What Does a Pullback Tell You?
A pullback is similar to a retracement or consolidation, and the terms are sometimes used interchangeably. The term pullback is usually applied to short-lived price declines—only a few consecutive sessions—before the uptrend resumes.
Pullbacks are widely seen as buying opportunities if the stock has been showing a generally upward price movement.
For example, many stocks experience a significant increase after a positive earnings announcement, followed by a sharp pullback as traders sell shares to take profits. Others step in to buy, seeing the positive earnings as a fundamental signal that the stock will resume its uptrend.
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Most pullbacks end when the stock's price drops to a level of technical support, such as a moving average, pivot point, or Fibonacci retracement level. Traders carefully watch these movements, because a breakdown from the support levels could signal a reversal rather than a pullback.
Example of How to Use a Pullback
Pullbacks don’t change the underlying fundamental narrative that is driving the price action on a chart. They are usually profit-taking opportunities following a strong run-up in a security’s price.
For example, a company may report blow-out earnings and see shares jump 20%. The stock may experience a pullback the next day as short-term traders lock in profits by selling some of their shares.
However, the strong earnings report suggests that the business underlying the stock is doing something right. Buy-and-hold traders and investors will likely be attracted to the stock by the strong earnings reports, supporting a sustained uptrend in the near term.