the secrets of trading the first pullback: a price action...
TRANSCRIPT
Content1PREFACE2INTRODUCTION3GLOSSARY4HOWTHEMARKETWORKS?4.1MARKETDRIVERS
4.2PRICENEVERMOVESINASTRAIGHTLINE4.3REVERSIONTOMEAN
4.4KEYPOINTS5PULLBACKS5.1WHAT’SAPULLBACK?
5.1.1SingleandMultibarPullbacks5.2THEMOREPULLBACKSYOUKNOW,THEMOREPREPAREDYOUCANBE
5.2.1SimplePullbacks5.2.2ComplexPullbacks5.3FINDINGPULLBACKS5.4MEASURINGPULLBACKS5.4.1ABriefIntroductiontoFibonacci(Fib)5.4.2FibonacciRetracements(FibRet)5.5KEYPOINTS6WHENPULLBACK
FAILS6.1HOWPULLBACKFAILS?6.2WHENPULLBACKFAILS6.3WHENFAILEDPULLBACKFAILS6.4FINALTESTOFTHEEXTREMES
6.5KEYPOINTS7HOWTOUSEAPULLBACK?7.1CLUESFORSUCCESS7.1.1Depthofapullback7.1.2TrendBars7.1.3Horizontal
Support&ResistanceLevels7.1.4KnowingtheMarketPlayersandTimeframe7.2KEYPOINTS8THEBESTPULLBACK8.1NEXTBESTENTRY8.2FIRSTPULLBACKINNEWDIRECTION
8.3COMBININGCLUESFORFIRSTPULLBACKS8.3.1ConvictionofaFailedPullback8.3.2SpottingBigPlayersatMarketExtremes
8.4OTHERFORMSOFFIRSTPULLBACKS8.4.1ReversalPatterns8.5KEYPOINTS9BUILDINGACASE9.1STACKINGPROBABILITIES9.2KEYPOINTS10MASTERY–WHAT’STHATALLABOUT?10.1FOURSTEPSTOMASTERY
10.2TECHNICALMASTERY
–THEJOURNEY10.3MINDMASTERY–
1PrefaceWhenIstartedtradingthemarket,myfirsttradingsystemwascalledtheSniper.Thesystemreliesonpriceactionsetupsonthe5minutechartinatrendingmarket.Theprimaryindicatoristhe50ExponentialMovingAverage(eMA)butyourelyonastrongcorrelationamongstmultipletimeframes.Inshort,ifdonecorrectly,
thisisascalpingtechniquewhichcangenerateprofitablereturnsusinglowriskentries.Thesystem,tilltoday,isoneofthebestsystemsthatIlearned.Apartfromtheintensity,thelearningcurvewassteepandrewarding–especiallyintheareaoftimeframecorrelations,priceactionandchartindicators.Moreimportantly,whileit
wasthefirstsystemthatItraded(onaliveaccount),itwasalsothefirstsystemthatintroducedmetotradingmarketPullbacks.Ofcourse,thatwasthefirstofmanysystemsthatItraded.OthersystemsthatIpickeduplaterprovidedinsightsintodifferentmarketconditions–includinganyreversalandrangingmarkets.Afterawhile,likemanyamateur
traders,Irealisedthatasystemisjustasetofrulesgoverningyourentriesandexits.Throughexperience,Ifoundoutthat,beyondanytradingsystems,therewasamysteriousmarkettheorycalledPriceAction.(Yes,thatincludedthemarketPullbackthatwaspartofthemarkettheory).Mycuriositypushedmetolearnmoreand,alongthe
way,Istartedtoremovechartindicatorsandbegantoputmyattentiononpriceandpricepatternsonly.Atonepointinmytradingcareer,Iwasonlytradingusingnakedchartsandpricepatterns.Sincethen,readingpriceactionbecamethecoreofmytradingandithelpedmematureasatrader.Oneday,duringmytradereview,Iaccidentallyfounda
commonthemeamongstallthetradesthatI’vemade,IrealisedthatIhavebeenusingpullbacksinallmytradingsystems.ThemoreIexploredthat,themoreIrealisedtheyexistinallmarketsandanymarketconditions.Somepullbackswerebiggerthanothers,andsomehadahigherprobabilityofsuccess.Ontopofthat,IfoundoutthatMarketPullbackscanpotentially
providelowriskbuthighprofitableentries.Withthat,Ihopetosharemytheoryinthisbook.Hopefully,youcanenjoyitsoonerorlater.
2Introduction“Sometimesthebestthingsarejustrightinfrontof
you.”Believeitornot,youseepricepullbacksalmosteverytimeyouopenyourpricechartbecauseitisinevitablethatpriceiscyclingandpullingbackandforthallthetime.However,manytradersdonotseeit.Thatjustgoestoshowthathumans(including
traders)canbesoengrossedintheirownthingthattheyoftenfailtoseetheobviousthatisrightinfrontofthem.Whilethisbookisprimarilyaboutpullbacks,thisisalsomywayofbreakingdowninformationfromwhatseemstobebulkyblocksintolittleabsorbablechunksandbuildingthembackintousefulresources.Bybreakingtheprocessdown,youare
abletospotthevariouscluesinthemarketeasily.Themorecluesyoufind,themorelikelythatyouhaveasuccessfultrade.Atthesametime,neverforgetthebiggerpicturewhentrading.Sincethebiggunsaretheonewiththedeepestpocket,itmakessensetokeeptrackofwhothosemarketleadersare.Bykeepingtrack,Idon’tmean
searchingforthetraders’information.Instead,Iamreferringtounderstandingwhatandhowpriceisreactingtocertainchallengesinthemarket.Infact,themoreyouunderstandpriceaction,theeasieryoucanspottheleader.Tradingpriceactionpullbackscanbeveryprofitableifdonecorrectly.Hence,Ihopetoshowyoua
varietyofpullbackpatternsandhopefullyyoucanusethatasastartingpointtofinetuneyourowntrading.Learningtotradeisajourney.However,onceyoubuiltasolidfoundation,therestofthejourneyshouldbeeasier.Also,itisprofitabletradingpullbackifitiscongruentwithyourtradingbeliefs.Hence,Ihopetoexplainhow,whyandwhentrading
3GlossaryGlossaryinalphabeticalorder
-Bear-Aninvestor’stermreferringtotheseller.OppositeofBulls
-BigPlayers-ReferringtolargesizemarketplayersincludingCentralbanksormajorfinancialinstitutions.SeealsoMidPlayersandSmall
Players.-Bull
-Aninvestor’stermreferringtothebuyer.OppositeofBears
-Ceiling-Atermtorepresentahorizontalupperresistanceline.Alsoknownashorizontalresistanceline.Foraceilingtobevalid,thetouchesoftwoormorepricehighsare
required.-Channels
-Apricechannelisacontinuationpricepatternthatslopesupwardordownward.PriceisboundedbytheUpperResistanceLineandLowerSupportLine,creatingasloping(price)rectangle.
-ConsolidatedMarket-Aperiodofconsolidationthatis
drivenbythelackofvolume,indecisionoruncertainty.Irrespectiveofthereasons,themarketlacksaclearleaderinthemarket.Alsoknownasarangingmarket.
-DTD-DominantTrendDirection.-Thisisthemaindirectioninwhichthe
marketismoving.-Fib
-Fibonacci-FibRet
-FibonacciRetracement
-Floor-Atermtorepresentahorizontallowersupportlines.Alsoknownashorizontalsupportline.Forafloortobevalid,thetouchesoftwoormoreprice
lowsarerequired.-H&S
-Head&Shoulder.Thisisthenameofaspecificreversalpattern.
-Leg-Alegisthejourneytravelledbypriceinasinglemovement.Forthepurposeofthisbook,weassumethatasimplepullbackhas3legs.
-LiquidMarket-Amarketwherethereareplentyofbuyersandsellers.Withsuchvolumeoftraders,thespreadbetweenthebidandaskpricestightens.Tradeexecutionbecomeseasierandquickerasthereisalwaysanavailablebuyer/seller.Theoppositeofaliquid
marketisathinorilliquidmarket.
-Long-Totakeapositioninthemarketwiththeviewthatpriceoftheassetwouldgohigher.OppositeofShort
-LowerSupportLine-Alinethatisdrawnusingatleasttwopricelowstoformthelowersupportline.OppositeofUpperResistance
Line-Market
-GenerallyreferringtotheFinancialMarket.
-MidPlayers-Referringtomid-sizebigmarketplayersincludingMid-sizedorsmall-sizedbanks,largehedgefunds,marketmakers,largecorporateorcommercialcompanies.
SeealsoBigPlayersandSmallPlayers.
-Nakedcharts-Cleanchartsusingpricebarsonlywithoutanysignalsorindicators.
-PinBar-Thiscanbeahightestoralowtestbar.
-PriceAction(PA)-Themovementofpricewithinthefinancialmarket.PA
alsoincludestheareasoftechnicalanalysisandchartpatterns.Somemayevenincludecandlestickanalysis.
-PriceCyclicity-Thenatureofthemarketpriceswhereismovesupanddown–evenwhenthereisacleartrend.
-Pullbacks-Happenswhen
pricemovesonebar(ormore)againstitspreviousbarthatismovinginthedirectionofmajortrend.
-Short-Totakeapositioninthemarketwiththeviewthatpriceoftheassetwouldgolower.OppositeofLong
-SmallPlayers-Referringtosmallsizemarketplayers
includingRetailorprivateindividualtraders.SeealsoBigPlayersandMidPlayers.
-UpperResistanceLine-Alinethatisdrawnusingatleasttwopricehighstoformtheupperresistanceline.OppositeofLowerSupportLine
4HowtheMarketWorks?
TheFinancialMarketisacommonplacewhereinvestors,buyersandsellersexchangetheirgoods.Buyerslookforsellersofferingthelowestpriceandsellerslookforbuyerswhoarebiddingforthehighestprice.Intermsofmarketbehaviourandpriceaction,thereisn'tahuge
differencebetweenthefinancialmarketand,say,thepropertymarketorthefoodmarket.Ofcourse,thenatureofthevariousfinancialmarketsisdependingontheproductsboughtorsold.ThisistrueandisapplicableformarketsliketheCurrencymarket,Commoditiesmarket,Stock&Equitiesmarket,Futuresmarket,Optionsmarket,
Bondmarketsandmore.Eachmarketisgovernedbyitsownrulesandregulation-Somearecentralisedandsomearedecentralised.Duetothesedifferences,somemarketshavemorepeoplethanothers,andthatmakesonemarketmoreliquidthantheother.Withtheboomoftheinternetandtechnology,buyersandsellersdonotevenneedto
meetupanymore.Thetruthisthat,apartfromprice,buyersandsellersarenottoobotheredaboutwithwhomtheyareexchangingtheirgoods.Aslongasthepriceisright,that'sallthatmatters.However,hereisanimportantpieceofadvicethatIlearnedafewyearsago,asamarkettrader,itiswisetomakeyourselfextremelyfamiliarwithonemarket
beforeventuringintomore.Sinceeachmarkethasitsownpersonality,ittakestimeandextremefocustounderstanditbeforeyoucanmasterit.Onceyoudomasterit,you'llbemakingenoughmoneythatyouwon'tbebotheredtolearnmore.
4.1MarketDriversThefinancialmarketmovesfordifferentreasonsand,moreoftenthannot,there'snoorlittlepointinfindingoutthosereasons.Ofcourse,I'llbelyingifIsaidthatthemacroeconomy(aswellasmarketsentiment)hasnoimpactonthemarket,becausetheydo.However,asashorttomediumtermtrendtrader,thesefundamental
reasonsonlygivemeamacroviewoftheoveralltrendbutitdoesnotgivemetradingopportunities.Butbeforeexplaininganddescribingwhatdrivesthemarket,thefollowingare4(outofmany)examplesthatareusefultogettheballrolling.GutFeeling
JohnisanoiltraderworkinginGoldman
Sachs.Heusuallyarrivesatworkbeforesixinthemorningbutwasrunningslightlylateoneday.Johnusuallybrowsesthroughhisemailonhiswaytoworkbut,ashearrivesinhisLondonofficethatmorning,hegotanewemailreportfromtheirresearchteamtitled"BullishOutlookonOilPrice".
Havingsomesizablepositionsoncrude,Johnstartstogothroughthereportandbeginstorationalisehisthoughts.Whilethereporthasbeenfairlyreliableinthepast,Johnwasnotcomfortablewiththereport.Hecouldnotpinpointwhatwaswrongwithit,buthedecidedtokeeptohisownbearishviewinstead.Alreadyinprofit,he
decidestoclosehisentirepositionbeforehegoesonabreakwithhisfamily.WhileJohnwashavingbreakfastonhisseconddayintheFrenchAlps,hesawanewsheadlinegoing"ViolenceinIraqdespiteUSpullout".AsIraqhasthesecondlargestprovenoilreservesintheworld,anyunfavourablemajoreventscaneasilydisrupt
theoilproductionandhencethepricesofit.Johncarriedonhisbreakfastwithasmile.
EmotionsKevinisaproprietarytraderinamajorWallStreetfirminNewYorkcity,andhehasbeenafairlysuccessfulone.HismanagerdecidedtopushhimalittlefurtherandagreedtoletKevin
manageamuchlargerportfolio.Kevinwasextremelyexcitedaboutit.Whilethemoneywasnotsignificanttothebank,itwasalargesuminKevin'seyes.Oneday(Day1),Kevintookalongpositionintheinterestratefutures.Forevery0.01move,hegains$27k.Thispositionsizewasallnewtohimashe
hadneverdealtwithsuchalargepositionbefore.OnDay2,therewasanunexpectedannouncementbytheECBPresidenthintingapotentialinterestraterise.Asthenewsannouncementwenton,themarketwhenmaniconthatinformation.However,becausethenewsdidnotmakesense,Kevindecidestohanginthere.
Day4,thevolatilitycontinues.Atonestage,Kevin'spositionwasatalossof$500kandallthathappenedwithin2hoursbeforeitrecoveredslightly.Kevinstartedtoquestionhisowndecision.Atthatpoint,theoptionsincluded,(1)closingthepositionwithoutriskingfurtherlossor(2)toincreasehispositiontorecoverfromhisloss.
Kevin'sselfconfidencewasataminimallevel,andtherewasmuchuncertaintyintermsofhowheshouldhavedealtwiththetradesinceDay2.Day5,whenKevinwalkedintotheoffice,deprivedfromsleep,Kevinwasemotionallydrainedanddecidedthatitdidnotlookrightanymoreandmadethedecisionto
cutlosses.Day6,themarketfinallyresumedtonormal.UnfortunatelyforKevin,theratesrecoveredandmovedinhisfavour.
TechnicalPaulisatraderinahedgefund.Whileheoverlookstheoperations–specificallythesmoothentryandexitsoftrades–ofthefund'stradingdesk,
heisalsoatechnicalanalysisexpert.BecausePauldoesnotmanagehisownbooks(orportfolio),heonlytakestradeswhenTim,thefundmanager,sendshimthetradeinstructions.Asandwhenhereceivesthoseinstructions,Paulhasaspecifiedtimeandpricerangewherehemusttakethosetrades.
Oneday,thefundmanagerwantedhimtotakesomepositionsinGoogleInc.Assoonashegottheinstructions,PaulstartstoanalysethetechnicalsettingsofNASDAQ:GOOG.AsPaulhadfivedaystoenterthetrade,hestartedlookingattheweeklychartbeforehemoveddowntothedailyand4hourcharts.Basedonhis
analysis,heknewtherewerenotradesonDay1.Infact,nothinghappeneduntilDay4whenPaulfinallygotthesignalthathewanted–aMACDcrossover–showingthepotentiallowoftheweekandthestartofatrendcontinuationsetup.Assoonasthepricehitapredefinedsupportlevel,Paulboughtthoseshares.
FundamentalsTomworksinRolls-RoyceintheTreasuryteamwithinGroupFinance.Asthecompanyhasaninternationalpresence,halfitstransactionsaredealtinforeigncurrencies–predominantlyinUSDollar(USD).Meanwhile,becauseRolls-RoycewasaBritishcompany,mostoftheiroverheadcostsare
primarilydealtinpoundsterling(GBP).AstheUSDcontinuestodropagainsttheGBP,Rolls-Royce'sprofitmargincontinuestobediluted.Theonlyotherwaytoprotectthecompanyfromcurrencyexchangerateriskwastohedgethecurrencypositions.Asthetraderwithin
treasury,Tomreviewsthemacroeconomicindicatorsaswellascompany'scurrencypositiononamonthtomonthbasisbeforehepresupposeshowmuchhedgingisrequired.Ofcourse,thiswouldalsoinvolvesomemathematicalcalculationonexpectedsalesfiguresaswellasexpectedexpenditurefortheforeseeablefuture.While
thismayseemlikeachallengeforsomecompanies,RollsRoyce'sbusinessmodelisprettylongterm,andthisisquiteamundanetaskforTom.UponapprovaloftheFinanceDirector,hetypicallytakesacurrencyfuturepositiononbehalfofRollsRoyce.
WhileJohn,Kevin,PaulandTommightnotbereal
people,therolestheyplayedseemhighlyplausible.Theultimategoaloftradersistoincreasewealthandmostprofessionaltradersenterthemarketforreasonsthatareuniquetothemselves.However,themarketisdrivenbymillionsofindividualswhorepresenteitherthemselvesorsomeoneelse(includingbigfinancialinstitutions)–justlikeJohn,Kevin,PaulandTom.
Mypointisthis,nooneknowswhythemarketmovesthewaytheydobecauseevensomeoftheprofessionaltraderscannotexplainthemselves(GutFeelingtraders).Hence,ifyou,aretailtrader,thinkthatyouknowwhythemarketisdoingwhatitisdoing,thenyousoundlikeyou'reinadangerousposition.Also,whilemacroeconomic
factorsplayanimportantroleinthefinancialmarket,theyprobablyplayalessimportantroleinanestablishedtrendandwhenlookingatshorttomediumtermmarkets.Moreimportantly,manyofthemacroandfundamentalinformationhavebeenincorporatedintopriceaction.Believeitornot,fundamentalinvestorsareinthemarkettoo.However,thefinancial
marketisinefficientbynatureandpricewouldoftenreflectthatinformationeitherbeforeorafterthedata/newsrelease.
4.2PriceNeverMovesinaStraightLine
Nowthatyouunderstandthedriversofthemarket(whichisfairlyunpredictable),youshouldalsoappreciatethatthemarketpricesnevermoveinastraightline(forthesamereasons).Foryourinformation,thisisthehonesttruthaboutthemarket.Infact,theoppositeistrue–marketpricesalwaysmove
upanddownevenwhenthereisacleartrend.Thisphenomenonisknownaspricecycle.Likeitornot,thisistrueforallmarketsandallmarketconditions–includingthetrending,reversingorsidewaymarket.Thefollowingaresomeexamplestoillustratemypoint.TrendingMarket
Diagram4-1:DownwardTrendingMarket
Theaboveisabearmarketandsellerswereclearlythedominantplayershere.Althoughthesellersaretakingcontrol,itshouldbeclearthatthebuyersandsellersconstantlycompetetotakeadvantageofthemarket–nooneevergivesinthateasilywithoutagoodbattle.Asyoucansee,eachtimepricemoveslower,buyers
comeintothemarketaspricebecomescheaper.Ontheflipside,whenpricemoveshigher,sellersstarttoclosetheirpositionsastheytakeprofit.Ofcourse,sincetherearemoresellersthanbuyers,thesellersalmostalwaystakecontrolofthemarketandcontinuetopushthepricelower.Theresultofthatwasazig-zaggingmarketthatisonits
Diagram4-2:ReversingMarket–FromanUpMarketintoaDown
Market
Herethebuyersweretakingcontrolofthemarketfromthestartandcontinuouslypushthepricehigher.Likethetrendingmarket,sellerswerealsolookingforopportunitiestoselleventhoughbuyerswereincontrol.Halfwaythroughthechart,buyersrealisedthatthey'vedonetheirbest,andtheycan't
seemtosupportthepushanymorebecausepriceisnowdeemed"tooexpensive".Ifthebuyershaveemptiedtheirpocketsandareincapabletosupportingtheuptrend,thensellerswouldbemorethanhappytoenterthemarketata"good"price.Hence,thesellersstartedsellingthemarketandthebuyersstartedclosingtheirpositionsatthesametime.
Again,asthesellersgraduallytakecontrol,somebuyersfeelthattheremightbechancesofrecoveryandtheywerehopingtoremainincontrol.Thus,theytrytobuildsomesmallbullishpositionsalongthedownwardmarket.Inlaymanterm,thesebuyersarecalled"laggers"–incaseyoumightbelaughingindisbelieve,trustme,laggersexistsinanymarketplace.
Aspricecontinuestofall,someoftheearlierbuyersmightdecidetotakeprofitandswitchovertobecomeasellertotakeadvantageofboththemarkets.Ontheotherhand,somebuyerswhopanicbecausepricesarefallingsharplymightclosetheirpositionsveryquickly,andthiswouldfuelthefall.Asyoucansee,theactivitiesinthemarketplaceare
endlessand,thus,therearealwaysreasonstocausepricestomoveupanddownconstantly.ConsolidatingorRagingMarket
sideways,itmovesbycyclinginanarrowpricerange.Inthisexample,buyersandsellersareinequilibrium.However,don'texpectpricetomoveinastraightlineeveniftheyareinequilibrium.Instead,weonlyknowthatthereisn'tmuchtradablevolumeinthemarketsinceeachtimepricereachesafloor(i.e.bottomofthepricerange),buyerswouldseethatasanopportunityto
buy.Analternativeviewisthattherewerenotenoughsellerstopushpriceanylower.Theoppositeisalsotrue,andthathappenswhenpricereachesaceiling(i.e.topofthepricerange).Sellersseethatasanopportunityaswellandwouldjumpintothemarkettosellbecausepriceisnowhighenough.Astherewereinsufficientbuyers,
pricenaturallymoveslowerwhensellerscomein.Asthemarketlacksvolume,thefloorandceilingcanoftenfluctuatealittlesincethereisnosingleplayerthatistakingcontrol.Nonetheless,likeanyothermarket,nothingiseverpermanent.Itiscommontofindtradersorinvestorswhowouldtakeadvantageoftheselimitationsandleverageittomakesome
Diagram4-5:IdentifyingMarketswithinMarkets
Nowthatyou'veseenthedifferenttypesofmarketconditions,itmightbeworthhavingalookatamixedmarket.TheDowJonesIndex(dailychart)inDiagram4-4isanotherexampleofhowthemarketnevermovesinastraightline.Ontopofthat,pricemovesfromonemarket(condition)toanother.Ifit'snotobvioustoyou,then
havealookatDiagram4-5whereyoucanseetherearetrending(arrows),reversing(R)andranging(rectanglebox)marketsinthereandallofthemactinginrandomsequences.Whilepriceiscyclingwithinthethreemarkets,theaboveisalsoagoodexampleofhowpriceiscyclingactivelyeveninthebiggerpicture(ormacromarket).
TimeframesandLiquidityPricecyclesinalltimeframes.Inotherwords,youcanfindpricecyclingwithintheTrending,ReversingandRangingmarketsandthatcanhappeninthedaily,4hourly,60minutes,15minutes,5minutesandeventhe1minutetimeframe.However,forpricetodothat,themarketneedstobeliquid.Agoodindicationofaliquid
marketiswhenyoufinditrelativelyeasytoexecuteyourtradeandyoucandosoatorclosetoyourdesiredprice.Thisispossiblebecause,wheninaliquidmarketasthecurrencymarketorevensomeFortune500companies,youcanfindbuyersandsellersofallsizesexchangingfinancialassetsallthetime.Justtobeclear,price
continuestocycleeveninanilliquidmarket.However,itiseasiertofindpricecyclesinsmallertimeframeswhenthemarketisliquid.
4.3ReversiontoMeanNotonlydoesthemarketmoveincycles,itactuallymovesinacertainpatternandthatpatternisdrivenbytheconceptofMeanReversion.Thatmeans,themarketalmostalwaysreturntothemeanoraveragepriceafteritmovesawayfromit.Forsimplicity,itmightbeeasierifyouthinkofitasapendulum.Imaginea
pendulumswingingfromlefttorightandback,thecentreofthependulumislikeameanposition,andthependulumwouldalwaysgetpulledbacktothecentrebutthenitalsogetspushedawayfromthecentre.
Thediagramaboveshowsthedistance(x)ofthependulumawayfromthemeanposition(zero)againsttime(t).Asyoucansee,pricealwaysmovesawayfromthemeanbeforeitreachesanextreme.Pricethenrevertstothemeanfromtheextremeasifthereisamagneticfieldpullingitbacktothecentre.Priceactionworksinthesamewaywhentravellingin
cycles.Whilethemeanofapendulumisconstantlyzero,themeanofthemarketpriceisconstantlymoving.Infact,inatrendingmarket,pricedoesn'tevenreturntothemeanbeforeitmovesbackintothetrenddirection.Anotherinterestingfactthatyoumustbeawareisthatitisdifficulttopredicthowfarpricemovesawaybeforeitispulledtowardsthemean
again.Manyhavetriedtopicktheextremes(i.e.markettopsandbottoms),and,unfortunately,that'snotawisedecision.Infact,with-trendtraderswouldwaitforpriceactioncluesafterpricetoppedorbottomedbeforebuyingorsellinginthenewtrenddirection.
Diagram4-7:GoogleIncshowingReversiontoMean
Asshownabove,theGoogleInc(daily)chartshowsthatpricehasbeencyclingupanddownconstantly.Aspartofpricecycle,itisalsoconstantlybeingpulledbacktowardsthemeanprice(movingaverageline)beforemovingawayfromitagain.
Diagram4-8:RangeMarketVsTrendingMarket
Let'smakethisslightlymoreinteresting,ifyousplitthechartin2,youcanfindarangingmarketandatrendingmarketinthere.Intherangingmarket,priceiscrossingfromonesideofthemeanpricetotheotherandthatissomewhatsimilartothependulum.Ontheotherhand,inatrendingmarket,priceusually
staysononesideofthemeanpriceonly-thisisagoodindicationofastrongtrend.Nonetheless,pricecontinuestocycleanditisstillbeingdrawnbacktothemeanpriceonceinawhilebeforemovinghigheragain.
4.4KeyPointsHerearethesummariesandkeypointersforthissection:
-Marketsaredrivenbymultiplereasonsthataredifficulttoquantifyandthat’sincludinghumanemotions,fundamentals,technicalanalysisoranyotherunknownreasons.-Pricenevermovesinastraightline.Infact,itisconstantlycyclingupand
down.-Whilepricecyclesarerandomastheyswitchbetweentrending,reversingandconsolidatinginanunpredictablesequence.Nonetheless,youcanstillfindsomepredictablepatternswithinthoserandommovements.-Marketextremesarewherethose"magneticfields"arestrongest,and
youcanexpectapulltowardsthemean(oraverage)pricefromthoseextremes–alsoknownasReversiontotheMean.However,nevertrytopicktopsorbottoms.
5Pullbacks5.1What’saPullback?
MarketorpriceactionPullback,bydefinition,happenswhenpricemovesatleastonebaragainstthedominanttrenddirection(DTD).Apullbackisapricemovementthatmovesintheoppositedirectionofthetrendbutitisonlytemporarilypricemovementbeforeit
resumesbackintothemainmarketdirection.PullbacksaresometimesreferredtoaspriceRetracementsorCorrections.SomemayevenjustcallitaDip.Itdoesn’tmatterwhatyoucallitaslongasthetemporarycountertrendmovementresumesinthemainmarketdirectionlateranditdoessobybreakingbeyondtherecentprice
Forthepurposeofillustration,wewillusebeusingtheABCDpatterntoexplainthedetailsofsimplepullbacksbecausetheABCDpatternisaperfectexampleofit.Ontopofthat,asimplepullbackalwaysmovesinthreelegs.Usingthediagramabove,inanuptrend,ABisthefirstlegwherepriceismovingtowardstheDTD.
Thisisfollowedbythesecondleg(BC)andthecycleiscompletedassoonasthefinalleg(CD)movesbeyondB.Justtobeclear,theactivityapullbackisonlyrepresentedbyBC.However,forthesakeofcompleteness,apullback(BC)mustremainbetweenAandBanditmustincludeCDwhereDmovesbeyondB.Ifnot,thatwouldbe
consideredafailedpullback–furtherdiscussiononfailedpullbackcanbefoundinSection6.1.Note:Alegisthejourneytravelledbypriceinasinglemovement.Forthepurposeofthisbook,wecanassumethatasimplepullbackhas3legs.Youmayfindthatothertradersreferthemdifferently.
Diagram5-2:ExampleofSingleBarPullback
Thediagramaboveshowsasinglebarpullbackexample.Itshowshowapullbackcanbeshortandquick.SincethedefinitionstatesthatpriceneedstomoveatleastonebaragainsttheDTD.Inthisexample,thetrendbar(priortothesinglesellerbarinthecircle)representsABandthesellerbarisBC.Thenexttrendbarthatmovedabove
theentiresellerbarisCD.Hence,thisisavalidpullbackeventhoughtheABCDpatternisnotobvious.Inthisexample,theentireABCDpullbackcanalsobeconsideredasasinglelegsincethe3legsarereallysmall.
Thenextdiagram(above)isamultibarpullback,anditshowsafewsellerbarsbeforepriceresumedbackintotheDTD.Apullbackcanbeshallowordeep,anditcanbefastorslow.Whilethedepthandspeedofthepullbackareindependentofeachother,theyareofteninfluencedbythemarketdriversatthatpointintime,andnoone
reallyknowswhenanyofthemhappens.Again,wewilldiveintothecharacteristicsofpullbacksinalatersection.Fornow,justappreciatethatpullbackscanhappeninvariousshapes,depthsandspeeds.Also,doappreciatethefactthatpullbacksarenaturaloccurrencesinthefinancialmarket,andthesearetradingopportunitiesfortraders.
5.2TheMorePullbacksYouKnow,TheMorePreparedYouCanBe
Incaseyouhavenotrealised,inorderforpricetocycle,theremustbeapullback.Thinkaboutit,priceneedstopullbackbeforeitcanpushforward.Andtherepetitionofpullingbackandpushingforwardiswhatcontributestoapricecycle.
AsmentionedinSection4.2,wherethemarketisliquid,pricewillcycleinallmarketconditions,inanytimeframeandanydirection.Ifthatistrue,thenthismustalsomeanthatpriceswillmakepullbacksinanymarketconditions,anytimeframeandanydirectionaswell.Astraders,insteadoftryingtopredictthefuture,itismoreusefultorecognise
thesepullbacksandthenperformyouranalysisbasedonhowthesepullbacksbehave.Rememberthattradingisaboutstackinguptheprobabilitiesinourfavour,andthisisexactlywhatyouaretryingtoachievehere.Byrecognisingthevarioustypesofpullbacks,youcanpicktradesthathaveahigherprobabilityofsuccessinorder.Oncewehavetheprobabilitiesinour
favour,wetakethetrade.Forthepurposeofillustration,Ihavegroupedmarketpullbacksintwodistinctgroups–simpleandcomplexpullbacks.
5.2.1SimplePullbacks
AsimplepullbackshouldbeintheshapeofanABCDpattern.Hence,theyareusuallyfairlyobviousandeasytospotwhilecomplex
pullbacksmighttakealittlelongertoform.However,asimplepullbackcanremainsimple,oritcanevolvetobecomeacomplexpullbackaswell.Sincewedon’tknowwhenthathappens,itisimportanttomanageyourriskandmoneywisely.Ifyoufindyourselfspendingtoomuchtimelookingforsimplepullbacks,it’s
probablybecausetheyareeithercomplexones,ortheyarenotapullbackatall.Eitherway,whenthathappens,youshouldjustignoreitandlookfortradingopportunitieselsewhere.Thefollowingaremoreexamplesofsimplepullbacks.DeepPullback
Diagram5-4:DeepPullback
Let’sstartbyhavingalookatadeeppullback.Thisisprobablyamongsttheeasierpricepatterntospot.Characteristicsofadeeppullbackare:
-Inadeeppullback,thepricemovesasignificantdistanceagainsttheDTD,andthisisthekeyidentifierofadeeppullback.
-Itcanbehappenquickly,oritcanhappenslowly.Inotherwords,itcanalsobeasharppullbackevenifitisadeepone.-Itisusuallymadeupofafewconsecutiveseller(orbuyer)barswithoneortwobarsthatarerelativelylongerthantherest.However,thekeyisthedistancetravelled(asopposedtothetypeof
bar).-Readingpriceactioninthediagramabove,inadeeppullback,thebearsareusuallytryingtoshowtheirdominants.However,notrealisingthatthebullsarestillstrong,thebullsusuallycomebackintothemarketjustbeforethebearsmanagedtobuildconfidence.
ShallowPullback
Diagram5-5:ShallowPullback
Characteristicsofashallowpullback:
-ThepullbackmovesverylittleagainsttheDTD.Thisisthekeyidentifierofashallowpullback.-Itcanbehappenquickly,oritcanhappenslowly.Itcanalsobeaflatpullbackifturnsouttobesidewaymovement.
-Itusuallycomprisesamixtureofdojiandsmallbodiedbars.Sometimes,youcanalsoexpecttoseelongtailedbars.Thetypeofbarsyougetislessimportantasit’sthemovementofthebarsthatmatters.-Ashallowpullbackisusuallyanindicationthatthemarketisone-sided.Readingthepriceactioninthediagramabove,the
bearsonlymanagedtopushpriceslightlyintherefavour,andthebullswerealreadybackinthemarket.Hence,priceisexpectedtomoverelativelyfarafterthepullback.
SharpPullback
Diagram5-6:SharpPullback
Characteristicsofasharppullback:
-Thisisusuallyaveryquickpullbackandthespeedofthepullbackisthekeyidentifier.-Althoughasharppullbackistypicallymadeupofonlyoneortwobars,itcanalsohappenwhenyouhavemultiplebars,butthereisaclearcounter
trendmovementwithinarelativelyshortspanoftime.-Thesharppullbackcanbeconsideredadeeppullback.Havingsaidthat,youcanoccasionallyfindsharppullbackthatisrelativeshallow.Eitherway,theideaistokeepaclosewatchandnottopredictthemarket.-Thepriceactionaboveshowedsomeselling
strengthinitially.Withsuchastrongbeartrendbar,thesellerswerehopingtoattractmoresellersintothemarketbutonlyrealisedthatthebuyerswerestillincontrolandthatpushdidnotgofar.
FlatPullback
Diagram5-7:FlatPullback
Characteristicsofaflatpullback:
-Aflatpullbackisconsideredashallowpullback.However,itisslightlymoreextremethanyourtypicalshallowpullbackbecausethemarketonlymovessideways,withverylittlecountertrendmovement,beforeitresumesinthe
DTD.-Thesidewaysmovementiskeyidentifierforthispullback.-Aflatpullbackisanindicationofaverystrongmarket.-BasedonthepriceactionabovebuyersoftenfailtofindagoodlongentryintotheDTDbecausepricebarelyretraces.Manywaitedforaminorreversaltoshow
confirmationthatpriceiscorrectingitself–unfortunately,duetothebigplayersdrivingthemarket,pricecontinuesitsbullrunbeforetradersevenrealiseit.5.2.2ComplexPullbacks
Thepurposeofthissectionistogiveyouthetoolstonavigateinthemarketand,moreimportantly,tostayout
ofitwheninacomplexpullback.Inotherwords,whenyouseeacomplexpullback,Iwouldstronglysuggestthatyoushouldstayoutofthemarket.Complexpullbackshappenwhenpricestepsintoaconsolidatingphase.ItthenremainsconsolidatedforawhilebeforeitresumesintotheDTD.Noonereallyknowshowlongitremainsconsolidatedbeforeitmoves
again.Ontopofthat,ifyoustruggletorecognisethepricepatternsonyourcharts,Ibelieveitisonlyreasonabletosaythatyoushouldstayawayfromitandfindanotherclearerchartwheretheprobabilityofmakingaprofitishigher.Tradingisabouttaketradeswhereyoufeelright,thesetupshouldberecognisablewithinsecondsandnothing
more.Note:Beforewestartlookingatexamplesofcomplexpullbacks,itiscrucialtorememberthatsimplepullbacksarepricepatternsthataremuchmoreprofitabletradesbecauseyoueitherseethemoryoudon’t.Don’tbefooledbytheideathatyoushouldmakemoneyineverymarket.Infact,many
Diagram5-9:FallingWedge
Characteristicsofarising/fallingwedge:
-Arisingwedgeoccurswhenyouhaveapriceactionpullbackthatisslopingupwardswheninadownwardtrendingmarket(asshowninDiagram5-8).Meanwhile,thepricerangeofthepullbackbecomesnarrowerasitgoesagainsttheDTD.
-Whenpricemakesapullback,youcaneventuallyspotanupperresistancelineonthetopandalowersupportlineatthebottom,sittingbetweenprices–asshowninbothdiagramsabove.Boththelinesconvergeaspriceactionbecomesnarrower.-Asthewedgestartstonarrow,thatisanindicationthatthemarket
isbecomingmoreindecisive.Asinvestorsseethis,theywouldalsobegintositoutofthemarket.Inotherwords,thisbecomesaself-fulfillingprophecyasthewedgecontinuestonarrowevenmore.-Likeaspringbeingcompressed,pricegetssqueezedtothepointwhereithasnochoicebuttoburstoutwith
momentum.-Inarisingwedge,thepullbackendswhenpricebreaksbelowthelowersupportlineandviceversaforafallingwedge.-Alltheaboveappliestoafallingwedgebutintheoppositedirection.
Note:SeetheGlossarypagefordefinitionofUpper
Diagram5-11:FallingFlag
Characteristicsofarising/fallingflag:
-Arising/fallingflagisverysimilartoarising/fallingwedgewiththeexceptionthatthepricerangestaysconsistentaspricemovesagainsttheDTD.Inotherwords,theupperresistancelineandlowersupportlineareparalleltoeachotheras
pricepullbacks.Thus,creatingasmallpricechannel.-Justliketherising/fallingwedge,thepullbackendsassoonaspricebreaksoutofthechanneltowardstheDTD.-However,sincepricedoesnotconverge,itdoesnotbreakoutlikeaspringeither.Thus,itcanbechallengingwhenidentifyingwhereprice
turns.-Occasionally,pricewouldcontinueinthenewdirection(againsttheDTD)regardlessand,hence,makingitareversalpatterninsteadofapullback.
Sideway/RectanglesPullback
Diagram5-12:Sideway/Rectangle
Characteristicsofasideway/rectanglepullback:
-Asideway/rectanglepullbackisasidewaypricemovement,anditcanbedefinedusingarectangleboxwherethetopandbottomlimitoftheboxisdrawnusingthehorizontalupperresistanceline(forthetop)andhorizontalbottomsupportline(for
thebottom).-Rememberthatitisimportanttohaveatleasttwopricetouchesonboththetopandbottomrespectivelytodefinetheboundaryoftherectangle.Withoutthatconfirmation,thepullbackcouldevenendupasawedgeoraflagpullbackinstead.-Toacertainextend,asidewaypullbackisessentiallyaflatpullback
Diagram5-13:DoubleBottomPullback
Characteristicsofadoublebottom/toppullback:
-AdoublebottompullbackoccurswhenpriceretracestothesamepriceleveltwicebeforeitresumesbackintotheDTD.Inanuptrend,thishappenswhenpriceretracestotouchthehorizontalbottomsupportlinetwicebeforeresuming
toitsmaintrenddirection.-Whiledoublebottomisatypicalreversalpattern,itisnotuncommonintrendcontinuationpullbacks.Infact,sometimes,rectanglepullbacksaredeemedadoublebottompullbackaswell.-Lookingatthediagramabove,thesellersattemptedtosellthemarketbutthebuyerstook
control,formingashallowpullback(leftcircle).Afterthat,thesellersmadetheirsecondattempttopushthepricelower.Whiletheylookedsuccessfulinitially,thebuyerssteppedinagainatthepricenearthefirstattempt.Thistimeround,thebuyerswereserious,and,fromthenon,theytookchargeofthemarket.-Alltheaboveapplies
Diagram5-15:DescendingTriangle
Characteristicsofanascending/descendingtrianglepullback:
-InDiagram5-14,anascendingtrianglepullbackwasformedwhentherewasarelativelystronghorizontalupperresistancelinethatwasholdingpricefromgoinghigher.Eachtimepricehitstheline,itdrops.
However,eachtimeitdrops,thefallweakens.Thus,itstartsmakinghigherlowsand,likeawedge,pricestartedtoconverge.-Fromamarketpsychologypointofview,thisseemstosuggestthattherewasalargesellorderplacedatafixprice(wherehorizontaluppersupportlineislocated).Eachtimethebuyerspush
pricetothatlevel,pricedropsaspartoftheordergottriggered.Thiscontinuesforawhileuntiltheentireorderwasclearedandoncethereweren’tanymoresellers,pricepushedhigher.-Theoppositeistrueforadescendingtriangle.-Ascending/descendingtrianglesareoneofthemoreattractivepatternstotrade.Since
priceonlymovestowardsthedominanttrenddirection,theextremesarenotretested.However,theproblem(likeallothercomplexpullbacks)isthatyoudon’tknowwhattoexpectuntilithappens.-Sometimes,youmayfindpricebreakingoutofthetrianglewhereitgoesagainsttheDTDtoo.Thus,thisbecomesareversalpatterninsteadof
Diagram5-16:PennantPullback
Characteristicsofapennantpullback:
-Pennantissimilartoasymmetricaltriangle.Ithasaslopingupperresistanceline,aslopinglowersupportlineandboththeselinesconvergetoformatriangle(asshownabove).-Justlikethewedge,buyersandsellersare
consolidating,andtheconsolidationcausespricetofunneltowardsanequilibriumpoint.Typically,pricewouldstartmovingagainbeforeitreachestheextremetipofthetriangle.-Pennantsarenicetolookatinhindsight.However,itischallengingtopinpointwhenpricewouldresumebackintotheDTDagain.
Diagram5-17:WideningWedge
Characteristicsofawideningwedgepullback:
-Awideningwedgehappenswhentheupperresistancelineandthelowersupportlinediverge.Whilepricelookslikeit’spotentiallyformingasimplepullback,pricewouldstarttoswingvigorouslyonbothends.-Thebuyersandsellers
aredefinitelyinawar.Unlikepreviousconvergingpullbacks,wherebuyersandsellerssatasidetowaitforfurtherconfirmation,thisisatug-of-warinthemaking.Buyerswouldpushpricehigherbutstrongersellerswouldtakeoverassoonasitreachesahigherprice.Thebuyerscameinagainassoonaspricemoveslowerandthebuyers
pushedpriceevenhigherinthenextround.Theprocessrepeatsitselfuntilaclearwinneremerged.-Asyoucanimagine,awideningwedgeisoneofthemorecomplexpullbacksanditiswheremostnewtradersoftengettrapped.
5.3FindingPullbacksNowthatyouunderstandtheideaofmarketpullbacksandyouhavearoughideaofwhattheylooklike,let’smoveanotherstepforwardandtrytofigureouthowyoucanfindthepullbacks.Rememberthatpricenevergoesinastraightline?I’msureyoudo.Withthat,pullbacksareeasiertospotifyouthinkofpriceactionas
pricethatiscyclingupanddown.Anotherimportantkeyconceptthatyouneedtoknowaboutpriceisthat,forpricetocyclehigher,youneedaswinglowbeforeitmovestocreateaswinghigh(andviceversa).
anddownrepeatedlyinanuptrend.StartingfrompointAandBontheleft,watchhoweachpriceactionpullbackcreatesaswinglow(C)whichisfollowedbyaswinghigh(D).Inordertospotanewpullback,changetheCandDtoaNewAandNewB.Ascyclerepeatsitself,anotherpullbackdevelopstocreateanewswinglow(NewB)and
lookingforpullbacksistousetheannotationofswinghighs(H)andswinglows(L).Hence,itisusefulifyouthinkofpricepullbacksastheycyclewithalternatinghighsandlows.
Asshowninthethreediagramsabove,theshortlinesrepresentthehighs(H)andlows(L)ofeachpricecycle.Inadowntrend,aH-L-H-Lwouldrepresentonecycle,andHiswherethepullbackislocated.Meanwhile,inanuptrend,aL-H-L-Hwouldrepresentanothercycle,andLiswherethepullbackislocated.Evidently,thereisapullback
ineachpricecycleandpricecycleshappeninanymarketconditions.Hence,ifyoustruggletofindpriceactionpullbacks,allyouneedtodoisdrawthehighsandlowsonyourchartsandyoucanalmostseethemimmediately.Incaseyouhaven’tnoticed,pullbacksandswingsarelinkedandtheyareprettymuchinterchangeable.Readingpriceactionusing
swinghighsandlowsisagreatwayforspottingpullbacksandpullbacksaregoodwith-trendmarketentries.ThisisalsoagoodalternativetoABCDpatterns.BothSwingHandLareequallygoodwhencomparedtoABCDpatterns.Moreimportantly,neitherisbetterthananotherasbothareequallygood.Infact,thebestonesaretheonesthatwhatworksforyou.Somakesure
5.4MeasuringPullbacks
TheFibonacciRetracement(FibRet)isapowerfultooltousewhenidentifyingkeyareaswherepullbacksendbeforemovingbackintotheDTD.However,sincepriceactionisdrivenbymarketplayers,theyarenotexactscienceandtheyhavetheirlimitationstoo.Hence,donotworshipthetoolbutuseitin
moderation.Moreimportantly,useitalongothertoolsthatyoumayalreadyhave.
5.4.1ABriefIntroductiontoFibonacci(Fib)
FibonaccinumberswereintroducedbyLeonardoPisanoBogollo(1170-1250),anItalianmathematicianfromPisa.Heisknowntohavediscoveredthenumbers,
whichareasequenceofnumberswhereeachsuccessivenumberisthesumofthetwopreviousnumbers.Example:1,1,2,3,5,8,13,21,34,55,89,144,233,377,610……Asshown,whenyousumanumber(n)toitsprecedingnumber(n-1),you’llgetthenextinsequence(n+1).Forexample,whenyouadd1+1,youget2?Whenyou
add5+8,youget13?Orwhenyouadd233+377,youget610?Andsoon.Thesequenceextendstoinfinityandcontainsmanyuniquemathematicalproperties.ThesenumbersarebasedonLiberAbaci–abookonarithmeticbyLeonardoofPisa,knownlaterbyhisnicknameFibonacci.LiberAbaciwasamongthefirstWesternbookstodescribe
Hindu–Arabicnumberstraditionallydescribedas"ArabicNumerals"Themainratiousedis0.618–thisisfoundbydividingoneFibonaccinumberintothenextinsequenceFibonaccinumber(Example:Both55/89or377/610=0.618).Meanwhile,theinverseofthatiscommonlyknownastheGoldenRatio–1.618.Otherratiosinclude
0.236,0.382and0.764.ItisunderstoodthatFibonaccinumbersanditsratiosrepresentmanynaturalphenomena.Ofcourse,thathappenstoincludethefinancialmarket–sincepricesaredrivenbyhumanbeings(ashumanstooarepartnaturalphenomena).
5.4.2FibonacciRetracements(FibRet)
AstheseFibonacci(Fib)
numberscanbeappliedintechnicalanalysis,Fibratioshavebeenusedbymanytraderstoidentifyareaswherepricewouldpotentiallyreverse(attheendoftheretracementsorpullbacks)backintotheDTD.Withoutanysurprises,thetypicalFibratiosthatareusedinclude23.6%,38.2%,50%,61.8%,76.4%and100%.However,38.2%,50%and
61.8%areknownasthekeyratiosandhavebeenfoundtobemoreusefulthantherest.Hence,manytechnicaltradersalsoassociatethisasaFibRetratio.The50%FibRetisnotaFibonaccinumber.Nonetheless,thisnumberisderivedfromDowTheory’sassumptionthatpricegenerallyretracestohalfitsprimarypricemovement.
FibRetratiosaremoreusefulwhenpriceisinatrendingmarketbecauseitisassumedthatpriceislikelytocontinueinitsmajortrenddirection.Withthat,let’shavealookatsomeexamples.38.2%FibPullback
Diagram5-23:38.2%FibPullback
Asshownabove,whenyoudrawtheFibRetratios,the38.2%ratioshowedthatitwasagoodareaforpricetoreversebackintotheDTD.Since38.2%wasrelativelyshallow(comparedto50%or61.8%),itcanbeassumedtobeashallowpullback.Hence,itcarriesthecharacteristicsofashallowpullbackwhichwasdiscussedearlier.
Diagram5-24:50%FibPullback
Thenextexampleisthe50%FibRet.Thislevelisthemidpoint(betweenAandB)anditisquitecommonforpricestobounceintheareabetweenthe50%and61.8%levels.Thesharppullbackaboveshowsthatpricehadrespectedthe50%ratiobeforeitstartedheadingnorthagain.61.8%FibPullback
Diagram5-25:61.8%FibPullback
61.8%Fibisapullbackthathaspassedthemidpoint.Whiletheterminologyislessimportant,asaFibonacciuser,weneedtorememberthe50%-61.8%isafavouredretracementareainthefinancialmarket(asmentionedpreviously).Lookingatthediagramabove,pricecamedownandtestedthe50%Fibbeforeit
movedfurtherdowntotestthe61.8%Fiblevel.Asyoucanimagine,itisnotuncommonforpricetotesteachratiobeforesettlingforone.
5.5KeyPointsHerearethesummariesandkeypointersforthissection:
-APullback,bydefinition,happenswhenpricemovesatleastonebaragainstthedominanttrenddirection(DTD).Itisonlytemporarilycounter-trendpricemovementbeforeitresumesbackintothemainmarketdirection.
-Themoretypesofpullbackyoulearn,themoreyouarereadyandpreparedforthemarket.-Simplepullbacksareeasytospot,andtheyareprofitablesetups.-Complexpullbacksaremoredifficulttospotbutkeeppracticing,andyou’llbeabletoseethemcominginadvance.-FibonacciRetracementratioisa
goodtooltohelpidentifyareasofapotentialreversalofpricebackintotheDTD.38.2%,50%and61.8%areknownaskeyFibRetratios.-IfyoustruggletofindpullbacksusingABCDpatterns,agoodalternativetospottingpullbacksisbyspottingswinghighs(H)andswinglows(L).
6WhenPullbackFails“Knowthyself,knowthy
enemy.Athousandbattles,athousandvictories.”
–SunTzuAsSunTzusaysit,knowingyourselfisonlypartofthegames,ifyouknowyourenemytoo,youcanwinmanybattles.Ifyouwanttosucceedin
usingpriceactionpullbacksinyourtrading,youneedtoknowhowpullbacksfailtoobecause,whenithappens,youarepreparedforit.Onceyoulearntonavigatethemarket,throughsuccessfulandfailedpullbacks,youarecertaintoprogressprettyfarinthiscareer.Withthat,thissectionistoexplorepriceactionleadingtoapullbackfailureandwhat
Usingtheexampleofasimpleuptrendpullback,wedefineapullbackwhenpricemovesagainstthedominanttrenddirection(DTD)momentarily(fromBtoC)beforeitreversesbackintotheDTD(fromCtoD).
Diagram6-2:WhenPullbacksareCompletedVsWhenPullbackFails
Asmentionedearlier,theterminologyofapullback
onlyrepresentsBC.However,forthesakeofcompleteness,apullbackmustincludeCDwhereDclearlymovesbeyondB.Ontheotherhand,ifCclearlymovesbelowA,BCisnolongerapullbackandthatisthepointwherethepullbackfails.Justareminder,itisimportantthatabreakbelowpointAshowsconviction,becauseaconvictedfailure
TheSwissy(USDCHF)currencypairdailychartaboveshowsafailedpullback.Startingfromtheleftofthechart,themovedowntoC(afterABmadeanewhigh)lookedlikeanormalpullback.Infact,thesmall-bodieddoji(barC)seemslikeareasonableindicationtoshowthatthesellershavehadenough,andthebullishtrendbarafterthatwasagoodsignalshowing
thatthebuyerswereback.However,CDdidnotgobeyondB.Instead,priceturnedatDtomovesouth.ThepullbackbecameinvalidatedassoonaspricemovedbelowA,andbarEwaswhereithappened.Whenthathappens,Ebecomesthefirstlowerlow(LL)intheuptrend.
WhenCmovesbelowA,thatmeansthepullbackhasfailed.Thisisanimportantpricepatternfortrendtraderstorememberbecause,whenapullbackfails,thechancesarehighthatthemarkettrendhasended.However,thisdoesnotimplythatthemarketisgoingtostarttrendingintheoppositedirectionimmediately.Manynewtradersassumethatwhen
thetrendingmarketends,you’llgetareversalmarketimmediately.Unfortunately,that’snotthecase.Whenatrendends,thereisa50:50chancethatpricewouldreverseintothenewdirectionoritcouldstartmovingsideways.Infact,ifyougetasidewaysmarket,youcouldstillfindthemarkettrendingagainintheolddirectionattheendofthesideway
Diagram6-5:DowJonesIndexshowingMixedMarket
TheDowJonesIndexabove(takenfromDiagram4-5)showedhowpricemovedfromonemarkettoanotherinnoparticularorder.Thisjustgoestoshowthatthemarketdoesn’tnecessarilyreversesimmediatelyafteratrendingmarketendseventhoughitcould.Tosumitup,herearethepotentialoutcomeswhena
pullbackfails:-Marketmovessideways
-Afterthat,itcontinuesintheoriginaltrenddirection,or-Afterthat,itreversesandstartsanewtrendintheoppositedirection
-Itreversesandstartsanewtrendintheopposite
directionAsyoucansee,themarketworksinitsmysteriousways.However,whilethemarketisrandom,wecanstillnarrowdowntheoptionsandbepreparedwheneitherofthemhappens.
Diagram6-6:DefiningtheFailureofaFailedPullback
Let’spushthisonenotchhigher.Nowthatyou’reawareoftheimportanceofpointAandBinanABCDsimplepullbackpattern,let’sexplorethesetwopointsslightlymore.Asmentionedearlier,afailedpullbackisagoodindicationofchangeoftrend.However,itisnotsurprisingthatyoucancomeacrossafailed
pullbackthatfails.Essentially,inanuptrend,thishappenswhenpricemovesbelowpointAbutfailstosustainthedrop.Inotherwords,youhaveafalsebreakbelowPointA.ThisisnotsurprisingaswellsincePointAisalsoahorizontalsupportlevel.Asyoucansee,thatiswhyitisimportanttogetaclearbreakbelowPointAbefore
youcanbecertainthatthemarketconditionhaschanged.IfthereisnoconvictiontobreakbelowPointA,whichwasagoodindicationthattherewereinsufficientsellerstopushthepricelower,buyersseethatasanopportunitytobuythemarketatanevencheaperprice.Thekeyatthisstageistostartlookingforcluesinthe
marketagain.Oneoftheapproacheshereistofigureoutwhichmarketplayerisbuying–isitabigplayeroramidplayer?Ifyoufindastrongbullishpinbarfollowedbybullishtrendbars,thechancesarehighthatthebigbuyersareback.Ifnot,thenbepreparedforevenmoreuncertainty.Forsmarttraders,therealconfirmationthatthebullsare
backiswhenyougetaclearbreakabovepointB.Thisisalsoimportantbecause,withoutthatconfirmation,pricecanevenmakeasecondattempttotestPointA.Whenthathappens,thereisapossibilitythatneitherthebuyersnorsellersaredominantanymore.Infact,pricecouldhaveshiftedintoarangingmarketbeforeyourealised.
Diagram6-7:Gold(1hourchart)showingaFailureofaFailed
Pullback
TheGold(1Hour)chartaboveshowedafailureofa
failedpullback(circle).PricemadeasmallspikebelowPointAbutmanagedtoclosewithapinbarwherethebodyofthebarwascompletelyabovePointA.Allthesepriceactionarecluestoshowtheprobabilityofconvictedbreakwasfairlylow.Inthisexample,pricedidnotshowmuchconvictionafterthefailureofthefailedpullbackandpricestartedto
wondersideways.Barswithlongtailsandsmallbodiesareclassicexampleswheretherewaslittleconvictionfromeithersideofthemarket.Inotherwords,thefailureofafailedpullbackwasthestartofevenmoreuncertainty.
chart)ShowsalongContinuationafteraFailureofFailedPullback
TheS&P500Indexshowedanotherfailedpullbackthatfailedona4hourchart(bar1).Lookingatpriceaction,thiswassomewhatsimilartoadoublebottompullback(barAand1)wherethehorizontalsupportlevelwastestedagainbutitfailedtobreakbelowit.Afterthefailure,pricestartedmovinghigher,andtherewereevidencethatbigger
buyerswerepresentassoonasyousawlongbodiedandshorttailedtrendbars(bar2).ThefinalconfirmationwaswhenpricebrokeabovePointB(bar3and4).
6.4FinalTestoftheExtremes
Beforeweexplorethefinaltestoftheextremes,let’sheadbacktothebasicideaofreversiontomeanthatwasdiscussedinSection4.3.MarketExtremesOneofthebeautifulphenomenaaboutthetradingthemarketisthatthemarketisdrivenbyhumans(orhumanbehaviour)and
humansareusuallyresistanttochanges–thisisespeciallytrueatmarketextremes.That’sthesamereasonwhythebuyersandsellersoftenputupagoodfightbeforeacceptingthatthemarketconditionshavechanged.
(Box)ofaPendulumSwing
Inordertounderstandtheconceptofmarketextremes,let’suselookatthependulumagain.Tobeginwith,weknowthatthependulumswingsfromonesideofthemeantoanother.Atacertainpointintime,ithastomoveawayfromthemeanbeforeitreachesanextremeposition(theboxesinthediagram
above).Thenitreversesandswingstowardsthemeanagain.Ifyoubelievethattheextremepositioniswherethependulumreverses,thenyoushouldalsobelievethatthesamehappensinthefinancialmarketbutithappensatmarketextremes.Unfortunately,thefinancialmarketisnotasstraightforwardasthependulum
becausenooneknowswherethemarketextremeis.Hence,theonlywaytofindoutistoconstantlytestthemarketuntilwereachedtheFinalTest.FinalTestEventhoughbuyersandsellersareconstantlytestingthemarket,therewillalwaysbeadominantpriceleaderwhenthemarketistrending.However,thetestofthe
market(betweenthebuyersandsellers)becomesmoreintensewhentheyapproachmarketextremesbecauseitisattheseextremesthatthepriceleaderchangesfromthebuyerstosellersorviceversa.Hence,thetermFinalTestrepresentsthefinalattemptbythebullsorbearstopushpricesfurtherbeforeitreverses.
Ifyoucan,couldyouimagineamarketthatisatanextremeofapricecycle?Lookingatthediagramabove,imaginethemarketyouarelookingatissimilartoit?Priceisshowinghigherhighs(HH)andhigherlows(HL),whichisahealthyindicationofabullishmarket.Eachtimethemarketmoveshigher,thereisatestofthelasthighbecause,foranew
HHtoexist,itneedstobreakandgobeyondthelastHH.Thesetestsbecomemorechallengingasthemarketgetsexhausted,andthenumberofbuyersandsellersmovesclosertoequilibrium.Asyoucansee,themarketmadearecentHLanditbeginstocrawlhigheragain.With-trendtraderswouldlookforthebreakofthelastHHagainasaconfirmation
ofapullback.However,ifthemarketshowssignsofexhaustion,traderswouldbelookingforthosesignsshowingweaknessandwouldstayoutofthemarketuntilthereisconfirmationorevencluesofreversal.Essentially,anyofthefollowingcouldhappen.LowerHigh&LowerLow
pricemadeaLowerHigh(LH)asthisiswherepricefailedtobreakabovethelastHH.ThisisfollowedbyaLowerLow(LL)whichisaconfirmationthattheLHisthefinaltest.Justtobeclear,theLHdoesnotconfirmthefinaltestbecauseyoucanstillgetadoublebottompullbackandpricecouldcontinuenorth.However,assoonaspricemadeaLL,thatwastheconfirmationthatthepullback
hasfailed.BoththeLHandLLaregreatcluesshowingthestartofadownwardtrend.Also,thisisaclassicfailedpullbackpattern.DoubleTop
whenattemptingtomakeanewhigh.However,onthisoccasionitdidn’tasitfailedtobreakabovethelastHH.Infact,thefailuremadeadoubletopinstead.Similartothepreviousscenario,aLLisrequiredforconfirmationofthefinaltest.WithouttheLL,pricecouldturnouttobeaflatpullback,anditcouldendupmovingsidewaysinsteadbeforemakinganothertestoflasthigh.
Adoubletopisaslightlyearliercluethatthebullsarelosingcontrolandthatthesellersaregettingreadytoenterthemarket.Becausethedoubletopisobvioustoyou,itmeansthatothertraderscanspotittoo.Hence,thelikelihoodthatotherswouldgetintothetradehasincreasedtoo–thusbecomingaself-fulfillingprophecy.
anothercommontestoftheextreme.PricemadethefinaltestwhereitfinishedwithanewHH.Nonetheless,thesellerscameintothemarketandcompletelytookcontrolofprice.Whilethisusuallytrapsthebulls,itisalsoastrongpriceactionpatternshowingcommitmentfromthesellerswhodominatedthemarket.Smartbuyerswhoseethiswouldlikelystayoutofthemarket.
DuetothedistancetravelledfromHHtoLL,pricewouldalsolikelyhaveformedabearishtrendbarwhichisanothergoodcluethatthesellersareback.Essentially,theaboveissomewhatsimilartoanengulfingbarcandlestickpatternifitwasshowninacandlestickchart.HigherHigh&HigherLow
climbedhighertomakeanotherHHbutthiswasfollowedbyaHL.Thisonlymeansthattherearemoreteststocome,andthisisnotthefinaltestyet.Essentially,thisisbacktosquareoneandanyoftheabovepatternscouldpotentiallyhappeneitheronthenexttestoranytimeinthefuture.
6.5KeyPointsHerearethesummariesandkeypointersforthissection:
-Itisnotsurprisingthatpullbackscanfail.Infact,itisimportantthatyouknowhowandwhentheyfailsothatyouarepreparedforit.-Thefailureofafailedpullbackisequallyimportantwhentradingpullbacks.Onceyou
understandthat,nothingcansurpriseyouanymore.-Understandingthefinaltestoftheextremesistounderstandthatbuyersorsellersrarelygiveupeasily.Theexamplesshowingthetestsoftheextremeshowsthevariousscenariosofhowmarkettrendsendandhowtheycancontinuefurther.
7HowtoUseaPullback?
Knowingwhatyouknownowaboutpullbacks,youshouldrecognisethatapullbackisaPriceActionsignal.Sincemosttechnicalindicatorsarederivedfromprice,bydefault,priceistheonlyleadingindicatorintechnicalanalysis.Aboveandbeyondthat,itissaidthat
priceactionrepresentsmarketandinvestors’behaviour.Hence,somewouldgototheextenttoarguethatpriceactionincorporatesfundamentalanalysisandmacroinformation.Inotherwords,pullbacksarepowerfulindicators.Withthat,let’sidentifyhowthiscanbedone.
7.1CluesforSuccessIfyouwanttofullyutilisepullbacksinyourtrading,itisworthunderstandingwhenandhowapullbackcanbeprofitableand,inordertoachievethat,thereareafewkeyareasthatweneedtoestablishbeforeevenconsideringtakinganytrades.OneofthekeyareasthatI’mreferringtoismarketcluesthatarepotentiallysignsof
strengthinpriceaction.Yousee,ourobjectiveastradersistonotpredictthefuture.Youmayask–“Ifwearenotpredictingthefuture,thenhowelsearewegoingtomakemoneyfromtrading?”Withthat,Iwouldliketoinviteyoutothinkoftradingintermsofanexerciseofstackingprobabilities.Insteadoftryingtopredictthefuture,wesearchforcluesinorder
tostacktheprobabilityofsuccessinourfavour.Hence,themoreclueswecanfind,themorelikelythatthepullbackcanworkinourfavour.Thissectionisaboutunderstandingthevariouscluesforsuccessinthemarket.Ihopethatbyunderstandingtheseclues,youareabletostoppredictingandtostart
collectingcluesinstead.7.1.1Depthofapullback
Thedepthofapullbackisoneoftheeasiestandstraightforwardmethodsofidentifyingthestrengthofapullback.ShallowVsDeepPullbacksInSection5.2.1,we’veoutlinedsomeofthecharacteristicsofshallowpullbacksandoneofthe
characteristicsisthatitislikelytobeaone-sidedmarket.Thatjustmeans,inanupmarket,buyersaredominatingthebattleand,inadownmarket,sellersarethedominantones.Sincethemarketisone-sidedinashallowpullback,onlyafewinvestorspushthepriceagainsttheDTD.Thechancesarehighthatthetrendwouldremainstrongforawhile.
Diagram7-1:ShallowPullbackShowsStrength
Lookingatthediagramabove,thebuyerstriedtopushthepricehigher(bar1nearthearrow).However,theydidn’thavetheresourcestodoso.Ontheotherhand,sellersdidnotwaitlongbeforetheysoldthemarketagainandthatformedashallowpullback.Theshallowpullbackwasagoodsignthatthesellers
wereincontrolandtheycontinuedtopushpriceevenlower.Whilewedon’thaveexternaldatawithushere,priceactionwasshowedstrongsellertrendbars(bar2)andthesewereconfirmationsthatthesellershadthecontroloverthemarket.Also,oncethemarketstartedmovingagain,smartbuyerswhosawsuchmomentumwillstayoutofthemarket.
Hence,itisselffulfillingthatwithlittleornobuyers,themarketcanonlymoveinonedirectionandwoulddosoeasily.
deeppullbackoftenleadstolessaggressivepricemovementsattheendofthepullback.Theaboveexampleshowsaverydeeppullback(bar2)andpricehadgonequiteclosetothestartofthepreviouslow(bar1)beforeitresumeditsmoveintheDTD.However,asyoucansee,pricedidnotmovefarbeforeitshowedsignsofweaknessanditstarteditsmovedownagain.Asyou
cansee,thebullsdidnotshowconvictionanymoreandthereislittlestrengthinpushingthepricehigher(bar3wasthenexthigh).AsmentionedinSection6.4,asyougetclosetothemarketextremes,thisiswhenbuyersandsellersmovetowardsequilibrium.Incaseyouhaven’trealised,deeppullbacksalsoprovidesimilarclues.Hence,deeppullbacks
cansometimesbeagoodindicationthatthemarketisnearlyexhausted,andthetrendcouldendsoon.AMechanicalApproachAmoremechanicalapproachtomeasuringpullbackcanbedonebyusingtheFibRettool.AsshowninSection5.4,itiscommontofindapullbackarrivingataspecificFibRetratiobeforeprice
resumesbackintotheDTD.Theratiosthataregoodindicatorsofashallowpullbackare23.6%and38.2%.Ontheotherhand,61.8%and76.4%areconsideredhavingdeepordeeperpullbacks.Inotherwords,ifyoufindapullbackreversingaround23.6%or38.2%Fibratio,thesearepullbacksthatcouldpotentiallyindicatethatprice
cangomuchfurther.Ifyoufindpullbacksreversingaround61.8%and76.4%ratios,thechancesarehigherthattheycanshowweakness.
Diagram7-3:S&P500IndexshowingStrongSellingPressure
ThehourlychartoftheS&P500Indexshowedapullbackretracingupto38.2%Fibratio(circled)beforepricecontinueditstrenddownwards.Asshownabove,therewasagapwhenthemarketopenedbutthatdidnotaffecthowpricereactedtothe38.2%levelwhereitturnedaroundandresumeditsoriginalmove.
Aftertheinitialpullback,pricecontinuestodropandyoucouldfindmorepullbacksalongtheway.Asatrader,donotpanicasitisnormalforpricetocontinuetoretracetimeandagain.Infact,thesepullbacksgodeeperanddeeperasmoreandmorebuyersgraduallyenterthemarketcausingthedownwardmomentumtoloseitsstrength.
Diagram7-4:AUDUSDPairshowingStrongBuyingPressure
TheAUDUSDcurrencypairshowedashallowretracementonthe15minutechart(circled).Theflatpullbackaroundthe23.6%Fibratiocontinuedtopushhigher.Again,pricestartedtomakedeeperpullbacksandthesharppullback(bar1)isagoodexampleofthat.Knowingthatthereisstrengthinthemarket,smart
Diagram7-5:DowJonesIndexshowingStrongSellingPressure
Thenextdiagram,DowJonesIndexonthe15minutechart,depictsaretracementthathasapullbackratiothatislessthan23.6%.Whileitmightbedifficulttospotthesepullbacksinalivemarket,itjustgoestoshowthatthesetypesofpullbackaregreatindicatorsforstrongsellingpressure.Ofcourse,it’seasiertolook
atachartandthemarketinhindsight.However,youneedtopracticespottingshallowpullbacksbeforeyoucantakeadvantageofthem.Itisimportanttomakeanefforttosearchandtorecognisethesepullbacksastheyaregreatsetups.Theone-sidedmarketwilltiltthebiasinourfavour.
7.1.2TrendBars
TrendbarsorMarubozupriceactionbarshaveoftenbeenunderratedbytechnicaltradersbecausemanyseemtobelookingfortechnicalindicatorsinstead.Hence,Iwouldliketohighlightthefactthattrendbarsaregreattoshowstrengthsinthemarket,andyoushouldlookforthemespeciallyatthestartofanewtrend.Theyare
veryusefulcluesfortradingsuccessespeciallynearextremes.Essentially,trendbarsareimpulsepriceactionwhichindicatesthatthebigplayersaredrivingthemarket.Bigplayersusuallyhavedeeppocketstopushthemarket,andtheydosointhemediumtolongterm.Hence,thelongerthetrendbarsthebetter.
Ifthetrendbarislongerthantheaveragesizebar,thatisalsoagoodindicationofmomentumandthisisusuallythestartofamarketrally(ordecline).Ifyoufindthatthetrendbarshaveverysmalltailsthatisevidencethatthemarketisone-sided,andthemomentumisincreasedfurther.Alternatively,ifthetrendbarisattheendoftherun,this
canbeanindicationofexhaustion.DefinitionofTrendBarTheLongBuyerTrendbarhasshorttailsincluding:-ClosenearHigh-OpennearLowTheLongSellerTrendbarhasshorttailsincluding:-ClosenearLow-OpennearHigh
Diagram7-7:GoldShowingSellers’Conviction
IntheGold4hourchartabove,thesellersshowedconvictionassoonasthefirsttrendbarclosed(bar1).Thebarwaslongandhadshorttails.Thelengthofthebarwasmultiplesofitsprecedingbars(notshown),anditshowsthatthesellerswereserious.Aftertheinitialtrendbar,pricemadeadoubletop
pullback(circled)beforeitpresentedanothertrendbar(bar3).Smartsellerswouldhavetakenashortentryatthatdoubletoppullback.Meanwhile,thosewhowantedmoreconfirmationmayhavetakenthebreakbelowbar2assoonasthepullbackwascompleted.Alternative,moreshortpositionswouldhavebeen
Diagram7-8:FTSEIndexShowingBuyersConviction
TheFTSEIndexonthedailychart(above)startedoffwiththreebuyerbarswiththecentreonebeingatrendbar(bar1).TheJapanesecallsthethreecandlesticksaThreeAdvancingWhiteSoldiers.Whilethatwasabullishpattern,thenextbullishcluewasasimpleandsharppullback(circled)ata38.2%FibRetratiothatfinished
withalongbuyertrendbarwithsmalltails.Thecombinationoffactorsshowedplentyofreasonsthatthebullswereserious,thesubsequentrunafterthatwasjustfurtherconfirmationaspricebarelymadeanymorepullbacksuntillater.
7.1.3HorizontalSupport&ResistanceLevels
Priceactionhorizontal
supportandresistanceisasimpleyetpowerfulcluetousewhensearchingforareaswhereapullbackcouldreversebackintotheDTD.Thisisalsoconsideredmorereliablebecausethehorizontallevelsarelesssubjectivecomparedtoothercluessinceeachsupportorresistanceonlyrequireonepieceofinformation–aswinghighorswinglow.
eachswinghigh(H)wasidentifiedasahorizontalresistancelevel.Oncepricebrokeabovethatlevel,pricewouldthenretesttheswinghighwheretheresistancecouldturnsupport.Inotherwords,moreoftenthannot,pricesarereactingtothepriceswingscreatedinthepast.WhileeachHandLcouldbenewintheexistingcycle,someofthemcould
Diagram7-10:HammersonPLC(DailyChart)ShowingResistance
andSupportLevels
LookingattheHammersonPLC(DailyChart)above,pricemadeaswinghighatbar1andmadeahigherhighatbar2.Nonetheless,priceconsolidatedaroundbar2beforeitmadeaswinglowandanewhighafteritbrokeabovebar1andbar2.Bar3wasagoodretestofbar1swinghigh,anditturned
outtobeagoodbouncebackintotheDTD.Interestingly,pricecamebackdownagaintotestthatsamelevel(bar4)anditeventuallybecameadoublebottompullback.
7.1.4KnowingtheMarketPlayersandTimeframe
Understandingtimeframecorrelationisprobablyoneofthemostimportant
knowledgeinanytechnicaltrading.However,beforeIdiveintothesubjectoftimeframecorrelation,itmightbeworthgraspingtherelationshipbetweentimeframeandmarketplayers.MarketPlayersTherearevariousmarketplayersinthefinancialmarketandtheyeachhaveadifferentroletoplayinthe
market.Duetothevaryingobjectivesthattheycarrywiththemwhentheyenterthemarket,theyinfluencethemarketdifferently.Forsimplicity,Ihavegroupedthevariousmarketplayersinthreecategories(below).Ihavealsoincludedashortsummaryofcharacteristicsoftherespectiveplayers:
BigPlayers
-Centralbanksormajorfinancialinstitutions-Theyarelongtermmarketplayersandusuallydrivethemarketsastheyhavedeeppockets.-Theyusuallyenterthemarketforfundamentalreasonsonly.-Theyusuallyenter
themarketonalargertimeframe.
MidPlayers-Mid-sizedorsmall-sizedbanks,largehedgefunds,marketmakers,largecorporateorcommercialcompanies-Amixtureofshorttermandlongtermplayers.However,theyareusuallyableto
influencethesmallplayers.-Theyenterthemarketforfundamentalandprofitmakingobjectives.-Theyusuallyenterthemarketonanytimeframe.
SmallPlayers-Retailandprivateindividualtraders.-Theyhavelittle
influenceoverthemarket.-Theyusuallyhaveprofitmakingobjectivesonly.-Theyusuallyenterthemarketonanytimeframe.
TheBiggerPictureAsyoucansee,understandingthemarketplayerscanpotentiallyhelp
youplanaheadbecauseyoucannotignorethefactthattheyareabletoinfluenceothermarketplayers,aswellasthedirectionofmarkettrend.Inordertofurtherelaboratemypoint,herearetwoobviousrelationshipsbetweenthemarketplayersandtimeframe.Ihopetohighlighttheimportanceofthebiggerpicture.
StrongTrendingDayBarsIfyouseelongtrendbarsonadailyorweeklychart,especiallyatthestartofthenewtrend,bepreparedforastrongtrendingmarket.Asmentionedpreviously,strongtrendbarsaregoodindicationofstrengthbutatrendbaronabiggertimeframeismorereliablethanoneinan
intradaytimeframe.Asstatedearlier,thebigplayersareinthemarketforthelongerterm.Whentheyenterthemarket,theyhavetheresourcestofuelthemovementofpriceinacertaindirectionforarelativelylongtime.Abovethat,theyenterthemarketinsmallchunks–asopposetoputtingtheirentirebuyorsellordersin
onetrade.Hence,whenyouseeastrongtrendbaronthedailychart(orevenonthe8hourcharts),bereadytofollowthatsamedirectionbecausethatisusuallyagoodindicationthatthebigplayersareinthemarket.Infact,allyouneedtodoistofollowthemandtheprobabilityofwinningincreasesas
well.AimlessMarketIfyouareashorttermtrendtraderandyou’refacinganaimlessmarket,youmayfindthatyouareconstantlybeingkickedoutofyourtrade.Whileyouarecertainthatyouarefollowingyourrules,youfeelthatthemarketisagainstyou.Guesswhat?You’re
probablyright.Thesearethedaysthatyoushouldbecautiousbecause–andit’snotthattheentiremarketisagainstyoubut–thechancesarethatthemidplayers(e.g.hedgefundtraders)aremanipulatingthemarketinordertomeettheirdailyprofittargets.Thisusuallyhappenswhenthemarket(onthe
largertimeframe)isconsolidating.Rememberthataconsolidationiswhenthemarketisundecided.Thisisalsoaperiodwhenmid-playerstakecontrolastheyknowthatthebigplayersareprobablysittingout.Atthisstage,thebigplayersprobablyhavemost(orall)theirordersfilledandtheyarewaitingasideuntiltheydecidetoeitherpush
themarketfurtherortoexitit.Also,sincetheobjectiveofmidplayers(whichincludesmarketmakers)arepurelyfinancial(i.e.profitmaking),thatmeanstheycanuseofanytradingsystemsaslongasit’sprofitable.Withthat,youcanprobablyseewhytheword“manipulate”isagoodrepresentationofthe
midplayers.However,theonlyrealthingthatweknowaboutmidplayersisthattheylosetheircontrolofthemarketwhenthebigplayersarebackintothemarket.Again,theseareusuallyobviousonlargertimeframes.
Asyoucansee,theaboveareillustrationsoftwoextrememarketconditions.Thetruth
isthatthefinancialmarketusuallygoesthrougheitheroftheaboveorexperiencessomethinginbetweenatanypointintime.Thatisalsowhatdeterminesatrending,reversalandrangingmarket.Therealchallengeisthatwedon’tknowwhathappensnext.However,ifyouareuncertainaboutthemarketconditions,alwaysusealargertimeframeforclues.
Forexample,ifyouaretradinga5minutechart,itwillbeworthcheckingonthe60minutechartfordirection.Ifyouaretradinga4hourchart,itisbeworthcheckingthedailychartetc.Hopethatmakessense?Lookingfortherightmarketplayerscanbesomewhatchallengingbut,donotbedespair,becauseallyouneedispractice.Moreimportantly,
whenprobabilityworksinourfavour,priceactionusuallyshowssignofstrengthsthatcanhelpusfindthosewinningtrades.
7.2KeyPointsHerearethesummariesandkeypointersforthissection:
-Priceactionisaleadingindicatorand,hence,pricepullbackisagreatpriceactiontool.-Inordertoincreasethechancesoftradingsuccessinatrendingmarket,youshouldlookoutforcluestoincreasetheprobabilityofsuccess.
Thesecluesinclude:-ShallowPullbacks-TrendBars-PriceChannels-HorizontalSupportandResistancelevel-Knowingthemarketplayersandtimeframe
8TheBestPullback
Ifyouhavebeenfollowingthebookfromthestart,Ibelieveyoushouldhavehadadecentunderstandingofwhatapriceactionpullbackisallaboutbynow.Ifyouhave,thenlet’strytodiveintoalittlemoredetail.Sincepullbacksareeverywhere,youneedto
appreciatethefactthatsomepullbackshavehigherchancesofsuccessthantheothers.Hence,inthissection,Ihopetosharesomeideasonwaystopickpullbacksthatcouldyieldbetterprobabilitiesofsuccess.
8.1NextBestEntryIfyouwanttobeprofitabletradingmarketpullbacks,letitbenosecretthatthebestpullbackistheFirstpullback.Thefirstpullbacksarethewith-trendentriesthatcanbefoundattheverystartofanewtrend.Withthat,let’sexploretheideaoftradingthefirstpullbacks.
Diagram8-1:IdealTopandBottomEntries
Inanidealsituation,themostprofitablewaytotradethemarketistocatchtherunfromtheverytopandcashoutatthebottomofthemarket.Theoppositeisalsotrueifyoucatchitfromthebottomandexitrightatthetopofthemarket.However,thenatureoftradingissuchthatweneverreallyknowwherethetoporbottomis.
Aboveandbeyondthat,catchingthetoporthebottomofthemarketisprobablyoneofthehardertasksandmanytradershavelostsubstantialamountofmoneywhileattemptingtodoso.
Diagram8-2:NearTopandBottomEntries
Insteadofenteringthemarketatthetoporbottom,thefirstpullbackallowstraderstoenternearthetoporbottom(asshownintheboxabove),thisissomewhatsimilartoenteringatthetoporbottom,andyoucanstillenjoythemajorityofthebenefits.Hence,enteringthemarketatthefirstpullbackisthenextbestentry.
Essentially,thefirstpullbackinthenewtrenddirectionisalsothefinaltestoftheextremeintheoldtrenddirection.Hence,understandingthefinaltestoftheextremeisfairlyimportantwhenidentifyingthefirstpullback.Itisalsothefailedtestbecauseitfailedtomakeanewextreme.Justtobeclear,thefirstpullbackisnotareversalset
up.Instead,itisawith-trendsetupthatentersthemarketataveryearlystageofthenewtrend–itisthefirstwith-trendentryimmediatelyafterpricehasreversed.Sometimes,onewouldbeinthemarketwhileotherswaitforconfirmation.However,whilemanywouldbeafraidtoenterthemarket,smarttradersunderstandthatthisisalowriskandhigh
rewardsetup.Infact,itisagreatandsafeentry.Ofcourse,itisalsoimportantthatyouhavesufficientCluesforSuccessbeforetakingaposition,wherewewillgothroughinmoredetail.
8.2FirstPullbackinNewDirection
Asweknow,whenthetrendends,itdoesnotimplythatthenewtrendwouldstartimmediately.Hence,itiscrucialthatyouneedtoknowwhatpriceactioncluestolookforwhenlookingforthefirstpullbacks.
Beforewesearchforthefirstpullback,Ithinkit’sworthtalkingaboutpriceactionrightbeforeithappens.Usingtheexampleabove,themarketiscurrentlyinanuptrend(oldtrenddirection).Thefirstindicationofapotentialnewpullback(inanewdirection)iswhenyouseethefirstLH.ThisisbecausetheLHisasignofweaknessthatisshowsthat
thebuyersarenotcompletelyincontrol.Asdiscussedearlier,thisisalsoapotentialfinaltestoftheextremehigh.Buyersaretestingtoseeiftheycanmoveanyhigher.Meanwhile,thesellersarekeepingacloseeye,oncetheyknowthatbuyersareexhausted,bigsellerswouldtakecontrolofthemarket,andtheywouldpushpricelower.However,
WhenyouhaveaLH(theNewCinthediagramabove)andwhenpricebreaksbelowPointC(theNewBindiagramabove),theinterestingpartaboutpriceactionisthatitisalsowherethefirstpullbackinnewdirectioniscompleted.Inotherwords,youcanthenfindanewABCDinthenewdirection.Incaseyouhaveforgotten(as
mentionedinSection5.1),BCistheactualpullbackbutapullbackmustincludeCDwhereDmovesbeyondBorthepullbackisinvalid.Thesameapplieshereand,hence,pricemustmovebelowtheNewBforconfirmationofthefirstpullbackinthenewtrenddirection.Onceyouhaveafullcycle,thechancesarehigherthatthemarketisnowina
downtrend,andthechancesarenowslimmerforpricetomoveupwardsorsidewayssincethedownwardmarkethasalreadystarted.
8.3CombiningCluesforFirstPullbacks
Sothatwasit.Thefirstpullbackisnowontheway.However,understandingthefirstpullbackmeansnothingifyoudonottakeanypositions.Youeithercatchthenewpullbackoryoumissedit.Truthtobetold,thereisnothingmuchyoucandoaboutitonceyoumissarun.
Asyoucansee,tradingisaboutpreparationandthemoreyouarepreparedforit,themoreyoucangrabahighprobabilitytrade.Hence,thissectionhelpsidentifythecluesforsuccessforcatchingthefirstpullback.WediddiscussthecluesforsuccessinSection7.1andsomeofthosecluesareapplicablehereaswell.However,aswecontinueto
digdeeperintothenatureofthefirstpullback,Iwillsharesomesimplewayswhereyoucancombinecertaincluestoachievingevenhigherprobabilitiesofsuccess.
8.3.1ConvictionofaFailedPullback
Here’saquickreminderofhowpullbacksfail.Lookingatthediagramabove,wecanseethatpricebreakbelowPtAandthatisaconfirmationthatthepullbackhasfailed.ThisisalsothefirstLLthatwewerelookingfor.Whilewedon’tknowwhathappensnext,wecanonlywaitformorepriceconfirmationtoshowusifthebuyersorsellersaretaking
thelead.Nonetheless,theonlythingthatwearecertainistheoldtrendhaslostitsdriveandthatisanimportantcluetonote.SeeSection6.2fordetailsoffailedpullbacks.
Whileafailedpullbackisimportant,weneedtheprobabilitiestostackinourfavour.Hence,intermsofpriceaction,youwanttoseeaclearbreakbelowPointAandoneofthebestwaystoidentifyseller’sconvictionisbyfindingoneormorelongbodiedbearishtrendbarbreakingthroughpointA.Thisisastrongconfirmationthatthepullbackhasfailed
andtheprobabilityofgettingafailureofafailedpullbackhasgreatlyreduced.SeeSection7.1.2fordetailsoftrendbars.
8.3.2SpottingBigPlayersatMarketExtremes
Marketextremes,relatestothefactthatpriceisprettyfarfromaverageormeanprice.AsmentionedinSection6.4,thefinaltestofthemarket
extremeisagoodindicationthattheoldtrendisendingand,hence,itisusefulinpickinguppotentialpullbacksinthenewtrenddirections.However,tomaximiseapullbackatapriceextreme,tradersshouldtrytheirbesttounderstandtimeframecorrelationbecause,sometimes,thepatternsareonlyobviousatrelevanttimeframes–usuallythe
largerone.Forexample:
-Apriceextremeatthe60minutechartismorerelevantwhentradinga15minutechart-Apriceextremeatthedailychartismorerelevantwhentradinga60minuteor4hourlychart-Apriceextremeattheweeklychartismorerelevantwhentrading
dailychartJusttobeclear,thetimeframeofyouranalysisshowswherethebigplayersareheading.Meanwhile,thetimeframebelowthatshowsyouthepatternorpullbackthatyouarelooking.Althoughthismightnotalwaysbethecase,theprobabilityofsuccessincreasesonceyoumastertheabilitytospotthebigplayers(usingtimeframe
Diagram8-7:SilvershowingMarketExtremeonDailyChart
LookingatSilverinthediagramabove,youcanseefromthedailychartthatpricewasveryfarawayfromthemovingaverageline.Pricestayedfarawayfromthelineandevenclimaxed(boxed)atthetop.Thatwasconsideredtheextremesinceitwasatthepointwhereitwasfurthestawayfromtheaverageline(redline).
Diagram8-8:SilvershowingFirstPullbackon4HourchartnearDaily
Extreme
Usingthedailycharttoidentifythemarketextremeasyourclue,youcanthenmovetothe4hourcharttopinpointwhenpricepullbackfailsintheinitialtrenddirection.ThediagramaboveistheboxfoundinDiagram8-7.Asyoucansee,thefirstcluethatthebuyershaverunout
ofstrengthisthepriceactiondoubletop–afinaltestoftheextreme.Then,itwasfollowedbyaLL(bar1)aswellasaLH(bar2).Theconfirmationofthefirstpullback(circled)inthenewtrenddirectionwaswhenpricebrokebelowbar1.Ifyoustayedonthedailytimeframe,youmightnothavespottedthepullbackandwouldhavemissedagood
8.4OtherFormsofFirstPullbacks
Ihopethedescriptionsofthefirstpullbackhavebeenreasonablyclear.Thefirstpullbackisoneofthebestpullbacksinapriceactionsetupandtradersshouldlearntoidentifythemwhereeverpossible.Onthatnote,herearemoreexamplesofpriceactionpullbackswhichcanbefound
indifferentpatterns.AsIamanadvocateoftradingpriceaction,IwouldencourageyoutounderstandwhythefollowingsetupsaregoodinrelationtopullbacksandIhopeitdoesnotturnouttobeanexerciseofmerelymemorisingthepatterns.
8.4.1ReversalPatterns
Sinceafirstpullbackisanearlyentryinanewtrend,it
shouldbenosurprisethatyoucanfindmanyfirstpullbacksimmediatelyafterareversalpattern.Hence,Ibelieveitisworthexploringsomeconventionalreversalpatterns.Justtobeclear,aswith-trendtraders,theideaisnottotradethereversalpatternsanditisimportanttowaitforpricetohavereversedbeforelookingforanyfirstpullbackentry.
Onaseparatenote,thereisnothingwrongwithtakingareversaltradebasedonreversalsetups.However,thisbookisabouttradingwiththetrend,anditshouldbeclearthatthesereversalpatternsareonlyusedascluesratherthensetups.Hereareexamplestoillustratehowonecantradethefirstpullbackinreversalpricepatterns.
Asshownabove,adoubletoppatternisagoodandsimpleindicationthatthepricehastestedtheextremeonelasttimeandresultedinafinaltest,intheoldtrenddirection.However,asawith-trendtrader,thedoubletopisonlyapotentialstartofanewpullback(A)andthecluesthatyoushouldbelookingforarethenewlowerlow(B)andanewlowerhigh(C).
Theretestofthenecklineisanextrabutpowerfulclueasitiswheretheoldsupportbecomesresistance.Inotherwords,thedoubletopisonlythefirstclue,butnotaconfirmationthatafirstpullbackisready.Adoublebottomwouldactinasimilarbutoppositefashion.RangeMarketBreakoutsArangemarketcanhappenaroundthemarketextremeor
inthemiddleofatrendingmarket.Itisprettyimportantthatthetradershouldidentifythebiggerplayers(asdiscussedinSection8.3.2)beforehavingamarketbias.Asyouareaware,arangemarketisonlyformedifthereare2touchesoneithersideofthemarket(thisisrequiredtoformtheceilingandthefloor)andtheseareimportantcluestoconfirmarangemarket.
Arangemarketcanbesomewhattricky.Hence,ifyou’renotcertainoftheclues,itmightbeworthkeepingalogofitforafewtimesbeforeactingonit.Onceyouhavearangemarket,watchoutforfailedorfalsebreakouts.Unlessyouarearangeorbreakouttrader,with-trendtradersusuallystayasideuntilwegetsufficientpriceactionclues.
firstlowerlow,anditisalsothefirstbreakoutsidetherange.However,Bcanalsobeafalsebreak,andyoucanonlyfindoutifitisbywatchingCandDclosely.PointCisthefirstlowerhighandalsoaretestoftheresistance(previoussupport)level.Likeallotherpullbacks,thefirstpullbackisonlycompleteoncewehaveD,whichisthebreakbelow
BtoformasecondlowerlowandalsoacompleteABCDpattern.Ifthiswasatamarketextreme,pointAcouldpotentiallyactlikeadouble(ortriple)topwhichisalsothefinaltestoftheextreme.Ontheotherhand,ifthemarketwasinadownwardtrend,thenpointAcouldbeadoubletopbearishcontinuationpullbackpattern.
Eitherway,donotgettooboggeddownwiththeterminologiesbecause,ifyoudo,thechancesarehighthatyoucanmisslotsofprofitabletrades.Instead,readpriceactioncarefullyandunderstandthebiggerpicture.Whenpricechangesfromasidewaysmarkettoatrendingmarket,theconsolidationmarketactsasaspringwhereinvestorsarereadytoburstoutaftera
TheHead&Shoulder(H&S)patternisaclassictripletoppatternand,likeadoubletop,itisalsoagoodsignofpriceexhaustion.Asshownabove,anH&Spatternwouldconsistofthreetopswheretheleftshoulderisthefirsttop,theheadisthesecond(andhighest)topandtherightshoulderisthethirdtop.Thetwolowsinbetweenthethreetopswould
determinetheshapeoftheneckline–asitcanbeahorizontaloraslopeneckline.Inahorizontalneckline,theentireH&SpatternreliesonthefactthatDmustbebelowB,whichisalsobelowtheneckline.Withthat,thenecklinecarriesquiteabitofprobabilityweight.Ifpricefailstobreakbelowtheneckline,thiscouldturnout
developedbyR.N.Elliottandthetheorysuggeststhatthebasicwaveprinciplescanbedividedintotwomaincategories–ImpulseandCorrectivewaves.Accordingtothetheory,herearesomekeyrulesthatR.N.Elliotdeveloped:
-Impulsewaveshasa5-wavesequence(wave1-5–seeabove)-A3-wavecorrective
sequence(waveABC–seeabove)followsaftertheimpulsewaveends.-Wave2cannotretracebeyondwave1-Wave3isthelongestamongstalltheimpulsewaves(wave1,3and5)-Wave4canneveroverlapwave1
Asyoucansee,accordingtotheElliotWavetheory,catchingfirstpullbackinthe
impulsewavehappenstobethemostprofitablesetupsincewave3isthemother(longest)ofallwaves.Ontheotherhand,thefirst5wavesservesasaclueinpreparationforthefirstpullbackintheoppositiondirectionandthatiswaveCinthecorrectivewavesequence.Note:ThesearejustbriefextractsofElliotWaveTheoryto
showthatthefirstpullbackcanbeappliedandisinlinewiththeElliotWaves.However,thissectionisnotdesignedtoteachorexplaintheuseofElliotWaveTheory.
8.5KeyPointsHerearethesummariesandkeypointersforthissection:
-Thebestpullbackisthefirstpullbackinthenewtrenddirection.Sinceitisdifficulttopicktopsandbottoms,tradingthefirstpullbackprovidessetupsthatareneartopsandbottoms.-Cluesbecomemorepowerfulwhenyoustart
combiningmorethanoneofthem.Thetwomaincombinationdiscussedinthissectionincludes
-Identifyingconvictedfailedpullback-Identifyingbigplayersatmarketextremes
-Reversalpatternsaregreatsignalsinadvanceofthefirstpullback.Hence,itisusefultoknowthem.
Diagram9-1:DoubleTopNecklinePullback
ThediagramaboveshowstheEURUSD60minutechart.Bar1and3showsadoubletoppatternbeforepricestartedmovingsouth.Thatwasalsoagoodenoughindicationforpricereversal.Bar2wasagoodleveltodrawthenecklinebecausethatwasthepriorlowbeforethedoubletop(Bar1and3).Meanwhile,whilebar4
seemslikeafalsebreakoutinitially(asafalsebreakoutcanhappeninsimilarsituations).However,bar5showedsellers’convictionasthelongtrendbarpushedpricebelowthenecklineandbelowbar4withcertainty.Italsoformedaconvincinglowerlow.Oncebar5gavetheconfirmationofthelowerlow,traderswouldwaitfor
Diagram9-2:RangeMarketBreakoutPullback
TheaboveistheEURUSDcurrencypairona4hourchart.Asyoucansee,bar1&3formedtheceilingoftherangemarketandbar2&4formedthefloor.Sincethiswasamarketextremeonadailyorweeklychart(notshown),thiswouldhavebeenagoodplaceforsellerstowaitforthefirstpullbackinthenewdirection.
Buyerswhodidnotspotthatwouldhaveplacedtheirordersslightlyabovebar1foradoublebottompullbackbuttheirorderswouldnothavebeenfilled.Thefirstclueofashortwaswhenbar5brokebelowthefloorandbar4,thatwasalsoanicetrendbarshowingsomeconviction.Breakouttraderswouldhavetakentheshortatbar5,butwith-trend
traderswouldhavewaitedforthefirstpullback(incasebar5turnedintoafalsebreak).Bar6wasafailedfalsebreakout–sincethebuyersattemptedtopushpricehigherbackintotherangebeforethesellerstookchargetosendpricebackoutoftherangeagain.Trendtraderswouldviewthisasafailureofafailedpullbackinthenewdirection.
Irrespectiveofwhatthepatternwascalled,themarketplayersweretryingtooutsmarteachotherbytestingthemarketonbothdirections.Fortunately,thesellerstookthefinalcontrolofthemarketatbar6andpushedpricebelowbar5,andthatwastheconfirmationofthefirstpullback.
H&SPatternHead&Shoulder(H&S)patternsarefairlychallengingtospot,andit’susuallyeasierinhindsight.However,onecanexpectittoappearifitisneartheextreme.
Diagram9-3:GBPUSD(4Hourchart)showsH&SPatternwith
HorizontalNeckline
Theaboveisonechartthatwouldhavekickednewtradersoutofthemarketforavarietyofreasons.Lookingatthechart,bar2wouldhavebeenadecentflatpullbackbutwith-trendtraderswouldbetooeagertoenteratbar2.Instead,abreakabovebar1wouldhavebeenasafeentry–whichitdidatbar3.
Bar3wasaTrendbar,anditwasthefirstconfirmationoftheflatpullback.Unfortunately,pricedidnotfollowthrough.Whenyouseethatthebullshavenotfollowedthroughafterbar3,tradersshouldbecarefulthatasthisisthefirstsignofbuyers’weakness.Itwasalsoagoodcluethatwouldleadtoapotentialcomplexpullbackorevenafailedpullback.
Throughtheuseofasmallertimeframe,somewouldarguethatBar4testedthelowofbar2andtheyformedadoublebottom.Thatbecameadoublebottompullbackassoonaspricebrokeabovebar3.However,basedonthetimeframethatisshownabove,thatwasnotobviousenoughandwecanjustassumethatitwasonlyasimplepullbackpattern.
Thetrendbarafterbar4wasanotherindicationthatthebuyerswanttotakecontrol.However,itdidnottakelongbeforewesawpriceconsolidatingandbar5wastheconfirmationthatthesellerswerestrongtoo–abearishtrendbarwhichisalsoanengulfingbar.Thebuyerscamebackforthe3rdtimeatbar6.Atthisstage,itwasclearthat
themarkethadnodominantleaderandbuyers/sellerswereequallystrong.Smarttraderswouldbeextracautiousfromhereon.Assoonasbar7madeanewhigh(thoughitwasnotabovebar5),itwasclearthatbar4and6hadmadeadoublebottom.Infact,sincetheywereatsimilarpricelevel,thedoublebottomformedadecenthorizontalsupport.
Bar8brokebelowthesupportlevelbutfailedtoholdonbelowit.Thiswasatestofthelevel,anditwasalsoaconfirmationthatthesupportheldonwellatthatpricelevel.Somebuyerswereexcitedasthiswasalsoareasonableindicationthatthebuyerswereincontrol.However,whilethiscouldbeanearlyclue,theconfirmationofatrendcontinuationonlyhappens
whenpricebreaksabovebar5andthatiswhenpriceshowsanewhigherhigh–unfortunately,thatdidnothappen.Afterbar8,thestringofdojibarswasanotherconfirmationthatneitherthebuyersnorsellerswereincontrol.Asthosedojibarsformedasmallrangemarket,breakouttraderswouldhavetakenthebreakabovebar7
asasetupbutthatturnedouttobeafalsebreak.Sellersjumpedintoitassoonasitfailedandpushedpricefurtherdownfrombar9.Fromthatpointonwards,pricejustwentlowerandlower.Sellers’showedconvictionwhenpricebrokebelowthedoublebottomsupportlevelaswellasbelowbar8.Ontopofthat,thelowofBar8
waswherebuyersplacedtheirprotectivestops(whichweresellorders).Assoonaspricewentbelowbar8,thoseprotectivestopsgottriggeredinandfuelledthebearishmoveevenfurther.Bothbar7and9weretestsoftheextreme(whichwasthehighofbar5),wherebar9wasthefinaltest.Themovefrombar8to9wasthefirstpullback,buttherewasno
confirmationuntilpricewentbelowbar8.Unfortunately,thiswasacomplexpullbackwithinanH&Spattern–withbar3astheleftshoulder,bar5astheheadandbar9astherightshoulder.Infact,theH&Spatternwasnotconfirmeduntilitreachedbar10.Withsomuchindecision,thehighestprobabilitytradewasatthebreakbelowthe
neckline.Alternatively,traderswouldhavetakenthebreakbelowbar8sincethatwasthenewlowerlowandthatasalsothefirstpullbackinthenewdirection.Newtraderswouldhavebeentrappediftheyhadenteredwhenpricewentbelowbar6andtheywouldhavestayedaway.Thenextpullbackafterthatwasatbar11.Thiswasa
9.2KeyPointsHerearethesummariesandkeypointersforthissection:
-Beforeyoutakethefirstpullback,constantlylookforcluesthatwouldsupportyourdecision.Themorecluesyouhave,thebetterchancesofsuccess.-Whenthereisnoclearleaderinthepriceactionwar,it’salwaysbesttostayoutofthemarket.
-Firstpullbacksarehighprobabilitytrades.However,thereisnoguaranteethatthefirstpullbackalwayswin.Allyouknowisthatitcanbeprofitableinthelongtermifyoutradewithmultiplecluesforsuccess.
10Mastery–What’sThatAllAbout?
“Apersonhas“mastered”aparticularareaofskillwhenheorsheisabletohavebothconsciousandunconsciouscompetencewithrespecttothatskill.Let’stakeforexampleawoodcarver.Knowingthetechniquesofbeingagood
woodcarvermaymakeapersonagoodtechnician,butdoesnotnecessarilymakeapersona“master”.Inthissense,masterycanbecontrastedwithtechnical“competency.”Inadditiontobehaviouralcompetence,themasterknowstherulesofwoodcarving,theelementsthatguidetherules,andhasintuitionsaboutwhatiswell-formedintheprocessofcarvingwood.Masterycan
alsobecontrastedwithartistry(thenextlevelbeyondmastery)which,accordingtoGregoryBateson,istheprocessof“bendingtherules”inawell-formedway.Themasterissomeonewhoisbeyondbeingatechnicianandwellonhisorherwaytowardsartistry.”–NLPUMastery,foramarkettrader,goesbeyondtechnicalknow-
howandmonetaryachievements.Ofcourse,majorityoftradersIknowareinitforthemoneyinitially.However,asyoucontinuetoachieveyourfinancialgoals,tradingbecomesmorethanjustwealthachievements.Formany,itbecomespartoftheirlivelihood,andtheyfeelratheruncomfortablenotstayingintouchwiththemarket.
Ifyoutrulywanttobecomesuccessfulintrading,Istronglyurgethatyoutoworktowardstradingmastery–asopposedtohavingwealthobjectivesonly.Learningtotradethemarketrequiresyourcommitmentthatgoesbeyondwealthbecauseonceyouareamasteratit,achievingwealthiseasyandeffortless.Aboveandbeyondthat,don’tjusttakewhatIsayorwrote.
Infact,challengeeverythingthatIwroteinthisbook,becauseunlessyoudothat,achievingmasteryisjustanotherfancywordthatyoujustread.Agoodwoodcarverstartedoffbygettinghis/herhandsdirtybeforeknowingwhatrulesarerelevantandwhatrulesarenot.Becausehe/shehaspracticedtheskillssomanytimes,he/sheisabletoapplyalltheruleseasilyand
effortless,andthatwaswhenbendingtherulesbecamepossible.Ibelievesomeusefulpointerscanhelpyougoalongwayandthatiswhatthissectionisabout.Thefollowingaresomeareaswhichisimportanttoachievingtradingmastery.
10.1FourStepstoMastery
Iwon’tbesurprisedthatsomeofyouwouldstartapplyingthetechnicalsetupsinthemarketimmediately.Infact,Ihopeyoudo,becausethefasteryoustartapplyingit,thefasteryoucanstartmakingmoney.Nonetheless,masteryisajourney.Morethanthat,youalsoknowthatachieving
masterywouldrequirethetradertoapplythesameskillsoverandoveragain.Thisisthesimpleideaofrepetitionworksbecauseeachtimeyouharnessthesameskills,youapplythoseskillsbetterthanthelasttimeyoudidit.Essentially,itistherepetitionthathelpsyoubecomecompetent.Whileitisnotcrucialtoknowthesesteps,knowingit
ishalfthebattle.Ihavemetmanyimpatienttraderswhoneitherappreciatenorunderstandtheimportanceofrepetition.However,readingthisrightnow,youknowyoucanstandoutsuccessfullytobeawinner.Inordertohelpyouunderstandtheroadtomastery,Ihopethefollowingstepsareuseful.UnconsciousIncompetence
Rememberthefirsttime
youopenachart,yourealisedthatitseemslikeseeingabunchoflineswithfancycolours,andnothingmakesensetoyou.Thisiswheremostofusstartedourtradingcareerascompleteamateurs.Youventuredintothetradingworldhopingtogainnewwealth,andyoumay(ormaynot)havesoughtafter
variousresourcesinthehopeoflearninghowtotrade.Atthisstage,youwerecluelessastowhatresourceswereusefulandwhatwerenot.Someofyouwouldhaveinvestedintradingcourseswhilesomehavereliedonbooksandpublishedmaterials.Eitherway,inthisfirststageoftrading,youdon’t
knowwhatyoudon’tknow.
ConsciousIncompetenceOnceyou’vecollectedyourresources,youstarttolearnsimplepriceactionortradingsystems.Someofyouwouldhavelearnedspecificskillsifyoujoinedacourse.However,mostofyouarestillconfusedwhenyouseeachartfullof
candlesticksorbars.Whileyoustarttolearnthebuildingblocksofpricecharts,youstruggledtomakeanysenseoutofit.Asyoucontinuetoacquirenewknowledge,youstarttofluctuatebetweenbeingunconsciousincompetenceandconsciousincompetence.Eachtimeyoulearnanew
toolandtrytoapplyitinthemarket,yourealisethatthereisagapinknowledge,oryoumayfindthatthereis‘something’lacking.Youthengetbacktoyour‘library’inthehopeoffindingmoreresourcestolearnmore.Thisisthestagewheretradersaremostcuriousand,here,youcanexpect
asteeplearningcurve.Thisisalsothemostchallengingstageasitiscanbethemostemotional(forsome).Theimpatientonesareeagertostartusingrealmoney.Unfortunately,mostofthemloseit.Don’tbedespairbecausethereisalwaysconfusionrightbeforeanygrowth.Atthisstage,youknow
whatyoudon’tknow.ConsciousCompetence
Thiswheretherealtradingdevelopmentbeginsbecause,atthisstage,youhavelearnedenough.Byenough,Imeanthereissufficientknowledgeinsideyoutokeepyourselfgoing,andyouconsciouslychoosetostoplearninguntilnecessary.Infact,youstarttorevisitall
thelessonsthatyou’vehadorkeptthroughoutyourtraininginthehopeoffillinganygapsthatyoumayhave.Moreimportantly,yousuddenlyrealisethatyouhaveclarityoveralltheworkthatyou’vedonesinceyoufirststartedtrading.Youunderstandwhatyoudidwrongandright,youstartto
appreciatethattradingisaprobabilitygame,yourecognisetheimportanceoffollowingtheprocessandyoulearntostopchasingtrades.Theseareonlysomeofthesignsthatyouarenowconsciouslypickedup.Whileyoumaymakesomeoccasionalmistakes,youarenowawareandconsciousofwhatis
requiredtobeasuccessfultrader.Hence,youworktowardsyourbeliefs,andyoustarttoapplywhatyouknow.
UnconsciousCompetenceAssoonyougetpassthepreviousstage,thefinalstageislikedrivingacarwithyearsofdrivingexperience(assumingyoudriveacaronadailybasis).Everythingyoudo
–fromputtingonyourseatbelttousingyourleftorrightindicators,andfrompressingonthebreakstotheaccelerator–theyarenowperformedatanunconsciouslevel.Mostofthetime,youdon’tevenrememberwhatyoudidwhenpromptedbecauseitisnowahabit.Thisiswhereyouknowyouareunconsciously
competent.Fortraders,youwanttobeabletoplaceatradewithoutsecondguessingyourself.Youaremanagingyourtradeswithouthavingtodebateinternallywhatyouareabouttodo.Makingadecisiontotradeiseffortless,andyouknowyourtradingrulesinsideout.Moreimportantly,
youknowthattheonlywaytogainwealthisthroughflawlessexecutionanddiscipline.Here,youapplywhatyouknowwithoutthinkingaboutit.Thisistheultimategoalofalltraders–tobecomeanemotionlessandmechanicaltrader.
10.2TechnicalMastery–TheJourney
Nowthatyou’vegottenabetterviewofhowpullbackscanworkinyourfavour,Ibelieveitiswisetothinkaboutwaysyoucanincorporatethemintoyourowntradingroutine.Moreimportantly,youneedtoconsiderhowyoucanleverageonthisknowledge.Ifyouwanttointegrate
marketpullbacksintoyourexistingtradingsystem,startoffwithafewrulesandtestyournewsystemthroughbacktesting,forwardtestingorboth.Ifyoudecidetohavemarketpullbacksasastandalonetradingsystem,thencreatesomerulesbasedonyourownpersonalityandproceedtotestitaswell.Whicheverwayyoudoitisfine,buttheonlywaytofigureoutwhichisthebetter
optionisthroughsheeramountofpracticeandsomelogicalthinking.Sincepullbacksworkonanytimeframes,besuretopickthetimeframethatsuitsyou,yourscheduleandthefrequencyyouwanttotrade.Rememberthatyoucangetmanymoresetupsona5minutechartcomparedtoadailychart.Makesurethatyou
thoroughlyunderstandhowmarketpullbackswork,whentheyworkand,moreimportantly,whentheydon’twork.It’slikelearningtodriveacar.Nomatterhowgoodyouthinkyouareindriving,itwon’tbesafetodriveunlessyou’vetakenaminimumamountofpracticeontheroadinasecureenvironment(i.e.withaninstructor).Inthecaseoftrading,thatwouldinvolve
tradingonademoaccount,testenvironmentorjustasmallaccount.Onceyoustartapplyingtechnicalanalysisandtechnicalpullbacksjustlikethewayyouhaveaconversationwhiledriving,andyouarecompletelycongruentwithyourdecision,youknowyouarealreadyinthejourneytowardstechnicalmastery.
10.3MindMastery–TradinginTheZone
Atrader(andnowafriend)oncetoldmethattakingatradeislikeDavidBeckhamtakingapenalty(kick)intheChampionsLeagueFinalsorlikeTigerWoodsteeingoffintheU.S.PGA.WhenDavidgetsintothepenaltyboxoreachtimeTigerdrivestheballfromthetee,theyadjustandpre-framethe
mindsetthattheywant.Theyrehearseintheirmindtheirplanofattackandtheysee,hearandfeelwhattheyareabouttodobeforetheydoit.ThisiswhereDavidorTigergoesintothezone–aplacewheretheyareintheirwinningmindset.Whiletheydon’tknowwhathappensaftertheyattacktheball,itdoesn’tmatter,andit’snotimportantbecauseallthey
reallywanttodoistofocusonNow.SomepeoplecallthisTradingintheZonewhileothersjustacknowledgethatyouneedtohavetherightstate-of-mindtotrade.Whateveryoumaycallit,youneedtolearnhowtofindandbeabletodrawoutthestate-of-mindwhereyouaremostconfident,mostrationalandmostrelax.Moreimportantly,youneedtobe
abletobringoutthatstate-of-mindeachtimeyoutradethemarket.Thisisimperativetohelptradersfocusonwhatisimportantbecausedecisionsthattheymakewhentheytradethemarketshouldbelogicalandunbiased.Inagist,thisismindmastery,and,believeitornot,itisthemostvaluabletoolinyourtradingcareer.Hence,make
11FurtherDevelopment
Thankyouforpurchasingthisbook.Thefactthatyouarereadingthissectionnow,itmeansthatyouprobablywanttodevelopyourtradingskillsfurther.Ifyouwanttoexploretheideaoftradingmarketpullbacksseriously,orifyouwanttoincorporateit
intoyourowntradingroutine,Iwouldliketoinviteyoutovisitwww.MarketApprentice.com,whereyoucanlearnthestepbystepapproachoftradingthepullbacks.Ihavespentagood8monthswritingthisbookandI’vecometotheconclusionthatlearningtotradecanbemademoreefficientthroughtheuseofothermediums.Learning
shouldbeinteractiveandthatcanbedonewiththeadvancementoftechnology.Hence,I’vecreatedMarketApprenticehalfwaywritingthisbook.BesidesTechnicalAnalysis,MarketApprenticeofferstradingprogramsonMindMastery.Traderscanlearntotradeusingtheconsciousandunconsciousmind,thus,allowingtraderstomanage
yourownemotions,disciplineandselfcontrolatamuchmoreprofessionallevel.IhavedevelopedthesecoursesafterreceivingintensivetrainingintheareasofNeuroLinguisticProgramming(NLP)andHypnosis.MarketApprenticeisanonlinetradingacademydesignedtohelpserioustradersapproachthemarket
withsupportandguidance.Ifyouareseriousabouttrading,thenmakesuretocheckouttheacademybecauseyoumightbecomeanApprenticetradersoonerorlater.Ifyoulikethisbookandwantotherstoenjoywhatyouread,doconsiderleavingapositivereviewonAmazon.com.ThisisalsoimportantbecauseIhavehadsomenegativereviewsfrom
unverifiedbuyerswhoaredeliberatelytryingtodiscreditsotherreviews.WhileIcontinuetofindwaystoremovethem,Iaskforyourreviewtocounterthemtoo.Topostareview,youcandosobyusingthelinkthatwassenttoyouwhenyouboughtthisbook.BecauseAmazonissocompetitive,yourpositiveratingcountsevenifyou
decidetokeepitshort.Lastly,thankyouverymuchforyourtime.Iwishyounothingbutsuccess,andIhopetoseeyousoonatwww.MarketApprentice.com.Regards,AlwinNgTrader&[email protected]