The exhausted selling model is a pricing strategy used to identify and trade based off of the price floor of a security. The model is complex, using moving averages, technical volume indicators and often the implementation of multiple kinds of price charts. Trading based off of exhaustion points is sometimes called panic selling, although panic selling is more correctly identified as any stock that declines with high volume (not necessarily reaching an exhaustion point).

Look to profit from the exhausted selling model by identifying reversal indicators. The model employs a host of downward sloping trend lines, and breaks from these trend lines can be interpreted to mean that a price floor has been reached.

Limits of Exhausted Selling Model

Exhausted selling models cannot be employed effectively with every downtrend. There are certain conditions that must be met for a trader to consider using the model: the stock price must first decline rapidly and show volume that is higher than average. At some point during the fall, a sudden spike in volume creates a new low for the stock. The high selling volume concludes with an indecisive battle between buyers and sellers around the new low price. This could be considered the beginning indicator of the exhaustion point and a possible turnaround.

If you are plotting the exhausted selling model on a candlestick chart, look for possible cross patterns or engulfing patterns. Prices may rebound shortly and then fall a little bit again, but the new trough must be higher than the exhaustion point identified earlier.

Once this new low is reached, keep an active eye on the 40- and 50-day moving averages for the stock. These should have been plotted along the entire stock fall, but they really only become significant indicators once the volume spike and exhaustion point have been reached. Once prices cross above the 40- or 50-day moving average line, enter into a long position and place a stop-loss along the moving average price line. The price should not fall below the moving average line for the new bull pattern to be confirmed – it now functions as a support level.

Average Directional Index

At this point, some traders look to confirm the exhaustion level by using other indicators. The average directional index (ADX) is a popular option. The ADX reveals when the downtrend has lost its momentum, and it can confirm a possible reversal once the floor is reached. Look for values below 20 on near the floor and values nearing 40 or more for an upswing.

The Bottom Line

Panic selling and exhaustion points can provide ample profit opportunities for traders who can patiently wait for the right signals to present themselves. While you don't want to fall into a pattern of paralysis by analysis, this is one circumstance where it helps to have several forms of confirmation before fully participating in a bull movement.

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