Highlights: Find the lightest areas of an image and cut them out.
Spray or brush the light color in the highlight shapes.
Shadows: Find the darkest values in an image. It helped me to draw over them with a black marker.
Cut dark shadows out.
Line up your image with the first stencil color. Spray or brush through the stencil.
Now you have an image with highlights, mid-tones, and shadows. I think my mid-tones are a bit dark here, so it's not as successful as it could be.
This is from a session I went to at the NAEA Convention in March called "Tag It" A Unit on Graffiti and Stencil Street Art by Deborah Huff. Nasco has published this lesson plan as well.