Frank R. Bunn
TABLE OF CONTENTS FORWARD ABOUT THE AUTHOR NECESSARY LEGAL JARGON INTRODUCTION TIMING VERSUS FORECASTING
3 4 5 6 7
CHAPTER 1: MOVING AVERAGES DEFINED
8
CHAPTER 2: SYSTEM COMPONENTS
11
CHAPTER 3: ESTABLISHING PARAMETERS – Developing Your System
15
CHAPTER 4: IMPLEMENTATION – Reading Trends
20
CHAPTER 5: BASIC SIGNALS
31
CHAPTER 6: BASIC SETUPS
37
CHAPTER 7: 80% WINNERS
43
CHAPTER 8: CONTINUATION SETUPS – Patterns and Pullbacks
51
CHAPTER 9: CROSSOVER BREAKOUT SETUPS
65
CHAPTER 10: TRADE MANAGEMENT
77
CHAPTER 11: AVOIDING FALSE BREAKOUTS
83
CHAPTER 12: SYSTEM LOGIC
92
CHAPTER 13: TREND ANALYSIS
97
CHAPTER 14: MONEY MANAGEMENT
104
CHAPTER 15: TIMING THE MARKET
108
CHAPTER 16: DAY TRADING
118
CHAPTER 17: TRADING RULES
128
AFTERWORD
129
BONUS SYSTEM: 2-3-6 EMA
130
APPENDIX: HISTORICAL SETUPS AND MARKET MOVES
131
FORWARD Thank you for purchasing DYNAMIC TREND TRADING: The System. You have made a wise investment. This publication discloses a tactical strategy for analyzing and profiting from market trends. Format and presentation of the system and trading strategy are designed to reach the largest possible audience, from the beginner to the initiated trader with advanced technical analysis experience. Chapters 1 through 4 detail a basic technical premise upon which the more advanced setup and trade management strategy is based. Even if one is familiar with the technical tools it is imperative to know how to read trends and counter trends prior to learning the actual trade entry setups. Chapters 5 and 6 document basic buy and sell signals and basic setups. Once understood, the trader may advance to the specific price action trade triggers. We therefore encourage readers of any experience to work through the chapters chronologically in order to receive the greatest benefit. Chapters 7, 8 and 9 will instruct the trader on the precise trade entry components, how to achieve 80% winners, and the two types of setups: Continuations and Crossovers. There are two varieties of Continuations: Patterns and Pullbacks. Mastery of these three key chapters will result in the ability to trade virtually any market in any interval. A time tested trade management component can be found in Chapter 10. Here the trader will learn the trade and risk management system which, in the author's opinion, is best method for trading system signals. Chapter 11, 12, and 13 continue the journey with integral tips on how to avoid false breakouts, understanding the logic behind the technical style as well as an intuitive analysis of different types of trends. These tools will build a solid foundation and mastery of the technical merits of the system and install confidence in system efficacy. It is generally in these chapters where even advanced traders will experience breakthroughs and new understanding of trends. Advanced money management tactics are discussed in Chapter 14. Building on trade management rudiments found in Chapter 9, these techniques will enable the trader to use the statistically probable system to build a thriving trading business. Market Timing in Chapter 15 rounds out the course by covering key concepts necessary to make even the novice investor his own best advisory. Understanding the relationship between individual equity price movement and broad market trends is an integral and necessary component of any short or long term trading strategy. Chapter 16 covers the best techniques for using the system to profit from short term and intraday trends. Included is the author's Day Trade Survival Guide and further trend analysis study which will benefit traders using long term intervals as well. To complete the training, the appendices detail examples of systems and setups as well as historical market moves to increase the trader's understanding of key concepts.
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ABOUT THE AUTHOR Since childhood Frank Bunn has been fascinated with financial markets. In the 1990s his interest turned to systems and tactical methods for profiting from price fluctuation. Routine study of momentum stock attributes and thousands of screen hours resulted in a relative mastery of high momentum equities and the technical contingencies which produce the most profitable transactions. Frank's vision is about second chances, starting over and inspiring those who are on the path of success to even higher levels of achievement. He knows that economic change and the financial collapse of 2008 had a lasting impact on the lives of many. He is aware that conventional financial planning is inadequate. Frank is an empiricist and continues his analytical research of trends and trading strategies. He works with traders all over the world to develop profitable trading systems and improve trading skills. In 2009 he published DYANMIC TREND TRADING: The System, the compilation of trend trading techniques you are now reading. In 2010, Frank launched an advisory dedicated to profiting from price momentum and timing the market. --S.C.
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NECESSARY LEGAL JARGON The information contained on this e Book and from any communication related to this publication is for information purposes only. Dynamic Trend Trading: The System does not provide any financial advice. It also does not make any recommendation or endorsement as to any investment, adviser or other service or product or to any material submitted by third parties or linked to this publication. In addition, Dynamic Trend Trading: The System does not offer any advice regarding the nature, potential value or suitability of any particular investment, security or investment strategy. The investments and strategies mentioned in this publication may not be suitable for you. If you have any concerns you should contact an independent financial adviser. While we believe this e Book will be useful, the information contained herein does not guarantee you will achieve positive results. The work required to apply what you learn is your responsibility. The material in this e Book does not constitute advice and you should not rely on any material in this e Book to make (or refrain from making) any decision or take (or refrain from taking) any action. COPYRIGHT Certificate of Registration issued under the seal of the Copyright Office in accordance with title 17, United States Code: Registration Number: TXu 1-682-947 Registration Date: June 30, 2010 COPYRIGHT POLICY FOR CONTENT All information in this e Book is Copyright © Frank R. Bunn. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means (electronic, mechanical, photocopy, recording, scanning or otherwise) except as permitted under Section 107 or 108 of the 1976 United States Copyright Act, without prior written permission from Frank R. Bunn . USE BY INDIVIDUALS You may print copies of this content for personal use only and store the file on your computer. Any other use or redistribution is only available with written permission from Frank R. Bunn. LICENSING AND REPRINT RIGHTS The content in this e Book may not be licensed or reprinted without permission from Frank R. Bunn.
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INTRODUCTION "The speculator’s deadly enemies are: Ignorance, greed, fear and hope. All the statute books in the world and all the rule books on all the Exchanges of the earth cannot eliminate these from the human animal. " Edwin Lefevre, Reminiscences of a Stock Operator ………. This is a how-to e Book, plain and simple. The 'how' is how to systematically and tactically profit from stock trends and how to time the market to reach your short and long term goals. Sound too good to be true? Maybe it is. No system is perfect and considerable effort is required. But year in and year out you can profit from stock market fluctuations. This e Book will provide the specific framework and exact details of an exemplary short and long term strategy. Implementation depends on you. This e Book assumes you have a working knowledge of the stock market. Fundamental concepts such as positions (long or short), basic stock charting and trading skills will not be discussed. The internet is a vast resource of such information at no cost should you require a primer.
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TIMING VS FORECASTING Much has been written about market timing and technical analysis. Most pundits dismiss both as implausible. Indeed most indicators are worthless. However, there is a vast difference between market 'timing' and 'forecasting'. The media and conventional wisdom erroneously treat both similarly. Market timing for our objective involves a proven, specific strategy for entering or exiting the market. More importantly it provides a clear plan should that position be wrong. Probabilistically, the disciplined investor or trader must simply follow the plan and large profits will dwarf occasional or even more frequent small losses. Forecasting by definition is an attempt to determine exactly where the market will be at some point in the future; or worse, what it will do at any given point in time. Frequently, this is nothing more than guesswork and hope.
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CHAPTER 1: MOVING AVERAGES DEFINED InvestorWords.com defines MOVING AVERAGE: A technical analysis term meaning the average price of a security over a specified time period, used in order to spot pricing trends by flattening out large fluctuations. This is perhaps the most commonly used variable in technical analysis. Moving average data is used to create charts that show whether a stock's price is trending up or down. They can be used to track daily, weekly, or monthly patterns. Each new day's (or week's or month's) numbers are added to the average and the oldest numbers are dropped; thus, the average "moves" over time. In general, the shorter the time frame used, the more volatile the prices will appear, so, for example, 20 day moving average lines tend to move up and down more than 200 day moving average lines (See Illustration 1).
ILLUSTRATION 1: 20 PERIOD AND 200 PERIOD SIMPLE MOVING AVERAGES OF IBM ON A DAILY INTERVAL CHART
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An EXPONENTIAL MOVING AVERAGE is calculated by weighting recent price values more heavily than older values. The weighting for each older data point decreases exponentially, giving much more importance to recent observations while not entirely discarding older observations (See Illustration 2).
ILLUSTRATION 2: 20 and 200 EXPONENTIAL MOVING AVERAGES on an IBM daily interval chart
The number of periods used to compute the average is a parameter selected by the investor. Although there are popular moving averages such as the 50 or 100, any number of periods may be employed. Moving averages are best viewed on stock (bar) charts where the parameters may be manipulated. For our purposes all moving averages will be calculated 9
using the CLOSE price of the interval. For example, a 20 PERIOD EXPONENTIAL MOVING AVERAGE will be calculated using the last twenty (20) CLOSING PRICES. The Exponential Moving Average is the primary tool of the system. Now that you are familiar with it, let's introduce you to the SYSTEM COMPONENTS.
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CHAPTER 2: SYSTEM COMPONENTS Understanding the principals of the system is requisite to implementation. There are three components: PRICE, SHORT TERM TREND and LONG TERM TREND. Each component has its own Exponential Moving Average (EMA). Each will be used in conjunction with the other two to establish and validate cycles and trends. Let's examine each one. PRICE The shortest (lowest parameter) Exponential Moving Average (EMA) will be used as a surrogate for the price of the security or market we are analyzing. Prices are volatile. By smoothing the price over a short average (typically no more than 10 periods) an investor can manage that volatility and more easily spot market entries and trend changes (See Illustration 3). Notice how the EMA of closing prices smooths the volatility.
ILLUSTRATION 3: 3 PERIOD EMA of IBM on a daily interval chart
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SHORT TERM TREND The next longest (parameter) EMA represents the short term trend. Typically between 10 and 30 periods, the short term trend is the workhorse of the system. Its relation to PRICE and the LONG TERM TREND will determine the overall cycle and current trend of the stock or market in question (See Illustration 4).
ILLUSTRATION 4: 13 PERIOD (blue line) EMA of IBM on a daily interval chart
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In ILLUSTRATION 4 we can clearly observe the relationship between the PRICE (3 PERIOD EMA) and the SHORT TERM TREND (13 PERIOD EMA). LONG TERM TREND The longest (parameter) EMA is the LONG TERM TREND. This moving average is generally more the 30 periods and is used to establish longer cycles. Again, its relation to PRICE and the SHORT TERM TREND defines the system (See Illustration 5).
ILLUSTRATION 5: 39 PERIOD EMA of IBM on a daily interval chart
In ILLUSTRATION 5 we can clearly see the relationship between the PRICE (3 PERIOD EMA), the SHORT TERM TREND (13 PERIOD EMA) and the LONG TERM TREND (39 PERIOD EMA).
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The system is beginning to take shape. Let's take a quick look at time intervals before proceeding to parameters and implementation. TIME INTERVALS It is important to note the difference between EMA periods and the TIME INTERVAL of the stock or market the trader is charting. Once determined, the number of EMA periods can remain fixed while the INTERVAL changes. This interval can range from a 1 minute bar chart to a WEEKLY or MONTHLY bar chart. The number of EMA periods which will be discussed in the next chapter and the chart INTERVAL are both at the discretion of the investor. However, some suggestions will be made. Very short intervals may require intraday charting and real time quotes. Longer intervals such as DAILY and WEEKLY require less work and capture longer term moves. Now let's establish the EMA parameters.
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CHAPTER 3: ESTABLISHING PARAMETERS – Developing Your System The easiest formula for calculating your PRICE, SHORT and LONG TERM TRENDS is: AXB=C A is the PRICE, B is the SHORT TERM TREND and C is the LONG TERM TREND. The first two periods determine the third. This approach was developed after years of research, trial and error. Although no parameter suite will function perfectly all the time, this simple approach and consistent application should keep you on track. The PRICE EMA appears to function best when 3-5 periods are employed. For the exact system supplied by this e Book, we will use the 3 EMA. The SHORT TERM TREND will use the 6 EMA. Employing the formula above the LONG TERM TREND EMA is 18 (3 x 6 = 18) – (See Illustration 6).
ILLUSTRATION 6: 3-6-18 SYSTEM on an IBM daily interval chart
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Although this system employs the 3-6-18 EMAs, you can experiment with your own parameters as you develop your own style. Some ideas include: 5 – 10 – 50 SYSTEM
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3 – 13 – 39 SYSTEM
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5 – 20 – 100 SYSTEM
18
2 – 3 – 6 SYSTEM
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CHAPTER 4: IMPLEMENTATION – Reading Trends Now that you have a working knowledge of the system components, the ability to establish parameters and work with time intervals, we may proceed to basic system logic, implementation, and reading trends. SYSTEM KEY #1: PRICE CROSSING SHORT TERM TREND When the PRICE EMA crosses over (up or down) the SHORT TERM EMA a short term trend signal is established (See Illustration 7).
ILLUSTRATION 7: 3 EMA crossing above 6 EMA on IBM daily interval chart
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SYSTEM KEY #2: SHORT TERM TREND CROSSING LONG TERM TREND When the SHORT TERM TREND EMA crosses over (up or down) the LONG TERM EMA, a long term trend signal is established (See Illustration 8).
ILLUSTRATION 8: 6 EMA crossing above 18 EMA on an IBM daily interval chart
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UP TRENDS If the SHORT TERM EMA is trading ABOVE the LONG TERM EMA the trend is UP (See Illustration 9).
ILLUSTRATION 9: LONG TERM UPTREND on IBM daily interval chart
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DOWN TRENDS If the SHORT TERM EMA is trading BELOW the LONG TERM EMA the trend is DOWN (See Illustration 10).
ILLUSTRATION 10: LONG TERM DOWN TREND on IBM daily interval chart
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CROSSOVERS If the PRICE EMA crosses the SHORT TERM EMA (up or down) BEFORE the SHORT TERM EMA crosses the LONG TERM EMA (up or down), a CROSSOVER has occurred. These can be either the beginning of a long term trend change or indecision. It is important to note this. The system outlined in this e Book will assume indecision. (See Illustration 11).
ILLUSTRATION 11: A CROSSOVER UP on an IBM daily interval chart
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Since recognizing CROSSOVERS is extremely important, let’s review with a CROSSOVER DOWN (See Illustration 12).
ILLUSTRATION 12: A CROSSOVER DOWN on an IBM daily interval chart
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SYSTEM KEY #3: CONTINUATIONS If the PRICE EMA crosses the SHORT TERM EMA and the latter is ALREADY ABOVE OR BELOW THE LONG TERM EMA, a CONTINUATION has occurred. This is extremely important. It is the cornerstone of the system. DO NOT PROCEED UNTIL YOU UNDERSTAND THE DIFFERENCE BETWEEN CROSSOVERS AND CONTINUATIONS. In effect you do not want to trade indecision. The patient investor will wait for confirmation of the trend (PRICE EMA crossing a SHORT TERM EMA which is ALREADY ON THE PROPER SIDE OF THE LONG TERM EMA). In simpler terms, SHORT TERM TREND signals are most effective when the LONG TERM TREND is established. An example would be the 3 EMA crossing ABOVE the 6 EMA when the 6 EMA is already ABOVE the 18 EMA) – (See Illustration 13).
ILLUSTRATION 13: CONTINUATION UP on an IBM daily interval chart
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Since recognizing CONTINUATIONS is the cornerstone of the system, let’s review with an example of a CONTINUATION DOWN in an existing down trend (See Illustration 14).
ILLUSTRATION 14: A CONTINUATION DOWN in an IBM daily interval chart
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COUNTER TRENDS If the PRICE EMA crosses over the SHORT TERM EMA (short term trend change) and the latter remains fixed above or below the LONG TERM TREND, a COUNTER TREND has occurred. This indicates the beginning of a long term trend change or indecision (See Illustration 15).
ILLUSTRATION 15: A COUNTER TREND in an IBM daily interval chart
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COUNTER TRENDS are used to spot opportunities for trend CONTINUATIONS. These opportunities will enable the trader to enter the market when the trend is most likely to continue. The trader will also know when to stand aside. A COUNTER TREND is a sign of weakness in any LONG TERM TREND. One never knows if the LONG TERM TREND is changing or if it will resume. The disciplined trader can exit the market and wait for a CONTINUATION. For this reason the system will always side step long term bear markets. The following illustration provides an example of a COUNTER TREND evolving into a confirmed DOWN TREND. The trader would have exited the market long before a devastating sell-off (See Illustration 16).
ILLUSTRATION 16: A COUNTER TREND evolving into a DOWN TREND in an IBM daily interval chart
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Read this chapter as often as necessary until the rudiments are mastered. Once the logic is clear, you can learn to instantly spot trends, trend changes, and counter trends in any market.
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CHAPTER 5: BASIC SIGNALS Basic signals are simple price and moving average crossovers which occur pursuant to the logic and trend sequences covered in the previous chapter. We want to be certain to differentiate Basic Signals from Entry Setups. Basic signals are generic and generally used for market timing purposes, whether for individual equities or broad market indexes. Setups are specific price action entry patterns. Setups therefore are precise trade opportunities which appear in conjunction with proper Basic Signal context. This chapter will familiarize you with Basic Signals. Subsequent chapters will detail Entry Setups. Note that the 3-6-18 System will be used to demonstrate Basic Signal patterns. BASIC BUY SIGNAL – CONTINUATION •
BUY when the PRICE EMA CROSSES ABOVE the SHORT TERM TREND EMA after a COUNTER TREND where the SHORT TERM TREND EMA IS ABOVE THE LONG TERM TREND EMA
•
BASIC BUY SIGNAL : 3EMA CROSSES ABOVE the 6EMA in an UP TREND (6EMA > 18EMA)
•
EXIT when the PRICE EMA CROSSES BELOW the SHORT TERM TREND EMA
•
BASIC EXIT SIGNAL : 3EMA CROSSES BELOW 6EMA
Please refer to following example...
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3EMA CROSSES ABOVE the 6EMA in an UP TREND (6EMA > 18EMA) BASIC SELL SIGNAL – CONTINUATION
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•
SELL when the PRICE EMA CROSSES BELOW the SHORT TERM TREND EMA after a COUNTER TREND where the SHORT TERM TREND EMA IS BELOW THE LONG TERM TREND EMA
•
BASIC SELL SIGNAL: 3EMA CROSSES BELOW the 6 EMA in a DOWN TREND (6EMA < 18EMA)
•
EXIT when the PRICE EMA CROSSES ABOVE the SHORT TERM TREND EMA
•
BASIC COVER SIGNAL : 3EMA CROSSES ABOVE 6EMA
Please refer to the following example...
3EMA CROSSES BELOW the 6 EMA in a DOWN TREND (6EMA < 18EMA)
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BASIC BUY SIGNAL – CROSSOVER •
BUY when the PRICE EMA CROSSES ABOVE the SHORT TERM TREND EMA
AND... •
The Stock or Market Price CROSSES ABOVE the LONG TERM TREND EMA ...SIMULTANEOUSLY
•
EXIT: 3EMA CROSSES BELOW 6EMA
Please refer to the following example:
PRICE EMA CROSSES ABOVE the SHORT TERM TREND EMA AND the LONG TERM TREND EMASIMULTANEOUSLY
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BASIC SELL SIGNAL – CROSSOVER •
SELL when the PRICE EMA CROSSES BELOW the SHORT TERM TREND EMA
AND... •
The Stock or Market Price CROSSES BELOW the LONG TERM TREND EMA ...SIMULTANEOUSLY
•
EXIT: 3EMA CROSSES ABOVE 6EMA
Please refer to the following example:
PRICE EMA CROSSES BELOW the SHORT TERM TREND EMA AND the LONG TERM TREND EMA SIMULTANEOUSLY
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In summary, there is much more detail and tactical strategy ahead. Remember, Basic Signals are not necessarily entry SETUPS. Understanding Basic Signals allows us to build on fundamental trend reading rudiments, time the market, and focus on price action setups to enter and manage trades.
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CHAPTER 6: BASIC SETUPS This chapter will introduce you to the best way to set up your entries and control your risk. Using a 'setup' procedure on any given security performs much better than attempting to move long and short your favorite stock or commodity. The latter will predispose you to more false signals and error because you won't want to miss a move. Remember, the idea here is to trade a very STRONG TREND. You'll want to ignore any 3x6 Exponential Moving Average crossovers (long) if the crossover occurs below the 18 Exponential Moving Average. This is a sign of poor momentum. Enter long when the 3 crosses the 6 if they are both much higher than the 18. Reverse this process for shorting. A SETUP procedure will allow us to:
Analyze price action Control Risk Reduce error and false signals Trade only the strongest trends Ignore 3x6 EMA signals if the crossover occurs BELOW the 18 EMA (long positions)
Although I trade both stocks and the Forex, I always wait for a strong trend (up or down) to emerge in any market before I set up a trade. This is the real 'secret' to gauging trend strength. The strongest trends exist when the short and intermediate term Exponential Moving Averages are very diverged (pulled away) from the long term Exponential Moving Average. Here is the key to assesing trend strength: Strongest Trend Technical Trait: PRICE EMA and SHORT TERM TREND EMA are very DIVERGED (pulled away) from the LONG TERM TREND EMA. Be patient. Focus ONLY on the strongest trends and set up your trades accordingly. Follow these 5 steps to most effectively SET UP your LONG ENTRIES: 1) Use the Investor's Business Daily or www.stocktables.com to find HIGH RELATIVE STRENGTH stocks. I typically only watch stocks with a RS of 90 or greater. 2) Wait for a pullback from a high after a strong uptrend. The 3 Exponential Moving Average should cross over the 6 Exponential Moving Average DOWN. This is your counter trend. 3) Ensure the trend is strong meaning both 3 and 6 Exponential Moving Averages are trading above the 18 Exponential Moving Average. The price should not have closed below the 18 Exponential Moving Average during the Counter Trend. Look for a 'TEST' of the 18 Exponential Moving Average. It should bounce on it. 37
4) Enter LONG when the 3 Exponential Moving Average crosses UP over the 6 Exponential Moving Average. The TRIGGER BAR is the interval bar at which the 3 and 6 EMAs cross. Enter a BUY STOP 1 cent above the high of the trigger bar. Remember to use a limit contingency with your buy stop 5) Perform steps 1 through 5 when the 3 Exponential Moving Average is trading over the 6 Exponential Moving Average on a WEEKLY CHART of the the DOW JONES INDUSTRIAL AVERAGE. A new high breakout will confirm the entry. More on this later. Have a look at this chart...
This is the basic setup. NOTICE HOW THE COUNTER TREND PULLBACK TESTS THE 18 Exponential Moving Average. THIS IS VERY IMPORTANT. 38
And here's another example...
Once again, NOTICE HOW THE COUNTER TREND PULLBACK TESTS THE 18 Exponential Moving Average. The 3 and the 6 Exponential Moving Averages are not touching the 18 Exponential Moving Average. Have a look at this next example...
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Here is another example...
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Now you should have a better idea about 1) gauging momentum with EMA divergence, and 2) how the Basic setup requires a bounce on the Long Term Trend EMA prior to the Price/Short Term Trend EMA cross. Notice that this 'bounce' (or test) occurs within the COUNTER TREND. Have a look at just one more to be certain...
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Now that you understand the basic setup procedure we may proceed to more tactical price action patterns. From here we will quickly build on all established rudiments. Be certain you understand Trend Reading, Basic Signals and Basic Setups prior to proceeding. You should also have a sound familiarity with how to gauge momentum strength.
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CHAPTER 7: 80% WINNERS This chapter will detail exactly how to achieve a success rate of 80%....or better. This is probably THE most important concept in continuation trend trading. IT IS POSSIBLE TO CONSISTENTLY ACHIEVE 80% WINNERS USING THIS STRATEGY. To do this, you must understand RESPECT of the Long Term Trend however you define it. That is, whatever system you are trading (3X6X18 or 3X13X39), the price action MUST TEST (bounce squarely on) YOUR LONG TERM TREND EMA. I'll repeat this: CONFINE YOUR ENTRIES TO ONLY THOSE WHICH INCLUDE A 1 or 2BAR BOUNCE ON YOUR LONGEST EMA PRIOR TO THE 3 RE-CROSSING THE 6. It will also help if the market, stock, Forex pair, commodity or whatever security you are watching has a HISTORY OF RESPECTING YOUR LONG TERM EMA. Once you understand price support, you'll realize this is not simply a moving average crossover system. Even very experienced traders tend to look only at 'indicators'. I watch PRICE ACTION. By doing so I allowed my intuition to hand me the ticket to continuation trend trading. It's not so much the moving average context but a method for trading continuations after pullbacks to support in established trends. Used as indicators, moving averages lag the market. This is a mathematical certainty. Used as moving SUPPORT AND RESISTANCE lines they are LEADING INDICATORS. You can achieve absurdly low-risk entries with overwhelming odds of ending the trade with a profitable transaction. There are two types of setups which lead to continuation moves: 1) PULLBACKS and 2) PATTERNS. I will show you how to trade each one. If you master the PULLBACK which RESPECTS your Long Term EMA, you will control your destiny. It is truly an amazing thing to watch this work over and over again on almost any time interval. Take a look at this chart....
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Have a look at the next chart.....
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The following chart provides a further example....
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Take a look at the next chart example of a falling market.....
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This chart demonstrates another example......
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Take a look at this chart....
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And here's one more example.....
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CHAPTER 8: CONTINUATION SETUPS: Patterns and Pullbacks This chapter will provide instruction for trading the two types of continuations setups: PULLBACKS AND PATTERNS. Let's review our progress. We understand the basic continuation entry as one which must TEST (find support at) the LONG-TERM EMA somewhere in the COUNTER TREND. The subsequent 3X6 EMA crossover results in our entry signal. Furthermore we know how to gauge strong momentum by ensuring the 3 and 6 EMAs are quite diverged (some distance away from) the 18 EMA. Now we can review the second most important aspect of the system: PRICE ACTION. By price action I mean the behavior of the price chart (in terms of highs and lows) during the COUNTERTREND. This behavior is immensely important. By learning to read PRICE ACTION you will know exactly which trades to take, what to expect from the setup, how to let the market hand you low-risk entries, and how to manage the trade once your order is filled. Price behavior in the counter trend falls into one of two categories: PATTERNS. Let's define them:
PULLBACKS and
PULLBACK:
A brief series of sequential, uninterrupted highs and lows in the direction of the trend. There are no swing high or low reaction points in a pullback. There is no resistance in a pullback other than the high or low price at which the CT began. Inside bars are not a factor.
PATTERN:
A consolidation area of mixed highs and lows (or higher highs/lower lows) which may or may not form some type of geometric shape. The swing high/low reaction points can be connected by trend lines which better enable the trader to identify the pattern.
With the concepts defined, let's study a few examples to be certain about the concepts. Take a look at the following chart....
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Let's continue with another example....
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Here is another great example....
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Take a look at another pullback setup....
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And this last pullback example....
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The following chart will demonstrate the pattern entry...
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And this next one as well....
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Have a look at this next chart....
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Here is another good pattern entry example...
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Following is an intraday pattern setup....
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Here is an example of how to eliminate error in the pattern setup....
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We'll conclude the training with this last chart which details both types of setups....
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A note about my charts. I use an advanced charting tool which enables me to program color changes. The bars automatically turn green with the 3 over the 6 (up trends/short counter trends) or red with the 3 below the 6 (down trends/long counter trends). Also, my drawing tools can be magnetically attached to price highs and lows for precise accuracy. The PULLBACK is the easiest and most probable entry. It's like a lay up shot in basketball if you're familiar with that. It has no resistance other than the high or low from which it began. Follow through is easy to gauge with a new high or low.
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PULLBACK KEY: THE FEWER BARS IN IT AND THE MORE SHALLOW IT IS, THE BETTER. The PATTERN is trickier. Still probable, it has resistance built in at the swing high/low reaction points which define it. This is because the price action is counter trending in earnest. I'm more careful with entry and follow through on these. PATTERN KEY:
ONLY TRADE THESE WHEN YOUR CROSSOVER SIGNAL COINCIDES WITH A PATTERN (Trend line) BREAKOUT. Study the charts in this chapter until this concept is clear.
NOTE: MANY CROSSOVERS OCCUR WITHIN LARGER CONSOLIDATIONS. DO NOT TRADE THESE. We saw this in the previous example of how to eliminate error in the pattern setup You'll immediately notice PATTERNS can be challenging. So don't trade them if you don't want to do the work. Wait for pullbacks. That's what I do most of the time. There is a tendency to over analyze both types of setups. Don't make it more complicated than it is. WORK BACKWARDS. Use the following plan to organize your work: Wait for a 3X6 CONTINUATION ENTRY SIGNAL Look for a TEST OF THE LONG-TERM EMA (18 EMA for me) somewhere before or during the counter trend Verify the HIGH or LOW (which precedes the COUNTER TREND) as significant DETERMINE COUNTER TREND PRICE ACTION to be a PULLBACK or a PATTERN COMPLETE ANALYSIS (if pattern, does 3X6 coincide with Pattern BREAKOUT?) ENTER THE TRADE when the price breaks OVER (long) or UNDER (short) the TRIGGER BAR All you really ever have to do is wait for your 3X6 signal and then call the ball. Let the crossover mechanism do most of the work; your Price Action assessment will do the rest. No need to waste time watching these things form. The essence of the system is mechanical, but learning to read the tape and assess price action will make your trades tactical and efficient. Let's review the key concepts with a few TRICKS OF THE TRADE: The Pullback Entry Setup is the easiest, most probable entry Pullback Key – Ideal Price Action – few bars, shallow 'pullback' The Pattern Entry Setup can be challenging – it has RESISTANCE AREAS Pattern Key – 3x6 EMA cross and Trigger Bar MUST COINCIDE with a trend line break
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CHAPTER 9: CROSSOVER BREAKOUT SETUPS This segment will cover CROSSOVER SETUPS. This is the companion breakout strategy to the CONTINUATION SETUP we learned in the previous chapter. You should have some theoretical mastery of the continuation setup pattern. In the course of learning about moving average respect, pullbacks, patterns and low-risk entries, you may have noticed that breakouts over the long term moving average can be sharp and profitable. Breakouts over the 18 EMA and 21 EMA have considerable technical merit. This chapter will detail how to profit from Crossover breakouts and achieve the same objective of low-risk, consistently profitable entries. TREND CYCLE Let's review the trend cycle as prescribed by the basic 3 EMA system. A stock or market will be in a confirmed trend when price action coincides with the 3 EMAs trading sequentially in one direction. This generally includes a counter trend and subsequent continuation. Prices will begin to move against the trend until the Price EMA (3) and Short Term EMA (6) trade above the Long Term EMA (18). This is our focus: the Crossover. CROSSOVER SETUP/ENTRY RULES (3x6x18 System assumed) As we know from our understanding of Basic Signals, an entry signal occurs when a price breakout over the 18 coincides with the 3 crossing over the 6. Have a look at the following chart:
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Notice that prior to the green trigger bar, the price closed BELOW the 18 EMA. The green trigger bar breaks over the 18EMA and the 3 EMA crosses the 6 EMA simultaneously. To reiterate, the price bar which crosses over the 18 is also the one at which the 3 crosses over the 6 in the same direction. Ideally, prices should have been trading on the opposite side of the 18 for some time; preferably in a confirmed directional trend. This next chart will further clarify...
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Notice the confirmed downtrend prior to the green crossover breakout trigger bar. This tutorial will only detail the setup strategy. Trade management and risk control will be thoroughly discussed in subsequent chapters. For the sake of simplicity and consistency, the same trade management system is employed for both CROSSOVER BREAKOUTS AND CONTINUATION SETUPS. Let's define the rules exactly...
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LONG ENTRY** - A trigger bar occurs when: Price X 18 / 3x6 Crossover (up) simultaneously = Trigger bar (enter 0.01 above) INITIAL STOP: TRIGGER BAR LOW (1-2 cents below) LONG EXIT: 3x6 Crossover (down) - the beginning of the counter trend SHORT ENTRY** - A trigger bar occurs when: Price X 18 / 3x6 Crossover (down) simultaneously = Trigger bar (enter 0.01 below) INITIAL STOP: TRIGGER BAR HIGH (1-2 cents above) SHORT EXIT: 3x6 Crossover (up) - the beginning of the counter trend **I almost exclusively time Crossover Breakout entries with an MACD breakout. (See Basic Entry Signal Improvement below for filter information) TRICKS OF THE TRADE Long Crossover Breakouts are typically more profitable than Short Breakouts Trade Crossover Breakouts which follow a confirmed trend in the other direction Use Crossover Breakouts to time the market and/or trade indices (refer to the market timing portion of the course for full instruction on using CROSSOVERS to time the market) Weekly Crossover Breakouts have historically preceded large market moves An excellent strategy: TRADE LONG SIGNALS, exit market on SHORT SIGNALS Use Weekly Crossover Breakouts for long term equity positions Check out the following chart...
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And here's another example:
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The combination of the 18 breakout and the 3x6 crossover is a very powerful impulse. Empirical evidence suggests that the win rate is about 70% with proper money management. Signal quality can be dramatically improved with SETUP FILTER (which will be discussed in more detail in a moment; and TRADE MANAGEMENT TECHNIQUES. With the latter it is possible to get to break even 8 out of 10 trades. Although not as probable as the CONTINUATION setup, it gives the trader optimal flexibility and choice. You will see this pattern repeat over and over in any time interval on any stock, index, Forex pair or commodity price chart - most frequently in sideways, choppy markets or larger continuations in which the counter trend does not respect the 18 EMA.
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BENEFITS The advantages of this strategy are numerous. It makes a great companion entry to the Continuation setup. It will enable you to profit from early trend changes in momentum stocks and sustained sideways markets which can appear in Forex pairs and broad market consolidations. Additionally it can provide more consistent entries in shorter time intervals and day trading strategies. It can facilitate single market trading or permit you to follow fewer issues since you can take advantage of more market movement between CROSSOVER and CONTINUATION SETUPS Let's examine the following chart:
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It also compliments a variety of option strategies (some of which will discussed in a tutorial concerning options). Covered Calls and spreads are much more profitable when some directional bias is established. The only disadvantage to the setup is the very concept. It is not a continuation move. Since it lacks the counter trend and logic characteristics that precedes a trend continuation, you will never know if it is the beginning of a long term rally or just another run in a broad consolidation. That said, any disadvantage is outweighed by the flexibility and probability offered by the pattern. Just like Continuation entries, it is all about risk control and trade management. Take a look at this chart:
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BASIC ENTRY SIGNAL IMPROVEMENT The astute trader can improve upon basic entries in a variety of ways. Let's look at a few ways to do this. MACD BREAKOUT / CONFIRMATION The 12/26/9 parameter MACD (used also in Tutorial #14) provides an excellent, high probability filter. This can be used two (2) ways: 1) CONFIRMATION - trade only breakouts in which the MACD line is on the proper side of the zero (0) line (long - MACD > 0 line, short MACD < 0 line) ; 2) MACD Signal Line BREAKOUT - trade only crossover breakouts that coincide with the MACD line crossing the signal line in the direction of your trade (long MACD X signal line UP, short - MACD X signal line DOWN). To clarify, examine the following chart:
This is an example of a MACD CONFIRMATION. 73
Let's take a look at the other MACD criteria:
This is an example of an MACD BREAKOUT (MACD X SIGNAL LINE). I generally use the MACD Signal Line Breakout filter for all my Crossover entries. It allows me to shed risk and get to break even virtually every time. The filter provides great impulse and allows me to control my risk more effectively. I encourage you to test it. Try it on ten (10) random Crossover Breakouts. See if they don't all pop. It's really cool. Minimally, however, I would suggest that if you don't use the MACD BREAKOUT filter you should employ MACD CONFIRMATION. The MACD is such a widely followed indicator that it's position above or below the zero line appears to be a self-fulfilling prophecy. It also makes your entry candidates easier to sort if you to choose between several possibilities. 74
V-PATTERNS As you study the these charts and do your own analysis, you'll notice that in the best setups there evolves a sharp V-pattern prior to the breakout. By definition, this consists of 3 or more higher (long) or lower (short) closes. This helps determine a meaningful trend change and the greater likelihood of a sustained move. Let's take a look at an example:
Keep in mind that 3 or more higher or lower closes is not necessary, however, to produce a winning signal. 75
EMA RESPECT Respect (testing) of the 3, 6 or 18 EMAs in the V-pattern is also an indicator of strength and sustainability. RISK An excellent method of improving basic signal entries is risk. Select only those trigger bars where the range (high-low) is less than or equal to the average interval range (most easily calculated on the daily interval). It may seem obvious but a massive breakout bar 3 or 4 times the height of an average interval will almost certainly consolidate. Stick with low-risk entries that market gives you. A low-risk trigger bar provides better control and a greater risk/reward ratio. It pays to be patient. TRADE / MONEY MANAGEMENT As stated previously, trade and money management will be the same method used for Continuation setups. These concepts will be thoroughly discuss later in the course. You can dramatically improve your win rate and profit factor by managing the trades properly. There is almost always some type of follow through after a signal. If this strength (for longs) or weakness (for shorts) is used to shed and/or eliminate risk you will be much more consistent, less frustrated by false signals and a lot less stressed. This completes our introduction of the CROSSOVER BREAKOUT ENTRY. This is a great strategy to compliment the Continuation setup. Once mastered you'll have a powerful tool in your arsenal. You'll be able to trade any market, any time interval. A quick review: MACD INDICATOR FILTERS...
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MACD Signal Line Breakout Filter – will get you to break even virtually every time MACD Confirmation – MACD > Zero (0) Line...UP TREND MACD Confirmation – MACD < Zero (0) Line...DOWN TREND MACD Confirmation makes longs and shorts MORE PROBABLE MACD DIVERGENCE – Lower low in PRICE, Higher low in MACD (long example)
CHAPTER 10: TRADE MANAGEMENT This chapter will provide precise instruction on how to manage the trade. Trade management really the most important testament to the efficacy of a trading system. Even a mediocre, common trade strategy can be consistently profitable with proper trade management. Let's review our progress. We are familiar with the basic strategy. We've learned how to dramatically increase performance with respect of the long term EMA. Finally, we understand PRICE ACTION and the two types of counter trends. We also have a working knowledge of the CROSSOVER BREAKOUT entry. Best of all we know how to set up trade properly. So, you're in the trade....now what do you do? The focus must immediately shift to PROCESS. You are finished analyzing. You have committed to the trade. You either own it or you're short it. All you have to do now is PROCESS the trade WITH DISCIPLINE and take it home -- and try not to do anything stupid. Our primary focus from beginning to end is SHEDDING RISK. We want to always be thinking about how we can reduce and eventually eliminate real and theoretical risk. Control risk and you control the game. A trader can shed risk in one of only three (3) ways: PRICE REJECTION:
The bid/ask moves sufficiently in the direction of APPRECIATION.
STOP ADJUSTMENT:
An exit stop order is moved in the direction of appreciation so as to reduce or eliminate margin or profit risk.
LIQUIDATION:
Some or all of the position may be exited, resulting in either 1) reduction of margin exposure; or 2) profit.
The trade management strategy will employ all three. Let's briefly discuss each one. PRICE REJECTION is nothing more than the market moving favorably in your direction. Plot a theoretical risk curve and you'll see that your position has the most risk when it is at or below profitability. When delta has pushed the price sufficiently toward profitability such that a move of X standard deviations will not result in loss, you have no theoretical risk. Buy a stock for $1.00. When the price hits $99 you have no risk. STOP ADJUSTMENT is self-explanatory - you simply move your sell order higher than your original stop loss. LIQUIDATION is simple as well and involves systematically exiting or SCALING OUT of your position (as you achieve price rejection) to eliminate risk. you would either reduce margin or take profit.
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TRADE MANAGEMENT PROCEDURE - 3 easy steps (Long position assumed - reverse for shorting) Place your maximum risk STOP LOSS order (SELLSTOP) 0.01 below the lowest price of your TRIGGER BAR (3X6 bar) • THE DISTANCE BETWEEN THE HIGH AND THE LOW OF THE TRIGGER BAR IS THE RISK (This is very important and will be used for MONEY MANAGEMENT). TRIGGER BAR HIGH - TRIGGER BAR LOW = MAXIMUM RISK When the stock appreciates by an amount greater than or equal to your MAXIMUM RISK (1x Risk), • SELL 1/3 of your position and move your SELLSTOP to the low of the ENTRY BAR When Price = ENTRY PRICE + 1xRISK than CLOSE (Sell) 1/3 POSITION and move SELL STOP 0.01 below ENTRY BAR LOW Example: if your is .50 cents and your entry is 10.25, you would shed risk when price trades through 10.75 (entry price + risk) Set a target for liquidating your remaining position when price appreciates to 3 TIMES THE MAXIMUM RISK When Price = entry price + (3 X MAXIMUM RISK) CLOSE remaining 2/3 POSITION Example: entry=10.25, risk = 0.50 then TARGET = 11.75 (entry price + 3R) TRAILING STOPS Place trailing stops 0.01 below any swing low bars (pullbacks) where price resumes trend and makes higher high. Place stops under ANY BAR WHICH BREAKS OUT OVER AN EXISTING HORIZONTAL PRICE LEVEL (such as previous high). This is a breakout stop and prevents, or a least tries to prevent, being caught in a breakout failure (should price return to previous consolidation). INTEGRATION TRAIL STOPS AT ANY TIME THEY EVOLVE DURING THE TRADE MANAGEMENT 3 STEP PROCEDURE
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SHEDDING = BREAKEVEN Step 2 of the management procedure is your RISK SHED. This move should bring you to BREAKEVEN if stopped on the remaining 2/3 position (provided your entry bar is reasonably close to your trigger price). Let's be clear: exiting 1/3 or your position and moving the stop to your EB low (on the remaining 2/3) should result in a breakeven trade should that new stop be hit. How much of your position to shed will be determined by your initial risk and how far your entry bar low is from your entry. THE CLOSER YOUR ENTRY TO THE ENTRY BAR LOW, THE FEWER SHARES YOU WILL HAVE TO SHED. Simple math will tell you if you're in the ballpark. If you're still under water, SHED more shares. If you're taking too many cookies off the plate, sell fewer shares. You may only need to liquidate a 3rd, quarter or even 5th of your position. YOU WANT TO OWN AS MANY SHARES AS POSSIBLE FOR THE REST OF THE RIDE. REMEMBER: the goal here is to eliminate risk - and allow you to objectively manage the trade without emotional attachment to random adverse price movement. You know how paper-trading lacks the emotional pull of actual order entry? This is how it feels after you've shed risk....unless greed overtakes you. TARGET = 2.5 X RISK If you SHED RISK at the appropriate 1 X MAX RISK level and achieve the target on remaining shares, you should realize a profit of 2.5 TIMES YOUR RISK or GREATER depending on the size of your risk shed (2.33 actually but close enough). Again, this figure is important for MONEY MANAGEMENT - which will come later. ALTERNATE STRATEGIES: You may wish to stay at the party longer than 2.5 RISK. Many strong trends (specifically in high RS stocks early in the broad market move), can last weeks and result in the stock price doubling or tripling. IN ANY CASE -- ALWAYS FOLLOW TRADE MANAGEMENT PROCEDURE AND COMPLETE STEP 2. I REPEAT: ALWAYS SHED RISK. YOU'LL NEVER BE SORRY AND YOU'LL THANK ME FOR SOUND SLEEP! After Step Two (2) of the procedure, use one of the following stops (0.01 below LOW) 79
SHED 1/3 AT 3 X MAX RISK and hold remaining 1/3 (choose a stop listed below) TRAIL swing low stops (as we'll see with examples) until stopped out HOLD remaining position until 3X6 EMA crossover (counter trend signal evolves) PLACE trailing stops 0.01 below ANY BAR WHICH BOUNCES ON THE 6 EMA and rallies.
Trail stops 0.01 below the LOWEST OF THE LAST 2 BARS (2-BAR LOW) This permits a 1-bar pullback (to be discussed later) but no greater correction Let's review a few examples of the plan in action. Take a look at the following chart...
Let's take another example. Refer to this chart...
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The perspective of trade management as a procedure is integral to controlling emotion and developing consistency. I'm offering a variety of stop strategies so that you may develop your own style. In any case you'll be letting your winners run and managing your risk on every bar of the trade. Don't feel as if you have to do it all. Follow the 3-step management strategy as a basis until you develop your own style. Remember that you can't expect the market to move in your direction forever. Random price behavior dictates that you must pay yourself when the market makes profit available to you. Doing so will make you consistent, tactical and efficient. Most importantly you'll be controlling risk and securing in profit.
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TRICKS OF THE TRADE
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Develop your own style WITH DISCIPLINE and CONSISTENCY Follow the 3-Step plan Don't expect the trend to last forever – control greed PAY YOURSELF (according to the plan) when the market PAYS YOU Use expected price rejection (early trade strength) to ELIMINATE RISK
CHAPTER 11: AVOIDING FALSE BREAKOUTS As the chapter title suggests, let's discuss AVOIDING FALSE BREAKOUTS. This chapter in your journey will cover how to use a popular indicator found in any price chart software to avoid false CONTINUATION breakouts. There is no crystal ball of course, but this method will prevent you from taking entries in late cycle trends with unconfirmed new highs (or new lows if shorting). MACD (12-26) Once again we'll be employing the MACD - the same one we used to filter CROSSOVER BREAKOUTS. Gerald Appel's Moving Average Convergence/Divergence (MACD) Indicator plots the DIFFERENCE between two moving averages (popularly the 12 and 26). This 'line' oscillates around 1) a moving average of itself - the trigger line (generally a 9 period EMA); and 2) a zero (0) line. AVOIDING FALSE BREAKOUTS Stocks will often make UNCONFIRMED higher highs (false new high breakouts) before sharply correcting. The MACD INDICATOR is a great way to visually see these unconfirmed moves. When the stock or market makes a new high and the indicator does not, the price action is said to be DIVERGED. If the high which precedes the counter trend is NOT CONFIRMED BY THE MACD high or IS NOT THE FIRST HIGH AFTER THE MACD CROSSES ITS SIGNAL LINE, consider passing on the setup and finding one what is not diverged. Let's put is this way: IF THE STOCK HAS BEEN MAKING HIGHS, THESE HIGH POINTS SHOULD CORRESPOND TO HIGHER HIGHS IN THE MACD INDICATOR . IF THE HIGH THAT OCCURS BEFORE THE COUNTERTREND CORRESPONDS TO A LOWER HIGH IN THE INDICATOR, do not take the trade. KEEP IT SIMPLE Use the indicator for nothing more than CONFIRMING NEW HIGHS or CONFIRMING NEW LOWS (for this purpose). Remember, a new high in price should be confirmed with a new high in the indicator. Be especially aware of these situations when the DOW has turned RED (3x6 down) after an uptrend. You can frequently avoid entries at the beginning of a downtrend or market correction.
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WARNING - WARNING - WARNING DO NOT USE THE MACD FOR ANY OTHER PURPOSE THAN CONFIRMING HIGHS AND LOWS. Doing so will result in confusion. later in the course when we study the system logic, we'll see that continuation trend trades involve counter trends which produce conflicting (counter intuitive) signals in popular indicators. Taking advantage of these reversals is the cornerstone of the system logic. For that matter I would not recommend using any other indicator for confirmation. You will be wasting your time. Trust me, I've tried them all. The best you can do is pass on continuation setups that are diverging. Doing so, in addition to finding low-risk, high probability continuations (bounces off the 18), is the gateway to consistency. All you have to do after that is control your risk and manage the trade effectively. Let's study some examples to eliminate any confusion. Have a look at the following chart...
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Here is another example....
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We'll move on to another example...
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Let's review an example of CONFIRMED higher highs in this chart.....
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Here is another example.....
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Let's complete the training with one of the entries covered in the trade management segment....
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A FEW WORDS FROM THE AUTHOR ABOUT THE WHOLE IDEA Diverged (unconfirmed) highs will typically occur at the end of broad market trends. You will not see them too often at the beginning of a bull run, unless the stock has been bucking the trend for some time. Downside divergences seem to be more volatile than their uptrend counterparts. The stock (or market) will often make the lowest low of the trend on a diverged spike and quickly 90
reverse to the upside. This is how 'bottoms' form. The public has capitulated, sold in panic and handed their shares to the smart money. Let's do a quick review: The MACD indicator is a tool for measuring High and Low CONFIRMATION DIVERGENCE Stock = Higher High, MACD = Lower High Stock = Lower Low, MACD = Higher Low Unconfirmed Higher Highs = False new high breakouts Unconfirmed Lower Lows = False new low breakouts Trade Secret: Higher Highs in the stock should correspond to Higher Highs in the MACD indicator (since crossing the zero line)
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CHAPTER 12: SYSTEM LOGIC By now possess the necessary tools to consistently set up and manage low-risk entries . You should feel like you are in control. You are more capable now, probably, than 90% of all other market participants. You might be asking why this system really works; why it consistently picks winners year in and year out. The answers to these questions and other mysteries of the universe are contained in this segment. SYSTEM LOGIC consists of two (2) main principles: 1. COUNTERINTUITIVE PREMISE 2. VERIFICATION AND VALIDATION OF LONG TERM TREND COUNTERINTUITIVE PREMISE The setup pattern, whether the PRICE ACTION be a PULLBACK or a PATTERN entry, establishes a counter intuitive premise. Assuming a LONG position, the counter trend is a short-term downtrend which begins OVER the Long Term EMA. Sufficient selling has emerged to facilitate this. Most popularly followed canned indicators, found in any free charting tool on the web, are flashing SELL SIGNALS. The uninitiated trader concludes that the market has topped. The bears have taken control and sellers establish short positions. Additionally, the weak hands exit long positions. The short sellers will place stops at or near the top of the pattern. When the price bounces firmly on the Long Term EMA and quickly reverses, the shorts are forced to cover. At the new high, more buying ensues as this strategy is a common momentum entry popularized by the IBD. But you will have already established your long and may even have shed risk. Let's review an example. Take a look at the following chart...
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You will notice how the counter trend attracted sellers. When the shorts cover, they buy. This propels prices past the breakout point. Here is another example...
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In this example notice how the sellers misunderstood price support at the 18 EMA. VALIDATION OF LONG TERM TREND The second system logic principle is Long Term Trend validation. Since you are familiar with reading trends and gauging momentum, you can verify if the 'TEST' of the Long-Term EMA will hold and result in a CONTINUATION pursuant to the rules of 3-moving average systems. Also, since price strength is necessary to terminate the counter trend and continue the uptrend, you will have an obvious place to enter (the 3x6 crossover). YOU CAN THEN ANALYZE PRICE ACTION, ASSESS RISK AND DECIDE IF YOU WISH TO TAKE THE ENTRY. 94
A WORD ABOUT PULLBACKS TO MOVING AVERAGE SUPPORT Pullbacks to moving average support that result in continuations of the trend ARE MORE PROBABLE if there exists a COUNTERTREND prior to entry. My empirical evidence suggests that pullbacks to support without counter trends are much less probable and DO NOT ALWAYS POSSESS THE COUNTER INTUITIVE PREMISE. Therefore, I only trade continuations after counter trends. Also, if you attempt an early entry on a pullback to Long Term support (before the 3x6 confirmation, YOUR ENTRY IS RANDOM AND YOU ARE MERELY GUESSING THAT SUPPORT WILL HOLD. Let's review with an example. Take look at the following chart...
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THE BOTTOM LINE Markets, stocks, Forex pairs, market participants, economic cycles, technical cycles, volume, volatility, news, and good old human greed and fear are constantly changing. What never changes, however is the fact that price action continuously crosses over and continues. The variation is endless of course, but the patterns are obvious and discernible. There you have it....SYSTEM LOGIC. Why this system worked for me in the 1990s, why it worked last week...and why it should work 20 years from now. Let's review the Counter Intuitive Premise:
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A COUNTER TREND = Short Term DOWN TREND BUT...the COUNTER TREND occurs OVER the LONG TERM TREND EMA Widely followed indicators flash SELL SIGNALS Short Sellers place stops near the top of the COUNTER TREND New Highs attract BUYERS!
CHAPTER 13: TREND ANALYSIS At this point in the course, we can discuss TREND ANALYSIS. Understand the nature of trends types can dramatically improve your performance over time. After you enter the position and control risk, one of two types of market action will ensue. Understanding these individual trend characteristics will enable you to choose the best trade management technique. Once understood you will know when to sit in a strong trend and trail stops. You can also learn to establish a target and take profit in those 'flash in the pan' trends. Let's begin by defining each type of trend. QUIET TRENDS • Steady, upward/downward price movement (about 45 degrees), NOT PARABOLIC • Average range price bars, typically within normal range • 3 equidistant from 6 EMA , and NO DIVERGENCE (3 pulling away from 6) • 3/6 remain equidistant from 18 EMA, NO DIVERGENCE (3/6 pulling away from 18) • Frequent 3 or 3/6 EMA testing (3+ times) • Small one bar pullbacks to moving averages (3, 6 EMAs) • Price closely follows a trend line (drawn by connecting pullbacks or reaction points) VOLATILE TRENDS • Parabolic moves, prices bolting up/down at unsustainable angles • Large range bars, often several times larger than those in the counter trend • 3 diverges from the 6 EMA • 3/6 diverge from the 18 EMA • Price may diverge/pull away from 3 or 6 EMA - there is no TESTING • No pullbacks initially • Price diverges from a trend line (drawn by connecting pullbacks or reaction points) With this knowledge you want to determine the trend type and react accordingly. For quiet trends you're looking to trail stops according to one of the several methods detailed in the TRADE MANAGEMENT TRAINING. In many cases it is possible to profit 5-10 times risk (R), or more in quiet trends. For volatile trends, you'll want to establish the price target (3 times Risk) and exit the trade when the target is reached. WHAT'S THE LOGIC? 1) PULLBACKS greater than 2 bars are potential REVERSALS (frequently). 2) The above method will allow you to land a WHALE on the daily or weekly interval and 97
actually STAY IN IT (so you can stop telling fish stories at cocktail parties) 3) You're competition doesn't understand this and blindly treats all entries the same with some static mechanism while you trust your intuition, use your head and allow the the market to guide your management decisions. 4) By learning to EXIT VOLATILE TRENDS you won't spend lots of time in multi-week / month consolidations which tend to evolve after very quick, parabolic (volatile) price action. 5) YOU WON'T WASTE TIME. Profits from volatile target exits can be funneled into QUIET TREND trades. You can maximize your effort. 6) THE BEST TRENDS DEMONSTRATE SMALL RETRACEMENTS, USUALLY 1-BAR PULLBACKS. DON'T BE LIKE ROBOTIC SYSTEM TRADERS WHO THINK HISTORY REPEATS ITSELF, THAT THEIR 'SYSTEM' SHOULD PERFORM EXACTLY LIKE THE 'BACKTEST', AND THAT EVERY ENTRY SHOULD BE HANDLED THE SAME WAY. This is a rule-based strategy. But flexibility, awareness and choice are key intuitive compenents which should be developed. Let's analyze some examples. Take a look at this price chart...
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This stock was definitely under heavy accumulation. Here is another example...
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Notice how parabolic price action resulted in divergence and inevitable consolidation. Let's compare this volatile trend to a quiet trend counterpart. Examine this next chart....
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And let's look at another interesting example...
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A QUICK TRICK If the price is really far above or below (if short) your stop, you're probably in a volatile trend. Think of it this way...if you wouldn't want to give back that much profit if your stop is hit, the trend is probably volatile. ALWAYS SHED RISK You never know what is going to happen. Shed risk, follow the trade management plan, analyze the trend, and manage the trade accordingly. Once you shed risk and get to breakeven, you can unemotionally and OBJECTIVELY allow the market to determine your course. 102
ANYTHING CAN HAPPEN Just in case you weren't aware of this by now, anything can happen. A quiet trend can go volatile. A volatile trend can retrace and become quiet. The biggest challenge will be objectivity in the face of random outcomes. If you don't possess the discipline requisite to following your determined trade plan, it will have to be developed. REMEMBER THIS IS RELATIVE You don't need to be 'right' about the trend and you don't have to know what is going to happen next in order to make money. Occasionally, trend analysis can be tricky. QUIET and VOLATILE assessments are RELATIVE. Use your best judgment, follow through and accept the results. DON'T OVER ANALYZE. However, I think you'll be surprised at how simple and effective this method can be. Understanding trend characteristics is a definitive edge. Practice spotting historically QUIET and VOLATILE trends. Notice what happens next. Once you have a firm grasp of the concept, move forward. After your setup follows through (2-5 bars) analyze the trend and proceed. TRADE SECRET: Historically LARGE PRICE MOVES are QUIET TRENDS Some TREND ANALYSIS POINTS TO PONDER:
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Pullbacks greater than 2 bars (in extended trends) = potential reversals Call a QUIET TREND and you can LAND that WHALE! Trend analysis is INTUITIVE CONSOLIDATIONS DON'T MAKE MONEY! Correct Trend analysis = Efficient use of time Strong Trends demonstrate SMALL RETRACEMENTS
CHAPTER 14: MONEY MANAGEMENT At this point you should be familiar with setting up low-risk entries and managing the trade. Your management style will evolve as you develop a better understanding of your own discipline, preferences and tolerance. Everything will eventually culminate in a unique process that will be your own. This segment is an addendum to the trade management training. Here I'll introduce you to a key ingredient necessary to make any strategy truly effective: POSITION SIZING. Here is what we want to do: Master the entry setup and trade management techniques EMPLOY POSITION SIZING TO ACHIEVE OUR GOALS Every trade has PREDETERMINED RISK and a PROFIT TARGET. This will enable us to enjoy an expected value. Join me in the following thought experiment: I have a sample of 10 trades with the following DISTRIBUTION: 6 WINNERS... each one equal to 2.5 times my risk (2.5 X R) 2 BREAK EVENS... the trade reached SHED target but resulted in no total trade profit 2 LOSSES …. each one equal to my maximum risk (1 X R) Let's think in terms of RISK: 6 WINNERS 2 Break evens 2 LOSSES
= 15 times RISK = 0 (no risk) = -2 times RISK
TOTAL
= 13 times RISK (net gain)
"OK, Ed.....but what does this mean? Let's assume that each time I complete a 10 trade sample (enter, manage and effectively exit a trade) I generally net 12 times RISK, give or take a few. This 12 X RISK (R), or 12 R becomes my expected outcome. Let's further assume I can complete one sample (10 trades) each month and that my monthly trading goal is $6,000.00. Simple math dictates that I must risk $500.00 to achieve my goal. Why? Because if my expected outcome is 12 R and each R is equal to $500.00, then I can expect to generate 6K in profit. 12 X R = $6,000.00 (R = $500.00)
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SIZING POSITIONS FOR RISK (R) The concept of taking the same amount of risk for each trade is not new but most investors don't do it. THIS WILL GIVE YOU TOTAL CONTROL AT ALL TIMES. By knowing exactly how much you are willing to risk, you can decide which trades suit your tolerance and which trades do not. Furthermore, by choosing the number of open positions to maintain, you can control THE EXACT AMOUNT OF PORTFOLIO RISK (open position risk) YOU WISH TO TOLERATE. Let's first look at sizing for risk. REMEMBER HOW TO DETERMINE YOUR RISK: SUBTRACT THE TRIGGER BAR LOW FROM THE TRIGGER BAR HIGH (H-L=RISK) The trigger bar is the one at which point the 3 crosses the 6...you will be placing a BUYSTOP order 0.01 over the high of this bar. As discussed in the trade management chapter you will be placing your SELLSTOP 0.01 below the low of the trigger bar. Use the following formula (given risk) to determine your POSITION SIZE: POSITION SIZE = AMOUNT OF RISK / (divided by) TRADE RISK (trigger bar H-L) Let's say I want to risk $500 per trade and my trade risk is $1.00 POSITION SIZE = $500 / $1.00 = 500 SHARES USING RISK PERCENTAGES TO DETERMINE IF PROFIT TARGET IS REALISTIC The next thing I always do is CALCULATE THE ENTRY RISK AS A PERCENTAGE OF THE STOCK. I know from experience that for momentum stocks 20% is an attainable target. If 2.5 times risk is the target but my trigger bar is very long and equal to 15% of the stock value, I will need the trade to go over 40% in order to achieve my target. This may not be realistic. Hence the purpose of my ramblings: FOCUS ON THE LOWEST RISK ENTRIES THAT THE MARKET GIVES YOU. You will be surprised at the number of times an entry will appear with only 5% in risk. This will enable you to TAKE PROFIT SOONER. IT WILL NOT REQUIRE UNREALISTIC APPRECIATION. Let's take a look at the following chart:.....
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Notice how the setup provides all the information i need to assess risk and determine if the entry meets my money management objectives. GLOBAL PORTFOLIO RISK MANAGEMENT Let's continue my example of $500.00 risk amounts. Assume, for sake of argument, my trading account value is $100,000.00. Knowing my own risk tolerance, let's say I never want to risk more than 2.5% of the account's total value. I would therefore maintain no more than five (5) open positions.
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RISK 5XR $2,500.00
= $500.00 = $2,500.00 = 2.5% of my portfolio (100K)
If I can SHED RISK on several entries and/or achieve sufficient price rejection to theoretically reduce or eliminate risk, then I can open an additional position or two. Imagine that. TOTAL CONTROL. Never again will you have to ask your broker if a 30% loss is really OK. Let me tell you...if the worst I can do is a 2.5% draw down I'll surely survive to play another day. Of course no one will believe that I don't have to assume more risk. I am in control of my money. The choices are mine. But what is the upside? Well, if I hit the target in the thought experiment I profit $6,000.00. That's 6%....72% a year......144% if I leverage the account 2:1 with standard margin. Let's Review. SIZING POSITIONS FOR RISK gives YOU:
CONTROL: YOU decide your Risk tolerance CHOICE: YOU decide which trades suit that tolerance MORE CONTROL: YOU decide global PORTFOLIO RISK
TRADE SECRET: LOW PERCENTAGE RISK entry setups DO NOT REQUIRE UNREALISTIC APPRECIATION to hit trade TARGET (and you can take profit sooner!)
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CHAPTER 15: TIMING THE MARKET Let's quickly review our progress...By now you should be familiar with:
Basic strategy logic Specific price action setups and technical criteria necessary to achieve consistency Trade and money management Tools to avoid false breakouts and perform trend analysis
What you have learned so far is all you really need to know in order to consistently profit whether you're trading stocks, lumber or the more rare 500lb. stone currency of the Easter Island aborigines...given that it can be charted, of course. BUT..... Timing the market is a knack that will greatly enhance your performance over time. At the beginning, you'll recall we briefly discussed the difference between timing and forecasting, so you are familiar with both. What we will be doing here is TIMING THE MARKET. To be more specific: POSITIONING YOUR TRADE IN THE DIRECTION THAT THE BROAD MARKET IS MOST LIKELY TO GO. THIS DOES NOT MEAN YOU KNOW WHERE THE MARKET IS HEADED; NOR DOES IT ASSUME YOU WILL BE CORRECT. There are five (5) ways to accomplish this feat. I will begin with the easiest: 1) IGNORE MARKET DIRECTION AND CONSISTENTLY TRADE LONGS I know this ostensibly contradicts the effort of this chapter. Typically 3 out of 4 stocks will move in the general market direction. This means that statistically if you're seeing lots of longs the market is probably going up. Here's why you can consistently profit: IF YOUR LONG-TERM EMA IS SHORT ENOUGH (15, 18, 21 etc) AND THE MARKET FALLS, COUNTERTRENDS WILL TRADE THROUGH THE LONG TERM LINE (becoming CROSSOVERS) AND SETUPS WILL NOT APPEAR. SINCE YOU NEED A FIRM BOUNCE ON THE LONG-TERM EMA TO GENERATE A SIGNAL, EVEN MILD MARKET CORRECTIONS WILL CAUSE YOUR STOCKS TO SLICE THROUGH IT AND CROSSOVER. Large winners in confirmed trends should dwarf any stop outs in late cycle entries. REMEMBER THAT THE COUNTER TREND permits me to assess how well the price is supported at the Long Term EMA. If it trades through it, I don't even bother. As stated in previous segments, YOU NEVER KNOW IF THE COUNTERTREND IS JUST THAT OR THE BEGINNING OF A DOWNTREND VIA CROSSOVER. Let the market tell you.
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2) TRADE STOCKS AS SURROGATES FOR THE BROAD MARKET This is rather self-explanatory. When the DOW makes a continuation move in any given interval, find a stock that is doing the exact same thing. This occurs more often than you think. Pictures are worth a 1000 words. Take a look at the following chart of the DIAMONDS ETF (DIA).....
With this broad market action in mind, let's proceed to the next chart.... 109
There will frequently be individual equities which correspond to similar broad market or index movement. 3) USE THE 3X6 EMA ON THE WEEKLY DOW INTERVAL AS A 'RED/GREEN BULLBEAR' INDICATOR USE THE 3x6 EMA ON THE DAILY DOW INTERVAL to time entries in the direction of the weekly trend and sidestep counter trends and/or corrections. This strategy will always keep you on the proper side of the long term trend. Turn 'cautiously bearish' when the 3X6 EMA crosses down while over the 18 until it goes through it. Turn 'cautiously bullish' when the 3X6 crosses up while under the 18 until it passes through it. Then simply watch the DAILY DOW interval for earlier turns. These will or will not be 110
confirmed by the weekly chart. You can catch an early turn this way. DON'T WORRY ABOUT MISSING A BOTTOM OR TOP. WAIT PATIENTLY FOR YOUR SETUPS AND FOLLOW THE PLAN. This may sound more confusing than it is. We'll analyze the March 2009 low as an example. Take a look at the following chart...
And this next chart, while we're at it.... 111
Strategy #3 works extremely well for long term investments to which you add funds on a regular basis (such as a 401k) because re-entry is not a factor. I was able to use this simple RED/GREEN tool to completely avoid the 2008 meltdown. I told all my friends to go to cash after the first week of November, 2007 and again at the end of December. Some of them listened. Examine this weekly chart of the DIAMONDS (DIA) ETF...
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NOTE: IGNORE A WEEKLY 3X6 CROSSOVER DOWN AT YOUR OWN PERIL. If you heed the warning, you will NEVER SIT THROUGH A LONG TERM BEAR MARKET. The result can be life changing. 4) USE THE CROSSOVER BREAKOUT STRATEGY ON AN INDEX TO PROVIDE MARKET TIMING SIGNALS This strategy is really nothing more than using CROSSOVER BREAKOUTS to gauge market direction. It works exceptionally well. 113
Let's check out the following chart.....
and the next one....
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and one last example.....
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To conclude, here are the simple rule for implementing the Crossover Breakout Strategy as a market timing system. Take a look at this chart - we'll see an example of the system in action...
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5) USE BOTH THE 3X6 DAILY/WEEKLY RED/GREEN MODE SYSTEM AND THE CROSSOVER BREAKOUT MARKET TIMING SYSTEM simultaneously You can even track a number of indices and/or market sectors quite easily. Using both methods you should be able to track market direction and avoid pitfalls in just a few minutes a week.
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CHAPTER 16: DAY TRADING This chapter will attempt to tackle the monumental task of conveying the necessary concepts requisite to applying the setup patterns on an intraday basis. Most people associate day trading with first-hour breakouts, pairs trading, ECN arbitrage or a host of other high volume strategies. For me, it is really a miniaturization of the daily or weekly model. I locate low-risk, high-probability entries in the same manner I would on any other interval. I seldom make more than 3 or 4 trades per day. The short-term interval, order flow and real-time charting, however, change ALL the rules. KEY DIFFERENCES TIME Ultra-short intervals require decisiveness, precision and skills not necessary or even desirable for daily or weekly intervals. It can resemble a day job. ERROR Technical difficulties, real-time chart/data errors, physical trade error, misplaced orders and a host of other pitfalls can trigger emotional responses and imbalance even a seasoned trader. SCANNING Easily spotted in retrospect, real-time entries can slip through your fingers like sand at the beach. A very organized, focused desktop with appropriate technology is necessary to locate and effectively manage even a moderately sized watch list. ONE MARKET CONSPIRACY Watch only one market or stock and you risk wasting an incredible amount of time. Watch too many and the best moves will slip past like a burglar though an unlocked door in a dark alley. The best trades come from individual stock moves. So why is everyone touting single-market systems? Because managing a watch list adds a whole new dimension to the crime. I knew a guy who bragged about trading only the S&P mini contract. Now he teaches other people to trade the S&P mini contract. What does that tell you? Indexes and ETFs can stagnate for hours or an entire day. COUNTERINTUITIVE TIME DEMON Everything about our culture encourages diligence and hard work. "Hard work is rewarded." The 40 hour work-week....blah, blah. These axioms are inverted in day trading Trade the first and last two hours and you can make a fortune...or not. Trade all day like a desk job and you'll soon have one. Your friends will probably stop calling as well. The less you do, the more you'll make. BROKERS, RULES AND LEVERAGE Thank the tech bubble bust at the turn of the century for the SEC day trading rules and minimum account requirements. To play the game you need huge leverage (much more than the 4:1 offered by most brokers) and DIRECT ACCESS execution capability. You want to be able to post bids and offers directly into the ECN or DOT (NYSE) system. Choose any other way and you won't be competitive. You may want to consider a reputable 'prop' (proprietary) 118
firm. Frequently this requires the series 7 exam and professional licensing. THE BIG BOYS ARE OUT FOR BLOOD From hedge funds whose primary strategy is running public stops to greedy specialists and front-running clearing firms, everyone is out for your lot. Think they don't know how you cleverly placed that stop at the same place there are 400 other orders? Think again. Think they won't come get them? Think again. DAY TRADING SURVIVAL GUIDE: TAKE HIGH-QUALITY, LOW-RISK SETUPS DURING THE MARKET HOURS WHICH TYPICALLY PRODUCE THE BEST MOVES (first 2 hours and the last 2 hours) BUILD A SAMPLE OF TRADES OVER A LONG PERIOD OF TIME USING RULE #1 BE PATIENT ENOUGH TO WAIT FOR A VERY PRECISE SETUP TO EVOLVE (I'll show you which one) USE ONLY 'MENTAL STOPS' UNTIL YOUR HARD STOP IS BREAKEVEN OR BETTER (This way, if and when it's hunted you can at least breakeven) LEARN TO READ A LEVEL II AND AVOID 'FAST' STOCKS OR MARKETS (Those with sparse volume at various prices which cause excessive price movement and slippage when triggered) TRADE ONLY HIGH BETA STOCKS WITH LARGE VOLUME. VOLATILITY STOCKS WITH EXCESSIVELY LARGE VOLUME
AVOID LOW-
TRADE NYSE STOCKS. The stop order system is much more fair, trade is more orderly and the largest volume securities trade there IF YOU'RE CONVINCED THAT ETFs ARE THE WAY TO GO, TRADE ONLY HIGHLY LEVERAGED ETFs (2 or 3 Xs). Consider the DIREXION broad market products. FIND A DIRECT ACCESS BROKER WHO WILL GIVE YOU AT LEAST 10:1 INTRADAY LEVERAGE (Preferably 20:1 or 30:1). Don't put your precious capital or IRA at risk. Put up 5K to 10K in collateral and use good old OPM (other people's money). You'll do better, be more focused, and free to deploy your larger accounts for daily and weekly entries. ENSURE THIS BROKER IS USING A COMPETITIVE DIRECT ACCESS PLATFORM (Try Instaquote or RealTick). Some 'prop' firms have their own proprietary and/or experimental platforms. Let's face it - there are only so many ways to get executions...be careful. GIVE IT TIME. It can take a year or two to master the game, build and outfit your trading desk and acclimate to real-time price ticking. The setup you have learned will 119
severely reduce your learning curve, however. DAYTRADING STRATEGY: Choose an interval that will allow your trade to reach its trend potential BEFORE the market closes (if you must liquidate all positions at day's end). I would suggest nothing longer than a 10 or 15 minute interval. 60 minute charts, although desirable, will frequently require holding overnight. That's fine, but that isn't leveraged day trading TRADE ONLY PULLBACKS. The only resistance level you must manage is the swing high which preceded the counter trend. This keeps it simple and much more probable. There are more false breakouts during the day than demonstrators at a World Trade Organization (WTO) conference. Look for the following sequence AFTER YOU LOCATE AN ENTRY (if long): • DOWNTREND (3,6 below 18 - RED MODE) • CROSSOVER (3 crosses over 6, 3/6 crossover 18) • COUNTERTREND + PULLBACK PATTERN • ENTRY SETUP What you're looking for is the FIRST COUNTERTREND after a primary trend change from DOWN to UP (or reverse if shorting). Let's take a look at some examples of how this wave 'Pattern' is demonstrated and exploited. Take a look at the following chart...
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And this next example.....
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Here is an example of a downtrend pattern.....
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Here is another example of a downtrend continuation.....
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Check out this next example as well....
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And to complete the training let look at one more example....
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USE THE MACD INDICATOR TO AVOID FALSE Breakouts. Be certain your high and lows are confirmed. ONLY TRADE LONGS. Statistically, Long entries meander farther and are more likely to evolve into lasting trends than their short counterparts. Yes, there are great short entries, but statistically you fare much better long. And you won't have to struggle with 'hard to borrow' stocks. FOCUS ON STOCKS WHICH ARE 'UP THE MOST' (highest percent change) FOR THE DAY. These are most likely to resume an uptrend after a morning counter trend. FOCUS ON GAPS. Stocks with 'unfilled gaps' are excellent candidates for continuation moves later in the day. 126
BUILD A MANAGEABLE WATCHLIST OF HIGH BETA (LARGE RANGE), HIGH VOLUME, EXPENSIVE (greater than $30) LISTED STOCKS. No more than 100 is necessary. ACQUIRE THE NECESSARY TECHNOLOGY. You'll want a very dependable, scalable charting tool. If your watch list is larger than your amount of screen space you'll probably also require some type of real time scanning instrument. as for computing power use a resource-rich gaming PC with ample screen space (monitors) to reduce the workload and stress. IF ALL ELSE FAILS....FOCUS ON THE SETUP. REPEAT: FOCUS ON THE SETUP.
IT WON'T LET YOU DOWN. I
The above checklists will give you a fighting chance if you're interested in ultra short term trading. Just remember, FOCUS ON THE SETUP. CONTROL RISK. FOLLOW THE TRADE MANAGEMENT PLAN. ONE last note...if you can't successfully master the setup and yourself on a weekly, daily or hourly interval, you're likely to struggle with even shorter term intervals. I would suggest you work down from a long-term interval until you locate the best spot for YOU on the interval scale. DAYTRADING SUMMARY: THE DAY TRADE CHALLENGE: Entry SETUPS must be seen, analyzed and executed while PRICE IS MOVING WORK DOWN from longer term intervals. Locate the best spot for YOU on the interval scale FOCUS ON THE SETUP ESTABLISH specific CONTEXT (early cycle entries) CONTROL YOUR RISK
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CHAPTER 17: TRADING RULES
FOCUS ON THE SETUP Establis your precise SETUP CONTEXT SETUP: Price Action specifications CONTEXT: Early cycle entries, 52 wk highs, etc. MARKET: Correlated, non-correlated setups CONTROL RISK Take LOW RISK SETUPS (less than 5%) Follow your trade and money management rules Let the trend do the work Maintain 20 TRADE SAMPLES, Reduce Error Achieve your goals with POSITION SIZING
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AFTERWORD “What beat me was not having brains enough to stick to my own game – that is, to play the market only when I was satisfied that precedents favored my play.” Edwin Lefevre, Reminiscences of a Stock Operator You now possess the tools requisite to consistently managing trend trades in any market and any time interval. During the course of your training you should have seen numerous profitable examples of the setup patterns on your own charts. Contrary to most market systems available on the Internet this method actually works. It is used daily by a group of traders in my own office on a variety of time intervals from intraday setups to daily and weekly positions. It is traded with options, stocks, Forex and just about any security that exhibits the continuation or crossover pattern. We continue to experiment with price action and challenge ourselves daily to further develop and maintain the discipline and consistency requisite to long term profitable equity trading. The biggest hurdle you face will be bridging the gap between theory and practice. This will involve the development of a process. The process must begin with analysis and end with disciplined trade management. Good fortune, Frank
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BONUS SYSTEM: 2 – 3 – 6 EMA CONTINUATION SETUPS Use the 2x3x6 system to enter strong MOMENTUM STOCK after they have made a NEW 52-WEEK HIGH Setup and manage the entries EXACTLY as you would any other system Target ONLY stocks which enter Counter Trends (2x3 down) AFTER a 52-WEEK
HIGH
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APPENDIX A: HISTORICAL SETUPS and MARKET MOVES
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