Indicator in Focus: Acceleration Bands
06/09/2015 6:00 am EST
Acceleration Bands are a technical indicator developed by Price Headley of BigTrends designed to spot very lucrative runaway trends. Here, the man behind the indicator explains how to trade it.
Acceleration Bands Defined
Price Headley's Acceleration Bands serve as a trading envelope that factor in a stock's typical volatility over standard settings of 20 or 80 bars. They can be used across any time frame, from intraday to weekly and monthly time frames. We look for breakout indicators outside these bands, while also using the shorter time frames to define likely support and resistance levels at the lower and upper Acceleration Bands.
Acceleration Bands are plotted around a simple moving average as the midpoint and the upper and lower bands are of equal distance from this midpoint.
The principle of acceleration is one of the most critical lessons that active traders must learn. Stock traders need to get the best bang for their buck. They desire to rotate capital to the best-performing stocks quickly and then rotate out of those stocks when the acceleration period ends. The goal is to keep moving your capital into the best-performing stocks.
And option buyers especially need to be in the best trending stocks, as the time lost while holding an option can best be overcome by stocks that move sharply in the anticipated direction. We want to achieve maximum movement in the stock over the least amount of time possible.
I started my trading career focused on trend lines as a way to buy stocks at important support points and sell stocks at resistance points. As my trading progressed, I noticed that the biggest winners were often the stocks that broke out and never gave you a chance to buy them back at support.
I've learned that the best profits can come from the parabolic stock moves. These are the stocks that don't give you easy chances to get into them, what some might call runaway situations.
Based on years of research and monitoring the profiles of these stocks, I noticed that these runaway stocks have several factors in common:
- They are usually in growth industries like technology, communications, biotechnology, and healthcare
- Earnings are usually growing at very fast rates, typically 30% or more, and many times at 100% or more
- There's some amount of media debate about the company's future prospects. The best scenario is to find a stock that is getting attention for being overvalued. I often find that the biggest acceleration stocks often get more overvalued until the crowd recognizes the stock as a clear winner
- Usually there is a breakout to a new high over the prior 50-bar high. These breakouts have the most longevity, in my experience. Most investors like to buy stocks near their 52-week low and hope it returns to the 52-week high. Historically, the studies I have done show that over 80% of the leaders for the next 12 months were typically within 15% of their highs when their upside breakouts began
After studying many different indicators to find where this breakout point appeared to reside in most stocks, I developed my Acceleration Bands indicator. There are several things I can tell you about it here publicly:
- Usually I am looking at the last 20 bars on the Acceleration Bands. On a daily chart, this incorporates roughly the last month's trading activity, while on a weekly chart, this covers four-and-a-half months, and a monthly chart covers just over one-and-a-half years of price action
- The upper and lower Acceleration Bands are plotted equidistant from the simple 20-period simple moving average (the middle blue line in the charts below). A daily chart shows a 20-day moving average, and a weekly chart plots a 20-week moving average
- Acceleration Bands adjust for a stock's volatility: the more volatile the stock's price action over the last 20 periods, the wider the Bands will be around the moving average
- Once I see two consecutive closes above the upper Acceleration Band, I get a buy signal. On trending stocks, this will often lead to a major upside acceleration move. On choppy trading-range stocks, this will often be a "head fake." I use historical data, other indicators, and several entry and exit rules to further narrow down the signals
- One close back into the Acceleration Band signals a traditional exit of the trade, as the Acceleration period is now likely to end
Here is an example of how Acceleration Bands work:
Let's look at a weekly bar chart of a stock. I won't name it because I don't want readers to form an opinion about the company itself.
The first Acceleration buy signal flashes with the stock trading at $24.19. The entry the following Monday morning was at $26.38, and the stock managed to surge to as high as $79.25 given news of a two-for-one stock split, which proved to be the short-term top in the shares once that news was released. The official system exit came on the close below the upper Acceleration Band at $47.25, a near double on the stock alone.
The next Acceleration buy signal came officially at a price of $84.00. Due to concerns about the market during this time, I used market timing to wait and buy the next retest of the upper Acceleration Band, which I thought would prove to be important support for the stock, as it had been in past acceleration uptrends.
As a result, I placed a limit order to buy the stock at $70 or better, which was later filled. Note that the stock did go below the upper Acceleration Band during the week purchased, trading as low as $65, but the stock managed to close out the week around $75, back over the upper Band.
The close is the point on the chart where you want determine whether to hold the position or exit. So on a weekly chart, wait until the close at the end of the week, usually on Friday. This takes more patience during the week than most traders are accustomed to, but it often results in being able to stay with the best trades longer than the rest of the crowd.
The stock went on to run as high as $142.25, another doubler from the entry point, peaking based on a major brokerage firm's new coverage of the stock with a strong buy, with the official exit signal coming on the weekly close below the upper band at $99.13.
See also: Trading with Acceleration Bands
By Price Headley of BigTrends.com