In this second edition of Trading ETFS: Gaining an Edge with Technical Analysis (Bloomberg/Wiley, 2012) Deron Wagner describes a tried and true method for trading ETFs, at least when markets are behaving reasonably well.
Wagner uses a top-down strategy, first determining the direction of the broad market trend and then looking to buy relative strength in an uptrending market and short relative weakness in a downtrending market. He supplements this top-down strategy with some chart patterns and simple technical indicators.
Following chapters on entry and exit techniques, the author turns to examples of actual trades from the years 2005 to 2007—ten long and ten short, not all successful. He explains his rationale for taking each trade, his trade management plan, and how the trade worked out.
To get a feel for his approach, let’s look at a single successful trade, long PBW at $21.44 on September 18, 2007. Okay, I cherry picked this trade because, were an investor still holding onto PBW, he would be looking at a substantial loss. The PowerShares Clean Energy Fund closed last Friday at $6.20. Ouch!
Wagner entered the trade on a breakout above the convergence of both its 50-day moving average and intermediate-term downtrend line. The rationale for the entry was that “the more levels of resistance that converge in one point, the more powerful the breakout will be if it comes.” Moreover, the trading range had tightened up (within the context of a symmetrical triangle) and, as Wagner explains, “tight ranges during periods of consolidation increase the odds of a breakout ‘sticking,’ meaning the breakout holds above the prior level of resistance instead of drifting right back down.” Price moved rapidly, and Wagner decided to sell into strength, exiting just shy of a previous high. On a four-day hold the trade netted a quick 6.6% gain.
Wagner concludes Trading ETFs with ideas for custom-tailoring your approach and some additional pointers.
Veteran traders are unlikely to learn much from this book, except perhaps that outsized returns do not require overly complex systems. On the other hand, investors who want to be more active in managing their portfolios—that is, those who want to morph from being buy and hold investors into swing traders—would do well to read Wagner’s book. The strategies he lays out are relatively simple to follow and tend to outperform as long as markets are not range bound or erratic.