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Hunting for Volatility Squeezes (by Leisa)

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Here's a re-tread post of mine from 11/05/09 that might serve as a useful follow on to my post on how to ride (not shoot) your winners.  Paying to volatility has helped my trading tremendously.  I'll dig out some other posts on this matter to if there is sufficient interest.

While I consider myself a serious student of the market, I don’t
call myself a trader. But I do trade and have done so with reasonable
success. This year, I incorporated a new dimension into my trading:
volatility. Simply put, I’m buying when volatility is low, and I’m
selling when volatility is high—and I’m doing so on charts that appear
to be good candidates for long entries. I’ve not used it for short
positions.

The point of this post is not to go into an in-depth
analysis regarding volatility, but rather to introduce to you this
concept and provide some actual examples. I think that you will have
fun experimenting with it. I'll mention, too, that John Carter uses
this in Mastering the Trade
. But I cobbled it together for myself (after first experimenting with
Donchian Channels) before reading his book. I believe it to be a book
that belongs on most traders bookshelves.

Method: There are two technical indicators deployed: The Keltner Channel and Bollinger Bands.
Like most indicators, both of these are measurements that are
incorporating time and range of price movement that the user defines.
For this method, I am specifically hunting for stocks that have the
Bollinger Band nested INSIDE the Keltner Channel. Carter notes this as
quiet periods…"period of reduced volatility and signals that the
market is taking a significant breather, building up steam for its next
move." For the Bollinger Bands, he uses 20 and 2, and for the Keltner
Channels, 20 and 1.5. I started out using 10, as a parameter for both,
and I've not changed it. But I wanted to share the parameters a
vocational (Carter) rather than an avocational (me) trader utilized.

Now
for four charts. (Click to make larger!) I want to give a brief preamble. While many of you are
technical traders, I mix macro fundamentals and sector fundamentals
into my work. It's my quirk, and it works for me because of my learning
style and my background. It points me in the direction I want to look
and helps me assess risk.

The first three stocks were actual
positions. I've been trading Chinese stocks long before it was
fashionable to do so. The floats and price range may not suit many
here, but the concept can be applied to any stock. It's worth noting
that because this market fell hard, there were lots of attractive
candidates in these long bases. The last is a contemporary example.

Here's
SNEN. I liked them because they were in the compressed natural gas
space in China (engine conversion units and stations). I also knew that
they had a small balance sheet problem–so I took my money and ran.
This stock is an example where I entered, sold on the volatility spike.
Re-entered and re-sold on the volatility spike. No third time charm on
this one because of the risk on the balance sheet. They are being
bought by a shareholder.


Second
is AZC. This stock is again a combination of fundamental (copper–they
will supply 10% of the copper when one of their Rosemont site comes on
board) and TA.

HPJ is another one. This one broke out along with the other lithium-ion battery producers.

Here's the stock screen that I use on StockFetcher (XX's signify variables that suit your trading style–you see I'm no stranger to the boneyards):

Close is above (XX)
AND Volume is greater than (XXXX)
AND Upper Bollinger(10) is less than Upper Keltner Band(10)
AND lower Bollinger(10) is greater than Lower Keltner Band(10)
and add column Bollinger %B(10,2) (I use this to order candidates from lowest band width to highest)

To
put this post together, I didn't have to cherry pick through my stock
entries to provide examples for you. It has proved to be a high
probably trade and a richly rewarded trade. I will tell you that the
hardest thing to do is to sell into the volatility explosion. And we
know that doing the hard thing is often the right thing! Naturally, any method you deploy must fit with your time, money and
risk/reward parameters.