Author: MIKE WEBSTER
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A shelf pattern is a small area of consolidation that happens between bases. Such patterns give ideal entry points for existing positions.
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The best stocks don’t go straight up without resting. When they rest for over a month they may form classic bases, including cups with handles, saucers, flat bases and double bottoms.
If you bought out of a proper base and you want to increase your position size, you have a few traditional options. Look for a three-weeks-tight pattern and a pullback to a 50-day or 10-week moving average.
The Shelf Pattern Gives An Ideal Pyramid Point
Charts give you expectations. A stock breaking out of a base should immediately move up — even just a little. If it doesn’t, the stock is breaking expectations. Holding on just means hoping. Hope is never a good investment strategy.
A shelf is the same way. It gives you an area of resistance similar to a pivot point. As the stock moves above that area it should immediately move higher. Again, it doesn’t have to be a huge move at first.
Unless you are swing trading, a shelf should be used for adding to your winning positions, not your initial purchase. We call adding to your winners pyramiding up in a good stock. The additional buys are smaller, both in dollar value and shares, than your original.
Let’s say you bought 100 shares as the stock cleared a cup with handle. You may only add five to 25 shares if he stock breaks out from a shelf.
The key is to make your winning positions bigger, while not running the average cost up too quickly.
Shelves Come In Many Sizes
Regardless of its length or depth, a proper shelf should give a feeling of calmness.
Imagine both the bulls and bears having a momentary truce.
While there’s no set maximum depth for a shelf, most will show declines of well under 10%. It’s less about the depth and more about a reduction in volatility from the prior base.
A very short five-day shelf should be very tight. In contrast, a four-week shelf might have a small shakeout or two in it.
The key? At least one clear area of resistance formed. This may be the high of the shelf. Most of the time, you’ll spy a downward-slanting trend line within the shelf for an earlier entry. Longer shelf patterns tend to have multiple resistance areas.
When a stock breaks above a resistance area in a shelf pattern, the expectation is for it to move higher. But don’t demand the same huge move you would want out of a base breakout. If the stock doesn’t act within expectations, then consider selling just the additional shares. Look for other sell signals before selling the original shares purchased on the initial breakout.
Pyramiding In Microsoft Stock
Microsoft (MSFT) had a 33% move from its October 2019 breakout to the peak before the coronavirus stock market crash.
On Oct. 28, the megacap tech broke out of a narrow flat base with a 142.47 buy point. Immediately following the gap-up, it formed an eight-day shelf. It was only 2% deep. Mr. Softy then broke out of the shelf on Nov. 8, allowing your first pyramiding option (1). It ran up to 152.50 on Nov. 27 and formed a nine-day, 3.8%-deep shelf. This one had a nice shakeout below Microsoft’s 21-day exponential moving average — very common during shelves.
This new shelf formed two areas of resistance. The first buy was on Dec. 6, near 151 (2), and the second on Dec. 12, just past 152.50 (3). These are both areas where very small additional purchases could have been made.
In mid-February both the general market and Microsoft gave clear sell signals to sell the entire position.
This article was originally published May 7, 2020.
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