Every trader and investor aspires to buy low and sell high. However, it’s easier said than done because ‘cheap’ and ‘expensive’ are relative terms. If any stock is cheap, according to one trader, there won’t be any dearth of traders who might find it expensive. In brief, when to enter and exit a trade is always a tricky decision because there is no specific answer to it.
And while there isn’t any surefire success strategy that traders can follow to time their entry and exit in stock market, they can certainly follow some thumb rules and confirmation signals that have worked for many successful traders over all these years.
Long-term investors may rely more on fundamental indicators than just technical indicators. The primary fundamental factors that may guide your decisions are earnings growth and valuations. As long as the earnings growth manages to exceed or at least come in line with investors’ expectations, buying a stock may work for long-term investors.
Valuations should always be considered vis-à-vis industry valuations as well as the company’s own historical valuations. Any significant divergence from historical readings may generate a buy/sell signal.
Unless you are a long-term investor, identifying entry and exit points based only on fundamental analysis may not work for you. Simply because markets are often driven by greed and fear in the short term and they take time to absorb and reflect fundamental changes.
If you are a trader, then you must use technical analysis intelligently to generate trading signals.
To begin with, you must have clarity on your positioning—whether you are a positional trader, a day trader or a swing trader.
Entry and exit points for each of these categories can vary.
For instance, a swing trader might consider fundamental factors such as earnings or company-specific developments and trade for price swings using technical indicators. This is just an example. You need not follow this approach.
A day trader may not care much about a fundamental view of a stock; he/she will be solely interested in price-volume statistics for the day. Whereas, a positional trader may pay more attention to factors such as the primary trend of a stock, the strength of the current trend, crucial support and resistance levels etc.
Assuming that a day trader trades only on the long side; following the price momentum becomes crucial. A day trader may take a position in up-trending stocks as soon as the stock price crosses the highs of the previous day. The stoploss can be placed at yesterday’s lows.
There isn’t any hard and fast rule though. You can adjust your entry and exit points depending on how deep you want to place your stoploss triggers and how strong you expect the stock price momentum to be for the day.
Day traders should ideally avoid trading on an event day given that there can be event-specific volatility. For instance, you may not trade a stock on a day when it is schedule to declare its quarterly numbers.
Some advance day traders might follow a 5-minute chart to decide entry and exit points for their trade. Since a trading day has 6 ½ hours of time, nearly 78 5-minute candles are formed. A day trader might use the candlestick chart to determine breakout and breakdown pattern formation to time entry and exits. Momentum confirmation may come from 1-minute charts.
The possibilities are endless; you need to decide which strategy works best for you—i.e. for your circumstances, risk appetite, trading acumen and the quantum of deployable capital.
If you are a positional trader, it would pay to check the overall chart structure. For instance, you should identify support and resistance levels on various frequencies to determine how strong or weak the pattern strength and stock price momentum is at present. Positional traders should trade trends and avoid stocks that have been moving sideways.
Rule of thumb: When short-period averages cross-over long-period averages on the back of high volumes and the latest stock price quotes above these averages, the stock is said to be in strong hands. And such patterns usually generate buy signals.
On the other hand, if a stock closes below crucial averages and short-period averages slip below long-period averages coupled with high volumes, ‘sell’ is the likely indication.
Moreover, you should also check momentum oscillators such as RSI and Stochastic to identify overbought and oversold levels. Usually, a reading over 70 on these oscillators denotes an overbought zone, and the reading below 30 is marked as an oversold territory. This range can be re-adjusted to 80 and 20, depending on the pattern strength.
Remember, there are no fix rules. Charting is as much an art as it’s a science.
For instance, if you are betting on a breakout trend on a weekly or monthly chart then you might also want to check the RSI trajectory on a daily chart since it’s a leading momentum oscillator.
A day trader doesn’t think about tomorrow and a positional trader may not mind looking through short-term fluctuations if the primary trend is intact. Contrary to this, a swing trader aims to exploit short-term fluctuations, which may or may not indicate a change in the primary trend. For this fundamental difference in trade positioning, swing traders need to follow a unique approach to time their entry and exit in stock market.
Let’s assume a swing trader wants to trade a stock that’s been going through a downtrend in the pre-earnings time, hoping for a trend reversal. In this case, besides applying the basics of technical analysis, a swing trader might look for more indicators confirming an entry point.
For instance, whether there is any bullish divergence in the OBV (On the Balance Volume) and MFI (Money Flow Index) indicators. A swing trader might also take cues from the narrowing and widening of Bollinger Bands to decide entry and exit points.
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