In Part 1 of this series, I scanned for stocks in strong uptrends as measured by Relative Strength (RS). In Part 2, I scanned for stocks in strong downtrends (for potential shorts) as measured by high ADX readings. In Part 3 of this series, we'll look at one of Kevin Haggerty's favorite scans.

As a momentum trader, I saw StockScanner as a tool only useful for finding stocks in strong trends. To my surprise, when I asked Kevin Haggerty to show me one of his favorite scans, he showed me a scan that looks for stocks that are in consolidations and/or in early phases of trend.

Before we get into his reasoning behind his scan, let’s look at the scan itself. Kevin scans for a price of between 5 and 200, a 50-day average volume of at least 400,000 shares (which equates to 4000 in StockScanner); an ADX of between 1 and 15; and trend, as measured by DMI, to be up. In addition, he requires the price to be greater than the 200-day moving average. Figure 1 below shows what this scan would look like.

and

Breaking It Down

Price

A price of between 5 and 200 gives Kevin a wide range of stocks to choose from. In general, the lower-priced stocks may lend themselves more to position trades (as they fluctuate less on a point basis) and those higher-priced stocks, (which tend to fluctuate more on a point basis), may lend themselves more to shorter-term or daytrades. He puts a top end of 200 in order to avoid extremely high price stocks. Kevin states that often these can have very high spreads (i.e., bid/ask), making them difficult to trade.

Volume

Kevin requires an average volume of at least 400,000 shares.* As we discussed in previous articles, active traders, in general, should focus on more liquid issues.

Greater Than 200-Day Moving Average

This is used to ensure that the stocks are in longer-term uptrends.

ADX and "U" DMI

The ADX of between 1 and 15 with a DMI of U (up, that is, +DMI > -DMI) provides stocks that are the early phases of uptrends. Remember, the higher the ADX, the higher the trend. For those unfamiliar with ADX, you might want to read Capturing Trends With ADX before continuing.

Kevin’s Reasoning

Kevin uses this scan to help find stocks that have the potential to break out or exhibit some sort of other bigger-picture technical pattern. Also, it helps him to find stocks that may be in the early phases of beginning a trend. In addition, many of these stocks produced by this scan are at an “equalibrium” point from which they can make a large swing.

Kevin states: “This is what I often use to find trades that can be intraday, position, or both. It usually gives me consolidations and pullbacks to key averages when a stock volatility narrows."

The Results

The scan was run on 03/17/2000. It produced the following stocks:

Picking Stocks From The Scan

From the results, Kevin picked the following stocks based on technical patterns. Let’s look at these patterns and how he would use them for potential trades.

On the date of the scan, 03/17/200 (a), Qualcomm was forming a big-picture symmetrical triangle. This narrowing of volatility suggests that a breakout is imminent. Because the volatility is low, options tend to be fairly priced.

Considering the above, Kevin saw this as a potential opportunity for an option strategy that seeks to capitalize on an increase in volatility combined with a breakout. Such strategies include a straddle (buying at-the-money calls and puts, shown in the middle of the triangle in the chart above) and, to a lesser extent, a strangle (buying out-of-the-money calls and puts, shown outside of the triangle in the chart above). Once positioned, Kevin states that he will often "lift a leg" of the position (in other words, as in this case, in an upside breakout, he would sell the puts and keep his long call position). Looking at Yahoo! on 03/17/2000 (a), “Here we have a trading range with stock above both the 20- and 50-day exponential moving average (EMA). I look for an entry above the 50-EMA. And because YHOO is at the equilibrium point of the trading range, it is a good candidate for an option strategy."

On 3/17/2000 (a), Apple Computer, a stock in a long-term uptrend based on its 200-day EMA, is trading above its 20- and 50-day exponential moving averages (EMAs). Notice that the stock has formed a flag down to its 50-day EMA. This "pullback" type pattern provides a low risk entry.

On 03/17/200 (a), American Online has formed a big-picture head-and-shoulders bottom. Also notice that the 200-day EMA was flat and the 20- and 50-day EMAs have turned up. All this suggests that the stock has bottomed.

Q&A

DL: This scan isn't your typical "momentum scan." Do you also do momentum scans?

KH: This scan is used to find stocks that are consolidating in uptrends -- often, near the 200-day moving average. Everyone is looking for breakouts on high volume, pullbacks, strong trend, etc. This gives me a chance to catch these stocks before it is obvious to everyone. I'll also do momentum scans. I showed you this one because I thought you were looking for something different.

DL: I'm glad you showed us something different. Please continue.

KH: I'd never not trade a stock because the ADX wasn't above x or some other indicator wasn't above y. I just use this scan as a starting point. And then up the parameters from there.

DL: Kevin, you seem to focus on trades around the 200-day moving average. Is there a reason for this?

KH: A lot of times, you'll see institutions come in around the 200-day moving average. Also, at these levels you'll often see analysts upgrades. Therefore, when a stock is near this level it often can provide daytrades, short-term trades and longer-term position trades.

DL: You've showed that this scan can be useful for finding stocks that might be worthy of option strategies such as straddles. The scan requires and uptrend (i.e., greater than the 200-day moving average and "U" for DMI). Why not just buy the calls (and not bother buying the puts)?

KH: I expect the stock to break higher as its trend is up but by setting up a straddle, I have a chance to make money even if I'm wrong.

DL: On the possibility of a false or "fake out" move?

KH: Yes.

DL: The patterns you showed on these stocks are discretionary (i.e., head and shoulders, flags, etc.). What advice could you give to someone just starting out where these patterns might not be so obvious?

KH: The bottom line is that it takes experience. This is never taught. Everyone reads all the articles, books etc., and expects to be able to come in and trade. You have to be able to look at the same pattern five different times and know that this time it might just work. Again, this takes experience and a good feel for the market and stock dynamics at the time of the trade.

DL: Thank you for sharing your insights.

KH: You're welcome.

Conclusion

Kevin has taken a unique approach to using the StockScanner. In this scan, he's looking for stocks that show up before it's obvious to the masses. His “back door” approach allows him to often catch stocks catch stocks before they show up on everyone’s “radar.”

Again, Experiment!

As we’ve stated in previous articles, experiment! There are no “right” scans. We designed the StockScanner to accommodate a wide variety of traders.

*which equates to 4000 in StockScanner as volume is expressed in 100’s: 4000 * 100 = 400,000.

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