This week Gilbert “Gman” Mendez — Head Trader at SMB Capital — offers instruction on trading the open:

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We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. To learn more about their new Reading the Tape course, click here.QQQQStocks

Gilbert “Gman” Mendez is the Head Trader at SMB Capital.

All my pre-hybrid sketchy experiences with NYSE have left me with a sour taste. If you were to sit at my desk, you would hear how I’d pay higher ECN fees to EDGX or get worse fills rather than to give any business to NYSE. I refuse to send any orders through them. And it is not like my 50Mln shares a year would really make a huge difference. Call me loco but I just don’t give them my business.

Although, while reviewing my numbers from last year I realized that being overly stubborn about this cost me close to 40-50k — and that’s just a low ball. Talk about a self-imposed rip. In the words of Chaz played by Will Ferrell in Wedding Crashers: “What an Idiot!!”

So, coming into this year I made changes to my execution hotkeys. I added NYSE sweep keys and I moved them up the ECN toggle list for bidding and offering stock.  And while my ECN fees have come down slightly, I am disturbed by the shenanigans of how my orders are treated. Let me give you a couple of examples.

First, I must admit I have never been a fan of stop orders. But now that I have way too many positions riding at the same time, it is the only way I can manage my risk. Nonetheless, I only use orders triggered by prints locally on my computer to route through ARCA. I have always felt that stop orders that reside at the NYSE exchange can be manipulated. The exchange can argue all they want about the floor specialist not being able to see the orders, but I find it to be too big of a coincidence that stops too often go off at some mysterious prints. Check out what happened to the trader who sits next to me who put in a NYSE buy-stop at 45.24 for 100 shares to cover his short.

Someone please explain how it is possible for a buy-stop that is hosted at the exchange to go off when 45.24 prints but does so only by printing the 100 shares that were in the buy stop. Coincidental? Maybe. Sketchy? Very!

But wait let me show you my personal favorite these days. Getting my orders front run by NYSE. Let me illustrate what this looks like on the tape with the following short clip:

This front running nonsense happens to me at least 5-8 times a day — often when I have size in a position. I am starting to wonder if I am really saving that much money by trading again with my boys at NYSE. I really do wish some of those tens of thousands of dollars that I annually “contribute” to the SEC actually went toward making the system a bit more transparent. It disgusts me that I have to deal with these shenanigans. I am all for businesses making money when offering a service, but this is just ridiculous.

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I want to start off by wishing everyone a healthy and chopalicious (insanely profitable) new year. I hope everyone enjoyed the holidays and the time spent with family and friends. I got a chance to take some time off and feel recharged and ready to grab this bull market by the horns!  And oh I am about to be the new owner of a chocolate lab.

I wanted to take a break from my articles on HFTs and Tape Reading to talk today about my views on the market and my expectations for the new year as a short-term trader.
At the beginning of 09 the market appeared to want to go to zero (or something like that). After some impressive volatility and volume we put in a bottom and rallied much faster than most market wizards had anticipated. Then going into the later part of the year the SPYs consolidated in a very tight range. There were no signs of a major pullback. Boy was that not fun to trade into end of the year!

My job is Trader (well Head Trader to be most exact) and not Analyst. I read many blogs on the weekends to keep the macro picture and fundamentals in perspective. And there are some very compelling arguments for a market retracement and some good ones for higher prices. But as a short term trader the price action and market psychology is my leading indicator. And it is not looking pretty for the shorts let me tell you.

Think about it, there ought to be some large funds that were hoping for a retracement to get in, or most likely, increase their stake. There are also some funds shorting this market hand over fist betting the worst is not behind us.  But every possible break attempt to the downside has failed miserably. And then there are those sitting on large longs not pressed to lock in gains because of this.

Now coming into this year, we have worked off a bit of this overbought condition with that tight consolidation. Underperforming funds will be forced to chase this market as it upticks without them fully committed. Those already heavily long are looking to press their bets. And those shorts will be forced to ride the pain train and cover higher.
And the price action during the first three trading days of the year seems to confirm this bias. There has been some serious rotation of money into sectors, not just individual names.  On Monday and Tuesday we had Financials and Casinos partying like college kids at a toga party. Wednesday we had oil services and metals/commodities working in unison.  The next couple of days I wouldn’t be shocked if we see solars, consumer staples, retailers, and so on just get pumped with fresh money.

With that said I am very much amped about this year. It should be a phenomenal trading year with or without the HFT nonsense. I have spent quite some time thinking about my trading and creating a roadmap for this year. I created my plan and it is time to execute it. And on that note Charles Kirk wrote a fantastic piece on how to go about creating a roadmap for the year. You may read the article here. Happy trading!

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Gilbert "Gman" Mendez

It seems the chatter about High Frequency Algorithms has gone down a fair amount. Maybe as intraday traders we have become desensitized to their shenanigans and have learned to live with the frustration they bring to our business. Or maybe there really isn’t much to talk about. How many times do we need to hear the schpeel about how they make the market more efficient? yada, yada, yada. Instead of writing – complaining even – about the HFTs I want to talk about some of their characteristics.

I have been a bit out of the loop in the past few days due to health reasons. I am currently battling a silly case of the flu. And let me tell you there are only so many 16-hours days of sleeping I can handle. So as I lay here awake in the middle of the night staring at lady liberty I can’t help myself to think about how these dopey programs work. I can’t imagine them being that complicated. I mean speed is the name of the game, so overly complicated mathematical computations are out of the question.

Thinking back on my engineering days and the cheerful lectures (sarcasm?) on computational nonsense I recall a few things. Linear systems are easy to program and computational friendly. From a mathematical standpoint this boils down to average price and rate of change in price of a stock (think fear/greed thermometers if you will). Further, common sense tells us these algorithms are dependent on volume and liquidity to run their show. So an accumulation/noise algorithm tries to keep a low rate of change in the stock while there is light volume, giving a chance to a magical moving average to catch up to it provided there is enough liquidity in the stock.

I know I have now lost some of you with all this mathematical gibberish. The point I’m trying to make is simple. The more controlled a stock is (low rate of change) the more likely it is for HFT algorithms to run us over. Think of consolidations, these were levels where we as traders would take considerable positions in anticipation of bigger moves. We would over-leverage our positions knowing our risk was well defined. As the rate of change in price would pick up in the opposite direction we had thought we would exit assuming we were wrong.

But what if the program would just drop the level right before the magical average was about to catch up to it? Then as traders start to puke positions the algorithm is able to get significant volume at a slight discount. Those who just exit their positions realize what happened and scramble to get back in now altering the rate of change in the stock all together leading to the actual move. Just “simple and elegant” as my calculus professor would say.

How this is useful information to trading is the important part of the puzzle. I chose to trade a bit aggressively during times of high volatility (steep rate of change) and when there isn’t much or too much liquidity for programs to run their show. That only seems to take place in premarket, after hours and the first 15-20 minutes of the open. At all other times I am very careful of not getting in plays that “seem too obvious” or when the rate of change seems to be about flat. I rather wait for the volatility and volume to manifest itself to come out and play.

That doesn’t mean I am suggesting that you should consider start chasing moves in a stock as profitable strategy. I am suggesting that those struggling should consider developing momentum trading skills. I am also suggesting being cautious around points of low volatility.  These are the levels where stocks can be often “manipulated” or as the SEC would put it, more efficient. For now, I am off to pop some Nyquil to make my immune system more efficient hoping I can sleep this off and make it to the open tomorrow. Happy Holidays!

We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. To learn more about their new Reading the Tape course, click here.

The word on the street is that intraday traders are frustrated. The rules of the game have changed. Most high probability chart setups in between important levels are being manipulated by the high frequency algorithms. If you are an active intraday trader reading this, I guarantee you have been a victim to what I call the screw job program. Let me explain.

The highest probability trade for a well capitalized algorithm is the trade where it is guaranteed emotional order flow. By emotional I’m referring to the order flow that comes out of positions where traders just want out – our stop orders.

Consider all of the high probability plays: flags on strong/weak stocks after a drive, consolidation, support/resistance at important levels. We all trade them. We size up as the play develops in our favor and we trade them quite similarly when the play goes against us. We bang out of the stock when we assume we are wrong (especially when we have size).

Let me offer an example of a common screw job program. A stock drives on the open, comes off very little and starts to consolidate close to the high of the day on a tight range for a significant period of time. You can spot plenty of buy interest on the bid, the buying is clear. The stock spends so much time consolidating that the VWAP and moving averages start to catch up to the price action. You see a tremendous opportunity to “load the boat” with little risk on the consolidation calculating the stock has another leg higher.

The stock takes the top of the consolidation with volume and you add to your position. You know you are in the driver’s seat. I start the theme music to “Jaws”, and our desk’s group of traders I have affectionately termed the Shark Tank, communicating an excellent trading opportunity to the firm. Then out of nowhere there is more selling interest, the bottom of the consolidation drops and you bang out of the play. 15 minutes later the stock is making new highs without you in it. Talk about getting bitten by the market. Sound familiar?

Check out these charts of BAX to illustrate my point from above. One shows the intraday price action on a 3 minute chart while the 15 min and 60 min chart give us a clue of the upside of the play.

I know I have been a victim to this screw job algorithm at least 30 times in the last month.  But lately I have started to catch up to their nonsense and have had to make some adjustments.

1. Increase the stop loss on the position
2. Trade with less size until witnessing the screw job then lay into the position when it gets back above the level.
3. Stay light or flat on the setup, wait for the screw job and then add while the screw job is taking place. Then lay into the position when the panic subsides.
4. Trade more in premarket and after hours when there are very few/no algorithms.

Dr. Brett Steenbarger once told me:  turn frustration into opportunity. Doing the steps above have helped me tremendously. Clearly the algorithms have some advantages but the trader who adapts will always come ahead. Happy trading!!

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We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. To learn more about their new Reading the Tape course, click here.

BAXStocks

Gilbert "Gman" Mendez

I am the kind of trader who can sit down at 7:30 AM or in the After-Hours and pay the offer or whack the bids in a stock if it is actively trading.  If you turned off all of my charts, my news feed, and just provided me the Level 2 quotes, I could sit down and make money 90 percent of every trading day in any trading month.   My charts and news feed are like a mouth-watering desert, delicious for some meals (or trades) but not essential.   I do have a sweet tooth for the wild volatility right on the Open that many do not have the trading skills to master.  Almost all of my profitable positions work right from the moment I get in during these volatile trading periods. This is not necessarily true of my positions during other time frames, which requires more patience to trade into a big position.  And this is the topic I want to talk about today.

Often traders confuse trading into a position with scaling into one.  To me scaling into a long position means buying X amount at a given price, buying 2X ten cents lower, and 4X a quarter lower with a stop 40 cents from the initial entry. In essence the trader averages down the position and ends up in a position with an average price near the second buy – potentially placing the trader in a position of weakness.  But these traders are loaded adhering to that timeless trading mantra….Go big or go home.  Well these traders are in danger of being sent home by the market.

To me trading into a position offers the better risk/reward.  This means using tape reading skills to determine whether it is likely that you ought to load up at a price different than that of your dream price (sometimes higher and sometimes lower). Trading into a position requires you to make a bunch of small trades.  You are getting a taste of the stock. Some of these trades end up being small winners and most of them are just scratches. Often this gets misunderstood by being undisciplined or impatient as it requires making small trades to get a taste for how weak or strong a stock is near your levels.   How do I say this nicely?  Wrong, wrong, wrong.

On our trading desk, SMB Capital, we call this paying for information.  And doing so allows us to increase our size, improve our win rate, enter trades others are not in, and limit our risk with our bigger position.  Overall you may make just a little bit of money and it may seem like too much of a grind.  But remember these smaller trades, this stock tasting, provide me with valuable information about my stock. By being in them I can get a feel for how easy it is to get a sale on the offer; how easy it is to get hit on the bid; how quickly I get chiseled on the offer when I try to sell; what the reaction is to me hitting the bids or paying the offer for more stock; what the selling/buying pattern happens to be, etc.

Further, the real risk to me is not losing a minimal amount on a few small trades. The biggest risk is missing out on the opportunity all together if the stock does not get to my dream price. The real risk is not loading up at levels higher than my dream price if the tape indicates it.

I often hear from traders that they rather miss a move all together if they do not get the price they want. This is specially true of swing traders. And I get their concern. They want to be disciplined so that if the stock does get to their dream price they are not in a position of weakness.

This is not what I am proposing here. I can’t think of the last time I traded into a position and felt that way. In fact, making those small trades often solidifies my conviction and makes it less likely I will get shaken out. The big difference is that when I scale into a position I often end up with my biggest position near (within cents) from my dream price.  But I also find myself being in many plays with my full size and with same risk profiles even though they never reached my dream price. I do not call that being undisciplined, I call that trading.

This is an important skill all traders should develop. I do not believe in the all in or flat mentality for getting into positions. It works for some, and it doesn’t for me.  Obviously if you have a system that works for you already then stick to it.  But this technique may help those of you struggling with missing moves or who find themselves averaging down constantly.  And that would just be delicious!

I will look through my video archive over the weekend for a video that illustrates this technique so I can present it on my next article.  Happy trading!

We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. To learn more about their new Reading the Tape course, click here.

Gilbert "Gman" Mendez

Last Tuesday we had a very good discussion with a few of the traders on SMB’s desk about the $50 level in AIG. Some claimed it was a huge level and I argued it was just a soft level. In this article I want to talk about my definitions of a level on different time frames and how this is useful to tape reading.

First, let’s start off by defining a level. A level is a place that provides a terrific opportunity for the disciplined and patient trader. It is a place where the risk to reward ratio is heavily shifted to either the buyers or the sellers.

A level is established by the inability of the buyers or sellers to penetrate through a price. The amount of volume and the number of times tested – without breaking, is what gives its importance. This is particularly true for levels seen in short term charts such as 1-15 min charts.

For longer term time frames I find it easier to judge the importance of a level by the number of times it has been tested. It is a much more difficult task to accurately decipher what the levels are unless the level has been tested a few times. When looking at a daily/weekly chart some look at the closing prices, others look at the high/lows for levels. When there is this much ambiguity in the levels I treat them as soft levels. Meaning, I will put on a trade there if the tape confirms it. And I will not put on the trade if the position would be against the intraday trend.

Those levels that have been tested at least three times (i.e. AIG $13.75 and $39 on a daily chart) or have been established intraday with huge volume I treat them as hard levels. That means I will bid/offer in front of them without hesitation as the stock approaches it.

As a tape reader often we are first to see the level s developing and are able to capitalize on these opportunities. It gives us a chance to be in plays, from excellent prices, that are not seen in charts. We are able to spot trades in which the risk is literally one penny and the reward is 25c, 50c+ and even multiple points in extreme situations. Further, seeing the development of the level also gives us significant confidence to pull the trigger next time the level is tested. Often times I find myself bidding/offering at these levels, getting executed and never seeing the position going against me. Doing this lowers my overall trading risk and helps keep my blood pressure low. Reading the tape around the levels also gives us another big advantage. Namely, knowing and timing when the level will break. It also keeps us from taking unnecessary risk on fake breaks and even profit from them.

We launched our Reading the Tape course a couple of weeks ago. You can see the course syllabus by clicking the link below. Thanks!

We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. To learn more about their new Reading the Tape course, click here.

Greetings from the Outer Banks, North Carolina. After an eventful August I finally got a chance to take some time off. In between the unusual price action in AIG and the serious task of creating our new Reading the Tape training program, I was finally able to get away for a few days. There’s nothing like some good company, phenomenal food, okay weather and the sound of the ocean to quiet the mind.

We are very excited to announce our new Reading the Tape training program will be available via our website www.smbtraining.com on September 14th. I want to thank all of you for the kind comments and feedback sent to me over the last few weeks. One of the most popular topics of the many email exchanges was using tape reading for longer term setups. In this article I will give a brief introduction in the most general terms on this topic. Note though that I cover this topic in more detail in the training program through written lectures and video recordings (video recordings of my trading with audio commentary).

In the last article I discussed how tape reading can give you an edge for shorter term setups. But I didn’t mention how it helps for longer term setups. The reason is simple- it is difficult to gather information from a short time frame to infer something about a longer time frame. Think of it this way.  When was the last time you looked at a 1 minute chart, liked a pattern and decided solely from that chart that it was a week long trade? Umm… never, I hope.  A 1 minute chart is just too short of a time frame to infer anything further than the next 10-15 minutes.

Normally for longer term setups we use the longer time frames (hourly, daily, weekly charts) to identify the setup and use the shorter time frames (5, 15, 30 minute charts) to time the entry on the trade.  Reading the Tape will not change that process, you would still have to look at your longer time frames for your ideas and the shorter term ones for your entries. After all reading the tape is almost like looking at a noise filtered tick chart. This sounds like a bad idea but it is not. Think of it this way, reading the tape gives you a much shorter time frame to help you time your entry more precisely. Doing so will manifest more efficient entry prices.

It is as if you added another level of confirmation to your trade. Think of your long term trade composed of a setup developed in a long time frame, confirmed by a setup in a middle time frame, timed and confirmed by the smallest time frame possible. Seriously, talk about stacking probability to your advantage.

The biggest advantage to adding tape reading to your skill set for longer time frame setups is that you are able to take on more size on your overall position, while minimizing your overall risk on some of your trades. In simple math terms if in prior trade setups you risked 50 cents on 1000 shares, it may be the case that now you can risk 10 cents on 5000 shares for the same trade. You risk the same dollar amount but the reward profile is substantially improved.

With this ability to increase your size, while minimizing your overall risk, you can scale out of your position to further minimize your risk. Thus when a stock trades in your favor x amount you can get out of a small part of your position and let the rest get stopped out. This allows you to break even, and in most cases make a profit on a play that didn’t work out. Now that’s what I call making money while being wrong (a secret to all save the best of intraday traders).

Also, there is another advantage to improving the timing on your entries. Namely, reducing the loss on those losing trades that do not work out from the start. Think of that last breakout play in which you got in the trade, the stock traded a few cents in your favor and then tanked to your stop loss 40-50 cents lower. Wouldn’t it be nice to save yourself the 30-35 cents of pain by identifying the fake break instantly? This is a huge advantage of tape reading.

There is a lot more to discuss on using tape reading for timing your exits, but let’s save this for another article in the future. For now, I hope these few trading examples gives you an idea on how tape reading can also help you with longer time frame setups.  I am off to get in some cocktails by the pool before getting ready to head back to NYC. I am fully recharged and ready to crush the remaining part of this year. Happy trading. GMan out.

We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. If you are interested in learning more about SMB Capital’s world-class trader training or trader tools, please click here.

Gilbert "Gman" Mendez

Intraday trading is about skills development and discipline.  Those who under-perform in our arena often have not fully developed their trading skills.  Too many Intraday Traders think that trading is only about fundamentals, learning technical analysis, and loading up.   The developing intraday trader must also learn how to Read the Tape.   Reading the Tape offers an enormous edge to the intraday trader.

I am the Head Trader at SMB Capital and consistently profitable 80+ percent of all trading days.  Respectfully, how many traders do you know make money 80%+ of the trading days in a month? I know a few, and most of them have something in common: they, like me, have developed tape reading skills.

For this issue I would like to give you a brief introduction to Reading the Tape. I will begin by defining Reading the Tape, what is needed, and how it helps your trading. My intent is to give you a brief description of Reading the Tape, and hopefully get you thinking about developing this important trading skill. So let’s get started.

What is Reading the Tape?

Reading the Tape is an important skill all intraday traders must develop.  Reading the Tape is about taking a look at the market from the most basic perspective: supply and demand.  When you read the tape you are trying to determine whether a stock will go up or down from its present price by looking strictly at the bids, the offers, and the prints.  In essence you are gauging the very short term sentiment in the stock by calculating the order flow.

Reading the Tape helps SMB Traders find the places where the big supply and demand exists in a stock, or important intraday levels.  And then armed with this information we seek to understand the storyline behind the stock to make an educated decision of where the stock ought to go to. Let me give you an example. Take a look at the following 3 minute chart of HGSI.

HGSI

A chart/tech trader might conclude that the only trade above is the consolidation play around 22.10, with an upside to $23+.  This is a great trading opportunity but from the chart I cannot judge my level of confidence in the play.  If the stock starts to trade below 22, can I conclude the stock is weak?

Let’s take a look at my view on the stock as a tape reader:  22 ARCA sold about 40k shares in premarket, another seller sold lower at 21.5 (some 50k+ shares) and that lead to a nice down move. Then at 21.23 a buyer emerged and bought about 200k shares. Around 9am the 21.5 seller got printed for 80k shares, the seller lifted and the stock traded higher easily.  Right before the market opened 21.8 bought about 400k shares and dropped. The stock traded down to 21.23 where some 40k shares traded. Not surprisingly the stock drove up on the open with very little selling, even through 21.8.  Finally some sellers appeared near 22.1 and the buyer was happy to accumulate at higher prices without letting the stock drop.

So from reading the tape I had identified 4 different events in the stock that allowed me to conclude the stock could trade higher. By the time I started to see the accumulation in the 22.10 -22.20 area I was not initiating my long but instead was adding huge size to my already existing position. My risk at this point was a few pennies for all of my extra size and my level of confidence in the play was very high.

In this relatively simple example I have just dissected the chart to its bare bones. From all the individual events I was able to understand the story behind the big buyer not being able to fill his order without stepping higher.  If the stock had started to get below 22 and I didn’t see the same buying then I would have concluded that the buyer was finally done with his order. If I saw selling below 22 then I would get short…you get my point. The possibilities are endless.

What Do You Need to Read the Tape?

You need access to the Level II (Level II Box).  See the picture below for an example of my Level II (as seen in LightSpeed, our trading software provider).  In this box you ought to be able to see a few levels of buyers (left side of the box), the sellers (middle of the box) and the time & sales –prints (right side of this box). You need access to the ARCA, NSDQ, BATS, EDGX, FLOW, among other ECNs as well as the market makers (GSCO, MSCO, UBSS, etc).  Not all are required, but obviously being able to see all of them increases your edge.

AMZN

How Reading the Tape Helps the Trader

Reading the Tape improves your trading consistency. Remember I am profitable 80+% of my month. In fact my negative days manifest from the costs of trading actively.  It is very rare for me to be gross negative. I really have to be off my game mentally for this to occur. After 4 years of trading, I have only reached my max daily stop loss once.

If you are not yet convinced, think about the example given above. Those events provided 6 excellent trading opportunities and we were able to capture many other plays that were otherwise not easily seen in charts. On average each of those trades offered a 1:8 risk/reward opportunity. Even if the stock was nasty and only 20% of those trades were profitable, we would still have been exceedingly positive. The reality is that when you are in an active In-Play stock your win rate for these trades is more like 60-70%.

Further, as active traders and tape readers we are able to limit our risk during fake breaks and reversals.  We are also able to spot the catalysts for when the stock is ready to make its move and often have a chance to load up with little risk. Think about a breakout play where we are able to spot a huge buyer above an important intraday level holding for size. These are plays where you can comfortably take your biggest size and risk a few pennies with a chance to make 50c+ with a win rate of 60%+.  Now that is a chop!

How to Get Started

There is not much literature out there about Reading the Tape, but we are changing that right here at Wall Street Cheat Sheet. SMB soon will be launching the SMB Reading the Tape training program, which I developed. While the course is structured for you to learn the basics of tape reading in two days, you will still have to put in the hard work to develop this important skill. The good news is that learning this skill takes less time than that of learning to read the charts.  Nonetheless, I hope to continue contributing little pieces on the subject on this bi-weekly column to help you get better over time.

Happy Trading!

We are proud to have hand-selected SMB Capital as a partner to offer our audience products and services to become better traders. If you are interested in learning more about SMB Capital’s world-class trader training or trader tools, please click here.