Amazon Inc. (AMZN) has been on the last two weekly stock watch lists. It also had an asterisk (*) beside it to indicate that the handle was fairly well-formed. It just required a consolidation and a breakout. Today that breakout occurred.
This is a classic continuation pattern where we are looking for the exact things we look for in the handle of a cup and handle pattern.
- A contraction in volatility. Amazon has this, with three price swings since mid-July which are smaller than the last.
- A consolidation that provides us a trade trigger and stop loss level. Amazon had this between August 12/13 and August 17. The price broke above the consolidation today, triggering a long trade at 3218 to 3225, just above the consolidation high (3217.52).
- Declining volume during the consolidation. The chart shows relatively low volume leading up to the breakout.
- Increasing volume on the breakout day, today (the breakout day is not complete yet, and volume is already higher than the last few days).
- The trade provides a greater than 3:1 reward to risk (will discuss that a bit more below).
Swing Trading Amazon
Let’s assume you saw this trade. You know the entry is just above the consolidation. You place a Buy Stop Limit order. The Stop portion is 3218 and the Limit portion is 3225. This means your order will only fill if you can get a price between 3218 and 3225. This is fairly conservative, as the range is well under 0.5% of the stock price. Even getting filled in a range between 3218 and 3234 is pretty good.
Let’s assume you attain an average buy price of 3225. The stop loss goes below the August 14 low of 3120. I’d put the stop loss just below 3100 ($20 below the actual low isn’t much in a 3000 dollar stock).
We now know our risk: 3225 – 3100 = 125/per share. Using that number and our account balance, we can determine our position size.
At first glance, risking $125 per share may seem like a lot, but it is only 3.9% of the share price. That means that if we can reasonably expect the price to move up at least 12% from our entry point then we have at least a 3:1 reward:risk ratio.
If we measure the last few price breakouts from similar patterns, the price has run up between 20% and 30%. Using that as a guide, a target placed just below 3800 (a nice round number) is about 17% away from the entry. That’s a realistic number based on how the price is moving. Therefore, reward:risk potential for the trade is 4.3:1.
To find more trades like this, check out the article and video—How to Scan for Cup-and-Handle and Continuation Patterns—that describe how to scan for trade setups like this.
Need another strategy to check out? As the vertical ascent in many stocks eventually slows, we will see more trend channels develop. Check out the Trend Channel Trading Strategy so you are prepared for when those start popping up on the scanner.
By Cory Mitchell, CMT
Disclaimer: Nothing in this article is personal investment advice, or advice to buy or sell anything. Trading is risky and can result in substantial losses, even more than deposited if using leverage.