Invest and Trade Profitably with Jon Johnson


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This is when a stock is being acquired in large quantities, specifically by institutions. The most basic method of determining if a stock is under accumulation is looking for days when volume expands while the stock price moves up and volume contracts on days the price moves down. We use several other methods to determine if a stock is being acquired by institutions.
Advance/Decline Line
Each day’s declining issues are subtracted from that days advancing issues. The difference is added to (subtracted from if negative) a running sum. Failure of this line to confirm a new high is a sign of weakness. Failure of this line to confirm a new low is a sign of strength.
All or None
This is an instruction you can give your broker when placing a buy or a sell order. This instruction ensures that your order will be filled in its entirety or not at all. This prevents having a partial execution of your trade.
This is a calculation that measures a stock’s monthly move as compared to a static S&P 500 index. For example, a stock with an alpha of 8 should rise 8% in a month given an unchanged S&P 500 index.
The simultaneous buying and selling of two or more different, but closely related securities, in different markets to take advantage of price disparities.
The current price for which a stock or option is offered for sale. Also known as the ‘offer.’ This is the higher price in the spread. You may or may not have to pay this amount for a stock or option depending upon whether you can obtain a sale ‘within the spread.’
At The Close
This is the price of the last trade of a stock when the market closes for the day. This price is of primary importance in our trading as where a stock closes in its range tells us much about the direction and momentum of the stock.
At The Money
A term used for options. An option is ‘at the money’ when the strike price of that option is equal to the underlying security’s current price. For example, a $100 strike call is ‘at the money’ if the underlying stock’s current price is $100.
This is a stock’s trading price when a stock begins trading for the day. It may gap up, gap down, or open where it closed the previous session. Where a stock opens can be deceptive, especially if the stock gaps up or down significantly from the closing price.

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This occurs when a stock trades sideways in various signature patterns (e.g., cup with handle, saucer base, flat base) while it is under accumulation prior to its next move up. We look for these stocks as they can lead to explosive moves out of the bases.
Bear Trap
A false signal which indicates that the rising trend of a stock or index has reversed when in fact it has not.
Bear Market
A longer period of time when prices in the market are generally declining. Bear markets typically are much shorter-lived than bull markets, but are usually more severe given the time period involved. We try to play corrections and bear markets to the downside as they can generate tremendous returns in a short time period.
Bear Spread
An option strategy with maximum profit when the price of the underlying security declines. Maximum loss occurs if the underlying security rises in price. The strategy involves the purchase and simultaneous sale of options. Puts or calls can be used. A higher strike price is purchased and a lower strike price is sold. The options have the same expiration date.
This is the measure of the volatility of a share of stock. A high beta stock will rise more in value than the stock market average on a day when shares in general are rising. Conversely, the stock with a high beta will experience a more rapid fall than the average on a day when shares are falling. The Standard & Poor’s 500 Index of stocks has a beta of 1.
The bid is the price at which a stock can be sold. It is the bottom half of the spread on a stock. As with the ask, you may be able to obtain a sale within the spread, but this often depends upon the liquidity of the stock, the number of trades, etc.
Black Scholes Option Pricing Model
A model used to estimate the price of an option.
This occurs when a stock hits support in the form of an old high, a moving average, a trend line, or a combination of these, and moves up sharply. It is like dropping a ball onto a concrete sidewalk-the sidewalk is hard support and the ball bounces sharply. Not all support is strong enough for a bounce-we look for old tops (highs on the way up), breakout points (they act as resistance until the breakout-if the breakout is on good volume, it should act as support and give you a bounce). If money flow is good and the market is not tanking, we usually see a bounce off of this solid support.
Box Spread
Option arbitrage in which a profitable position is established with no risk. One spread is established with call options. The other spread is established using put options.
This measures the strength of an advance of decline by telling the investor how many stocks participated in the move. The move can be either up or down. As a rally develops, and the number of advancing issues is declining, the rally is suspect. As a decline develops, and the number of declining issues falls, the decline becomes suspect.
This is when a stock or index moves over a previous high or the closing high of a previous trading range. This means a stock can ‘breakout’ to a new high or ‘breakout’ of a consolidation. For a good example, look at a chart of WCII for the year. It broke to a new high in April (its previous high was hit in June of 1998). Before that, it was in a consolidation after pulling back from highs in January and February. It traded between 30 and 37 during that time, and we played it as a rolling stock. It then ‘broke out’ of that trading range on April 12 on good volume. It then pulled back, and broke out to a new high after that, then again. It is now pulling back, and looks as if it will start rolling again. We like to see breakouts on above average volume, preferably much better (two or more times). This lends strength to the breakout.
Breakout Tests
We often write about stocks that test their breakout prices. Stocks breaking to new highs or out of consolidations often come back to test the breakout point before continuing with the breakout. This is most likely due to certain investors taking profits. If the breakout is a strong one, buyers come back in at some point before the stock falls below the breakout. This starts the stock back up on the next leg. This test can happen the next day, or it can happen after a week of upward movement. That is why we advise those in on the breakout move to watch for a test. If the stock has had a good move, you don’t want to lose profit on a big test-you can always get back in when the stock moves back up. For a small test soon after the break, you can ride it down, but you have to be careful the stock does not fall back within its previous trading range. Good breakout volume is a sign that this is less likely to happen. There are two plays on the breakout test: when the stock turns back up on good volume, or when the stock tops its breakout high. The former is riskier in that the breakout high can act as resistance, but we will play this move if the other indicators are good-volume, money flow, relative strength. The safer play is the break over the recent breakout high as this shows there is no resistance. If the volume is still good, the stock will most likely continue its breakout.
Bull Spread
An option strategy in which the maximum profit is attained if the underlying security rises in price. Either calls or puts can be used. The lower strike price is purchased and the higher strike price is sold. The options have the same expiration date.
Bull Trap
A false signal which indicates that the price of a stock or index has reversed to an upward trend, but ultimately proves to be false.
Butterfly Spread
An option strategy combining a bull and bear spread. Three strike prices are used. The lower two strike prices are used in the bull spread and the higher two strike prices are used in the bear spread. Either puts or calls can be used. This strategy has limited risk and limited profit.


This is an option on a share of stock that gives the owner of the option the right (not the obligation) to buy 100 shares of stock. The price at which the shares may be bought is the strike price of the option. The call can be exercised to acquire the stock at the strike price on or before the expiration date, it can be sold, or it can expire.
Candlestick Charts
A form of charting that is a very powerful technical analysis tool. Used by itself, candlestick charting is one of the best graphical methods for determining the markets’ direction. When used with other technical indicators, it is even more powerful. There are several symbols with special names that can signal turns in direction, consolidation, declines, etc. These include doji, hammer, tombstone, hanging man, hirami, tweezer, dark cloud, abandoned baby.
They are called candlesticks because they have the appearance of candlesticks. The ends of the candlestick show the open and close for the day. A solid candlestick body indicates that the stock closed lower than it opened, the open price being the top of the candlestick and the close being the bottom of the candlestick. An open box means that the stock closed higher than its open, and the open is the bottom of the candlestick. If the stock traded above or below the open or close price, this is indicated by what are called ‘shadows’. Shadows appear to be wicks. The shadows represent the high and low prices for the day.
Used in charting, it allows the user to draw parallel lines, the top line of the channel connecting the high points, and the bottom line of the channel connecting the low points. It can be ascending or descending.
This is another word for basing. It occurs when a stock pulls back after a move up or down and trades in a narrower range for a period of time on lower volume.
Consumer Price Index (CPI)
This is an economic indicator published monthly by the U.S. Department of Labor and is used by the Federal Reserve as a measure of potential inflation. The indicator measures the prices of consumer goods and services.
Consumer Stock
This is a category of stock of companies that produce consumer-oriented products like food, beverages, tobacco, and pharmaceuticals.
Convertible Security
One security which is convertible into another. It is generally used with convertible preferred stock and convertible bonds. There is a specific rate at which the security can be converted.
This occurs when an average falls 10% or more off of its high.
Cost Basis
This is the measure of the price at which you own a stock or option (such as a LEAP). When you purchase a stock, your cost basis is the price you paid plus any commissions. The cost basis can be reduced by ‘averaging down,’ i.e., buying more shares when the price is lower. We often lower the cost basis of the stocks we own by writing (selling) calls on the stock in such a way that we can keep the stock and the amount we are paid for the call.
The act of buying back in a closing transaction an option which was originally written (i.e., sold).
Writing an option when the writer owns the underlying security, and writes the option on a one to one ratio with the stock. A short call is covered if the underlying security is owned. A short put is covered if the underlying security is also short in the account. A short call is covered if a long call of the same underlying security is owned in the same account with the same or lower strike. A short put is covered if a long put of the same underlying security is owned in the same account with a strike price equal to or greater than the strike of the short put.
At least two indicators or indexes corroborate a market turn or trend. When a rally starts, we look for confirmation on the fourth through seventh day from the rally. That is, if a rally appears to start on a Monday, we look for confirmation to occur on Thursday through Tuesday of the following week. We like to see confirmations with an increase in at least one average of 1% or greater on increasing volume. Confirmations that occur later than the seventh day are weaker. With respect to Dow Theory, it would be the Dow Industrials and the Dow Transports.
Cup And Handle
A bullish technical pattern. To be strongest, the pattern should be no shorter than 7 weeks, but can be much longer. The cup is in the shape of a “U,” and the handle has a slight downward drift which is a shakeout period. The right hand side of the pattern has low trading volume, and the buy point is when the price moves out of the handle position on strong volume.


Day High
The highest price that a security has traded at during the day.
Day Low
The lowest price that a security has traded at during the day.
Day Order
This is an order placed with respect to a stock or option that is good only for the day.
This is a measure, expressed as a percentage, of how much an option’s price will move in relation to the underlying security. For example, if an option has a delta of 75 and the underlying stock increases by one dollar, you would expect the option to increase by seventy-five cents. Put Options have a negative delta because when the underlying security rises, the option value falls. We prefer deltas of 75 or better on our option trades, but with many of the volatile stocks, unless you buy very deep in the money, the deltas are lower due to the high premiums brought about by the high implied volatility. Most full service brokers can provide you delta information. The software program “Trade Station” also provides delta information.
Discount Broker
A broker that provides less investment help but will take orders for your account at a discount price in comparison to full service brokers.
This is when a stock is being sold in large quantities, specifically by institutions. The most basic method of determining if a stock is under distribution is looking for days when volume expands while the stock price moves down. Distribution is also indicated when a stock is showing a choppy trading range where the stock has wide intra-day price swings or finishes well off of its high.
This occurs when two or more technical indicators do not move in a like manner. For example, MACD may be showing progressively lower tops when a stock reaches highs, a sign that the stock’s movement is losing momentum. Divergences are not always accurate, but they do make good warning signals of possible trouble or good things to come. A positive divergence means a price increase may be coming. A negative divergence means a price decline may be coming.
Double Bottom/ Double Top
These are reversal patterns. It is a decline or advance twice to the same level (plus or minus 3%). It indicates support or resistance at that level. These are signature patterns that are playable with little or no confirmation.
When we discuss our review of candlestick patterns as part of our analysis, we often refer to a ‘doji.’ Doji’s are signals of possible reversals in a trend. A doji in any form that appears to be coming at the end of a run is a very powerful signal that a change is coming, especially if you see some support or resistance the stock is approaching. In most cases a doji needs to be confirmed by the following trading day. It is very useful in putting us on the alert that a change may be coming, either up or down. A perfect doji occurs when the opening and closing price are the same. They can also occur when there is a slight difference in the opening and closing price, but these need confirmation before taking a position based on the doji. A ‘star’ occurs when the open/close price is in the center of the high and low of the day. A ‘hanging man’ is where the open and close are at the top of the trading range. A ‘hammer’ is the flip of a ‘hanging man.’ It is called a ‘tombstone’ when it appears at the top of a run. You can play a doji without confirmation when it is a very tight doji (open and close are the same), especially if there is a gap up to a doji. For more information, the definitive book on the subject is Candlestick Charting Explained by Gregory Morris.


This is the date on which a buyer of shares will not benefit from the dividend. In stock splits, the ex-dividend date is the actual date the split is reflected in the share price.
Exponential Moving Average (EMA)
Exponential moving averages place more weight upon the later moves in the time period than the earlier moves. We use exponential on our short-term moving averages (10 and 18) as we are using them as indicators for short term plays and want to see the latest trend in movement the best we can. It is also known as “exponentially weighted moving average”.


Fair Value
Describes the worth of an options or futures contract. On a daily basis, fair value is published pertaining to the S&P futures. When fair value falls below a predetermined value for that day, traders sell the cash index and buy futures. When fair value rises above a predetermined value for that day, traders buy the cash index and sell futures.
This is a pattern where the stock shoots straight up, and then fades back down in a narrowing price range. The move up represents the flag pole while the pullback represents the flat. Not as bullish as a flying plateau, but some strong stocks consistently use this pattern as opposed to a flying plateau. This is where looking at past patterns helps. Stocks tend to etch out the same patterns again and again.
The number of shares of a security that are outstanding and available for trading by the public.
Flying Plateau
A flying plateau is a pattern that forms after a stock has made a strong move up. Strong stocks will consolidate gains sometimes in a flat, sideways pattern in a tight range instead of selling back. This is a very bullish pattern, especially if it is formed on low volume. Picture a 45 degree rise and then a move sideways for several sessions. Strong stocks tend to rest in these patterns, and then start another leg up.
Follow Through
See “Confirmation.”


Good Till Canceled
An order placed with a broker meaning that it is good until either filled or canceled. In practice, this order has to be re-confirmed twice annually.


Head & Shoulders Pattern
This is a reversal signature pattern. It can be either negative (typical head and shoulders), or positive (inverted head and shoulders). A head and shoulders pattern is one of the more common and reliable patterns. It is comprised of a rally which ends a fairly extensive advance. It is followed by a reaction on less volume. This is the left shoulder. The head is comprised of a rally up on high volume exceeding the price of the previous rally. And the head is comprised of a reaction down to the previous bottom on light volume. The right shoulder is comprised of a rally up which fails to exceed the height of the head. It is then followed by a reaction down. If the right shoulder does not reach the height of the left shoulder, this indicates that the fall could be even more severe. This last reaction down should break a horizontal line drawn along the bottoms of the previous lows from the left shoulder and head. This is the point in which the major decline begins. The major difference between a head and shoulder top and bottom is that the bottom should have a large burst of activity on the breakout.


Implied Volatility
A measurement of the volatility of a stock. Current price rather than historical price is used. Generally, if the price of an option rises without a corresponding rise in the underlying equity, implied volatility is considered to have risen.
Index Option
An option whose underlying security is an index. An example would be the S&P 100 (OEX). A trader can buy index options and bet on the direction of the OEX.
Inside Day
A day in which the total range of price is within the range of the previous days price range.
With respect to a corporation or other entity, these are the people who have access to inside information about a company or entity that is material to the stock price. For corporations, they are typically the directors and senior officers of a corporation. A person or entity that owns greater than ten percent (10%) someone of the voting shares of a corporation is also considered an insider.
Insider Trading
This is trading in the shares of an entity by its directors and officers. These individuals are required to disclose their trades before they happen, and several services provide this information to investors. It is useful, though not an absolute indicator as to a stock’s potential movement, to know if insiders are selling or buying shares of the company they run.
This designation is used with respect to options. A call option that is ‘in-the-money’ is one where the underlying stock’s current price is greater than the strike price of the call option. A put option that is ‘in-the-money’ is one where the underlying stock’s price is less than the put option’s strike price. The in-the-money portion of an option is also called the option’s intrinsic value.
Intrinsic Value
The amount, if any, by which an option is in the money. See ‘in-the-money.’
Island Reversal
A trading range where there is an exhaustion gap down, followed by prices trading in a narrow range, then is a breakaway gap up. This leaves an ‘island’ of prices in the middle. If the trading range is only one day, it is considered a one day reversal.


LEAPS (Long-Term Equity Appreciation Participation Securities)
LEAPS are stock options that have expiration dates that extend beyond one year.
Limit Order
This is a designation an investor places on an order to buy or sell. When an order is limited to a certain price, the order will be filled, if it is filled, at the limit price or at a better price if the stock or option trades at a better price. We prefer limit orders over market orders as you have more control over your entry price. If the market is moving quickly, you can use a market order, but there is the risk that you will be filled at a price much higher or lower than anticipated. If the market is moving quickly, we prefer to place a limit order out ahead of the way the price is trending-we will be filled at that price or better, but not at a worse price than we have specified.
In its simplest form, ‘long’ means the purchase of a stock or option.
Long Tail
A ‘long tail’ means the low for the day was well below the close. In other words, the market opened, sellers took over and pushed the index down, but then buyers came back in and ran the index back up to where it opened. The buyers had the last say on the day and showed a lot of strength moving up. That tends to show a reversal in the buying patterns and foretells a further rise from here for the short term.


See Moving Average Convergence/Divergence
Margin allows investors to buy securities using borrowed money from a broker. The investor is charged interest for the loan. Margin requirements differ depending upon the type of transaction being made or the type of stock being purchased, e.g., selling puts, buying stock, credit spreads. Options are not generally marginable.
Margin Account
In order to take advantage of margin, and investor must open a margin account with his or her broker.
Margin Call
This is a demand for a client to deposit money or securities into a margin account. This can occur when a purchase is made in excess of the value of the margin account or when the value of an account decreases because the value of the securities held decreases regardless of whether a new purchase is made or not.
Market Cap
This is a company’s market capitalization. To calculate the market cap, simply multiply the issued and outstanding shares by the current selling price.
Market If Touched
An order with the floor broker which becomes a market order if a trigger price is reached.
Market Maker
These are licensed traders who buy and sell securities (stock and options). They are part of the system that facilitates trading in a particular security or securities. By agreeing to buy or sell certain stocks, the market maker provides a ready market and assumes the risk of securities price swings as does any investor. Market makers make their profit on the spread, that is, the difference between the bid and the ask prices. Market makers can be confounding in the way they move spreads around in response to limit orders, but they fulfill a very important roll and assume a great deal of risk in doing so.
Market Not Held Order
This is a market order where the investor gives the floor trader the discretion to execute the order when he feels it is best. If the floor trader feels that the market will decline, he may hold the order to try to get a better fill. This order may not get filled.
Market On Close Order
This is an order to be executed at the market price when the market closes. Institutions frequently use this method to buy or sell large numbers of shares, e.g., when a stock is to be added or deleted from an index and the institution must buy or sell the stock for an index fund. These orders are also used on day trades in order to close a position at the end of the session regardless of the price. It can also be used when you want to exit a position that day, but do not want to cut off a stock that is running during the day-place a market on close order and your trade will be executed at the closing price. As with all market orders, there is risk in that the stock that was rising and hit a target you would be happy at selling at, but then falls right before the close.
Market Order
This is an order to buy or sell a security at the current trading price. Market orders must be filled within two minutes. There is risk entailed in placing market orders as we have often seen great discrepancies in prices at which orders are executed. Often, market orders are filled on the buy side at a higher price. Thus, we rarely use market orders unless we are exiting a position with more than enough profit already built in.
The strength behind an upward or downward movement in price. Graphically, momentum is represented as a horizontal line which fluctuates above and below an equilibrium line.
Moving Average
This is a technical indicator that is the average of a stock’s closing price for a specified number of previous closing prices. It is used as an indicator of the direction that the stock appears to be moving and is based upon the theory that once a stock starts moving in a particular direction it tends to gain strength and seeks to continue to move in that direction. Moving averages are used to help clearly see a stock’s trend. They are also very useful in determining the strength or weakness of a stock’s movement based upon whether key moving averages (18, 20, 50, and 200) act as support or resistance.
Moving Average Convergence/Divergence (MACD)
This is a technical indicator that measures moving average convergence/divergence and provides a measurement of the intensity of the trading of a specific stock. It can provide early clues to trend continuation or reversal. The MACD indicator uses three exponential moving averages: a short or fast average, a long or slow average, and an average of the difference between the short and long averages.

When the MACD line is rising, the implications are positive for prices: If the indicator is less than zero, the price is potentially bullish. If the indicator is greater than zero, the price is actually bullish.

When the MACD line is falling, the implications are negative for prices: If the indicator is less than zero, the price is actually bearish. If the indicator is greater than zero, the price is potentially bearish.

The signal line can be used to determine the entry or exit point. The signal line is a moving average of the MACD line. When signal line crosses MACD line and both lines are up, it is a buy signal. When signal line crosses MACD line and both lines are down, it is a sell signal.

Moving Negative Divergence
When two or more indicators, indexes, or averages, fail to show confirming trends.


Naked Puts
A put is ‘naked’ if it is sold regardless of whether an investor owns the underlying security or not. Selling puts is a very powerful method of investing as the investor receives immediate cash for selling the security-there is no ‘buy.’ An investor must maintain sufficient margin cash on hand as required by his or her broker, but there is no out of pocket cash. We often sell puts when we want to buy a stock at a certain price: we sell the put with a strike price at or near the price we are willing to pay for the stock. If we have done our homework correctly and the stock finds support at that level, we can pick up the shares at a discount as we get to keep the premium for the puts sold, thus reducing our cost basis in the stock. We also sell puts in those situations we would buy calls or sell stock. We sell the put, and as the stock price rises, the put value declines, and we can close the position by ‘buying’ the put back at a lower price than what we sold it at, our profit being the difference between the price we sold the put at and the price paid to buy the put back to close the position.


Odd Lot
A block of stock consisting of less than 100 shares. When odd lots trade, a premium is usually tacked on by the specialist or market maker. These receive the least favorable price and trade last.
This is the price at which a security opens for the trading day. A stock can open at the previous closing price, gap up or gap down.
Open Interest
This is a key factor in trading options. This is the total number of option contracts outstanding for that specific option (expiration and strike price). Although we do trade thinly traded options at times when we are very confident in the move we feel is coming, we normally like to trade options that have 500 or more open interests. The main problem with thinly traded options is the same you have with thinly traded stocks: they are subject to wide price swings and wider spreads (ironically making it difficult to getting a trade within the spread; on a high volume option, a wide spread makes it easier to obtain a trade inside the spread).
Open Order
This is an unfilled order to buy or sell a security. An open order remains open until is it filled or cancelled. Day orders that are unfilled at day’s end are cancelled automatically. Good ’til cancelled orders remain open and must be cancelled manually.
An option is the right to buy or sell a specified amount of a security (stocks, bonds, futures contracts, etc.) at a specified price on or before a specific date. Options expire at a specified time. Stock options expire on the third Saturday of each month. Options can be bought and sold prior to expiration and can be exercised prior to expiration. An option’s price is made up of intrinsic value (the amount of money the option is in the money) and time value (any portion of the option price that is in excess of the intrinsic value).

Market makers often inflate or decrease option prices based on the volume of contracts or their perception of strike price direction. The movement in the option price sometimes has no relation to stock price, especially out of the money options. In the money option prices tend to track the stock much closer. When looking at what options to buy, we often obtain quotes on options further out in time in order to compare value. Often you will find that the current month’s option price is inflated, and you can buy another month or two of time and spend only slightly more. As a very general rule of thumb, time value on most options averages about 3/4 per month, but highly volatile, highly sought after options will be higher.

This is a phrase used with respect to options. A call option is out of the money when the strike price of the call is above the underlying stock’s current value. A put option is out of the money when the strike price of the put is below the current market value of the underlying stock.
Market prices that have risen too steeply and too quickly.
Market prices that have declined too steeply and too quickly.


Pay Date
With respect to stocks split or dividends, a pay date is the date that a company pays a dividend or stock split out, which is usually the day before the ex-dividend date.
This is an abbreviation of a stock’s price-to-earnings ratio. The price-to-earnings ratio is a stock’s share price divided by earnings per share for the company’s most recent four quarters. A projected P/E divides the share price by estimated earnings per share for the coming four quarters.
A pennant is a pattern where the stock has narrowing highs and lows as it moves sideways, converging more or less on the centerline between the highs and lows. Think of it as a cone turned on its side. We prefer to see volume fall as the pattern tightens. Stocks can break either up or down from pennants (wedges are much more bullish), and we have to see a stock make the move over the recent highs before taking a position. They can fool you. You think it is breaking down right at the end, but then shoots up-pennants often shake out the weak holders right at the end before they shoot up. Investors know they can break down, and bail if it gets them in trouble. Then it shoots up on them. That is why we wait for the break up-it helps us keep our emotions in check and from making an emotional choice.
Percent to Double
We use this with respect to options trades in determining if we like an option enough to buy it or if we are in an option, if we want to stay in it. This calculation tells you how far the underlying stock must move before the option will double in value. We prefer a 7%-10% value, less if we can get it. This does not mean we will not buy an option, but it does give us insight as to how long we will hold it. Percent to double is a Smith Barney proprietary calculation.
Phillips Curve
The Phillips Curve is the relationship between unemployment and inflation proposed by British economist A.W. Phillips late in the 1950s and developed into its present form in the late 1960s by Ned Phelps and Milton Friedman. This theory was widely accepted as it appeared to track historical economic trends. Over the last six years, however, the inflation/unemployment relationship that is the heart of the Phillips Curve appears to have broken down. Since 1993 the unemployment rate has fallen from 6.9% to the current 4.1%. That would put unemployment below its ‘natural’ rate. Inflation, however, has fallen from 2.7% in 1993 to 1.6% through the end of 1998. As the latest economic numbers this year show, inflation has still not reared its head. Indeed, even members of the Federal Reserve early in the year noted that the favorable economic conditions “could not be explained in terms of normal historical relationships.” The problem we noted was that the Fed seemed to be backtracking on its fledgling belief that the Phillips Curve was just a theory after all, and that the last ten years of historical data refuting it was somehow an aberration. It may be an aberration, but it has been one heck of an aberration with no end in sight. Maybe we are optimists, but we don’t sit around wringing our hands worrying about when the numbers will end, but what the numbers hold for the future. When you factor in the increased productivity we are seeing that has been brought about by the surge in technology in the U.S. and the very real prospect of productivity continuing to grow at this rate for years as the U.S continues to develop and integrate technology into every aspect of society, maybe we are not optimists. We don’t think so. As the Fed’s Beige Book pointed out, the economy is strong, but inflation is very low. It has been for years now. Moreover, the prospects for the future look good. That is why we are worried about the Fed’s apparent new focus back on Phillips Curve theory.
Preferred Shares
These are a type of stock issued by a company. Preferred shares give such shareholders a fixed dividend from the company’s earnings. Preferred shareholders also get paid before common shareholders.
This refers to the value of an option, or its price, as listed on an exchange. This represents the cost if you are a buyer or cash in if you are a seller.
Price Gap
A price gap describes the situation where a stock opens at a price either higher or lower than the closing price the day before. This usually happens when some news affecting the value of the stock is announced after the market closes, e.g., positive or negative earnings, a buy-out, etc. Stocks that gap at the open often move back toward the previous close before moving again, but not always. Strong news such as projected higher earnings from the company tend to drive the stock without the pull back.
Program Trading
Trades based on signals from computer programs. These are usually entered directly from the traders computer to the market’s computer system. Program trading accounts for an increasingly larger and larger portion of all trades throughout the day. Additionally, these large trades may be hedged by an offsetting position in index futures.
A put is an option contract that gives the owner the right to sell a specified number of shares of stock at a specified price on or before a specific expiration date.
Put/Call Ratio
The ratio of put trading volume divided by the call trading volume. For example, a put/call ratio of 0.74 means that for every 100 calls bought, 74 puts were bought. It is a contrary indicator. A reading of 1.0 or more is very bullish as most people think the market is going down. When the majority thinks the market is going to move a certain direction, it usually does the opposite.


Record Date
This is the date that a stock must be in your account for you to receive a dividend. The record date has nothing to do with how we trade stock splits.
Relative Strength
This is a measure of how strong a stock is in relation to others. We look at a stock’s strength relative to the S&P 500-a very broad measure of stocks. Another good source of relative strength information is Investor’s Business Daily. When looking at stocks breaking to new highs, we like to see relative strength breakouts as well as this indicate the move is especially strong.
This is a level where a stock has a difficult time moving through. Resistance levels can be caused by former tops, breakout prices, moving averages, or just price levels where a stock has spent a lot of time in the past. When choosing buy levels, we watch for a stock to break through resistance on good volume. That indicates the move through the resistance is strong, and that the stock will most likely stay above that resistance. In such situations, former resistance then becomes support. When we take a position coming off of support, we always look for resistance levels as points where we may encounter resistance so we do not lose gains we have banked if resistance proves too much.
Reverse Stock Split
This is where a company reduces the number of outstanding shares by decreasing the number of available shares and combining their value into the fewer shares. This has the effect of increasing the stock’s par value. This is often used by companies whose stock is about to be delisted from an exchange because of its low price.
Relative Strength Index is an overbought/oversold indicator that attempts to predict trend reversal points. RSI is based on the observation that a stock which is advancing will tend to close nearer to the high of the day than the low. The reverse is true for declining stocks. This indicator can also be used when comparing two different equities on a relative basis. RSI’s absolute levels are 0 and 100. Buy signals are triggered at 30, and sell signals are triggered at 70. One of the important aspects of RSI is to look for divergence between price action and RSI. Upward sloping price and downward sloping RSI should be taken as a warning.


Settlement Date
This is the date sales or buys of securities must be settled. For stock, this is the third trading day after the purchase or sale. For options, this is the next trading day.
This is a condition resulting from selling an option and not owning the related securities.
Short interest
This is the total number of shares of a security that investors have sold short, i.e., borrowed, then sold in the hope that the security will fall in value. If the stock price does fall, the short seller then buys back the shares and pockets the difference as profit.
Short Interest Ratio
A ratio which tells how many days it would take to buy back all the share which have been sold short. A short interest ratio of 2 would indicate that it would take 2 trading days to buy back all the shares which have been sold short. This is based on the current volume.
Short Sale Squeeze
A short sale squeeze occurs when there are many short sale positions on a stock the stock begins to increase. As the stock price rises, the short sellers scramble to cover their short positions, i.e., buying the stock they have sold back. This creates demand for the stock above that which caused the stock price to start rising in the first place, and can lead to rapid price appreciation.
Simple Moving Average (SMA)
This is the average stock price over a certain period of time.
An exchange member (NYSE) who keeps the public book, maintains an orderly and efficient market, buys and sells for his own account.
The spread is the gap between bid and ask prices of a stock, option, or other security. This term is also used to generally describe a number of strategies that make use of different spreads between calls, puts and the underlying stock, e.g., Bull Spread with Calls, Bull Spread with Puts, Bear Spread with Puts, Bear Spread with Calls, Butterfly Spread, Calendar Spread, Ratio Call Spread.
This is a technical indicator that measures the price velocity of a particular stock. It is most useful for stocks that are moving sideways in a trading range. It essentially shows us where price is trading within a given range, and can be used for short term buy and sells signals. A stochastics of 100% (or the top line) would mean price is currently trading at the extreme high of the range and a stochastic of 0 would mean price is trading a the extreme low. In other words this indicator can give you some indication as to the momentum and near future direction of the stock.

When the two lines cross and both slopes are going up, if the cross occurs below the 80 percent of the range for the prices, it’s a bullish signal. If the cross occurs above the 80 percent of the range for the prices, it’s signal of overbought and increases the chance of downtrend.

When the two lines cross and both slopes goes down, if the cross occurs above the 20 percent of the range for the prices, it’s a bearish signal. If the cross occurs below the 20 percent of the price range, it’s signal of oversold and increases the chance of an uptrend.

Stock Split
A division of the shares of a company’s commons stock that results in an increase in the amount of outstanding shares by the multiple of the split. The value of each outstanding share is reduced by the multiple of the split. For example, when a stock trading at $100 on the pay date with 1 million shares outstanding splits 2 for 1, the result is 2 million shares outstanding with a $50 market value.
Stop Order
An order placed which is not at the current market price. It becomes a market order once the security touches the specified price. Buy stop orders are placed above the present market price. Sell stop orders are placed below the present market price (also known as a stop loss). If a stock gaps past the stop order, it becomes a market order and is filled at the next trading price.
Stop Limit Order
This is similar to a stop order. It is an order which becomes a limit order once the specified price is touched. For example, if a stock gaps passed your stop limit order, you will not be executed on the next trade as a market order. Your limit price will remain and will be triggered if the stock reaches back up to your stop limit order price.
Stop And Reverse
A stop that when hit is a signal to close the current position and open an opposite position. A trader holding a long position would sell that position and then go short on the same security.
An options strategy where the purchase or sale of an equal number of puts and calls is made. The same strike price and expiration date is the same for all.
An options strategy which is a combination involving a put and a call with different strike prices with the same expiration.
Strike Price
A term used with options. This is the ‘price’ of the underlying stock that an option is tied to. If an option is to be exercised, the strike price is the price at which the underlying security will be bought or sold at. For example, if you own a call option on a stock and the strike price is $100, you have the right to buy the stock before the options expiration at $100 even if the stock is trading at $110.
Support Levels
Support levels are levels where a declining stock will find bottom and bounce up from. Supports are formed when a stock breaks above resistance and holds above that level: the old resistance then becomes support. Support levels are also formed when a stock spends a lot of time at one level and then breaks upward. The level that the stock spent most of the time at will most likely act as support. Key moving averages, such as the 18, 50, and 200, also act as support. We like to buy stocks as they bounce upward off of support levels and are backed by good money flow and buying.


Technical Analysis
The study and use of price and volume charts and other technical indicators to make trading decisions. Technical analysis attempts to use past stock price and volume information to predict future price movements. Fundamentally, technical analysis shows in graphic form investor sentiment, both greed and fear. Understanding that concept is key to understanding technical analysis and being able to use it effectively to trade securities. With proper technical analysis, you can be ready for certain moves, and when your analysis is confirmed by the actual start of the move, trading positions can be taken. Technical analysis can be used for short-term trading or long-term position buying. We use if for both, and the two are closely related.
A measurement of how much an option’s price decays for every one day that passes.
This is a measure of a stock’s performance during a trading session. It refers to a change in the price of a security, either up or down. An up tick is designated by a “+”, while a down tick is designated by a “-“. Useful as a confirmation of other technical indicators of a move that was forecast.
Time Segmented Volume (TSV)
TSV is a technical indicator that examines a stock’s volume and price and compares them to determine if a stock is under accumulation (buying) or distribution (selling). If TSV is moving up, this can indicate that price may follow.
Time Value
A phrase used in relation to options. Time value is any portion of the option premium over an above the intrinsic value.
To Buy and To Sell
These are phrases used in placing orders to either buy or sell securities. If you are placing an order to purchase ten contracts of Dell October $40 calls at a limit of 4 5/8 for the day, you would tell your broker you were placing a “day order for 10 contracts of Dell October $40 strike calls to buy at a limit of 4 5/8.” This gives your broker all the information he or she needs to place the order.
Tombstone Doji
A ‘tombstone doji’ is a type of candlestick pattern. A doji is where the open and closing price are close. The closer they are, the better the indication. When a doji appears after a run up or run down, it indicates a change in direction. A tombstone doji is a doji that appears at the top of a run and the open and close price are at the bottom of the price range for the session. It is called a tombstone because of the ‘wick’ of the candlestick pattern sticks up over the open/close price, and because it portents selling ahead.
Trading Range
A trading range occurs when a stock or average moves up and down between a consistent high and low for an extended period of time (days, to weeks, to months). The bottom of the range becomes fairly solid support as the top becomes fairly solid resistance the more times either holds. We play stocks within the trading ranges if they are loose enough to give us some room to maneuver, e.g., a 5 point range or more. A tight trading range is one that is significantly narrower than a particular stock’s usual trading fluctuations. A tight trading range on low volume is usually a very good indicator that a move up is coming.
Trend Lines
These are lines, both up and down, that are formed by a stock’s price movement. In the simplest sense, trend lines are drawn between a stocks successive lows to find support, and successive highs to find resistance. The more times a stock’s price touches a trendline and holds, the better an indicator it is. Trend lines can be long term and short term, and, as noted, can be used to determine support and resistance. We often use trendlines to help determine when we should enter of exit trades. When we are in positions and following the trend, we do not like to see the stock break its trend for greater than one day. If a stock does that, it has changed its character, and the trendline is most likely no longer in force.
Trending Market
Price moves in a single direction and it usually closes on an extreme for the day.
See Time Segmented Volume


Upside Breakout
This occurs when a stock has consolidated, formed a base, or has been in a trading range, and then breaks above that level, surpassing resistance at the top of the range or base. Breakouts are suspect if they do not occur on high volume (compared to average daily volume). When playing a stock to buy on the upside breakout, we like to use a “buy stop” which calls for purchase when a stock rises above a certain price.


The VIX is an index that tracks the current OEX contract. An OEX contract is an option contract on the S&P 100-the biggest caps of the big cap index (S&P 500). OEX options trade just like options on stocks. You can buy a specific strike price, by the contract. Unlike options on stocks, you cannot exercise it to own a piece of each stock in the S&P 100-it is all cash. If you go naked and lose, you settle up in cash. The option expires on the third Saturday of each month just like options on stocks.
When the market or security tends to vary often and wildly in prices, it is said to be volatile.
The measurement of how much an underlying security fluctuates over a period of time.
Volume is the daily number of shares of a security that are traded. Volume is one of the most important indicators we watch. Its relation with price movements tells us 90% of the story behind a stock’s movement and future movements. At its simplest, increased volume on increasing prices shows accumulation. Increased volume on lower prices shows distribution. There are many variations on this theme, and we spend a great deal of time poring over price/volume relations to determine which way a stock will move.


A long term security which is similar to an option. A stock warrant usually allows a trader to purchase one share of stock at a fixed price for a certain period of time.
An ascending wedge is a very bullish pattern. Take a look at a chart of JDSU in June 1999. Note how it hit a top at the same level twice, but the lows were higher lows each time. This is a very bullish pattern, and stocks usually break up from the top of the wedge about two-thirds of the way in, sometimes longer. If it takes too long, it could fail.
To write an option is to sell an option. The person who sells the option is considered to be the writer.

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