Most people who get involved in stock trading have found that reading tapes is difficult to do and very stressful. As a former Wall Street insider, there’s a secret that most retail traders don’t know about.

Do not trade any stock that has an average volume of more than one million shares per day!

That’s it! That’s the big secret that most Wall Street insiders use to their advantage. Most retail traders like to trade the stocks that are on the most active lists because they are easy to buy and sell and have tight spreads. But there is a big problem with most stocks that trade in high volume and they are:

  • Institutional order from all directions
  • Spread/hedge traders
  • Too much information

Institutional order from all directions

Once there are too many institutions involved in trading a stock, that constantly changes the direction of the price. Institutions buy and sell stocks for many reasons that have nothing to do with stock fundamentals. Some examples of reasons why institutions buy and sell stocks are:

  • Investors who buy or sell shares of your fund
  • annual window dressing
  • Sector Rotations

When you mix up all these large orders, that creates choppy conditions and that makes it hard to read the tape. The direction of the tape changes back and forth quickly to sense any behavior. Another problem institutions create comes from placing their large orders at order counters. Most order counters “work the order” and that means getting the best possible price. That affects the trader because every time it looks like the stock is going one way, the order desk steps in and stops that move.

Spread Traders and Hedgers

Spread traders and hedgers are trading to protect another position. Management does not normally affect them, so their decisions are based on distribution relationships. An example would be Home Depot stock pays Lowe’s. If Home Depot were up 3% on the day and Lowes was up just 1%, then the spread trader could short Home Depot stock while buying Lows stock. These types of traders are capitalizing on the 2% spread difference because they know that both companies’ stock prices move together and will eventually come back.

Too much information

Finally, it is too much information. As a tape reader, you must be able to remember certain price points and how the quotes behaved around those prices. For example, if every time a stock hits the low of the day and a lot of sell orders come in, but an ECN just sits there and absorbs all the selling. In this case, I would buy that support unless ECN got out of the way and the price dropped that low. A good tape reader learns to remember certain price levels and how the order book reacts to those levels. If you’re trading a stock that has a lot of volume, orders come and go too quickly to remember and read that data.