerous. It is not to be confused with bearish sentiment. Risk management through prudent position sizes and consistent use of stop losses equate to “being careful out there.” Thus, it is certainly possible (and sometimes very profitable) to be aggressive while still “being careful out there.”

Bear Market – a prolonged period in which stock prices fall in an environment of pessimism. Often times, corrections are confused with Bear Markets. Bear Markets tend to occur during a recession, rising unemployment, or dramatic increases in inflation. They typically end in a series of gut-wrenching sell-offs that shake out the most patient investors. They are also rare – the mega trend of the stock market is up.

Beta – a measure of the volatility of a given security (it can be a stock, mutual fund, or portfolio) relative to an established benchmark – usually the S&P 500. For example, if the S&P advances 1% and XYZ advances 1.5%, XYZ has a beta of 1.50. If the S&P advances 1% but the stock falls by .5%, then it has a negative beta of 0.5. High Beta describes a stock that is much more volatile than the S&P, though not necessarily in the same direction.

Bollinger Bands – a secondary indicator in which two lines are plotted two standard deviations above and below a moving average (typically, the 20-period moving average). The 20-period moving average is the Middle Band. The upper Band is the line plotted two standard deviations above the Middle Band; while the Lower Band is the line plotted two standard deviations below the Middle Band. Because the standard deviation formula is very sensitive to small movements, Bollinger Bands provide an excellent indication of the volatility of a stock. As volatility increases, the width of the Bands increases. As volatility decreases, the Bands become very narrow. Bollinger Bands create an independent frame of reference within which to gauge the current location of price within the Bollinger Bands in relation to its prior location within the Bollinger Bands. View Tutorial Videos »

Bollinger Band Complex – my term for the area confined by the upper and lower Bollinger Bands. The upper Bollinger Band defines the top of the Bollinger Band Complex, while the lower Bollinger Band defines the bottom of the Bollinger Band Complex. (See Relative High and Relative Low).

Bollinger Band Width – the distance between the upper and lower Bollinger Bands. Narrow Bandwidth indicates a low volatility condition, while wide Bandwidth indicates a high volatility condition. The formula for BandWidth is (Upper Band – Lower Band)/Middle Band. Narrow BandWidth defines a Volatility Squeeze, and typically exists at the beginning of meaningful trends.

Bottom – the lowest point of a stock or index within a given period of time. A bottom is followed by a steady increase in price. A bottom is the level at which demand soaks up all the supply. Bottoms are formed at support.

Bottom Up Approach – an investment approach that considers companies on their own merit, without regard for industry groups, sectors, economic climate or business cycles. This approach focuses on company fundamentals, management, its business model and certainly its growth prospects. The bottom up approach is based on the theory that a good company is a good company – and will outperform irrespective of outside influences. In essence, the bottom-up approach sees the financial market not as a stock market, but as a market of stocks.

Breadth – that portion of the overall market that is participating in the market’s price action. A market advance on “healthy breadth” means that most stocks are also advancing. A market advance on “poor breadth” means that a smaller number of stocks were participating in the rally. Market breadth is important for understanding whether a market advance has serious power behind it with strong money inflowsÖor whether the market is advancing only on the strength of a narrow list of stocks that are enjoying dramatic gains sufficient to push their indexes higher. There are various measures of breadth, including the Advance-Decline line, the number of net 52-week highs versus 52-week lows, and the McClellan Oscillator and McClellan Summation Index.

Break Even Stop – the second stop in a series of multiple stop loss methods. The Break Even Stop is placed at or near the entry level to ensure that a profitable trade will not become a losing trade because of an adverse price move soon after the trade has been initiated.

Breakdown – a price decline below established Support.

Breakout – a price advance above established Resistance. This is important: Not all breakouts are created equal! You will find that breakouts in stocks that are in out-of-favor sectors do not perform as well as breakouts in stocks that are in strong sectors.

Broken Pattern – the resolution of a Chart Pattern that is opposite the usual resolution. Broken Bullish Patterns resolve downward; Broken Bearish Patterns resolve upward.

Bull – an investor or trader who thinks the price of a stock or market will move higher.

Bull Market – a prolonged period in which the broader market rises faster than its historical average. Bull Markets typically start after a prolonged market decline, and occur within a positive economic and fiscal environment. Also, Bull Markets can last much longer than people expect due to a dynamic known as a “feedback loop”, wherein rising prices reinforce the Crowd’s prevalent feelings of optimism to an extent that the Crowd feels confident enough to buy more – which causes additional gains in the market and again reinforce the Crowd’s optimism.

Chandelier Exit – a stop loss methodology based on the Average True Range (ATR) of a stock. The Chandelier Exit “hangs” from the top of the intra-period trading range (e.g., in a daily chart, the Chandelier Exit hangs from the intraday high). This stop can only move in the direction of the trend and never lower. It is an excellent methodology for setting trailing stops on trending stocks.

Chart Pattern – a series of price movements that form identifiable patterns when drawing lines along the tops and bottoms of the price action within the chart. Common price patterns include ascending triangles, descending triangles, head-and-shoulders, etc. The usefulness of chart patterns is based on the theory that the Crowd behaves similarly each time a specific set of conditions exists. A chart pattern represents the presence of those conditions ( e.g. , aggressive buyers versus passive sellers; widespread boredom and indifference, etc.); the pattern does not create those conditions. Moreover, the best we can get from a pattern is an approximation or estimate of what the Crowd is feeling, and how it is likely to react in response to new events. Many traders mistakenly believe that identifying a chart pattern entitles them to a profitable trade because the pattern must resolve in a predetermined direction. All patterns do not resolve as anticipated – and those Broken Patterns often yield as much or more useful information then Completed Patterns.

Churning – a condition wherein a stock trades within a relatively narrow range as a result of an even balance of aggressiveness among buyers and sellers. When the aggressiveness of buyers and sellers is equally matched, the volatility of the stock is low because neither side feels strongly enough to control the price of the stock. Churning is healthy when it occurs after a dramatic price move because it gives traders the opportunity change positions – stock is sold for cash, and cash is paid for stock. (See Congestion)

Closed Indicator – an indicator that is based on a set amount of data. For example, a 10-day moving average is the average of the last 10 days of data. As each day creates new data, the oldest data within the 10-day period drops off. Moving averages, Bollinger Bands, RSI, Money Flow, and MACD are examples of Closed Indicators. Closed indicators are oscillators with a set range such as 0 – 100. (Compare this with an Open Indicator)

Completed Pattern – the resolution of a Chart Pattern in the usual and anticipated direction. Completed Bullish (Bearish)Patterns resolve upward (downward).

Confirming – a signal from a Secondary Indicator or other source that is consistent with the price action. It validates the underlying thesis of the trade. (E.g., an RSI oscillator that is making higher highs “confirms” an uptrend in price; while an RSI oscillator that is making lower highs does not confirm the uptrend in price.) Traders like to find confirmation signals to reinforce their position.

Congestion – a trading range; a period of non-trending price movement. The price is not trending higher or lower, but is trading within a loose price range. The range of congestion is a function of volatility. A wide area of congestion indicates high volatility (emotional trading environment where neither bulls nor bears are dominant), while a narrow area of congestion defines low volatility (an area of indifference where neither bulls nor bears feel strongly enough about their position to push the stock out of the narrow trading range). Congestion may develop into a reversal of an established trend (a Top or Bottom), or it may merely be a period of Consolidation within an existing trend, after which the price moves in the original direction. An example of congestion is a Rectangle Pattern. The rectangle is typically a Continuation pattern that resolves in the direction of the existing trend (a Completed Pattern). If the resolution of the rectangle is in the opposite direction of the existing trend, it is a Broken Pattern.

Consolidation – An area of Congestion within an established trend that resolves in the direction of the trend. (Also known as Continuation)

Continuation – An area of Congestion within an established trend that resolves in the direction of the trend. (Also known as Consolidation)

Converging – two trendlines that are moving toward each other. Converging trendlines create many Chart Patterns such as triangles and wedges.

Correction -describes a reversal of the prevailing trend (a “countertrend move”). Corrections are healthy for the prevailing uptrend because they are caused by profit-takers who are selling to new buyers. Once the stock is in the hands of these new buyers, the average cost basis of the stockholders approximates the current price level. This indicates two things – that these buyers are committed to the stock moving higher; and that the risk of additional profit-taking at only slightly higher price levels is minimal. After all, the temptation to take profits only becomes prevalent after a significant price increase from the average cost basis of stockholders. More substantial corrections that end the prevailing trend and create a new trend in the opposite direction are known as Reversals).

CRB Index – an unweighted average of 17 key commodities. These 17 commodities can be organized within 6 different groups – energy, grains, industrials, livestock, precious metals, and agriculturals. The CRB is seen as an indication of inflation. When the price of commodities is rising, the increased cost of these raw materials will ultimately work its way through the industry cycle and result in higher costs for finished goods as manufacturers pass on their costs to the consumer.

Crowd – The Crowd isÖthe Mob. The “Crowd” refers to that faction of the market (which consists of Buyers, Sellers, and Spectators) that has the most influence on price movement. When the Crowd is Bullish, the buying pressure exceeds selling pressure. Prolonged bullishness or optimism within the Crowd creates an uptrend . Prolonged bearishness or pessimism within the Crowd creates a downtrend . The important thing to understand is that “the Crowd” is never wrong! Because stocks move in response to the strongest force, and the Crowd-by definition- is the strongest force, then it pays to run with the Crowd. During a given trend, the Crowd is only wrong once – when the trend ends. But until the trend does come to an end, any countertrend move is simply a healthy pullback within the dominant trend that is controlled by the Crowd.

Cyclical Stocks – Certain industries are directly impacted by the strength or weakness of the economy. Stocks of companies within those industries outperform in a growing economy and underperform in a contracting, or weakening, economy. Examples of cyclical industries are automobiles, chemicals, paper and transportation. In a growing economy, we want to be heavily weighted in cyclical stocks. In a stagnant or weakening economy, we want to avoid cyclical stocks. Remember that the market discounts the future, so the direction of cyclical stocks reveals the market’s outlook on the health of the economy. An excellent vehicle for tracking the cyclical stocks is the Morgan Stanley Cyclical Index (CYC), a dollar-weighted index which comprises 30 stocks from more than 25 industries, including autos, metals, papers, machinery, chemicals, and transportation. (Compare Non-Cyclical Stocks)

Decision Timeframe – The longer timeframe that a trader uses to detect the prevailing trend and decide what to do. After the decision is made, the trader zooms in on the shorter term Action Timeframe. Traders should work in at least two timeframes – this longer-term Decision Timeframe within which to detect the trend and decide whether to become involved. The second timeframe is the reference for acting on that decision. After the action is taken, we return to the Decision Timeframe so that we eliminate the possibility that we will be shaken out of the trade by those same minor fluctuations that enabled us to get a favorable entry. We have taken action – the next step is to decide when to sell by using the prevailing trend as the basis for setting stop loss levels and profit targets. This dual “Decision/Action” timeframe gives us the best of both worlds and promotes following the most basic rule of trading – “Cut your losses short and let your profits run.” First, through the Decision Timeframe we remain in phase with the trend and “let our profits run.” Conversely, through the Action Timeframe we obtain more favorable entries, thereby allowing us to set prudent stops and “cut our losses short.”

Descending Triangle – a chart pattern defined by horizontal support and falling resistance. The descending triangle is created by steady demand for stock at one level. Each time the stock price falls to that level, buying pressure halts the decline at that level. The result is a horizontal line of support. And each advance is met by increasingly Aggressive Sellers who are unwilling to wait for the stock to rise to the previous peak. This series of lower highs creates a falling line of resistance. The resolution of the Descending Triangle is usually out of the bottom – a breakdown (or “downside breakout”). But if the stock remains too long in this pattern so that the price actually reaches the apex (i.e., that point where the support and resistance lines meet), the resolution will often be a weak trickle out of the pattern. Why? Because a Descending Triangle will only be fully completed when Buyers and Sellers are at a standoff. When there is no differential between the relative Aggressiveness of Buyers and Sellers, there is no catalyst for the dynamic breakdown for which Descending Triangles are known.

Distribution – a term used by technical analysts to describe the dynamic where trading volume is higher, yet the price does not advance. An increase in trading volume without a corresponding price increase indicates that the stock is being sold. These “distribution days” often occur during Phase 3.

Diverging – two trendlines that are moving away from each other. Diverging trendlines create Chart Patterns such as Broadening Tops. Signals that are inconsistent are known as Divergences. An example is a downtrending series of highs in the price accompanied by an uptrending series of lows in RSI. RSI is said to be Diverging from the price pattern. (Note: An indicator that is showing strength in relation to the price action is a positive divergence; while an indicator that is showing weakness in relation to the price action is a negative divergence.)

Exponential Moving Average (EMA) – the type of moving average where more weight is given to the most recent data. It is “front-end weighted”, resulting in the most recent price changes having the greatest impact on its movement. As such, it is more reactive and faster moving than a Simple Moving Average. The 12- and 26-day EMAs are the most commonly used EMAs for the MACD (Moving Average Convergence-Divergence). The 50- and 200-day EMAs are commonly used signals for establishing the direction of long-term trends.

Focus Stocks – those stocks that are tracked for by the Stock Market Mentor. The list of Focus Stocks is dynamic and changes according to fundamental and technical developments, as well as overall market conditions.

Industry Group – a group of stocks whose companies are in a distinct business or industry within a specific sector. For example, Intel (INTC) is in the Semiconductor Industry Group and the Semiconductor Industry Group is one of several groups within the Technology Sector. (Examples of other Industry Groups within the Technology Sector are Software, Electronics, Computers, Data Storage, etc.) The Industry Group is the 3rd step in the 4-step Top Down Approach, where in we focus first on the strength of the broader market indexes like the S&P 500 or Nasdaq Composite, and between Value and Growth themes. Within the broader Market, we look for the strongest Sectors; and within the strongest Sectors we focus on the strongest Industry Groups. Finally, we look for the strongest Stocks within the selected Industry Groups. The result is that we’ve found the strongest Stocks within the strongest Industry Groups within the strongest Sector within the strongest Market Index.

Intermarket Analysis – the study of the relationships between the four major financial markets of Currencies, Commodities, Fixed-Income Securities (Bonds and Notes), and Stocks. The sequence of influence is as follows: The US Dollar impacts Commodity prices which in turn impact Bond prices which in turn impact Stock prices. The relationships are as follows:

(1) The US Dollar has an inverse relationship with Commodities . For example, as the Dollar falls in price, commodity prices rise because they are denominated in Dollars. It will take more weak Dollars to buy the same amount of commodities. Conversely, a stronger Dollar results in lower commodity prices because it takes fewer strong Dollars to buy the same amount of commodities.

(2) Commodities run inversely to Fixed-Income Securities (Bonds and Notes) . When commodity prices are rising, fixed-income investors anticipate an inflationary environment and demand a higher rate-of-return (yield) on their loans. Why? Because by the time they are repaid the principal loan amount, the buying power of that principal is diminished – rising commodity prices have caused an increase in the cost of finished goods. So if fixed-income investors believe that commodities are going to become more expensive, they will require higher interest payments to offset the declining purchasing power of their principal

(3) Fixed-Income Securities run in tandem with Stock prices . As bond yields fall (which results from rising bond prices ), stock prices rise. This relationship is based on the cost of money. When money is cheap (bond yields are low), businesses can take advantage of the cheap money and expand. Their expansion activity creates jobs (good for the economy) and enables them to grow their business (good for their earningsÖand for the stock price). Rising bond yields (falling bond prices) have the opposite effect. Expensive money hampers the ability of businesses to grow. In particular, expensive money hurts smaller businesses which have greater dependency on borrowing than do larger companies. This is why small cap stocks struggle in an inflationary environment – the high cost of money has a greater adverse effect on them than it does large companies with greater resources.

Investor – the term for someone that exchanges assets. In simplest terms, we exchange stock for cash, and cash for stock. We “trade.” Much is made of the distinction between the trader and the investor. The difference usually concerns time horizon, methodology or both. Traders are seen as being short-term oriented with a focus on the movement of stock price. Investors are seen as being long-term oriented with a focus on the underlying fundamentals of the company. However, the lack of clear-cut criteria renders the distinction meaningless. In the final analysis, we are all traders – we trade our cash for stock, and we trade our stock for cash. I this forum, there is no distinction between trader and investor. If you have a brokerage account, you are a trader!

Long – to own a security. (E.g., If you own Google (GOOG), you are long GOOG.) (See Short).

Low Risk – a trade is a low risk trade when the entry is sufficiently close to the logical stop level that only a small amount of money is risked in the trade. A “low risk” trade is not the same as a high-probability trade. The only distinguishing characteristic of a low risk trade is the ability to place a tight stop. For example, when we are able to buy a stock extremely close to support, we are taking a low risk trade. The stock only need fall a short distance before breaking support and hitting our stop. Conversely, a stock bought too far away from support is a high risk trade. Why? Because the stock can fall an unacceptable distance before we know whether the stock will indeed bounce off support and save our trade, or whether it will break down through support and force us to sell at a large loss. Look for low risk trades; be patient and avoid high risk trades. There is always another trading opportunity right around the corner.

MACD (Moving Average Convergence Divergence) – a technical indicator originated by Gerald Appel based on the price difference between a long-term and a short-term exponential moving average (EMA). Used correctly, MACD can be both a trend-following tool as well as a momentum indicator. The common MACD setting includes the 12-period EMA and the 26-period EMA. The “MACD” is the 9-period exponential moving average of the difference between the 12- and 26-period EMAs. A more accurate and timely setting for detecting buy signals involves using shorter term EMAs. Buy signals are detected with the 8-period EMA and the 17-period EMA, with the “MACD” remaining the 9-period exponential moving average of the difference between the 8- and 17-period EMAs. (Note: the MACD is based on the absolute (price) difference between the two EMAs and not the percentage difference. As such, divergences in MACD can be misleading in a stock that has substantially changed prices. Why? Because there is a big difference between a $3 difference in the moving averages of a $10 stock versus a $3 difference in the moving averages of a $60 stock).

Market – a reference to the major market indexes such as the S&P 500, the Dow Jones Industrial Average, the Nasdaq Composite, and the Russell 2000.

McClellan Oscillator – the “McOscillator” is a momentum indicator that is based on advance/decline statistics. It is a closed indicator that measures market breadth from the relationship between each day’s net advances (i.e., advancing issues – declining issues = net advances). The McOscillator is similar to the MACD in that the relationship between two moving averages creates the McOscillator. The McOscillator attempts to anticipate positive and negative changes in the Advance/Decline statistics, and is useful for short-term market timing.

McClellan Summation Index – the Summation Index is an open indicator derived from adding up the daily values of the McOscillator. The Summation Index is used for more intermediate and long-term interpretation of the market’s power and direction. The Summation Index generally ranges between 0 and +2000. A reading of +1000 is neutral, and readings outside the normal range indicate unusual market conditions. Bear markets typically end with the Summation Index below -1200. A strong rise from such a low level can signal the beginning of a new bull market. This signal is confirmed when the Summation Index rises above +2000. In the past, such a confirmation has resulted in bull markets lasting at least 13 months, with the average ones lasting 22-24 months.

Momentum – an closed indicator that measures the rate of change of the stock price. A momentum indicator is a leading indicator that moves above and below 100, and creates buying and selling signals through divergences from the price trend, extreme readings, and crosses above and below the 100 centerline.

Money Flow – a term used to describe the dynamic of whether money is flowing into or out of a security. Various closed indicators are used to analyze money flow, including Chaikin Money Flow, Money Flow Index and Money Stream. The calculations of each indicator are different, but they all take into account volume, direction and amplitude of price, and intraday time frame. The typical calculation uses a 14-day period. An alternative time frame that can be used in conjunction with Bollinger Bands is a 10-day period, which is O the period of the Bollinger Bands and provides a better frame of reference for relative highs and lows within the Bollinger Bands.

Moving Average – a statistical technique to analyze a specific set of prices. The moving average smoothes out short-term fluctuations in price by summing them and dividing by n data points. For example, a 10-day moving average sums the last 10 days of prices, and then divides by 10. As new data is added to the front end, the oldest data is dropped from the back end. Two types of moving averages are the Simple Moving Average (SMA) and Exponential Moving Average (EMA). The SMA is unweighted, and assigns the same weight to each data point. The EMA assigns more weight to the most current data, thereby making it faster and more responsive to recent data. The slower SMA is used as the reference for Bollinger Bands. This is because the standard deviation calculation that creates Bollinger Bands is extremely sensitive to small fluctuations. As such, the use of an EMA as the basis for calculating Bollinger Bands would create a too much volatility and hamper the usefulness of the Bands.

Non-Correlating Stocks – the old adage is that “a rising tide lifts all boats.” In other words, in a strong market, most stocks will be strong. Conversely, in a weak market, most stocks will be weak. Stocks that move in sync with the market have a positive correlation to the market. Stocks that do not move in sync with the market are non-correlating stocks. These stocks can create trading opportunities in a weak market environment.

Noncyclical Stocks – Cyclical stocks are in those industries directly impacted by the strength or weakness of the economy (see Cyclical Stocks). Noncyclical stocks are stocks that remain stable even in a weak economy because they produce essential products. Noncyclical stocks are defensive stocks because they defend against economic downturns. Examples of noncyclical industries include household nondurable goods (soap, toothpaste, and household cleaners), utilities (water, gas and electricity) and basic food items (milk, meat, bread, etc). Companies such as Procter & Gamble, Altria Group, Coca-Cola and General Mills are noncyclical companies. In a declining market, it pays to lean towards noncyclical stocks. Most noncyclical stocks pay dividends, thereby adding to their attractiveness during times of economic weakness. One trading vehicle for trading noncyclical stocks is the iShares Consumer Non-Cyclical Sector Index Fund (IYK).

On Balance Volume (OBV) – a secondary indicator developed by Joseph Granville to detect the accumulation or distribution of shares by large institutions. The calculation relates volume with price changes by providing a running total of volume. OBV assigns a positive value to volume that occurs during a day that closes higher than the preceding day, and assigns a negative value to volume that occurs during a day with a closing price lower than the preceding day.

Open Indicator – an indicator that sums all available data. New data is added or subtracted from all existing data, creating a slower indicator that can be used to detect more subtle market trends such as steady accumulation or distribution that is not really reflected in the price action. Two such open indicators are Accumulation-Distribution and On Balance Volume. (Compare Closed Indicator).

Options Trading – Trading options is very different from trading stocks. An option is a leverage vehicle enabling the option holder to control rather than own a stock. Understanding the time element of options trading is critical to success, and failure to understand the time element of options trading will inevitably lead to failure. Because of the leverage provided by options, market timing is much more important than when trading stocks. A small adverse move in the underlying stock price can produce a large loss in the value of the option. Conversely, a small favorable move in the underlying stock price can produce exorbitant gains in the value of the option. Options trading is not for the inexperienced or the faint of heart.

Overbought – the term used by technical analysts to describe a situation where the stock price has advanced to such a degree that an oscillator such as RSI, stochastics or money flow has reached its upper range. Depending on the specific situation, an overbought condition can be bullish (indicating the high likelihood of higher prices) or bearish (indicating the high likelihood of lower prices). The term can also refer to a stock from a fundamental standpoint, where strong demand pushes the stock price to levels that are not supported by the fundamentals of the underlying business.

Oversold – the term used by technical analysts to describe a situation where the stock price has fallen to such a degree that an oscillator such as RSI, stochastics or money flow has reached its lower range. Depending on the specific situation, an oversold condition can be bearish (indicating the high likelihood of lower prices) or bullish (indicating the high likelihood of higher prices). When a stock becomes deeply oversold, the stock can become attractive to value-oriented investors who believe that the fundamentals warrant a higher stock price.

Passive Buyers – when those who wish to own the stock are particular and discriminating about their purchase price. When buyers are passive, they use limit orders whereby they will only purchase the stock at a low price. Relative to sellers, they are passive – they would like to exchange their cash for the stockÖbut only if they can buy it on sale. When buyers are passive, the stock price will decline because sellers are more anxious to sell their stock than buyers are to buy it.

Passive Sellers – when those who wish to sell the stock are only willing to sell if their asking price is met. They are willing to exchange their stock for cash, but only if they can make the sale at a marked up price. When sellers are passive, the stock price will rise because buyers are more anxious to buy their stock than sellers are to sell it.

Price by Volume (PBV) – a horizontal histogram parsing trading volume according to price. The PBV bars extend from the left side of the price chart. The length of the bars at different price levels corresponds to the amount of trading volume that has occurred at those price levels. For example, a long PBV bar at $23 indicates heavy trading volume at $23. The length of a PBV bar corresponds to the level of emotional commitment or financial commitment at that level. If the price is above the long PBV bar, then that bar should act as support on a pullback in price. Why? Because many traders regret their prior sale and are hoping for a second chance to buy. So a retracement to their sale price presents a second bite at the apple. Similarly, if the price is below the long PBV bar, that bar should act as resistance on a price advance. This resistance is created by the large number of traders who’s buying created the long PBV bar. They regret having bought the stock that is now below their purchase price. So if the price rallies back to their entry point, they will eagerly sell their losing position for a “break even” trade. This selling puts pressure on the stock and can cap any price rally. (Note: The more accurate name for this is “Volume by Price”. However, this term was inadvertently reversed in my first article for RealMoney where I discussed this term…and it stuck! As such, I seek to avoid confusion by sticking with the errant term “Price by Volume”. But irrespective of what you call it, this histogram is quite helpful in determining support and resistance levels.

Phase 1 – The first of three identifiable phases in an uptrend. Uptrends often occur over three phases or waves. The first phase (Phase 1) describes the initial trend that begins at the breakout from a base. After a series of higher highs and higher lows, the slope of the trend is established. That is Phase 1. Phase 1 is created by institutional allocation of capital into the market. The asset (which could be a stock, sector or the market) has become cheap; so professional money managers begin buying the asset.

Phase 2 – The second of three identifiable phases in an uptrend. At some point within the initial uptrend (Phase 1) the angle of the slope either steepens or begins to flatten out. Irrespective of direction, the change in trend is noticeable. This new trendline is Phase 2. The angle might become steeper or shallower, but the change in trend is made evident by a series of highs and lows that departs from the established pattern of Phase 1. What are the underlying dynamics that create Phase 2? In Phase 2, a significant amount of institutional money has already been put to work. Because that money is already in the market, it is no longer a force of buying pressure. Instead, the buying pressure that comprises the Phase 2 trend originates from the public as it recognizes that the price is moving higher. A flatter Phase 2 indicates more orderly buying within a certain degree of doubt among the Bulls – the Wall of Worry is alive and well. A steeper Phase 2 indicates more undisciplined, confident buying by the public. In this environment, the Wall of Worry is less of a factor as investors worry more about missing out on the rally. But at some point, Phase 2 transitions into the final phase of the uptrend – Phase 3.

Phase 3 – The third of three identifiable phases in an uptrend. At some point within the progression of Phase 2, the angle of the slope again changes in a series of higher highs and lows that depart from the trendline that characterizes Phase 2. The resulting trendline marks Phase 3 of the uptrend. The underlying dynamics of Phase 3 are dictated by the characteristics of the preceding phases – Phase 1 and Phase 2. As professional money managers recognize that the asset has become fairly valued (or perhaps overvalued), they begin the process of distribution of the asset – they are taking profits so that they can reallocate that cash to some other undervalued asset (and thus start the Phase 1-3 progression all over again – in that new asset). The slope of Phase 3 relative to Phase 2 can tell us a lot about the underlying dynamics of the market. A steeper slope indicates an overconfident public that is buying without exercising discipline. The market is being controlled by Aggressive Buyers. The eventual outcome of a steep Phase 3 is an exhaustion of buying. The public’s enthusiasm for the asset is greater than its ability to keep buying. When the last of the buying is done, Phase 3 ends with a steep correction. Conversely, a shallower slop in Phase 3 indicates more persistent distribution – the market is “heavy”. The public is more cautious and buying interest is more passive. A shallower Phase 3 ultimately leads to either a downtrend or a resumption of the uptrend. If a new downtrend is the outcome of Phase 3, then we label Phase 3 as a Top. If Phase 3 instead leads to a resumption of the uptrend, then we label Phase 3 as Consolidation.

Primary Indicators – There is only one primary indicator – price. Price movement as reflected in trends and chart patterns takes precedence over all other technical indicators. Why? Because we can only make or lose money by the price action. Secondary indicators provide valuable insight into the quality of the price trend – they impact our bias towards the sustainability of the price action. But secondary indicators should never take precedence over price.

Relative High (or Relative Low) – the highest (or lowest) price of a stock as it relates to an independent frame of reference. The predominant use of this term in the Stock Market Mentor is describing the relationship of price to the Bollinger Band Complex. A current price peak that is higher within the Bollinger Band Complex than the prior price peak is at a higher relative high, even if that current price is at a lower Absolute High. Bollinger Bands are a function of volatility, so assessing the relative highs and lows of price patterns within the Bollinger Band Complex provides essential information on the strength of upward volatility compared to downward volatility. For example, a reliable indication of a meaningful bottom is when a price pattern forms a lower absolute low ( i.e. , lower current price than the previous low in price), but a higher relative low ( i.e. , the current price is higher within the Bollinger Band Complex relative to the previous low in price, even though the current price is actually lower in price than the previous low). This combination of lower absolute low and higher relative low indicate that, while the price is still falling, the downward volatility is waning. And the only reason downward volatility will decline is when selling pressure is starting to give way to buying pressure. (Compare with Absolute High or Absolute Low).

Relative Strength – The term “relative strength” refers to the relationship between the performance of two stocks or indexes. If one stock or index is moving higher than the other, then its “relative strength” is greater – it is performing better and is where we want to be. Relative Strength is a key component of the Top Down Approach.

Relative Strength Index (RSI) – J. Welles Wilder originated the Relative Strength Index (RSI) as a method of comparing the strength of an asset on up days against weakness on down days. This closed indicator is a gauge of momentum and works differently in trending versus non-trending markets. It is in the same category of secondary indicators as stochastics.

Resistance – That price level where a stock can trade up toÖbut not exceedÖfor a certain period of time. Resistance is that level at which the aggressiveness of sellers overcomes the aggressiveness of buyers; where supply exceeds demand. We can identify probable areas of resistance of an asset by studying its prior trading history. The more trading that occurs at a particular price level, the greater the Financial Commitment is at that level. And when a stock trades up to a price level with heavy financial commitment, the supply of stock at that level is likely to overcome the demand for the stock as committed sellers do what they’ve been waiting to do – sell the stock! (Compare Support; See PBV Bars)

Reversal – a change in the direction of price movement to such an extent that the prevailing trend ends. (Compare to Correction, which is a healthy countertrend move resulting from profit-taking being met by sustained demand, followed by a resumption of the prevailing trend)

Robot Portfolio – A theoretical long-term 10-stock portfolio originated by John Dorfman, president of Thunderstorm Capital. The Robot Portfolio consists of out-of-favor stocks that meet specific criteria with respect to market capitalization, debt-to-equity, earnings and price/earnings ratio. Since 1999, “the Robot” has outperformed the S&P 500 7 out of 8 years, with an average return of 34% compared to an average return of 5% for the S&P 500.

Scaled Entry – Building a position in a stock through a series of small purchases at different price levels rather than in a single transaction. By “scaling into a position”, the trader puts less money at risk at the initiation of the trade. If the trade is profitable, the trader then adds to the position. If the trade is unprofitable, the trade is closed for a very small dollar loss. The use of scaled entries addresses the inherent risks of trading by sacrificing the potential profit from a larger initial position in favor of a reduction in risk through a series of smaller positions. Scaled entries dramatically reduces the possibility of a big loss. The scaled entry technique enables the trader to more easily cut his losses short.

Scaled Exit – Closing a position in a stock through a series of smaller sales at different price levels rather then simply dumping the entire position at one time. By “scaling out of a position”, the trader is able to take partial profits on a good trade without sacrificing further upside. The hallmark of good trading is to let profits run for as long as possible, and a scaled exit leaves a portion of the position intact to enjoy additional gains while freeing up money to capitalize on other opportunities. As a position increases in profitability, it increases in size relative to the size of a trader’s portfolio. The scaled exit enables the trader to bring the portfolio back in balance and avoid being overweight in one profitable position.

Secondary Indicators – all technical indicators other than price movement (as seen in chart patterns). Secondary Indicators provide very useful information on the quality of the price movement. Is momentum increasing or decreasing? Is volatility increasing or decreasing? Is the stock under distribution or is it still being accumulated. Is there an increase or decrease in the number of traders participating in the current trend? We use secondary indicators to help answer these questions. Simply put – secondary indicators provide insight into the quality and sustainability of the current price action.

Sector – an area of the economy in which business share the same general product or service. A general list of sectors includes Consumer Discretionary, Consumer Staples, Energy, Financial, Healthcare, Industrial, Materials, Utilities, Technology, Transportation, and Services. Each Sector is comprised of several Industry Groups. The Sector is the 2nd step in the 4-step Top-Down Approach, where in we focus first on the strength of the broader market averages like the S&P 500 and the Nasdaq Composite. Within the broader market, we look for the strongest sectors; and within the strongest sectors we focus on the strongest Industry Groups. Finally, we look for the strongest Stocks within the selected Industry Groups.

Sector Rotation – an investment strategy where we rotate stock holdings from one sector to the next, depending on the state of the business cycle. The idea is to be involved in the sector or sectors that stand to benefit the most in the economic climate. Successful sector rotation gives the trader a better chance of beating the market. However, it is tougher than it seems because of the forward-looking nature of the market. Oftentimes, the time to sell stocks within a particular sector is when they are benefiting the most from the business cycle. By combining technical analysis and fundamental analysis, traders are better able to utilize the Sector Rotation methodology.

Selling into Strength – to sell a stock in an environment where buyers are aggressively taking the stock. Selling into strength is a good idea when it appears as if the current uptrend is not sustainable. Selling into strength is a common scaled exit technique.

Sentiment – the prevailing psychology of the crowd. Prices rise in an environment of optimism (bullish sentiment), and they fall in an environment of pessimism (bearish sentiment). Numerous technical indicators can be used to quantify the relative levels of optimism and pessimism within the market, including a comparison of long and short positions, market volatility, the ratio of put options versus call options, and the inflow or outflow of cash. Sentiment is a key indicator in assessing the sustainability of the current market environment. An excellent source for sentiment is SentimenTrader.com.

Short – to sell a stock that you don’t own. The shares of the stock are borrowed by your broker (“getting a borrow”) and then sold in the open market. The proceeds of the “short sale” are deposited into your account, and you are counting on being able to buy the shorted shares back (to “cover your short”) at a lower price and return them to the rightful owner (the lending source of the borrowed shares) and keep the difference. Rather than “buying low; selling high” the short seller “sells high and buys low.” Shorting can be quite profitable, but is also a risky strategy because of the risk of a Short Squeeze.

Short Interest – the total number of shares of a stock that have been sold short and not yet repurchased. When the short interest is high enough, a bullish situation exists because of the increasing possibility of a Short Squeeze.

Short Squeeze – a short squeeze results from a sudden demand (i.e. buying) in a stock which has a large amount of shares outstanding on the short side. If the buying persists to an extent that short sellers must cover their short positions, the result can be brutal to the short sellers. The buying increases the share price, which in turn creates additional fear (and short covering) among short sellers. As people rush to buy stock and cover their positions, the price runs to extreme price levels until a normal supply/demand situation returns. The aftermath of a short squeeze is a significant retracement in price as the urgent short covering finally exhausts itself and leaves a pool of devastated short sellers.

Simple Moving Average (SMA) – an unweighted moving average wherein the same weight is assigned to each data point, irrespective of its place in the data series (compare the SMA with an EMA (exponential moving average), wherein greater weight is assigned to the most recent data). Because all data is assigned the same weight, the SMA is slower than the EMA, and is used as the reference for Bollinger Bands. (The slower SMA is used because the standard deviation calculation that creates Bollinger Bands is quite sensitive to small fluctuations. As such, the slower, steadier SMA provides a more stable frame of reference for the ultra-responsive Bollinger Bands.)

Slope of Hope – the term that describes the declining price trend of a former high-flier. One common dynamic within the stock market is the tendency of the crowd to become overly enthusiastic about a stock. This extreme bullish sentiment pushes a stock to unsustainable levels where even the most optimistic earnings estimates justify significantly lower stock prices. But because the crowd believes , any dip in price is met by weak buying that is sufficient to stop the immediate price decline, but insufficient to reverse the downtrend. The bulls hope that the market is wrong, and they stubbornly cling to the belief that the stock will return to its former glory. But the downtrend continues until the last of the stubborn bulls has given up. Only then does the Slope of Hope hit bottom and begin the process of building a base for the next advance.

Snapback – a sharp counter-trend move. A snapback can occur in any direction, though it usually describes the counter-trend advance at the end of an extreme sell off – a ” snapback rally “. Snapbacks can lead to profitable short-term trades because they capitalize on market extremes by participating in the inevitable correction of the extreme.

Standard Deviation – a measure of the dispersion of a set of data from its mean. The more spread apart the data is, the higher the deviation. A volatile stock has a high standard deviation. Because standard deviation is calculated by the square root of the variance, it is extremely sensitive to changes in the variance. Bollinger Bands are constructed by calculating the standard deviation the 20-period simple moving average. The most common setting for the upper Bollinger Band is 2 standard deviations above the 20-period moving average. The lower Bollinger Band is usually 2 standard deviations below the 20-period moving average.

Stochastics – a momentum oscillator originated by George Lane. Stochastics are similar to RSI in that both indicators measure momentum. But a key difference is that RSI parses the data by comparing the current close with prior closes within a set period (usually 14 periods), while stochastics are based on the current location of price relative to the price range of a set period of time.

Stop Loss – a predetermined price level at which a position will be closed. A “stop loss order” is essential to protecting trading capital as well as profits. The location of the stop loss order relative to our entry price defines the risk of the trade. The closer the stop loss is to the entry point, the lower the risk; however, excessively tight stops often result in being “stopped out” of a trade by normal volatility. Stop loss placement is as much an art as a science, but it is an essential component of responsible money management. One characteristic that differentiates professional traders from amateur traders is the use of stop losses. The vast majority of professional traders define their risk by placing stop losses, while many amateur traders fail to use stop losses because they assume that they will make money on the trade. (Also known as a Protective Stop).

Support – That price level where a stock can trade down toÖbut not exceedÖfor a certain period of time. Support is that level at which the aggressiveness of buyers overcomes the aggressiveness of sellers; where demand exceeds supply. We can identify probable areas of support of an asset by studying its prior trading history. The more trading that occurs at a particular price level, the greater the Financial Commitment is at that level. And when a stock trades down to a price level with heavy financial commitment, the demand for stock at that level is likely to overcome the supply of the stock as committed buyers do what they’ve been waiting to do – buy the stock! (Compare Resistance; See PBV Bars)

Three Day Rule – The stock market consists of several groups of traders, and it pays to run with the smartest group. The Three Day Rule is a short-term trading rule based on the theory that significant moves are started by the smartest, most well-capitalized traders. These traders buy on the first day. The second day of a move is caused by the “semi-smart” traders who notice that a move is occurring and are quick to seize the opportunity to profit from the move. By the third day, only the slower, poorly capitalized traders are left to buy. This last group may have seen the move, but were not aggressive enough to buy during the first or second day. By the third day, they are ready to buy the stock, even at an extreme price. And who are they buying from? They are buying from the first group – from the smart, well-capitalized traders who are taking profits and are moving onto greener pastures. Look at any daily chart and you will find very few significant moves that last for more than three consecutive days without a correction. So, under the Three Day Rule, avoid buying a stock on the third day of an advance. Chances are that you will have a better buying opportunity within a very short period of time. Following the Three Day Rule may result in missing out on an occasional dynamic move; but over time, the Three Day Rule will keep you out of trouble.

Tick Index – a very short term indicator based on the number of stocks trading on an uptick (a trade above the previous trade price) minus the number of stocks trading on a downtick (a trade below the previous trade price). A positive Tick Index indicates that more stocks are being bought than sold, and vice versa. The higher the tick index, the more powerful the market.

Top – the point or process where an uptrend exhausts itself and is followed by a meaningful decline. Tops tend to be more gradual process-driven formations as the natural bullish bias of the market is gradually overcome by an increase in selling pressure. Hope is one of the emotions that characterizes tops, and can take a while to dissipate. Because hope is such a persistent emotion, tops often take much longer to form than most traders and analysts think. Also, what is believed to be a top can often turn out to be consolidation. As such, anticipating tops is very difficult because it involves going against the trend.

Top-Down Approach – an investment approach that focuses first on the best sectors to be involved in given the current economic climate and business cycle. From the best sectors, the top down approach then selects those industry groups within those sectors that are more compelling. Finally, the companies within the selected industry groups (which are, in turn, within the selected sectors) are examined. Only in this final step are the company’s fundamentals and price history of the stock analyzed.

Trader – the term for someone that exchanges assets. In simplest terms, we exchange stock for cash, and cash for stock. We “trade.” Much is made of the distinction between the trader and the Investor. The difference usually concerns time horizon, methodology or both. Traders are seen as being short-term oriented with a focus on the movement of stock price. Investors are seen as being long-term oriented with a focus on the underlying fundamentals of the company. However, the lack of clear-cut criteria renders the distinction meaningless. In the final analysis, we are all traders – we trade our cash for stock, and we trade our stock for cash. I this forum, there is no distinction between trader and investor. If you have a brokerage account, you are a trader!

Trailing Stop – a stop loss order that adjusts in accordance to fluctuations in the market price of the asset. Using a trailing stop enables you to let profits run with the assurance that the stop loss will cut your losses short. The trailing stop takes emotions out of the decision-making process because it is based solely on the movement of the asset, and leaves no room for discretion. Various trailing stop techniques exist, including Chandelier Exits, Volatility Stops and Parabolic Stop and Reverse (SAR). Each has its own place within a trading methodology.

Triangle – a general category of chart patterns created by drawing trendlines along the peaks and valleys of a price chart. A series of lower highs and higher lows cause the trendlines to converge, thereby creating a triangle. Variations of the triangle are the ascending triangle (bullish), descending triangle (bearish) and symmetrical triangle (a continuation pattern). Triangles are similar to wedges (reversal patterns) and pennants (continuation patterns).

TRIN – The TRIN was developed by Richard Arms to measure the health of the market, or market breadth. It is a volume-based indicator designed to indicate whether more volume is moving into advancing stocks or declining stocks. The calculation for TRIN is: (Advancing Issues/Declining Issues) / (Volume of Advancing Issues/Volume of Declining Issues)

VIX (CBOE Volatility Index) – The Chicago Board Options Exchange (CBOE) Volatility Index, or, “the VIX” shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities of the S&P 500 index call and put options to derive the implied volatility of a hypothetical 30-day at-the-money option. Because options are estimates of future prices, the VIX is meant to be forward looking and is used as a measure of market risk. The VIX is seen as a gauge of investor complacency or fear. A low VIX represents complacency and often signals a market top; while a high VIX represents excessive fear and is often indicative of a market bottom. As a general rule, VIX readings below 20 equate to less stressful and complacent markets. VIX readings above 30 reflect fear and uncertainty in the market.

VXN(CBOE Nasdaq Volatility Index) – The Chicago Board Options Exchange (CBOE) Nasdaq Volatility Index, or “the Vixen” is a measure of implied volatility for the Nasdaq 100 (NDX). The VXN is calculated using the same methodology as the VIX. The VXN represents the implied volatility of a hypothetical 30-day option that is at the money.

Volatility – in statistical terms, volatility is the measure of the dispersion of returns for a given asset. But in layman’s terms, volatility refers to the amount of price fluctuation of the asset. Rapid or wide ranging price changes equate to high volatility, and small or slow price changes equate to low volatility. Volatility is a measure of risk and uncertainty. The measure of the volatility of a stock relative to the S&P 500 is the beta of a stock. For example, a stock with a 1.2 beta value has moved 120% for every 100% move in the S&P. Volatility is cyclical, and periods of low volatility lead to high volatility, which in turn leads to low volatility. Understanding the cyclical nature of volatility is essential to trading success.

Volatility Squeeze – a prolonged period of low volatility characterized by a narrow trading range. Because of the cyclical nature of volatility, a period of low volatility will inevitably lead to a volatility expansion, where the price becomes highly volatile. A volatility expansion tends to be directional in nature – that is, the volatility will increase in an upward direction (breakout) or downward direction (breakdown). Trading volatility squeezes can be exceedingly profitable because of the nature of the trade. By delaying our trade until the squeeze breaks either upward or downward, we enter the trade right at the infancy of the volatility expansion. As such, the trade begins working immediately and does not require much patience. The volatility squeeze should be profitable almost immediately. If it is not, then the trade is suspect and should be closed out. One method of detecting a Volatility Squeeze setup is by studying Bollinger Bands. An extremely narrow Bollinger BandWidth is only possible during conditions of low volatility. The Volatility Squeeze is a major focus of the Stock Market Mentor.

Volatility Stop – a Trailing Stop methodology that incorporates into the calculation the volatility of the stock’s volatility. Volatility Stops are useful in protecting gains on strongly trending stocks that are so far above the last level of support that a pullback to support sacrifices too much of the profit. Volatility stops are used when more traditional stop methods are impractical.

Wall of Worry – The Wall of Worry describes the dynamic wherein the stock market continues to rise in the face of uncertainty and negativity. It is said that ìa Bull Market climbs a Wall of Worry.î Stop and consider the dynamics within an uptrending market and the basis for this Wall of Worry will become apparent. Worried money is usually on the sidelines. It is not invested. But as traders worry about political or economic uncertainties, they might also notice that the market is moving higher without them. So they start to put money to work. They remain worried about the market, but they hold their nose and buy anyway. Who are they buying from? They are buying stock from other traders who fear a market decline. These worried sellers are happy to exchange their stock for cash because they are uncomfortable remaining in the market. But after they have sold, they realize that the market continues to move higher without them. So they in turn put their money back into the market, driving it even higher. See how the pervasive uncertainty can actually be the impetus for higher prices? So the next time you find yourself feeling uncertain and worried during a strong uptrend, remind yourself that you are climbing the Wall of Worry. The use of trailing stops and scaled entries and exits is an effective way to climb the Wall of Worry without taking on undue risk