Day Trading With Price Action Volume 3 - Price Patterns.pdf

2 ND EDITION

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Day Trading with Price Action Volume III: Price Patterns Galen Woods Trading Setups Review Copyright © 2014-2016. Galen Woods. PDF eBook Edition Cover Design by Beverley S.

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Copyright © 2014-2016 by Galen Woods (Singapore Business Registration No. 53269377M). All rights reserved. First Edition, 1 September 2014. Second Edition, 5 April 2016. Published by Galen Woods (Singapore Business Registration No. 53269377M). All charts were created with NinjaTrader™. NinjaTrader™ is a Registered Trademark of NinjaTrader™, LLC. All rights reserved. No part of this publication may be reproduced or transmitted in any form or by any means, electronic or mechanical, without written permission from the publisher, except as permitted by Singapore Copyright Laws.

Affiliate Program If you find this course to be valuable and wish to offer it for sale to your own customers or readers, please contact Galen Woods to be an affiliate and get a percentage of each sales as commission. Contact Information Galen Woods can be reached at:  

Website: http://www.tradingsetupsreview.com Email: [email protected]

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Disclaimer The information provided within the Day Trading with Price Action Course and any supporting documents, software, websites, and emails is only for the purposes of information and education. We don't know you so any information we provide does not take into account your individual circumstances, and should NOT be considered advice. Before investing or trading on the basis of this material, both the author and publisher encourage you to first seek professional advice with regard to whether or not it is appropriate to your own particular financial circumstances, needs and objectives. The author and publisher believe the information provided is correct. However we are not liable for any loss, claims, or damage incurred by any person, due to any errors or omissions, or as a consequence of the use or reliance on any information contained within the Day Trading with Price Action Course and any supporting documents, software, websites, and emails. Reference to any market, trading time frame, analysis style or trading technique is for the purpose of information and education only. They are not to be considered a recommendation as being appropriate to your circumstances or needs. All charting platforms and chart layouts (including time frames, indicators and parameters) used within this course are being used to demonstrate and explain a trading concept, for the purposes of information and education only. These charting platforms and chart layouts are in no way recommended as being suitable for your trading purposes.

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Charts, setups and trade examples shown throughout this product have been chosen in order to provide the best possible demonstration of concept, for information and education purposes. They were not necessarily traded live by the author. U.S. Government Required Disclaimer: Commodity Futures Trading and Options trading has large potential rewards, but also large potential risk. You must be aware of the risks and be willing to accept them in order to invest in the futures and options markets. Don't trade with money you can't afford to lose. This is neither a solicitation nor an offer to Buy/Sell futures or options. No representation is being made that any account will or is likely to achieve profits or losses similar to those discussed on this web site. The past performance of any trading system or methodology is not necessarily indicative of future results. CFTC RULE 4.41 - HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING. ALSO, SINCE THE TRADES HAVE NOT BEEN EXECUTED, THE RESULTS MAY HAVE UNDEROR-OVER COMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY. SIMULATED TRADING PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFIT OR LOSSES SIMILAR TO THOSE SHOWN.

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Contents Chapter 1 - Introduction ...................................................... 1 1.1 - The True Purpose of a Trading Setup .......................... 1 1.2 - What to Expect......................................................... 2 1.3 - The Holy Grails ......................................................... 4 1.4 - Overview of Price Patterns ......................................... 5 1.5 - Ground Rules ........................................................... 7 Chapter 2 - Congestion Break-out Failure ............................... 9 2.1 - The Psychology Behind .............................................. 9 2.2 - Identifying the Congestion Break-out Failure .............. 10 2.2.1 - Congestion ....................................................... 10 2.2.2 - Break-out ........................................................ 14 2.2.3 - Failure ............................................................. 15 2.2.4 - Long Congestion Break-out Failure Setup ............. 16 2.2.5 - Short Congestion Break-out Failure Setup ............ 16 2.3 - Trading the Congestion Break-out Failure .................. 17 2.3.1 - 6E 60-Minute Example ....................................... 17 2.3.2 - FDAX 10-Minute Example ................................... 19 2.3.3 - ES 10-Minute Example ....................................... 20 2.3.4 - CL 5-Minute Example ......................................... 22 2.3.5 - ZN 60-Minute Example ...................................... 24 2.4 - Conclusion ............................................................. 25 Chapter 3 - Congestion Zone .............................................. 27 3.1 - The Psychology Behind ............................................ 27 www.tradingsetupsreview.com

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3.2 - Identifying the Congestion Zone ............................... 31 3.2.1 - Drawing the Congestion Zone ............................. 31 3.2.2 - Merging Congestion Zones ................................. 33 3.2.3 - Long Congestion Zone Setup .............................. 35 3.2.4 - Short Congestion Zone Setup ............................. 37 3.3 - Trading the Congestion Zone ................................... 39 3.3.1 - CL 5-Minute Example ......................................... 39 3.3.2 - ZN 60-Minute Example ...................................... 42 3.3.3 - NQ 3-Minute Example ........................................ 44 3.3.4 - 6A 30-Minute Example ....................................... 45 3.3.5 - 6E 45-Minute Example ....................................... 46 3.4 - Conclusion ............................................................. 48 Chapter 4 - Trend Bar Failure ............................................. 50 4.1 - The Psychology Behind ............................................ 50 4.1.1 - Finding Numerous Counter-Trend Traders ............ 51 4.1.2 - Finding What Makes Them Freak Out ................... 51 4.2 - Identifying the Trend Bar Failure .............................. 52 4.2.1 - Long Trend Bar Failure Setup ............................. 54 4.2.2 - Short Trend Bar Failure Setup ............................ 54 4.3 - Trading the Trend Bar Failure ................................... 55 4.3.1 - 6J 20-Minute Example ....................................... 55 4.3.2 - CL 5-Minute Example ......................................... 57 4.3.3 - ES 10-Minute Example ....................................... 58 4.3.4 - 6A 30-Minute Example ....................................... 59 4.3.5 - 6E 30-Minute Example ....................................... 61 www.tradingsetupsreview.com

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4.4 - Conclusion ............................................................. 64 Chapter 5 - Deceleration .................................................... 66 5.1 - The Psychology Behind ............................................ 66 5.2 - Identifying the Deceleration ..................................... 68 5.2.1 - Deceleration Pattern .......................................... 68 5.2.2 - Long Deceleration Setup .................................... 69 5.2.3 - Short Deceleration Setup ................................... 72 5.3 - Trading the Deceleration ......................................... 72 5.3.1 - CL 5-Minute Example ......................................... 72 5.3.2 - ES 10-Minute Example ....................................... 74 5.3.3 - 6J 30-Minute Example ....................................... 75 5.3.4 - FDAX 10-Minute Example ................................... 76 5.3.5 - NQ 5-Minute Example ........................................ 78 5.4 - Conclusion ............................................................. 80 Chapter 6 - Anti-Climax ..................................................... 81 6.1 - The Psychology Behind ............................................ 81 6.2 - Identifying the Anti-Climax ...................................... 82 6.2.1 - Anti-Climax Pattern ........................................... 82 6.2.2 - Anti-Climax versus Deceleration.......................... 83 6.2.3 - Long Anti-Climax Setup ..................................... 87 6.2.4 - Short Anti-Climax Setup .................................... 87 6.3 - Trading the Anti-Climax ........................................... 88 6.3.1 - CL 4-minute Example ........................................ 88 6.3.2 - 6A 30-Minute Example ....................................... 90 6.3.3 - ES 10-Minute Example ....................................... 91 www.tradingsetupsreview.com

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6.3.4 - FDAX 10-Minute Example ................................... 94 6.3.5 - NQ 3-Minute Example ........................................ 95 6.4 - Conclusion ............................................................. 97 Chapter 7 - Pressure Zone ................................................. 99 7.1 - The Psychology Behind ............................................ 99 7.1.1 - Traders Who Sold at the High of the Bar (Stage One) ............................................................................... 100 7.1.2 - Traders Who Bought at the High of the Bar (Stage One) ........................................................................ 101 7.1.3 - Traders Who Sold at the Low of the Bar (Stage Two) ............................................................................... 102 7.1.4 - Traders Who Bought at the Low of the Bar (Stage Two) ........................................................................ 102 7.1.5 - Deducing Pressure .......................................... 103 7.2 - Identifying the Pressure Zone ................................ 104 7.2.1 - Pressure Zone ................................................ 105 7.2.2 - Long Pressure Zone Setup................................ 108 7.2.3 - Short Pressure Zone Setup ............................... 109 7.2.4 - Pressure Zone & Congestion Zone ..................... 110 7.3 - Trading the Pressure Zone ..................................... 111 7.3.1 - NQ 3-Minute Example ...................................... 111 7.3.2 - 6A 4-Hour Example ......................................... 112 7.3.3 - ES 10-Minute Example ..................................... 114 7.3.4 - CL 4-Minute Example ....................................... 115 7.3.5 - FDAX 10-Minute Example ................................. 118 7.4 - Conclusion ........................................................... 120 www.tradingsetupsreview.com

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Chapter 8 – Anxiety Zone................................................. 121 8.1 - The Psychology Behind .......................................... 121 8.2 - Identifying the Anxiety Zone .................................. 125 8.2.1 - Anxiety Zone .................................................. 125 8.2.2 - Long Anxiety Zone Setup ................................. 130 8.2.3 - Short Anxiety Zone Setup ................................ 131 8.2.4 - Important Notes ............................................. 131 8.3 - Trading the Anxiety Zone ...................................... 132 8.3.1 - CL 4-Minute Example ....................................... 132 8.3.2 - NQ 10-Minute Example .................................... 133 8.3.3 - ES 10-Minute Example ..................................... 135 8.3.4 - 6E 60-Minute Example ..................................... 137 8.3.5 - NG 6-Minute Example ...................................... 139 8.4 - Conclusion ........................................................... 141 Chapter 9 - Weak Pullback ............................................... 143 9.1 - The Psychology Behind .......................................... 143 9.2 - Identifying the Weak Pullback ................................ 147 9.2.1 - Weak Pullback ................................................ 147 9.2.2 - Weak Pullback in Bull Trend.............................. 148 9.2.3 - Weak Pullback in Bear Trend ............................ 149 9.2.4 - Trading the Weak Pullback ............................... 151 9.2.5 - Long Weak Pullback Setup ............................... 152 9.2.6 - Short Weak Pullback Setup............................... 154 9.3 - Trading the Weak Pullback ..................................... 155 9.3.1 - ES 10-Minute Example ..................................... 156 www.tradingsetupsreview.com

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9.3.2 - NQ 3-Minute Example ...................................... 157 9.3.3 - CL 3-Minute Example ....................................... 159 9.3.4 - 6J 30-Minute Example ..................................... 160 9.3.5 - 6A 30-Minute Example ..................................... 161 9.4 - Conclusion ........................................................... 163 Chapter 10 – High Quality Setups ..................................... 165 10.1 - Support and Resistance ....................................... 166 10.1.1 - 50% Retracement ......................................... 167 10.2 - Confluence of Setups........................................... 170 10.3 - Form of Individual Setups .................................... 172 10.3.1 - Outside Bars ................................................. 173 10.4 - Checklist for Assessing Setups .............................. 176 10.5 - Conclusion ......................................................... 176 Chapter 11 – Tracking Market Bias with Trading Setups ....... 178 11.1 - Assessing the Success of a Trading Setup .............. 179 11.1.1 - Long Trading Setup ....................................... 179 11.1.2 - Short Trading Setup ...................................... 181 11.1.3 - Imperfect Setups .......................................... 183 11.2 - Tracking the Market Bias ..................................... 187 11.2.1 - ES 10-Minute Example ................................... 187 11.2.2 - NQ 5-Minute Example .................................... 189 11.2.3 - 6A 10-Minute Example ................................... 190 11.3 - Conclusion ......................................................... 193 Chapter 12 - Re-entries ................................................... 195 12.1 - The Psychology of Re-entries................................ 195 www.tradingsetupsreview.com

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12.2 - Re-entry Criteria ................................................. 197 12.2.1 - Long Setup Re-entry...................................... 201 12.2.2 - Short Setup Re-entry ..................................... 202 12.2.3 - More Tips for Re-entries ................................. 204 12.3 - Re-entry Equivalent ............................................ 204 12.4 - Conclusion ......................................................... 209 Chapter 13 - The Meaning of Form .................................... 210 13.1 - The Need for Bending Rules ................................. 210 13.2 - Principles for Discretionary Trading ....................... 213 13.3 - Records of Discretionary Trades ............................ 225 13.4 - The Real Meaning of Form.................................... 226 13.5 - Conclusion ......................................................... 227

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Chapter 1 - Introduction 1.1 - The True Purpose of a Trading Setup A trading setup is a set of specific conditions that must be met before we enter the market. It determines when we enter the market. For many traders, their understanding of trading setups stops here. They miss the most important role of a trading setup. Conditions that dictate where we enter, also determine where we exit. The trading setup that signals the entry also offers a natural stop-loss point. If we enter the market randomly, we can only exit it randomly as well. If we enter the market with a bullish price pattern, we can exit the market when price action negates the pattern. Our trading setup determines our entry price. It also determines our exit price if the market goes against us. The difference between these two price levels is our trade risk, which is the maximum amount we stand to lose, ignoring slippage and commissions. Hence, a trading setup limits and highlights our trade risk. It follows that a reliable trading setup is not one that offers a good entry. It is one that offers a good exit when the market moves against you (i.e. a stop-loss). A reliable trading setup highlights a price point which is likely to hold up along the direction of the market bias. The higher the quality of the setup, the more reliable is the associated stop-loss level. The true purpose of a trading setup is to offer a stop-loss level to help us limit our risk. It is not a money-making signal. It is a risk control tool.

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Chapter 1 - Introduction

Having a reliable stop-loss level is a key piece in our quest towards positive expectancy, a concept so critical that we will spend the entire Volume IV discussing it. For this volume, we will focus on learning how to identify high quality trading setups.

1.2 - What to Expect As explained in Volume I, price action works because of the human psychology that responds to price changes. Psychology explains how past and current prices affect future prices. Thus, for each price pattern, we will start by explaining the psychology behind it. We seek to understand the perspective of the losing traders in the market. We must understand the losing traders well, because they are our paymasters. If you can find traders who are poised to lose, you can be the one that takes their money from them. As you will learn, the psychology underlying each price pattern is essential for evaluating the quality of trading opportunities. In fact, the underlying concept of each price pattern is more important than their visual forms. The psychological explanations I provide might not be correct, and they are certainly not the only explanation underlying each price pattern. And even if they are correct, they are not always so. However, these explanations make enough sense for me to trust these patterns and trade them effectively. You will also learn to recognise these price action patterns without a doubt. A price pattern encapsulates specific market behaviour but it is not always a trading setup. There are additional criteria before it becomes a trading setup.

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Chapter 1 - Introduction

For instance, in Chapter 5, you will learn to spot the bearish Deceleration pattern. However, for a Deceleration setup, we will need a bearish bar to function as the setup bar before the market crosses above the pattern’s limit line. (If you need help identifying the price patterns on your charts, the Indicator Pack that is available separately will be useful. It contains indicators that mark out the price patterns for you. The purpose of these indicators is to facilitate your learning. They are purely optional. You can definitely employ the trading method explained here without them.) Thus, other than having clear rules to identify price patterns, there are also objective rules trading them. You will be able to recognise the trading setups in any market. Identifying price patterns and their respective trading setups is an objective process, but assessing their quality is subjective. The best way to teach something subjective is through examples, which you will find plenty in this volume. I have included examples from a variety of futures markets and time frames to demonstrate the versatility of the patterns. You will notice uncommon time frames like 45-minute and 4-minute. I am not using these time frames because they are giving me any trading advantage. As explained in Volume II, any day trading time frame that is above the Minimum Trading Time Frame (MTTF) is amenable to price action analysis. Personally, I prefer trading at or slightly above the MTTF as they offer more trading opportunities. Thus, if you see uncommon time frames in our examples, it is because that is the MTTF for that market at that point in time. A price action setup in itself is not a trading opportunity. We need to filter them according to our market bias and evaluate them against our exit strategy. We have learned how to figure www.tradingsetupsreview.com

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Chapter 1 - Introduction

out the market bias in the previous volume. In this volume, we will reinforce that skill as we try to identify the market bias before discussing each setup. We will mention reward-to-risk considerations briefly in this volume as we discuss the setups. However, the evaluation of each setup against our exit strategy (including our reward-to-risk ratio) is fully discussed in the next volume covering “Positive Expectancy”. The final few chapters of this volume deal with the characteristics of the best setups, and advanced trading techniques including re-entries and tracking the market bias using price patterns.

1.3 - The Holy Grails Trading gurus have a habit of giving new names to old trading concepts, and publishing them as unique works. That irritates me. There is nothing wrong with naming them. We need nomenclature to facilitate communication. I have named the setups in this volume too. (In fact, call them whatever you want, as long as you find them useful in your trading.) Most price action setups are named according to how they look like (for e.g. Inside Bar, Hammer) or some poetic phrase (for e.g. Three Black Crows, Evening Star). However, for the setups in this volume, as much as possible, I have named them according to the underlying concepts. I believe that these names are useful in reminding us that as price action traders, we are trading market concepts, and not merely visual or mystical patterns. Naming setups is acceptable. The problem appears when traders claim them as unique discoveries or first-of-a-kind.

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Chapter 1 - Introduction

The market repeats itself. The same human psychology and market behaviour have always been around. Many smart minds have devoted themselves to studying market behaviour. The inevitable conclusion is that most trading methods have already been expounded on, in some way or another. We are standing on the shoulders of giants, and I am deeply grateful to them. The price patterns in this volume are based on timeless trading ideas which I have interpreted according to how I look at the market. My intention is to explain them in a useful way for day traders of all levels. I must emphasize that these price patterns are not the Holy Grail. More importantly, I did not discover them. I am not the only trader that has mastered them. I am not claiming these price patterns as my exclusive discoveries. On the other hand, I have included references to similar or relevant concepts by other traders. I encourage you to crossreference our works to learn more effectively. I do not believe in worshipping any trader, regardless of how successful they are. Doing that closes us to new ideas from other traders. Instead of rejecting unfamiliar ideas, we should learn openly from different traders. You will find success somewhere within these differences, instead of within one particular trading guru. A word of caution: If anyone tells you that they have found a brand new market secret that will make you tons of money, turn and run.

1.4 - Overview of Price Patterns This volume explains eight price action setups and how to trade them.

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Chapter 1 - Introduction

The Congestion Break-out Failure introduces the concept of market congestion. It takes advantage of the fact that most break-outs from congestions fail. The Congestion Zone uses the same sideways price action to project support and resistance areas which we will use to spot trading opportunities. The Trend Bar Failure is the simplest price action pattern. It finds counter-trend traders in their worst positions. The Deceleration finds price thrusts with hidden weakness. As that weakness becomes more apparent, we fade the thrust. The Anti-climax is an unsustainable climatic move. When it goes against the market bias, we have a trading opportunity. The Pressure Zone is the repeated buying or selling concentrated within a price range. After spotting a Pressure Zone, we join in the fun. The Anxiety Zone is the ultimate failure pattern. We spot attractive counter-trend setups, and go with the assumption that they will fail. The Weak Pullback finds pullbacks against the market bias, which shows no signs of strength. Its premise is that a reversal requires a show of counter-trend strength. When there’s none, what we have is a retracement and not a reversal. Price action is seldom precise. Support and resistance are often not a price level, but a range of prices. This is why three out of the eight price patterns above are based on price zones. These zone patterns define price ranges that we should pay closer attention to for the purpose of finding trading opportunities. www.tradingsetupsreview.com

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Chapter 1 - Introduction

Although each chapter focuses on one trading setup, in the trading examples, I frequently refer to different patterns, as they all help to confirm each other and complete our market perspective. Indeed, the best trading setups often consist of more than one price pattern.

1.5 - Ground Rules All trend lines in the trading examples are drawn according to the techniques explained in Volume II. For all long setups:   

Take them only when the market bias is bullish. Place your buy stop order one tick above the high of the setup bar. Place your stop-loss order one tick below the low of the setup bar.

For all short setups:   

Take them only when the market bias is bearish. Place your sell stop order one tick below the low of the setup bar. Place your stop-loss order one tick above the high of the setup bar.

Hence, according to the order entry rules above, our trade risk is always represented by the range of the setup bar plus two ticks. (The dollar amount depends on the number of contracts you are trading.) Figure 1-1 below illustrates how the range of the setup bar represents our trade risk for a long setup. The same goes for short setups. www.tradingsetupsreview.com

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Chapter 1 - Introduction

Buy stop order

Setup bar

Trade risk

Stop-loss order Figure 1-1 Trade risk

With these ground rules in mind, let’s begin.

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Chapter 2 - Congestion Break-out Failure 2.1 - The Psychology Behind Generally, traders need the market to move in order to make money.1 Hence, when the market is not moving much (i.e. congesting), traders get impatient. Impatience is followed by hallucination. They start to see trading opportunities when there are none. They buy and sell the tiniest move out of the congestion. Most of these trades result in small losses which irritates the impatient and hallucinating traders further. Eventually, price breaks out with a clear move. In this case, let’s say price has broken out upwards. You can be sure that these traders are not going to let the market take off without them. All of them are going to jump right into that break-out. Uh-oh. The break-out is failing and price is falling. Remember, these are traders who have already been tricked many times before. They have been hopping on and off different positions. They are jittery. They are not going to hesitate to exit at the slightest sign of a break-out failure. Their exit will push the market down. Their exit from their long positions is our short entry. This is the psychology behind the Congestion Break-out Failure within the context of a bearish market.

1

Except in a short volatility options position

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Chapter 2 - Congestion Break-out Failure

2.2 - Identifying the Congestion Break-out Failure There are three components to this setup. 1. Congestion 2. Break-out 3. Failure

2.2.1 - Congestion The basic formation is congestion, so let’s learn how to identify congestion. Congestion is also called a trading range, because price is trapped within a range. Basically, it is moving sideways and is not making headway in either direction. With this understanding, what should a congestion pattern look like? The basic price range on any chart is the bar range. Each price bar has a price range defined by its high and low. If the market is congested, then the next bar is more likely to stay within the range of the preceding bar than moving out of it. The prime example is an inside bar as shown in Figure 2-1.

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Chapter 2 - Congestion Break-out Failure

Completely within the range of the preceding bar

Bar range

Inside Bar

Figure 2-1 Inside bar within the range of the previous bar

However, we know that the market is deceptive. False breakouts are common in a congested market, just like how false reversals are common in a trending market. Thus, we will allow for intra-bar break-outs of the range. Even if a bar moves above the high or below the low of the preceding bar, it does not rule out the possibility of congestion. What we will depend on is the conclusive outcome of the bar, which is its closing price. As long as the bar closes within the range of the previous bar (like in Figure 2-2), we consider the possibility that the market is congesting.

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Chapter 2 - Congestion Break-out Failure

Closed within the range of the preceding bar; possible congestion

Bar range

Broke out of the range of the preceding bar Figure 2-2 Intra-bar break-out

But there is a problem. Figure 2-2 does not look like a congestion pattern. In fact, it is a bullish reversal pattern. This is why I said that there is a “possibility” that the market is congesting. It is possible, but we are unable to confirm it, not until we see repeated instances of bar combinations similar to what is shown in Figure 2-2. Hence, our definition of a congestion pattern goes like this. When at least three consecutive bars close within the range of their respective preceding bar, we have a congestion pattern. Figure 2-3 illustrates a congestion pattern.

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Chapter 2 - Congestion Break-out Failure

1. Congestion started here

2. Congestion confirmed here

3. Broke out of the range of the preceding bar and ended the congestion

Figure 2-3 A lengthy congestion pattern

1. This was the first bar that closed within the range of the previous bar (i.e. the bar right before it). Looking at the chart now, we know that the congestion started with this bar. However, at that point in time, we would have jumped the gun by claiming that the market was congesting. We needed confirmation. 2. The confirmation came two bars later. That was when we got three bars in a row that closed within the range of their respective preceding bars. With the closure of this bar, we could label a congestion pattern. 3. In this case, the congestion dragged on. For a series of 13 bars, not a single bar closed beyond the range of the bar preceding it. Finally, a bearish bar closed below the low of the preceding bar. This bar is the break-out bar which ended the congestion with a downside break-out.

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Chapter 2 - Congestion Break-out Failure

As you can see, a congestion pattern is made up of at least three bars but can theoretically go on forever. This is how I look out for congestion. There are many ways to define congestion. Some methods employ price action2 and others use indicators like price volatility envelopes. Including my definition, all methods of defining congestion have only one thing in common. None of them are perfect. Nonetheless, the method described above is a working definition that has so far proven to be effective in my trading.

2.2.2 - Break-out We are already acquainted with the break-out bar from Figure 2-3. Basically, it is the bar that ends a congestion pattern, and the one that immediately follows a congestion pattern. If it closes above the high of the previous bar, it is a bullish break-out bar. If it closes below the low of the previous bar, it is a bearish break-out bar. Figure 2-4 shows another congestion example. In this case, the break-out bar is bullish.

If you are interested in other methods to define congestion using price action, you might want to take a look at Joe Ross’ works regarding his definitions of congestion, ledges, and trading ranges. Refer to the course resource page for more information. 2

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Chapter 2 - Congestion Break-out Failure

3. Bullish break-out bar

1. Congestion started here

2. Congestion confirmed here

Figure 2-4 Bullish break-out from congestion

1. This bar tested the low of the previous bar but closed within its range. 2. With three consecutive bars that were unable to escape the clutches of their respective preceding bar range, a congestion pattern was formed. 3. The congestion lasted for another two bars before a strong bullish bar broke out.

2.2.3 - Failure Break-out failures must be immediate. At least that is the kind we are looking to trade. The best failure trades fail immediately, causing a knee-jerk exit of break-out traders. Hence, in our trading rules as stated below, we demand the immediate failure of a break-out before considering a trade.

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Chapter 2 - Congestion Break-out Failure

2.2.4 - Long Congestion Break-out Failure Setup Refer to Figure 2-5.

4. Place a buy stop order here

2. Bearish break-out bar

1. Five-bar congestion pattern

3. Bullish bar (Setup bar)

5. Cancel the order if this bar does not trigger it

Figure 2-5 Long Congestion Break-out Failure setup

1. 2. 3. 4. 5.

Congestion pattern Bearish break-out bar Next bar must be a bullish bar3 (Setup bar) Place a buy stop order one tick above the setup bar Cancel the order if it is not triggered by the next bar

For another example of a long setup, look at Figure 2-3.

2.2.5 - Short Congestion Break-out Failure Setup Refer to Figure 2-6.

Throughout the book, a bullish bar refers to a price bar that closed higher than it opened. A bearish bar refers to one that closed lower than it opened. Bar highs and lows are irrelevant for these definitions. 3

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Chapter 2 - Congestion Break-out Failure 2. Bullish break-out bar

3. Bearish bar (Setup bar)

5. Cancel the order if this bar does not trigger it

1. Three-bar congestion pattern

4. Place a sell stop order here

Figure 2-6 Short Congestion Break-out Failure setup

1. 2. 3. 4. 5.

Congestion pattern Bullish break-out bar Bearish bar (Setup bar) Place a sell stop order one tick below the setup bar Cancel the order if it is not triggered by the next bar

For another short setup example, look at Figure 2-4.

2.3 - Trading the Congestion Break-out Failure 2.3.1 - 6E 60-Minute Example This hourly chart shows a Congestion Break-out Failure within the context of a slightly ambiguous market bias.

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Chapter 2 - Congestion Break-out Failure

3. Bullish breakout that failed

1. Clear bearish momentum leading to a trend line break 2. Three-bar congestion

Figure 2-7 Market bias change confirmed by a Congestion Break-out Failure

1. Price swung down with clear strength to test the bull trend line. That definitely warned us against taking new long setups. However, we were not so sure if the market was ready for the return of the bears. 2. As prices tangled with the trend line, a congestion pattern formed. At the same time, we observed that the upper shadows of these bars were growing. They were signs of selling pressure and hinted at the trend line’s effectiveness as a resistance area. In fact, these long shadows form a Pressure Zone, a setup we will introduce later. 3. The bullish break-out bar overlapped with the trend line. Also, it did not even reach the previous swing high. Given these signs of weakness, when the next bar turned out bearish, it offered a decent short Congestion Break-out Failure setup. Nonetheless, a more conservative trader might have given this trade a miss because the market bias was not crystal clear.

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2.3.2 - FDAX 10-Minute Example This example shows another Congestion Break-out Failure that occurred during a switchover of market bias. However, in this case, the new market bias was apparent.

1. Bear trend line broken

3. Congestion started after a retest of the trend line

2. Bull trend line drawn with this new valid low

4. Bearish break-out failed with bullish inside bar

Figure 2-8 A low-risk Congestion Break-out Failure setup

1. Price rose with good momentum and broke the descending trend line, raising the possibility of the market bias turning bullish. 2. The bullish market bias was confirmed several bars later as a valid pivot low formed, and we added a bullish trend line accordingly. 3. Almost immediately after the valid low was formed, prices fell to test the broken bear trend line as a support area. The trend line seemed to provide support as the market went into a threebar congestion.

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4. A bearish bar broke out of the congestion pattern. The breakout bar exceeded the previous swing low by one tick. Then, a Congestion Break-out Failure setup materialised as the bullish inside bar appeared. The relatively small range of the inside bar provided an excellent low-risk trading opportunity.

2.3.3 - ES 10-Minute Example In Figure 2-9, price was far above the bull trend line. Hence, it was wise to exercise caution when trading this instance of Congestion Break-out Failure.

2. Pressure Zone and Deceleration

4. Congestion Breakout Failure setup bar 3. Congestion at the top of the trend

1. Price moved far away from the bull trend line

Figure 2-9 Congestion Break-out Failure hanging in the air

1. The nine consecutive bullish bars sent the market up and away from the bull trend line. Recall that in such cases, we should pay more attention to any sign of a change in market bias that might occur even before a trend line break. 2. The last four bars of the bullish swing formed a bearish Pressure Zone and a bearish Deceleration. These are two setups

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that we will cover later. For now, you just need to know that there were two bearish signals at the top of the trend. 3. While at the top of the bull trend, the market started to move sideways into congestion. 4. After three bars of congestion, a long Congestion Break-out Failure setup appeared. Should we take this setup? We got a bull trend line and no apparent bearish momentum. It was premature to adopt a bearish bias. We remained bullish. Hence, this setup was acceptable. However, the wide space between price and the trend line, and the earlier selling pressure at the top were making things a little uncomfortable. To deal with this discomfort, you can choose to skip this trade. If you decide to take on this trade, aim for a modest target, like the last extreme high of the trend. Figure 2-10 below shows what happened subsequently.

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Congestion Break-out Failure

Figure 2-10 Result of warning signs

The moral of the story is to heed the market’s warning signals.

2.3.4 - CL 5-Minute Example Figure 2-11 shows an entire CL session in 5-minute bars. At the start of the session, we held a bullish bias based on earlier price action (not shown in this chart). The trend line on the chart originated from the price action of the previous session, and was adjusted as explained in point 4 below.

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Chapter 2 - Congestion Break-out Failure

1. First bar of the session gapped high above the bull trend line

4. Exceeded the last extreme high and the trend line was adjusted to accommodate the pullback

3. First swing in the session to exhibit momentum

2. None of the tested lows showed good momentum

5. Congestion Break-out Failure with trend line test

Figure 2-11 Congestion Break-out Failure with momentum support

1. The session opened with a strong gap upwards. We had to watch out for any strong bearish thrust that might compromise our bullish market bias. 2. While the three-bar downthrust might have spooked some bulls, none of the tested lows showed serious bearish momentum. Thus, we remained bullish. 3. Furthermore, the first strong thrust that exhibited strength was a bullish one. That cemented our bullish bias. 4. As this bar exceeded the last extreme high, we adjusted the trend line to accommodate the earlier pullback action. The trend line in Figure 2-11 was a result of that adjustment. 5. Immediately after we adjusted the trend line, a bearish bar broke out of a congestion pattern to test the trend line. The trend line provided solid support and a long Congestion Breakout Failure setup emerged.

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Chapter 2 - Congestion Break-out Failure

The quality of this setup was fine. However, some traders might feel uneasy about buying near the top of a bull trend due to reward-to-risk considerations.

2.3.5 - ZN 60-Minute Example The 10-year notes market is not among the markets I usually monitor, but our price action methods are equally applicable. I applied the PATI on the 24-hour market data of ZN futures and derived the 55-minute time frame as the MTTF. We rounded up that number up to 60-minute and found a Congestion Break-out Failure trade setup.

3. Congestion Breakout Failure resisted by the earlier congestion Earlier congestion

1. Strong show of momentum by the bears below the bull trend line

2. Six-bar congestion

Figure 2-12 Failure of a final break-out attempt

1. The strong bear swing that went a significant distance below a bull trend line was a clear signal of a new bearish bias. 2. As the market pulled back upwards, it got into a congestion pattern that lasted six bars.

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Chapter 2 - Congestion Break-out Failure

3. The break-out above the congestion was resisted by an area of earlier congestion, which enhanced the quality of this Congestion Break-out Failure setup. Using congestion patterns as support/resistance areas is the basis of the price pattern setup we will discuss in the next chapter: Congestion Zone. In this example, the Congestion Break-out Failure setup seemed like the result of a weak last-ditch attempt of the bulls. It was excellent.

2.4 - Conclusion You might have found this chapter slightly difficult to digest. Notwithstanding that, I’ve placed this setup at the beginning of this volume. There are two reasons for this arrangement. The first reason is this. Congestion is not only a key feature on any price chart, it is also the cause of frustration for many traders as they experience numerous whipsaws when the market congests. Traders deal with congestion differently. They either avoid trading completely or insist on trading within a congested market. The first option is safety with a cost. The cost comes in the form of missed trading opportunities. Many good trades come right after a period of sideways action. The second option is pure stubbornness. In this case, we are less concerned with the financial cost. This is because the emotional cost is much higher and far more destructive. The experience of consecutive losses in a stagnant market will erode your confidence and discipline. In the heat of the moment, you will want to make up for your losses, and you will overtrade. www.tradingsetupsreview.com

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However, with this setup, we will capitalise on such trading behaviour instead of adopting it. (An exception is to scalp for very small profits within the congestion pattern. However, this is not the approach covered here.) The Congestion Break-out Failure setup seeks to strike a balance between these two options. We step aside as soon as we realise that the market is congesting, wait for a clear break-out, and enter only if the break-out fails immediately. Thus, we avoid being stubborn in a congested market while still paying attention to possible trading opportunities. You will find that this setup does not occur often, but it is a powerful setup given the right market bias. The second reason for introducing the concept of congestion early is because I will be referring to congestion frequently as I explain the other setups. This is because congestion patterns function as effective support and resistance. In fact, the next chapter focuses on this aspect of congestion patterns.

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Chapter 3 - Congestion Zone 3.1 - The Psychology Behind We have learned about congestion patterns in the last chapter. We also know that price will eventually break out of the congestion area. The break-out either succeeds or fails. The Congestion Break-out Failure setup bets on its failure. However, regardless of whether each break-out succeeds or fails, given sufficient time, price will inevitably move away from the congestion. When it does, we are left with two groups of traders. For ease of explaining the two different perspectives, let’s assume that price has broken out of the congestion with a bearish thrust and is continuing its way down as shown in Figure 3-1.

1. Three-bar congestion

2. The eventual break-out

4. Traders who caught the break-out place their breakeven stops here to cover

3. Traders who missed the break-out intend to sell when the market gets back here

Figure 3-1 Perspectives of different groups of traders

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The first group consists of traders who got left behind. Price broke out and took off, creating wealth for traders who got on board and sold the market. For some reason, these traders missed the plane. Guess what they are repeating to themselves in their minds? “If price ever gets back to the break-out point, I’ll have a second chance to sell, and I am not going to miss it.” Essentially, they are waiting for a pullback to the price level of the congestion area so that they can get into a short position without chasing the market. The second group is made up of traders who got on the plane. They managed to join the break-out and are now smiling at their paper profits on their short positions. What does the congestion area mean to this group of traders now? It is the breakeven point of their trades. In order to prevent a paper profit from turning into a loss, they will place breakeven stops around the price range of the congestion area. While the first group of traders stands ready to buy, the second group is ready to sell. It is an interesting scenario. The question is: Which side should we stand on? I say let’s sell. The decisive break-out below the congestion area proved that the market was unwilling to buy at prices higher than the congestion area. Traders did not see value above that price www.tradingsetupsreview.com

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range. Assuming that this market scenario has not changed, the first group of traders are right to sell when price tries to move above the congestion area again. Although the assumption is a little daring, at least they have a market basis for their intention to sell. How about the second group of traders? Let’s try to understand them. They plan to cover their short positions (buy) if price rises back to around the break-out point (i.e. into the congestion). Their rationale for doing so is simply because they do not want to let their winning trades turn into losing trades. Unlike the group poised to sell, this group of traders are not analysing the market, they are simply fixated to their financial positions. They are only thinking about not wanting to be a loser. Technically, they are affected by the anchoring bias. Their cognitive process is anchored by their entry price. When price rises back to the price range where the congestion took place earlier, they will not consider if the market is worth buying or selling because their mind is pre-occupied by the fact that their paper profits have eroded. To avoid being labelled a loser, they want to buy to cover their short positions. Between these two groups of traders, it is pretty easy to choose which one you want to support. We do not like biased and emotional traders, especially those with anchors. Hence, we like the first group of traders better, and they are the potential sellers. The first group intends to sell. However, as pointed out earlier, they are making a critical assumption. They are assuming that the market’s unwillingness to buy above the area of past congestion persists. www.tradingsetupsreview.com

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We will thread carefully around that assumption. Thus, we are not looking to sell the moment price rises up to test the resistance area projected by the past congestion. We choose to be patient and wait for price to show signs of weakness at the resistance area before we sell. This is shown in Figure 3-2 below.

Congestion Zone as resistance

Sign of weakness

Figure 3-2 Sign of weakness at the area of past congestion

Price bouncing down from the resistance area is not only a confirmation that the resistance is holding. It is also a signal to the traders who have already covered their short positions, that their decision to exit was wrong and that now, they are trapped out of a bearish market. Some of them will chase the market to re-enter into short positions so that they do not miss out on profits that they were “originally entitled to”. These chasers will help to push the market down and elevate our profits. In summary, a congestion pattern is a memorable feature. It is not easily forgotten by traders who have been through it. While

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Chapter 3 - Congestion Zone

the Congestion Break-out Failure setup seeks to trade the shortterm behaviour of a congestion pattern, the Congestion Zone is a method to capitalise on the more lasting effect of a congestion pattern. The Congestion Zone is a setup that finds a bounce off a support or resistance zone projected by a past congestion pattern.

3.2 - Identifying the Congestion Zone In the last chapter, we learned how to identify a congestion pattern, which is a series of at least three bars that close within the range of the preceding bar. Here, we will introduce how to mark out an area of potential support and resistance based on a congestion pattern. We call this area the Congestion Zone.

3.2.1 - Drawing the Congestion Zone Drawing a Congestion Zone is simple. 1. Identify a congestion pattern. 2. Draw a horizontal line at the highest bar close of the congestion pattern. 3. Then, draw another horizontal line at the lowest bar close of the congestion pattern. The area between these two lines is the Congestion Zone. Figure 3-3 and Figure 3-4 show how to project a Congestion Zone as a support/resistance area. In Figure 3-3, we marked out the highest and lowest bar closes within the three-bar congestion pattern.

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Chapter 3 - Congestion Zone

1. Congestion started here

Highest close

Lowest close Figure 3-3 Marking out the lowest close and highest close in a congestion

In Figure 3-4, we drew the Congestion Zone and projected it to the right (into the future) to observe its potential as a support or resistance.

Highest close

Lowest close

Congestion Zone acting as support

Figure 3-4 Congestion Zone projected as potential support www.tradingsetupsreview.com

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New traders tend to think of support and resistance as specific price levels. However, in reality, it is more often a zone, which is a range of prices. Congestion Zone is exactly that. It provides a potential support and resistance zone.

3.2.2 - Merging Congestion Zones At times, we find new congestion patterns forming within a Congestion Zone. In such instances, we might get overlapping Congestion Zones as shown in Figure 3-5.

Three Congestion Zones

Figure 3-5 Overlapping Congestion Zones

The price range of each Congestion Zone overlaps with that of at least one other Congestion Zone. When we encounter such price action, we should combine them into a single Congestion Zone. Basically, we draw the smallest zone that is able to assimilate all the overlapping Congestion Zones. Figure 3-6 shows how we merge the three Congestion Zones into one.

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Merged Congestion Zone

Figure 3-6 Merging three overlapping Congestion Zones

The Congestion Zones in Figure 3-6 overlap with one another. For Congestion Zones that do not overlap but are close to each other (like in Figure 3-7), you can also merge them into a single zone at your discretion. Decide if you should merge them based on their proximity.

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Chapter 3 - Congestion Zone

Small gap in between the two congestion patterns

Figure 3-7 Merging Congestion Zones that are close to each other

For the example shown in Figure 3-7, despite the gap between the two Congestion Zones, I would choose to merge them due to their proximity in both price and time. Such compound Congestions Zones are tricky to trade. While they form significant support/resistance areas, they tend to exhibit more erratic price action. Prudent traders would use compound Congestion Zones as a signal to stop trading or to exit their current positions. If you encounter such compound Congestion Zones and are unsure, wait for more price action to unfold.

3.2.3 - Long Congestion Zone Setup Refer to Figure 3-8.

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1. This bar clears above the Zone

3. Place a buy stop order above this bullish bar

Last bar of a four-bar congestion pattern

2. Price falls back into the Zone Figure 3-8 Long Congestion Zone setup

1. Price clears above the Congestion Zone. (Bar low is above the Congestion Zone.) 2. Price falls back within the Congestion Zone without clearing below it. 3. Place a buy stop order a tick above the high of the next bullish bar. If price clears above the Congestion Zone and then clears below it like in Figure 3-9, the Zone loses its effectiveness as a support area. In such cases, do not take any long setups based on the Zone.

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Chapter 3 - Congestion Zone

1. This bar clears above the Zone, and the Zone becomes a support 2. Then, price clears below the Zone. The Zone becomes invalid as a support

Figure 3-9 Invalid support

3.2.4 - Short Congestion Zone Setup Refer to Figure 3-10 below. There were two setups bars in this example, but the first one was not triggered.

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Chapter 3 - Congestion Zone

2. Price rises back to the Zone

Last bar of a three-bar congestion pattern

1. This bar clears below the Zone

3. Place a sell stop order below this bearish bar

Figure 3-10 Short Congestion Zone setup

1. Price clears below the Congestion Zone. (Bar high is below the Congestion Zone.) 2. Price rises back within the Congestion Zone without clearing above it. 3. Place a sell stop order a tick below the low of the next bearish bar. If price clears below the Congestion Zone and then clears above it like in Figure 3-11, the Zone loses its effectiveness as a resistance area. In such cases, do not take any short setups based on the Zone.

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Chapter 3 - Congestion Zone

2. Then, price clears above the Zone, and the Zone is no longer a valid resistance

1. This bar clears below the Zone, confirming the Zone as a resistance

3. But the Zone is still a valid support, until price clears below it

Figure 3-11 Invalid resistance; valid support

3.3 - Trading the Congestion Zone We are introducing the Congestion Zone early in this volume as it acts as an effective support/resistance area for other setups. Most of the time, it is not advisable to take a Congestion Zone setup when it appears in isolation.

3.3.1 - CL 5-Minute Example The first bar in Figure 3-12 was the first bar of the session, which opened with a strong down gap. This gap pushed the market far below our current effective bear trend line. (Both the gap and the bear trend line are not shown on this chart.) Thus, we started this session with a bearish bias. However, due to the large distance between the market and our trend line, we are keeping a close lookout for any bullish momentum. Let’s begin our analysis with the Congestion Zone at the top.

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Chapter 3 - Congestion Zone 1. Congestion Zone projected from here

4. First sign of weak bullish momentum A 1

2. First test of zone had strong bullish momentum

B 1

C 1

3. Good bullish momentum persisting

Figure 3-12 A Congestion Zone in control of the session

1. From the third, fourth and fifth bar of the session, we projected a Congestion Zone, which turned out to be the most important resistance area of the session. 2. The first test of the Congestion Zone was preceded by strong bullish momentum. The tested pivot high cleared above the previous swing high with ease. As mentioned, we were especially sensitive to bullish signs. Hence, Congestion Zone setup A was unattractive. In fact, we would have ignored all short setups until there were signs of bearish momentum or at least the weakening of bullish momentum. 3. Nonetheless, the Congestion Zone managed to push prices down from setup A. The downthrust did not manage to make a new low in the session. Instead, price retraced upwards to test the Congestion Zone for a second time. The tested highs revealed that the upswings persisted with decent bullish

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momentum. Hence, like setup A, setup B was also not a good idea. 4. Indeed, after a short fall from setup B, price rose yet again to test the Congestion Zone. However, the situation has changed. The tested pivot that formed as the market tested the Congestion Zone showed weak momentum. The upswing could not even close above the last pivot high. It was the first sign of weakening bullish momentum. Hence, setup C was a reasonable trade. We could enter a tick below the bearish bar that closed below the Congestion Zone. For traders who were not confident of setup C due to the bullish signs earlier, they could wait for more price action to unfold. As shown in Figure 3-13, a second trading opportunity based on another Congestion Zone materialised shortly after. B 1

C 1

3. Setup bar

1. A smaller congestion zone 2. This bar cleared below the Congestion Zone, confirming it as a resistance

Figure 3-13 Another Congestion Zone short setup with less risk

1. While the market was dancing with the first Congestion Zone, another smaller Congestion Zone formed below it.

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2. This bar cleared below the Congestion Zone. It is another way of saying that the entire bar was below the Congestion Zone. It gave us the green light to treat the Congestion Zone as a resistance area. 3. Hence, we were able to identify a short Congestion Zone setup. In terms of quality, this setup was slightly better than setup C and offered a tighter stop-loss. The smaller congestion zone here is an excellent example of a support zone flipping into a resistance zone.

3.3.2 - ZN 60-Minute Example This example shows the first Congestion Zone setup after the market changed its bias from bullish to bearish.

3. Bearish Congestion Zone setup

2. Display of bearish momentum below the trend line confirmed the bias change 1. Original bullish market bias

Figure 3-14 Congestion Zone as resistance

1. The market was originally in a bullish bias as tracked by the bull trend line.

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2. Price closed below the last swing low and stayed clear of it for two bars. That was a show of clear bearish momentum entirely below the bull trend line. It was a convincing sign that the market bias has turned bearish. Thus, we started looking for short setups. 3. The first short setup came soon as price tested a Congestion Zone. The Zone resisted the market and price fell swiftly without looking back. The trade’s outcome was excellent. However, we should not base our evaluation of a single trading setup on its outcome. Over the long run and over many trades, the quality of our setups will be reflected in its outcome. However, for any individual trading setup, resist the urge to evaluate it based on its outcome. Instead, we should pay attention to our reasons for taking the trade. In this case, the momentum was on our side, and we had a short Congestion Zone setup. Quality trading opportunities usually reflect at least two setups. Hence, despite its outcome, I do not consider this setup as high quality. (The best aspect of this trade was that it occurred shortly after a change in market bias. A setup that occurs in the preliminary part of a new market trend typically offers more room for profit as compared to a setup in a mature trend.) Comparing this setup to the one in the ZN example in Figure 2-12 (which combined a Congestion Zone and a Congestion Break-out Failure), this setup is inferior.

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3.3.3 - NQ 3-Minute Example The market bias in this case was bullish. Although the market has moved a distance above the bull trend line (not shown), there wasn’t any bearish momentum to cause us to doubt the bullish bias.

3. First Congestion Zone setup

1. Overlapping Congestion Zones

2. Basic pivot low above the Congestion Zone

4. A better Congestion Zone setup

Figure 3-15 A better second test of the Congestion Zone

1. Two Congestion Zones merged into one wide price range as a possible support/resistance area. A merged Congestion Zone can provide solid support or resistance after the market has clearly moved away from it. 2. There were two upthrusts above and away from the Congestion Zone and a basic low formed above it. The market has clearly broken away from the congestion. The Congestion Zone then became a potential support area. 3. The first Congestion Zone setup arrived after a six-bar downthrust (one of the bars was a Doji). While this setup was

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acceptable, it was better to hold our horses due to the six-bar downthrust. 4. The second Congestion Zone setup offered a better opportunity to go long. This was because the market bounced up from the Congestion Zone following the first setup. This price action confirmed the Congestion Zone as a support area. Thus, this second setup had better odds of success. Furthermore, the range of this setup bar was smaller, meaning that the trade risk was smaller.

3.3.4 - 6A 30-Minute Example This example shows a superb Congestion Zone setup due to a confluence of setups and support levels.

2. Strong break of the bearish trend line

3. Long Congestion Zone setup with trend line tests

1. Overlapping Congestion Zones

4. Bullish Pressure Zone Figure 3-16 An excellent Congestion Zone/Pressure Zone setup

1. As the market tried to rise above the almost horizontal bear trend line, it got stuck and produced two congestion patterns. Combining them allowed us to project a support area to the right. www.tradingsetupsreview.com

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2. The strong break-out of the bear trend line also formed a valid pivot low that we used to add a bull trend line to the chart. It confirmed a bullish market bias. 3. The test of the Congestion Zone was also a test of the new bull trend line. In addition, it retested the broken bear trend line. The confluence of three support areas made this long Congestion Zone setup irresistible. 4. At the same time, the setup bar also completed a bullish Pressure Zone, which you will learn later. (Basically, it is a series of price bars with overlapping lower shadows that imply buying pressure.)

3.3.5 - 6E 45-Minute Example This chart shows the 6E market moving down with some hesitation. Paying attention to the tested pivots and Congestion Zones helped to sort things out.

2. The bull thrust only managed to close above the last swing high but could not clear it

5. Short Congestion Zone setup bar

1. Bearish momentum 3. Overlapping Congestion Zones

4. Clear breakaway from the Congestion Zone

Figure 3-17 Congestion with a general lack of momentum

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1. This was the first sign of momentum after a prolonged bullish drift without much momentum (not shown). 2. The bulls were not about to admit failure without a fight and made an impressive five-bar bullish thrust. However, even with such a serious attempt, the bullish thrust could not even clear the previous pivot high. It managed to close above it for only one bar. Hence, we stayed with a bearish bias. 3. However, the market grew increasingly listless and was not moving much. It formed two congestion patterns around the same price range. We merged them into one Congestion Zone. 4. Although the market did not manage to push lower in any decisive manner, it gave us a decent signal when it pushed clearly below the Congestion Zone that it had been tangling with. This development gave us the go-ahead to treat the Congestion Zone as a possible resistance area. 5. Soon after, the market rose up to the Congestion Zone and was clearly rejected by it. The market presented a short Congestion Zone setup. To illustrate the effectiveness of Congestion Zones as support/resistance, we expanded the 6E chart to the right in Figure 3-18.

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Chapter 3 - Congestion Zone 2. Setup in Figure 3-17

3. Two more rejections

1. Extended Congestion Zone extended

Figure 3-18 Congestion Zone provided effective and lasting resistance

1. We extended the same Congestion Zone further to the right. 2. I have marked out the setup we discussed earlier in Figure 3-17 to put this chart in perspective. 3. These are two more instances of rejection from the same Congestion Zone, confirming the resistance it represented. However, these two short setups did not offer good, low-risk entries. This was because the setup bars in both cases were wide range bars that entailed high trade risk.

3.4 - Conclusion The Congestion Zone setup is not particularly effective when used in isolation. However, it provides immense value in two ways.

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First, it defines an effective support/resistance area to complement other price patterns. You can combine it with any other setups in this volume or with traditional bar/candlestick patterns. This is the reason for introducing Congestion Zones early in this volume. In our evaluation of other setups later, you will find that many of the best trades bounce off Congestion Zones. Second, as we look for Congestion Zone setups, we learn the virtue of patience and value of clarity in trading. We learn to wait until the market has moved away from the Congestion Zone before looking for setups. This awareness will keep us out of markets showing unclear price action.

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Chapter 4 - Trend Bar Failure 4.1 - The Psychology Behind In every market trend, there are counter-trend traders. In a bull market, these traders try to push the market down. In a bear market, they buy to support the market. Unfortunately, these counter-trend traders are wrong most of the time. Fortunately, we can capitalise on them to find great trading opportunities. Counter-trend traders play an essential role in sustaining market trends. For instance, when counter-trend traders short in a bull trend, the market retraces down. Then, as the market resumes its way upwards, these counter-trend traders realise their follies and quickly cover their short positions. Some of them might even reverse into bullish positions. Their reaction helps to push prices higher. Hence, instead of pushing the market down, the counter-trend traders have helped to sustain the bull trend. Thus, if we intend to find an entry point into a bull trend, we should take advantage of the counter-trend traders who shorted. As they cover their short positions, we enter into our long positions. Let’s bring this idea a step further. Imagine the ideal scenario in a bull market. Numerous counter-trend traders realising that they got it wrong. Then, they freak out at the same time and reverse their positions together, creating immense buying pressure. That would be a great long entry. Breaking this ideal scenario down, we need two components.

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1. Numerous counter-trend traders 2. Price action that freaks them out The Trend Bar Failure setup works to find such ideal scenarios.

4.1.1 - Finding Numerous Counter-Trend Traders In bull trends, counter-trend traders show up as strong bearish bars. These strong bars open near the top of the bar and close near its bottom. In a way, each of these strong bearish bars corresponds to a bear trend in a lower time frame. For this reason, these bars are also called trend bars. In bull trends, counter-trend traders show up as bear trend bars. In bear trends, bull trend bars are the footprints of counter-trend traders. Hence, to find numerous counter-trend traders, we need to look out for trend bars that go against the market bias.

4.1.2 - Finding What Makes Them Freak Out Imagine that you are trading against a bull trend. It is a dangerous manoeuvre. Your stop-loss order is close. You want to see the market plummet like Black Monday. But no, right after your entry, price stalls. You regret your trade immediately, but choose to pray and hold on to the short position. However, as prices move up, you freak out and cover your short position. As you cover your short position, smart traders flow into long positions and your money goes to them. Not good.

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So, what makes counter-trend traders freak out? The market stalling right after they trade against the market bias. The idea here is that by looking out for trend bars that fail immediately, we find freaked-out counter-trend traders. And we get to be the smart traders by fading them.

4.2 - Identifying the Trend Bar Failure You’ve got the idea. Now, let’s learn the technical definition of a Trend Bar Failure setup. The Trend Bar Failure setup is an extremely simple price action setup. You can’t miss it. First, you must be able to identify trend bars. Figure 4-1 illustrates the difference between a trend bar and a non-trend bar.

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Body takes up more than half the candlestick Body is less than half the candlestick

Trend Bar

Trend Bar

Figure 4-1 What is a trend bar?

Our technical definition of a trend bar4 is one with a body that takes up more than half (50%) of the bar range. Hence, a bull trend bar always opens in the lower half of the bar and closes in the upper half. A bear trend bar opens in the upper half of the bar and closes in its lower half. Despite this 50% body range criterion, you do not need an indicator to find trend bars. Most trend bars are obvious. When you have doubts as to whether a bar is a trend bar, assume that it is not. Note that not all trend bars are created equal. A trend bar with its body taking up 90% of the bar range is a stronger trend bar compared to one with a body that measures 55% of the bar range.

For convenience, I adopted the term “trend bar” and its meaning from Al Brooks’ Trading Price Action Series. However, the technical definition of >50% is what I use to define trend bars. Refer to the course resource page for more information. 4

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4.2.1 - Long Trend Bar Failure Setup Refer to Figure 4-2 below.

1. Bear trend bar 4. Place a buy stop order here

A 1

2. Bar moves below the low of the trend bar

B 1

C 1

5. Cancel the order if this bar does not trigger it 3. Not a bear trend bar

Figure 4-2 Long Trend Bar Failure setup

Bars A, B, and C must be consecutive. 1. 2. 3. 4. 5.

Bear A is a bear trend bar. Bar B moves below the low of Bar A. Bar B must not be a bear trend bar. Place a buy stop order above the high of Bar B. If Bar C does not trigger the buy stop order, cancel it.

4.2.2 - Short Trend Bar Failure Setup Refer to Figure 4-3.

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Chapter 4 - Trend Bar Failure 2. Bar moves above the high of the trend bar

A 1

3. Not a bull trend bar

B 1

C 1

4. Place a sell stop order here 1. Bull trend bar

5. Cancel the order if this bar does not trigger it

Figure 4-3 Short Trend Bar Failure setup

Bars A, B, and C must be consecutive. 1. 2. 3. 4. 5.

Bar A is a bull trend bar. Bar B moves above the high of Bar A. Bar B is not a bull trend bar. Place a sell stop order below the low of Bar B. If Bar C does not trigger the sell stop order, cancel it.

4.3 - Trading the Trend Bar Failure 4.3.1 - 6J 20-Minute Example Figure 4-4 shows an excellent Trend Bar Failure trade that had the support of a bull trend line and the market bias.

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3. Bullish bar rose above the previous bar high to trigger the long trade

1. Bullish momentum as the market rose above the trend line

2. Bearish trend bar failed as the market found support at the bull trend line Figure 4-4 Long trend bar failure with trend line support

1. The market rose above the trend line by a wide margin with strong momentum, confirming the bullish market bias needed for us to consider bullish setups. 2. A bear trend bar formed as the market fell towards the bull trend line. The following bar (which hit the bull trend line) went below the low of the bear trend bar. However, it ended with a long lower shadow that showed buying pressure. The bearish traders did not find the bearish follow-through they expected. Hence, the market presented a Trend Bar Failure setup. 3. Bouncing up from the trend line, the market triggered the Trend Bar Failure setup within the next bar. With the clear switch to a bullish market bias and the support of the bull trend line, this Trend Bar Failure offered an excellent chance to join a fresh bull run.

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4.3.2 - CL 5-Minute Example This chart shows a successful Trend Bar Failure setup in a market with a clear bearish bias.

3. Trend Bar Failure setup bar

1. Bearish momentum 2. Bullish Pressure Zone

Figure 4-5 Failure is the key to success

1. The market pushed to a new low with ease, displaying good bearish momentum. The bear trend line was intact, showing structural support for the bear market. The bearish bias was crystal clear. 2. The overlapping lower tails showed buying pressure (a bullish Pressure Zone pattern you will learn later) which certainly tempted some counter-trend traders. 3. The bullish trend bar that followed confirmed that at least some counter-trend traders have showed their hands. Hence, the failure of this bar was a great failure trade. This example demonstrates the profile of the best failure trades. The best failure trades have a clear market bias that is ignored www.tradingsetupsreview.com

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by counter-trend traders, and a decent counter-trend setup that looks tempting to reversal traders. The latter is critical. If a bullish setup does not look good enough to trap traders into a bearish market, its failure would not push the market down. Similarly, if a bearish setup does not attract traders to assume short positions, its failure would not lead to an upward thrust.

4.3.3 - ES 10-Minute Example This example shows how a simple setup like the Trend Bar Failure can catch the low of a trading session with the help of valid pivots.

1. Support from valid lows 2. Bear trend bar 3. Bullish reversal bar

Figure 4-6 Trend bar failure at the bottom of a trading range

1. ES experienced an entire session of sideways movement forming a solid trading range. At the bottom of the range, which was also the low of that session, we found two valid pivot lows representing a major support area. 2. The next session opened with a gap above the trading range. However, the market then fell all the way down to the bull trend www.tradingsetupsreview.com

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line. The market punched below the trend line and the bottom support of the trading range with a bear trend bar. 3. However, the next bar was a bullish reversal bar. Since it was not a bear trend bar, we got ourselves a long Trend Bar Failure setup, which was triggered by the following bar. As a day trader, we exited when the session ended, and the trade was profitable. However, as it was likely that price would reach the last extreme high, traders who were comfortable with holding overnight positions could press on. In such cases, a safer alternative is to exit on close and reopen the position in the next session, while maintaining the original stop and target placements. This will avoid overnight risk and margin. However, if the session opens with a gap that moves the market past our target price, reopening the position is not viable.

4.3.4 - 6A 30-Minute Example In Figure 4-7, there are two Trend Bar Failures. The first one involved an outside bar and offered an interesting study.

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2. 1st Trend Bar Failure as the market retested the trend line

4. 2nd Trend Bar Failure with a Congestion Zone

1. Broke the trend line and previous swing lows with strong momentum 3. This congestion area acted as resistance Figure 4-7 Two Trend Bar Failures bouncing off resistance

1. The market fell through a double bottom support formed by previous pivot lows. The bull trend line did not seem to offer much support. Hence, we considered the possibility of a change of market bias to bearish. 2. As price rose to test the trend line’s efficacy as a resistance level, a short Trend Bar Failure setup emerged. However, conservative traders would have given this setup a miss. This was because we were not sure if the market bias had indeed turned down and preferred to wait for more price action to unfold. Furthermore, the setup bar was an outside bar. Outside bars are generally less reliable as setup bars and usually require a wider stop-loss. The outside bar here looked especially unsavoury for a bearish setup due to its long lower shadow and inability to close below the previous bar. This outside bar lacked power and was basically just a long-legged Doji.

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3. The Congestion Zone after the first Trend Bar Failure setup became a potential resistance area. 4. The second Trend Bar Failure coincided with the resistance area projected by the Congestion Zone. The inability of the market to rise above the trend line was encouraging for aspiring bears. In addition, if we had entered with the first Trend Bar Failure setup, our stop-loss order remained safe. This was another bearish clue. Hence, this second setup was more enticing than the first one.

4.3.5 - 6E 30-Minute Example Figure 4-8 shows the larger picture of the 6E chart we will be examining. It highlights the key observations of our market bias analysis.

2. Bear trend line drawn with a new valid high; change of bias

1. The market was bullish

Figure 4-8 Formation of a new valid high / Dual trend lines

1. There was a bull trend line drawn with earlier pivots, which meant that the market was originally in a bullish bias. The

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almost vertical rise at the beginning of the chart only served to highlight the obvious bull market. 2. After the powerful upwards thrust, the market meandered sideways before trying to continue the bull trend. It came close to doing so. In fact, it formed a tested swing high. However, when the market fell below the earlier extreme of the pullback (dotted line), the tested high became a new valid high. With this new development, we drew a bear trend line and started looking out for bearish setups. At the point where the market fell below the resistance marked with a dotted line, our market bias turned bearish. However, we did not forget the bull trend line. We bore in mind that a larger but currently distant bullish influence was present. In Figure 4-9, we enlarged the price action after the bearish market bias emerged. The solid black line corresponds to the end of the horizontal line in Figure 4-8.

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3. Strong bullish momentum cast doubt on the bearish bias

4. Trend Bar Failure setup in congestion

1. Firm bearish momentum

2. Failure of bullish trend bar Figure 4-9 Two Trend Bar Failures

1. Price pushed firmly below the previous pivot lows without encountering resistance. This clear bearish thrust also completed the valid pivot high and confirmed a bearish shift. 2. In the retracement upwards, there was a bull trend bar followed by a bearish reversal bar, which offered a Trend Bar Failure short setup. This setup occurred near a broken swing low which has flipped to become a resistance area. Hence, this setup was acceptable. However, a conservative trader might have skipped this trade due to the three consecutive bullish bars formed shortly before. 3. The Trend Bar Failure trade was stopped out as the market drove above previous pivot highs with clear signs of strength. This display of bullishness, together with the failure of the short setup, cast doubt on our bearish bias. 4. This second Trend Bar Failure short setup formed at an area of resistance projected by two basic highs. That was the only

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reason in support of this trade. There were more reasons against it. First, we were unsure of the market bias. We were technically bearish but in fact uncertain due to the bullish momentum. We should step aside. Next, basic pivot highs project the weakest form of resistance and that was the only resistance we could rely on. Furthermore, this setup took place as price was congesting. The bull trend bar was trapped in a congestion pattern. So did it represent a clear presence of bullish counter-trend traders? Unlikely. Hence, this setup was inferior. This point demonstrates the importance of understanding the underlying psychology of the setup. It is the key to judging the quality of each trading setup. This particular instance of Trend Bar Failure is also a Hikkake setup, which is basically an inside bar failure setup popularised by Dan Chesler.5 This is the case whenever the first bar of the Trend Bar Failure setup is an inside bar. The Hikkake setup seeks to profit as inside bar break-out traders fail. Hence, its premise is similar to that of the Trend Bar Failure.

4.4 - Conclusion Trend Bar Failure is the simplest price action failure pattern. Its simplicity allows flexibility. This flexibility is shown in the many manifestations of the Trend Bar Failure setup. A Trend Bar Failure can present itself in the Refer to the course resource page for a link to Dan Chesler’s article on the Hikkake pattern. 5

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form of a pipe pattern, reversal bar, pin bar, Hikkake, and many other price formations. This nifty two-bar pattern shows the importance of price context in market analysis. In this two-bar pattern, the first bar provided the context which is filled with counter-trend traders. The second bar signalled their failure. We are more particular about the form of the first bar than that of the second. Some tips for finding the best setups. The best Trend Bar Failures are aligned with both the market momentum (examine tested pivots) and the market structure (look at trend lines). They also tend to occur in strong trends with single swing pullbacks.

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Chapter 5 - Deceleration 5.1 - The Psychology Behind When traders are willing to buy at higher prices, the market rises. Clearly, assuming that these traders are not suicidal, they expect the market to continue moving up. Traders who are in long positions watch the high of each bar closely. This is because each time the market rises above the high of the previous bar, their paper profits reach a new high as well. Ideally, they want the market to fly straight up, like the move in Figure 5-1.

The ideal move that makes long traders happy

Figure 5-1 Flying straight up

But people don’t always get what they want. Sometimes, what they get is this. (Figure 5-2)

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Okay…

Figure 5-2 A less ideal move

While the bullish thrust in the Figure 5-1 emboldens the bulls, the one shown in Figure 5-2 does not inspire confidence. In fact, the latter is a little ominous. We make two observations from Figure 5-2. 1. Price is making higher bar highs. 2. But each bar breaks above the previous bar by a smaller amount. (A sign of faltering bullishness.) The traders who bought during the move up tend to pay more attention to the first observation. This is because it confirms their initial opinion that the market will rise. The tendency to look for information that confirms their original conception is known as confirmation bias. As a result, the traders who are long overlook the second observation, that each test of the previous bar high is a sign that the move is weakening.

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Hence, they choose to remain in their bullish position, refusing to exit until a blatant bearish signal appears. When that happens, they have no choice but to admit that their ideal bullish move is not happening. When they do, they sell off their positions, and we seek to profit from the selling pressure they create. This is the psychology behind the Deceleration setup. Deceleration refers to movement at a decreasing rate. In the bearish case above, the market is moving higher, but each bar rises above the previous bar by a decreasing amount.

5.2 - Identifying the Deceleration 5.2.1 - Deceleration Pattern Figure 5-3 shows a bearish Deceleration pattern. Basically, we need three consecutive bars, each rising above the high of the previous bar by a decreasing amount. The high of the last bar in a bearish Deceleration pattern projects a limit line. We will refer to it in our trading rules later.

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C 1 B 1

A 1 Limit Line A>B>C

Figure 5-3 Bearish Deceleration

Similarly, a bullish Deceleration pattern needs three consecutive bars that push below their respective previous bar low. The distance by which it exceeds the previous bar low must be decreasing. Accordingly, the low of the last bar in a bullish Deceleration pattern is the limit line.

5.2.2 - Long Deceleration Setup Figure 5-4 illustrates a long Deceleration setup.

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Chapter 5 - Deceleration 2. Place a buy stop order above the high of this bar (not triggered)

3. Second buy order above this bullish bar triggered

1. Bullish Deceleration 4. If price clears below the limit line, the setup becomes invalid Figure 5-4 Long Deceleration setup

1. Bullish Deceleration pattern 2. If the last bar of the pattern is bullish, buy one tick above its high. 3. If not, buy one tick above the next bullish bar. 4. If price clears below the limit line (i.e. any bar high below the limit line), the setup becomes invalid. Figure 5-5 shows a bullish Deceleration setup that became invalid before any setup bar was triggered.

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2. Setup bar (not triggered) Limit Line

1. Last bar of a bullish Deceleration pattern 3. This bar cleared below the limit line; the setup becomes invalid Figure 5-5 Deceleration setup and limit line

1. From the low of the last bar of the Deceleration pattern, we drew a limit line. As this bar was not bullish, it was not a setup bar. 2. This bullish bar was a setup bar, but the market did not trigger the buy stop order above its high. 3. The high of this bar was below the limit line, indicating that this Deceleration pattern did not conform to the market behaviour we expected. We expected traders to cover their short positions because the weakness in the downthrust scared them. However, when the market continued its way down undeterred, the traders were no longer afraid of a bullish reversal. Our premise turned out to be wrong, and we should stop looking for setup bars based on this bullish Deceleration pattern.

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Hence, it is essential to pay attention to the limit line, so that we are aware if our underlying expectation of the market has been compromised.

5.2.3 - Short Deceleration Setup Figure 5-6 shows a short Deceleration setup.

4. If price clears above the limit line, the setup is invalid

1. Bearish Deceleration

3. Place a sell stop order here 2. As the last bar of pattern is not bearish, no sell stop order is placed Figure 5-6 Short Deceleration setup

1. Bearish Deceleration pattern 2. If the last bar of the pattern is bearish, sell one tick below its low. 3. If not, sell one tick below the next bearish bar. 4. If price clears above the limit line (i.e. any bar low above the limit line), the setup becomes invalid.

5.3 - Trading the Deceleration 5.3.1 - CL 5-Minute Example This is a near textbook example of a bearish Deceleration setup.

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3. The second setup bar also completed a bearish Pressure Zone

2. First setup bar not triggered

1. This outside bar broke the trend line but the upswing could not reach the last swing high Figure 5-7 Hope given by outside bar but smashed by Deceleration

1. A powerful bullish outside bar broke the bear trend line. Despite the dramatic nature of a bullish outside bar at the bottom of a down trend, we noted that the market did not even attract enough eager buyers to push prices up to the last swing high. 2. Of course, it did not help that the upswing formed a bearish Deceleration pattern. The last bar of the pattern was bearish, and we could have sold a tick below it. However, the next bar did not trigger the sell stop order. 3. As our Deceleration setup was still valid, this second bearish bar was our second setup bar. It also completed a bearish Pressure Zone, which boded extremely well for the Deceleration setup. Thus, even if we did not place our sell stop order based on the first setup bar, we should not miss this second chance to enter.

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5.3.2 - ES 10-Minute Example This example shows a Deceleration setup that caught the low of the trading session.

1. Congestion Zone

2. This trend line break did not exhibit momentum

3. Long Deceleration setup bar

Figure 5-8 Deceleration with Congestion Zone

1. We projected a support area using this Congestion Zone from the previous session. It is common for Congestion Zones to stay effective as support or resistance for multiple trading sessions. 2. This session opened with a gap up but made its way down immediately and broke the bull trend line within half an hour. However, despite making two tested lows below the trend line, the market seemed to be supported by the Congestion Zone from the last trading session. 3. The second push into the Congestion Zone formed a bullish Deceleration pattern. A Deceleration pattern with a Congestion Zone is one of my favourite setup. In this case, it did not disappoint and helped us establish a long position near the low of the session. www.tradingsetupsreview.com

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5.3.3 - 6J 30-Minute Example The market context in this example was bullish. Although not shown in Figure 5-9, the first bar of the chart gapped up over the weekend above a bear trend line and two pivot highs. Hence, our market bias in this case was firmly bullish.

2. Price cleared above the Congestion Zone 1. Congestion Zone

3. Decelerating as the market returned to test the Congestion Zone

4. Setup bar

Figure 5-9 Deceleration with Congestion Zone after a change of market bias

1. Despite the strong gap upwards over the weekend, the market seemed unsure about its bullish inclinations and got into a prolonged congestion. 2. Finally, price moved above the Congestion Zone and cleared it, giving us the green light to use the Congestion Zone as a possible support area. 3. The bullish thrust did not manage to elevate the market much before prices returned to test the Congestion Zone. However, despite the initial strong bear trend bar, a bullish Deceleration pattern emerged as price descended into the Congestion Zone. www.tradingsetupsreview.com

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4. As the last bar of the Deceleration pattern was a Doji, we had to wait for a bullish bar to complete the setup. It came a few bars later as a solid bull trend bar. The bear trend bar mentioned in point 3 also led to a long Trend Bar Failure setup. However, the market would have hit our standard stop-loss for that setup. The Deceleration setup then offered us a chance to re-establish the long position.

5.3.4 - FDAX 10-Minute Example This example shows how a bullish Deceleration pattern can help to reveal hidden strength of the buyers within a blatant bearish display.

1. Strong five-bar thrust testing the bull trend line 2. Second downthrust formed a bullish Deceleration pattern

3. Did not clear below the last pivot low 4. Bullish Pressure Zone Figure 5-10 Downthrust below the trend line was a Deceleration pattern

1. After the day opened with a small gap upwards, the market fell with a strong five-bar downthrust to test the bull trend line. However, the downthrust ended with clear rejection from the bull trend line as shown by the long lower shadow.

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2. The market made another serious attempt to break the trend line. Despite the seemingly strong downswing, it was actually a Deceleration pattern, with each down bar exceeding the previous bar by a smaller distance. The last bar of the pattern was a strong bullish reversal bar. We could have bought a tick above this bar. However, due to the earlier five-bar downthrust and the wide range of the bullish reversal bar (wider stop is needed), some traders might prefer to wait for another entry point. 3. Although the market has made two powerful downswings, it did not form any tested low that exhibited strong bearish momentum. In particular, the Deceleration downswing did not clear the preceding swing low. This was the main reason for maintaining a bullish bias. 4. The setup bar, with the two bars after it, formed a bullish Pressure Zone that boded well for a long entry. Hence, if we did not enter with the first setup bar, we should then enter with this second bullish reversal bar. Strong thrusts against the market bias are insufficient to change the market bias unless they exhibit momentum by pushing clearly past a support or resistance area. In this example, the seemingly powerful downthrusts could not manage such feats. However, when faced with strong thrusts against the bias, it is certainly a good idea to hold back trade entries, until there’s clearer price action.

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5.3.5 - NQ 5-Minute Example In life, things are not always rosy, and in trading, setups do not always work. Let’s look at this example of a Deceleration that did not go our way. Fortunately, in this case, there were signs to warn us against taking the trade, and we stood a chance to avoid it. There will be cases when everything looks perfect but the setup still fails. In those instances, your losses are simply the cost of doing business. Treat those losses as part of your Internet connection costs. Basically, it is something we cannot trade without.

1. Strong bullish momentum

2. Bears wrestled back control

5. Resisted by the Congestion Zone

4. Bullish momentum with Deceleration

3. Could not close below the last extreme low Figure 5-11 Momentum against setup

1. Our market bias was bearish. Imagine how terrible that bullish Marubozu looked when it cleared above one pivot high and tested the next. This was the first sign of bullish momentum. 2. However, the bears quickly wrestled back control after some minor congestion. The six consecutive bearish bars was the www.tradingsetupsreview.com

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proof. The bullish Marubozu might be just a false alarm. Bears ruled. 3. Then, we noticed a problem. This fight-back by the bears did not manage to close beyond the last extreme of the down trend. That was a red flag. Recall from the previous volume that wild swings in both directions tend to precede a change in market bias. A bullish turn might be unfolding. 4. The change of market bias was also confirmed with another show of bullish momentum pushing above the trend line. However, the upswing happened to be a bearish Deceleration pattern. In fact, it was a four-bar Deceleration pattern, which was more significant than the typical three-bar Deceleration. It looked tempting, only if we had forgotten that market bias trumps setups. At this point, we would have changed our bias to bullish, or at the very least start to seriously doubt our bearish bias. Hence, we should not take this short Deceleration setup. 5. Prices continued to drift upwards and found resistance at a Congestion Zone. Given the earlier bearish Deceleration and this clear resistance from the Congestion Zone, you might be tempted to ignore the bullish bias and get into a short position. For the tempted traders, it was wise to at least give the first setup bar a miss, and wait for a second entry6. Very often, by that time, you would have changed your mind about entering. In this example, after the first setup bar was triggered, all subsequent bearish bars were not triggered for short trades. Eventually, the market broke above the Congestion Zone and the bullish bias was firmly established. 6

This is related to the re-entry technique we will cover in Chapter 12.

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5.4 - Conclusion Deceleration is a powerful price pattern that offers insight into the real strength of a market swing. Coupled with other setups or a reliable support/resistance level, it gives you the confidence to fade a market move. You will encounter many Deceleration patterns that are against the market bias. This is because the Deceleration pattern is actually quite effective at picking tops and bottoms. However, I never advise going against the market bias, at least not within our trading framework. If you think that this pattern is useful for timing reversals when combined with your own trading methods, then by all means try it out. I believe it will be beneficial.

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Chapter 6 - Anti-Climax “A disappointing end to an exciting or impressive series of events” Anti-climax, as defined in Oxford Dictionaries

6.1 - The Psychology Behind When the market rises with strong momentum and great speed, traders fear that they get left behind by this exciting and impressive price action. The instinctive (and wrong) response of these traders is to chase the market, hopping onto the bandwagon regardless of the price they need to pay. Such responses cause the market to rise even more. Eventually, the market runs out of buyers as traders finally pause to ponder over what the hell just happened. At that point, the market is left with a bunch of traders who have no idea why they are holding long positions. Reluctantly, they take a step back and realise that they just bought into a resistance. Or, despite the seemingly strong upwards thrust, the market has not even touched the nearest resistance. The fact that they ignored the bearish market bias starts to sink in. This is the beginning of the disappointing end. This is the Anticlimax.

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As these disappointed traders sell off their long positions, we are already poised to take advantage of the selling pressure they are creating.

6.2 - Identifying the Anti-Climax 6.2.1 - Anti-Climax Pattern The exact requirement of a bearish Anti-climax pattern is shown in Figure 6-1. Each bar in the pattern rises above the previous bar high by an increasing distance. The bulls are buying frantically. Like the Deceleration pattern, the Anti-climax also has a limit line, beyond which the pattern becomes ineffective.

C 1 B 1 A 1 Limit Line A
Figure 6-1 Structure of a bearish Anti-climax pattern

You can also think of the Anti-climax pattern as the price action equivalent of price oscillators like the Stochastic and RSI. A defining feature of these oscillator type indicators is the overbought/oversold signal. A bullish Anti-climax pattern is an oversold signal and a bearish Anti-climax pattern is an overbought signal. However, instead of using complex www.tradingsetupsreview.com

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calculations and arbitrary overbought/oversold levels, the Anticlimax uses price action and tends to occur before oscillator signals.

6.2.2 - Anti-Climax versus Deceleration Visually, the Anti-climax pattern is the exact opposite of the Deceleration pattern.

Anti-Climax

Deceleration

Figure 6-2 Anti-climax versus Deceleration

Although the Anti-climax and the Deceleration are complete opposites in their appearance, the trading rules we employ for both are similar. For a short Anti-climax pattern like the one in Figure 6-2, we sell a tick below the next bearish bar. But these two patterns are the exact opposite of each other. How can we trade them with similar methods? Doesn’t it make more sense to interpret one as showing strength (Anti-climax) and one as showing weakness

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(Deceleration)? Why are we fading both strength and weakness? Are we being inconsistent?

Anti-climax

Deceleration

Figure 6-3 Both are bearish patterns; does it make sense?

Look at the two patterns in Figure 6-3. Within a bearish market context, both patterns are potential short setups. Why? Three consecutive bars with higher bar highs could take on a variety of appearances. Within the spectrum of such patterns, the Anti-climax and Deceleration are on the extreme opposite ends. Anti-climax is the most powerful kind of upswing, while Deceleration is the most ominous type. Understanding that both Anti-climax and Deceleration are on the extreme ends of the spectrum is the key to reconciling the seeming inconsistency. This is because extreme market behaviours are unsustainable. Many trading strategies look out for market extremities in order to find trading opportunities. Some examples are:

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   

Extreme oscillator values (RSI, Stochastics) Prolonged period of low volatility (Bollinger Squeeze, NR7) Extremely high volume Extreme ends of a trading channel

Since the Anti-climax and Deceleration patterns represent the extremes of what a directional price swing could look like, it is reasonable for us to expect both patterns to be unsustainable. Of course, we tread prudently. We must have the support of the market bias, and we always wait for an appropriate setup bar to be triggered to confirm our analysis. Moreover, we have a limit line to help us distinguish patterns that do not conform to the market psychology we expect. Remember how we interpret both patterns. The Deceleration is a counter-bias thrust that exudes weakness, while the Anticlimax is an impressive thrust that causes traders to ignore the market bias. The similarity is obvious. Both patterns go against the market bias. Hence, if a bearish Anti-climax pattern punches above several key resistance areas, then perhaps, the traders have not ignored the market bias, but are instead part of a new bull trend. Similarly, if a Deceleration takes place when the market bias is unclear, is it really the counter-bias thrust we are looking out for? Bearing in mind the underlying concepts of each pattern is how we discern the quality of each setup.

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Essentially, Anti-climax and Deceleration form a pair of visually opposite patterns with similar implications, albeit due to different underlying psychology. Such pattern pairs are not uncommon in price action trading. Another notable pair is the Hammer and Inverted Hammer candlestick pattern. As shown in Figure 6-4, the Hammer and Inverted Hammer patterns are visually opposite. Yet, both patterns have bullish implications. The same characteristic applies to their bearish counterparts: Hanging Man and Shooting Star. Opposite in appearance but similar in their bearish implications.7

Hammer

Inverted Hammer

Figure 6-4 Hammer and Inverted Hammer

Again, it is the market context that reconciles this pair of seemingly contradictory candlestick patterns. Both the Hammer and the Inverted Hammer patterns are bullish reversal patterns. It is only within the context of a bearish market that this pair of patterns becomes meaningful as bullish reversal signals.

Refer to Steve Nison’s Japanese Candlestick Charting Techniques to learn more about Hammer, Inverted Hammer, Hanging Man, and Shooting Star. More information on the course resource page. 7

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6.2.3 - Long Anti-Climax Setup Figure 6-5 explains the trading rules of a long Anti-climax setup step-by-step.

2. The last bar is not bullish and is not a setup bar

3. Place a buy stop order here zone

1. Bullish Anticlimax pattern

4. If price clears below this line, the setup is invalid

Figure 6-5 Long Anti-climax setup

1. Bullish Anti-climax pattern 2. If the last bar of the pattern is bullish, buy one tick above its high. 3. If not, buy one tick above the next bullish bar. 4. If price clears below the limit line (i.e. any bar high below the limit line), the setup becomes invalid.

6.2.4 - Short Anti-Climax Setup Refer to Figure 6-6.

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4. If price clears above this line, the setup is invalid

1. Bearish Anti-climax

3. Place a sell stop order here 2. As the last bar is bullish, no order is placed Figure 6-6 Short Anti-climax setup

1. Bearish Anti-climax pattern 2. If the last bar of the pattern is bearish, sell one tick below its low. 3. If not, sell one tick below the next bearish bar. 4. If price clears above the limit line (i.e. any bar low above the limit line), the setup becomes invalid.

6.3 - Trading the Anti-Climax 6.3.1 - CL 4-minute Example Figure 6-7 shows an example of an excellent bullish Anti-climax pattern in the CL futures market.

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1. Congestion after the first bar of the session

4. Bullish pressure zone

2. First valid low of the session

3. Anti-climax supported by the trend line and the Congestion Zone

Figure 6-7 An excellent bullish Anti-climax setup

1. After the first bar of the session, a congestion pattern formed. The following bars presented a short Congestion Breakout Failure trade which we were not interested in as it went against our bullish market bias. 2. The market resumed its way up and formed a valid low. We adjusted the bull trend line to keep up with it, resulting in the trend line shown in Figure 6-7. 3. Price fell and formed an Anti-climax setup as it tested the Congestion Zone and the bull trend line. With the overlapping support, this Anti-climax setup looked especially promising. Moreover, the last bar of the pattern was a bullish reversal bar with a long lower shadow. We bought a tick above the high of this reversal bar. 4. The entry bar (the bar that triggered our buy stop order) also completed a bullish Pressure Zone which confirmed the buying pressure at the support area. It boded well for the Anti-climax

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trade. In fact, aggressive traders could add to their long positions based on the bullish Pressure Zone.

6.3.2 - 6A 30-Minute Example In this example, the Anti-climax pattern represented the lastditch effort of the bulls after a bearish break of a trend line.

1. Extremely strong break of a bull trend line 2. Signs of bullish momentum

4. Anti-climax setup bar

3. Bearish momentum took back the control immediately

Figure 6-8 A matter of momentum

1. The market broke the last bull trend line with extremely strong momentum. We were in a technical bearish bias. After this trend line break, no more valid pivots developed, not until after the Anti-climax pattern. Thus, we were unable to add a bear trend line to aid our analysis. In cases like this, momentum analysis plays a key role in determining the market bias. 2. Despite a protracted upwards movement, the bullish momentum was fading. While the first tested high cleared the last swing high for several bars, the second tested high was less impressive.

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3. Just as we considered the possibility of the bulls returning, the market swung down with clear bearish strength. This turn of events led us back to our bearish market bias. 4. The bulls did not give up straightaway and tried to bring the market up again. However, the upswing formed a bearish Anticlimax pattern that caught our eye. This last-ditch attempt of the bulls did not even reach the last swing high, confirming the bearish tone of the market. Shorting below the setup bar was a reliable trade.

6.3.3 - ES 10-Minute Example This example contains a bearish Anti-climax pattern that tested a previous pivot high.

1. Strong break of the bull trend line

3. Could not close above the last basic swing high 4. Second try to move above the resistance ended with a bearish outside bar

2. Five-bar upthrust ending with a bearish Anti-climax pattern

5. Bullish Anti-climax as a possible exit signal

Figure 6-9 Clear rejection by the basic swing high

1. We started the session with a bullish bias, which quickly turned bearish as the market broke below the bull trend line with strong momentum.

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2. These five consecutive bullish bars were impressive. However, the last three bars formed an Anti-climax pattern, which warned us that this seemingly strong rise might be unsustainable. 3. We looked at what this five-bar thrust has achieved. It did not move above the last basic high. The bar right after the Anticlimax pattern tried but ended as a Doji that closed below the resistance. This magnified the fear in the traders who bought during the upthrust. The following bar was a weak bearish bar which showed some buying pressure (lower shadow). Technically, this was our first setup bar. However, in view of the strength shown by the fivebar upthrust earlier, it was better to wait for confirmation. 4. The market tried to rise above the resistance again. It failed and ended with a bearish outside bar, which provided the confirmation we needed to take this short Anti-climax setup. A sell stop order then could be placed below the outside bar. 5. Anti-climax patterns are excellent signals for profit-taking. In this case, the bullish Anti-climax pattern offered a great exit. To appreciate its effectiveness as an exit in this example, look at Figure 6-10. (We will discuss more about how to take profits in the next volume.)

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1. Shorted here

3. Market shot up after the bullish Anti-climax

2. Covered at this price after a bullish Anti-climax Figure 6-10 Effectiveness of the Anti-climax pattern for profit-taking

As shown in Figure 6-10, the market shot up soon after a bullish Anti-climax pattern. This means that by exiting with the Anticlimax pattern, we have exited at the optimal point, capturing most of the potential profit of our setup. When we say that a pattern is effective for exiting our trend trade entries, we are also saying that it is an effective trend reversal pattern. This is the case for Anti-climax patterns. They occur commonly at the extremes of the market trend, threatening to reverse it. And on many occasions, they perform very well and often pinpoint the exact end of the trend. Another example is shown in Figure 6-11.

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2. Bearish Anti-climax

1. Bullish bias

3. Bullish Anti-climax

Figure 6-11 Using Anti-climax patterns to catch tops and bottoms

Hence, it is viable to employ the Anti-climax pattern in reversal trading strategies. However, as we are focusing on taking trades along with the market bias, I will not elaborate on using Anticlimaxes for trading reversals. However, if you have an existing reversal trading strategy, you would want to consider adding the Anti-climax pattern to your trading arsenal.

6.3.4 - FDAX 10-Minute Example The Anti-climax pattern, like all the other setups, works best when the market bias is clear and in conjunction with other setups.

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1. Bear trend line with no sign of bullish momentum

3. Anti-climax testing the Congestion Zone

2. Three-bar congestion pattern

Figure 6-12 Anti-climax in a clear bearish market

1. The bear trend line was extended from the price action of the last trading session. The price bars in this session were entirely below the trend line. Moreover, there was no sign of bullish momentum. Hence, it was a firmly bearish market. 2. We extended a Congestion Zone from the three-bar congestion pattern. It was a potential resistance area. 3. After breaking out below the congestion pattern, price retraced upwards to test the Congestion Zone. The upswing was a bearish Anti-Climax pattern. The following bearish bar was not only an Anti-climax short setup bar, but also a Congestion Zone setup bar. Given the confluence of two short signals and the firm bearish market bias, it was a clear and reliable short trade.

6.3.5 - NQ 3-Minute Example Figure 6-13 shows another example of an Anti-climax setup with the support of a Congestion Zone.

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1. Price has gapped far above a bull trend line

2. The first tested low ended with a congestion pattern

For clarification, these three bars form the Anti-climax pattern

3. Anti-climax setup bar

Figure 6-13 A well-supported Anti-climax trade

1. The effective trend line (not shown) was bullish. However, this session gapped a long way above the trend line. As usual, we were on high alert for any bearish signs that might reverse the bullish bias. 2. The first tested low of the day ended with a congestion pattern. It only managed to close below the previous swing low for one bar and did not clear below it at all. Thus, we concluded that it did not exhibit much bearish momentum. Accordingly, we maintained a bullish bias. 3. The bullish Anti-climax pattern ended right inside the Congestion Zone. The setup bar was a narrow range bar that offered a low risk long trading setup. Even though this trade turned out to be profitable, there was a minor cause for concern. Look at the bearish Anti-climax pattern at the top of the chart before the market fell to test the Congestion Zone. That bearish pattern led to swift profits for

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traders who shorted it. The success of bearish setups is an indicator of potential bearish market bias in the near future. In strong bullish markets, bearish setups should not be too successful or profitable. (This is a concept we will elaborate on in Chapter 11.) As we were on high alert for any possible change in market bias from bullish to bearish, we must factor this bearish signal into our trading decision. I must emphasise that this was not a deal-breaker. It was, however, the difference between a good trade and an excellent trade. After all, the Congestion Zone and two previous pivot lows gave solid support for this long Anti-climax setup. Hence, this setup was still acceptable.

6.4 - Conclusion The Anti-climax is a tricky pattern to trade. First, it often ends with increasing volatility, which means larger bar range (trade risk) and more whipsaws around our entries. Another problem is that in isolation, an Anti-climax looks the same as a strong impulse thrust that reverses the current market bias and starts a trend. Hence, we must take great care when analysing Anti-climax setups. Fortunately, doing so is not rocket science. Look at all the examples we went through. They share a similarity. None of the bearish patterns closed above the last pivot high, and none of the bullish patterns closed below the last pivot low. Hence, they exemplify the market behaviour we desired, which is a climactic counter-bias thrust that in fact could not even affect the structure of the existing market bias. Be careful and avoid Antiwww.tradingsetupsreview.com

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climax patterns that manage to shatter the current market structure. Notwithstanding the difficulties mentioned, when used with prudence, the Anti-climax pattern offers reliable trading setups where most traders perceive danger. In addition, as shown in Figure 6-10 and Figure 6-11, the Anticlimax is not only effective as exit signals. It is also a great pattern for nailing market tops and bottoms. If you recall, the Deceleration is good at finding trend reversals as well. However, comparing both patterns, the Anti-climax is a more potent reversal pattern. Thus, you might be tempted to trade reversals with the Anticlimax pattern. If you are a beginner, resist this temptation at all costs. If you are a seasoned trader comfortable with trading reversals, feel free to incorporate the Anti-climax pattern into your reversal trading strategy.

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Chapter 7 - Pressure Zone 7.1 - The Psychology Behind Look at the bar in Figure 7-1. It shows three snapshots of a Pin Bar8. The name does not matter. What matters is that it is a bar with a long lower shadow (or tail or wick).

Stage One New bar

Stage Two Along the way

Stage Three Resulting bar

Figure 7-1 Three stages of a Pin Bar

The question is: How do traders react to this bar, during and after its formation? It depends, of course. It depends on the mind-set of each trader. Each trader has his or her own agenda and market interest. Thus, for a complete answer, we need to examine the different groups of traders. That is a Herculean task. Also called Pinocchio Bar; learn more in “Pring on Price Patterns: The Definitive Guide to Price Pattern Analysis and Interpretation”. More information on the course resource page. 8

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Fortunately, we can make things easier by focusing on the extremes. Extreme emotions and reactions are more pronounced and intense. They are easier to identify. Once we have understood the extreme traders, the rest of the traders simply form a spectrum in between them. The best way to examine the emotional extremes of such a price bar is to consider the perspective of traders who transacted at the extremes of the bar as marked out in Figure 7-2.

Stage One New bar

Stage Two Along the way

Stage Three Resulting bar

1. Sold here 2. Bought here

4. Bought here

3. Sold here

Figure 7-2 Four groups of traders at the bar extremes

   

Group Group Group Group

1 2 3 4

– – – –

Sold at Bought Sold at Bought

the bar high at the bar high the bar low at the bar low

7.1.1 - Traders Who Sold at the High of the Bar (Stage One) They felt like geniuses in Stage Two.

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Then, they quickly became frustrated as the market grinded higher and erased their profits. “I should have taken my profits and ran before the bar came back up!” “Could this trade be a loser?” “Should I exit now?” As Stage Two shifts into Stage Three, these thoughts run through the minds of these frustrated traders. Beyond frustration, they were also disappointed, uncertain, and perhaps a little scared that they would lose. The disparity between feeling like a genius and knowing that they might be a loser is intense.

7.1.2 - Traders Who Bought at the High of the Bar (Stage One) Throughout the formation of this bar, these traders did not have a break. As the bar did not move above its high at all, these traders were constantly watching the bar erode their trading account. It was just a matter of how much. And Stage Two was too much. That was the worst time for them. But it also became the reason they felt extremely relieved when the bar ended the way it did. Although they were still not profitable, it was already a better-than-expected outcome for them.

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Thinking that worst (Stage Two) must be over, some of them were not just relieved. They were emboldened and optimistic.

7.1.3 - Traders Who Sold at the Low of the Bar (Stage Two) Traders should be risk-oriented. They should always be thinking about worst case scenarios like how bad could a trade possibly be. This group of traders did not have to think about a worst case scenario. They were in one themselves. The market did not move a single tick in their favour. On paper, it was all losses and not a single cent of profit at any point in time. It was truly demoralising. When the bar ended, they were still in the red. Some traders have already covered their positions. Those who have not, were probably waiting for a chance to cover at breakeven, so that they would not feel like losers.

7.1.4 - Traders Who Bought at the Low of the Bar (Stage Two) This is the happiest group. They did not suffer a single tick against them. Zero adverse excursion, so to speak. They were feeling like heroes who could not possibly lose. They were extremely confident. Were they likely to sell and close out their positions? No, over-confident traders do not step aside. They want to be part of the market, so that they can continue to feel like winners.

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7.1.5 - Deducing Pressure Let’s recap and summarise the emotions and likely course of action of the four groups of traders. 1. 2. 3. 4.

Sellers who are scared (likely to cover shorts) Buyers who are optimistic (likely to hold longs) Sellers who are demoralised (likely to cover shorts) Buyers who are confident (likely to hold longs, might even buy more)

Together, they are likely to produce buying pressure. The traders who are short want to cover/buy, so they are creating demand. The buyers want to hold, so they are not supplying, at least not without demanding higher prices. The result is a pressure on the market to move up. You might have noticed that the traders’ reactions stemmed largely from the difference between Stage Two and Stage Three of the bar. And the key difference is shown by the lower shadow/tail/wick. Hence, the lower shadow reflects the amount of buying pressure. The length of the lower shadow is the difference between an extreme possibility and the conclusion of a price bar. It represents the disappointment of Group 1, the optimism of Group 2, the dread of Group 3, and the confidence of Group 4. By the same logic, the length of the upper shadow of any price bar indicates potential selling pressure.

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Selling pressure

Buying pressure

Figure 7-3 What lies within the shadows

The Pressure Zone setup tries to locate the buying and selling pressure implied by the lower and upper shadows of price bars respectively. (Figure 7-3) Although in our explanation above, we used Pin Bars as examples, the Pressure Zone is not a Pin Bar trading strategy. To find Pressure Zones, we are not particularly interested in how a single bar looks. We pay more attention to the appearance of a group of price bars.

7.2 - Identifying the Pressure Zone Our analysis of our fellow market participants is not perfect. We focused on the extremes and on a single price bar. Some traders might be more or less persistent than we described and act beyond our expectations. Hence, the buying or selling pressure we anticipate based on a single price bar might not be sufficiently reliable for a trading setup.

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Therefore, instead of a single bar, we will look for at least three consecutive bars with overlapping upper or lower shadows. We have deduced that shadows indicate potential buying or selling pressure. When shadows overlap, they create a price zone that is more likely to exhibit the buying or selling pressure we anticipate. Consider the perspectives of the four groups of traders again. When we have three consecutive bars with overlapping lower shadows like what is shown in Figure 7-4, the traders undergo the same emotional cycle three times, all within a compact price range. That price range is the Pressure Zone we are looking for.

Pressure Zone

Figure 7-4 Overlapping lower shadows creating a Pressure Zone

7.2.1 - Pressure Zone A Pressure Zone is easy to identify. We can mark it out as a zone on our charts to observe it during our trading.

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Figure 7-5 shows how to identify and mark out a bullish Pressure Zone.

4. Bullish Pressure Zone 3. Lowest point of the candle bodies

1. Overlapping lower shadows

2. Lowest low Figure 7-5 Drawing a bullish Pressure Zone

1. Find three consecutive bars with overlapping lower shadows. 2. Mark out the lowest bar low among the three bars. In this case, it is the third bar. 3. Mark out the lowest point of the three candle bodies (exclude the shadows). 4. The area between these two price levels is the bullish Pressure Zone. Figure 7-6 demonstrates how to draw a bearish Pressure Zone.

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2. Highest high

1. Overlapping upper shadows

3. Highest point of the candle bodies

4. Bearish Pressure Zone

Figure 7-6 Drawing a bearish Pressure Zone

1. Find three consecutive bars with overlapping upper shadows. 2. Mark out the highest bar high among the three bars. In this case, it is the third bar. 3. Mark out the highest point of the three candle bodies (exclude the shadows). 4. The area between these two price levels is the bearish Pressure Zone. Small overlaps of shadows can create unreliable Pressure Zones (Figure 7-7). To avoid them, ignore overlaps below a certain threshold. In marking out Pressure Zones, I only consider shadow overlaps that are 2 ticks and above. For trading higher time frames (1 hour and above), consider increasing the threshold as necessary.

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Only 1 tick

Not a reliable Pressure Zone

Figure 7-7 Unreliable Pressure Zone

7.2.2 - Long Pressure Zone Setup Figure 7-8 shows how to trade a long Pressure Zone setup.

2. Place a buy stop order here

1. Bullish Pressure Zone

3. If price clears below this line, the setup is invalid

Figure 7-8 Long Pressure Zone setup

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1. Bullish Pressure Zone 2. Buy one tick above the next bullish bar that overlaps with the Pressure Zone and closes above it. (The third bar of the Pressure Zone is acceptable if it is bullish.) 3. If price clears below the Pressure Zone, the setup becomes invalid.

7.2.3 - Short Pressure Zone Setup Figure 7-9 illustrates a short Pressure Zone setup.

1. Bearish Pressure Zone 3. If price clears above this line, the setup is invalid

2. Place a sell stop order here

Figure 7-9 Short Pressure Zone Setup

1. Bearish Pressure Zone 2. Sell one tick below the next bearish bar that overlaps with the Pressure Zone and closes below it. (The third bar of the Pressure Zone is acceptable if it is bearish.) 3. If price clears above the Pressure Zone, the setup becomes invalid.

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7.2.4 - Pressure Zone & Congestion Zone Pressure Zones often occur within congestion patterns. This is not surprising because Doji-like bars are common in congesting markets, and Dojis have long shadows. Beware of Pressure Zones that occur together with congestion patterns as they are less reliable. Generally, Pressure Zone setups that form without congestion are more reliable as shown in Figure 7-10.

Bearish Pressure Zone in congestion (less reliable)

Congestion

Bullish Pressure Zone without congestion (more reliable)

Figure 7-10 Reliable Pressure Zone do not congest

Hence, if you find a Pressure Zone setup within a congestion pattern, consider a trade only when the market bias is crystal clear or if there are other compelling reasons to take the trade. If not, ignore the Pressure Zone setup. Wait for price to break out of the congestion pattern, and consider a Congestion Zone (or Congestion Break-out Failure) setup instead.

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7.3 - Trading the Pressure Zone 7.3.1 - NQ 3-Minute Example This example shows an increasingly familiar scenario, in which the price action moves far away from the last trend line. We observed the market for counter-bias thrusts towards the trend line, but none came. Hence, we maintained our original bias and traded along with it.

1. Seventh consecutive bullish bar

4. Bullish Pressure Zone

2. Weak tested low

3. Congestion Zone

Figure 7-11 Where two zones meet

1. This is the last bar of a series of seven consecutive bullish bars that brought the market away from the effective bull trend line (not the trend line drawn in the chart). The following tested swing high maintained the excellent bullish momentum by clearing above the last swing high. 2. After such a bullish show of power, we expected the market to react with some bearish or sideways action. Indeed, it drifted sideways. However, the only tested low that formed could not

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even close below the previous pivot low, implying that the bears were unable to reassert their strength. 3. A four-bar congestion pattern formed. The break-out above this congestion also made a new high for the existing upwards trend. This new high confirmed the earlier tested low as a valid low, allowing us to adjust the bull trend line (to the one drawn in Figure 7-11) to catch up with the recent price action. 4. The market resisted the test of the last extreme high and pushed it down into the Congestion Zone. However, the market quickly formed a bullish Pressure Zone (the arrows point to the first and last bar of the Pressure Zone) at the support area projected by a Congestion Zone and the newly-adjusted bull trend line. Given the overall bullish tone, it was a solid long trading setup.

7.3.2 - 6A 4-Hour Example This is a 4-hour chart of 6A futures (AUD/USD). I do not regularly trade the 4-hour time frame as I prefer quicker trades. This example is included to show how our price action trading setups are applicable on this time frame that is popular among forex traders.

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3. Deceleration 4. Bearish Pressure Zone

1. Congestion Zone

2. The Congestion Zone was not working well as a resistance

Figure 7-12 Decelerating with selling pressure

1. This was a bearish market that just descended with a series of 11 bearish bars that are not shown on this chart. The market was taking a break and a congestion pattern formed. Price broke out below the congestion pattern, and we watched the Congestion Zone as a potential resistance. 2. However, the Congestion Zone did not appear to resist price well. A strong bullish bar rose and closed above it followed by a Doji that cleared the Congestion Zone. A short Congestion Zone setup was no longer possible. 3. However, the thrust above the Congestion Zone was actually part of a bearish Deceleration pattern. 4. Not only that, the Deceleration pattern also formed a bearish Pressure Zone with a bearish outside bar as the setup bar. With the clear bearish bias and a confluence of two trading setups, this was a solid trade.

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7.3.3 - ES 10-Minute Example Pressure Zones that form early in a trading session at the current high or low of the session has a good chance of catching the high or low of the trading session. Figure 7-13 shows an example of a bullish Pressure Zone that led us into buying near the low of the session.

First bar of this session

3. Bullish setup bar rejected by the Pressure Zone and the bull trend line

1. Congestion Zone from the previous session

2. Bullish Pressure Zone

Figure 7-13 Buying pressure confirmed Congestion Zone as resistance

1. Congestion Zones from the previous trading session could still be effective support and resistance areas. 2. The second to fourth bars of the session formed a bullish Pressure Zone, confirming the support provided by the Congestion Zone and the bull trend line. 3. However, we did not get a setup bar until three bars later. After moving above the Pressure Zone, a bearish outside bar brought the market down to test the Pressure Zone. The rejection by the Zone produced a bullish bar which served as the www.tradingsetupsreview.com

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setup bar for the long Pressure Zone. This bar was also supported by the bull trend line. Hence, it was a solid long trading setup.

7.3.4 - CL 4-Minute Example This example shows a short Pressure Zone setup before the crude oil inventory report came out. It highlights that it pays to trade prudently before significant report releases. This chart starts with the first bar of the session which opened with a strong gap down and away from the bear trend line. Our market bias was bearish.

1. Bearish Pressure Zone setup bar

2. Bullish Anti-climax and Pressure Zone

3. Bearish Deceleration and Pressure Zone setup bar 4. Crude oil inventory report released here

Figure 7-14 Excellent Pressure Zones before the inventory report

1. The first three bars of the session formed a bearish Pressure Zone. It gave us an opportunity to short the market. 2. The short trade had excellent follow-through. However, it was in fact a bullish Anti-climax pattern followed by a bullish Pressure Zone. As we will discuss in Volume IV, the Anti-climax www.tradingsetupsreview.com

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pattern alone is sufficient reason to cover our short position here. In this case, a Pressure Zone accompanied the Anticlimax. Hence, traders who did not want to tolerate adverse movement against their positions should exit here. 3. However, for traders who chose to hold on to their short positions, encouraging signs soon emerged. As the market pulled back upwards, it formed a bearish Deceleration pattern followed by a bearish Pressure Zone. As this Pressure Zone overlapped with the earlier bearish Pressure Zone, it was more reliable. Hence, shorting below the low of the first bearish bar following the Pressure Zone was an excellent option, especially for traders who missed the first bearish Pressure Zone setup or those who covered with the bullish Anti-climax. 4. The release of the crude oil inventory report caused the market to produce a violent bearish reversal bar. Although this bar closed in our favour, it was more prudent to cover our positions along with any of the bear trend bars within half an hour of the release of the report. It was unnecessary to risk holding a position when we knew that the market might react to significant reports or news. Let’s take this chance to clarify the effect of news in my trading framework. I do not, at all, factor news into my market analysis. However, I do consider it in my trading decisions. And I do so only in one way. When significant news release is scheduled, I will avoid holding any trading positions. I will exit my position before the release of the news. Then, I will wait for any volatile whipsaws to end and for the market to show clear price action before trading again. I mentioned significant news release. With the global appetite for news and universal obsession over money, there is a deluge of financial news. What is significant and what is not? www.tradingsetupsreview.com

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I am telling you that for the CL futures market, the crude oil inventory report is significant. Do you believe me? I rather you don’t, until you verify it for yourself. Traders should not take anything for granted. I started trading price action assuming that news does not matter at all. I did not pay attention to the news ticker. I disregarded all news and release of fundamental data, scheduled or not. However, as I gained experience in trading price action and through observation, I could tell when the market is waiting for an important report or when a significant piece of news hit the market. Unusual prolonged congestion is a tip-off that the market is waiting for important information. Then, when the news hit the market, the price action would become erratic and volatile. At these points, trading setups would fail terribly or perform far beyond my expectations. The market would defy price action analysis for a short duration after the news hit the market. However, soon after, I would be able to read the market price action again. Hence, whenever that happened, I would check the news feed and note down the piece of news that created that increased price volatility. More importantly, I wanted to find out if that news came from a scheduled event, like the crude oil inventory report. If it was a regularly scheduled event, then I could avoid the period of irregular price action in the future. I would be able to tread carefully when I expected these events. However, if it was unscheduled, nothing could be done and I can only rely on my stop-loss order to protect me. More often, pieces of news hit the market but I could not detect any impact on price action. This means that these news items www.tradingsetupsreview.com

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do not have any profound impact on prices. In that case, these news items do not deserve my attention anyway. These pieces of news are not significant. In summary, a significant news event affects price action. So, pay attention to price. When a significant news event strikes, you will know. Then, if you can, avoid it the next time. If you can’t, don’t worry about it.

7.3.5 - FDAX 10-Minute Example This final Pressure Zone example shows two setups. Like many examples before, the second instance is superior.

2. First bearish Pressure Zone with an outside bar as the setup bar

3. Second Pressure Zone (resistance from the Congestion Zone)

1. Rejection by the broken bull trend line confirmed the bearish bias Figure 7-15 A better second chance

1. This session opened with a gap below the bull trend line. The two strong bullish bars tried to resume the bullish trend but were clearly resisted by the broken bull trend line. Thus, we took on a bearish market bias.

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2. The first bearish Pressure Zone offered an entry with a bearish outside bar. While this setup was acceptable, it did not enjoy confirmation from other price patterns. Hence, it was just an average setup. 3. The second Pressure Zone setup was much better. It found resistance within a Congestion Zone (solid box). Furthermore, although this setup bar was again an outside bar, it had a narrower range, and hence a smaller trade risk. Overall, the second setup was of better quality and looked promising. Look at Figure 7-16 to see the result of this short trade.

Profit potential

Figure 7-16 Bears took over

In this case, it was a challenge to lose money.

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7.4 - Conclusion The Pressure Zone is a simple but powerful way to identify sustained buying or selling pressure. A Pin Bar pinpoints buying or selling pressure with the length of candle shadows. The Pressure Zone places less emphasis on the length of a single shadow and instead focuses on the breadth of the zone formed by multiple shadows to find reliable signs of bullish or bearish pressure. However, this price pattern has an important drawback. Consecutive bars with overlapping shadows also occur frequently within congested markets. Hence, if a Pressure Zone is also part of a congestion pattern, trade carefully. For beginners, simply skip such instances.

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Chapter 8 – Anxiety Zone 8.1 - The Psychology Behind Anxiety is not pleasant. Anxious people make mistakes due to indecision and unstable emotions. Anxious traders are slaughtered in the market.

“Anxiety is an unpleasant state of inner turmoil, often accompanied by nervous behaviour, such as pacing back and forth, somatic complaints and rumination.” Seligman, Abnormal Psychology When do traders get anxious and nervous? Traders get anxious when they face the prospect of losing money. Traders get nervous when they trade against the trend. This is because they know that the odds are against them. However, they could not resist the lure of catching tops and bottoms, so they go against the trend anyway. Look at Figure 8-1. It shows a market with a bullish bias. A bearish Pressure Zone formed at the top of the trend. The last bar of the Pressure Zone offered us a bearish setup bar.

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2. Bearish Pressure Zone

3. Setup bar 1. Bullish market bias

Figure 8-1 Doing dumb things

Should we take this short setup? After an entire volume on market bias and dozens of trading setup examples, we know better than to trade against the market bias. However, for the sake of explaining the Anxiety Zone, let’s play dumb and imagine that we sold a tick below this setup bar. Naturally, we would place our stop-loss order a tick above the setup bar as shown in Figure 8-2.

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Stop-loss

Entry Anxiety Zone

Figure 8-2 Between our entry and stop-loss lies anxiety

The area between our entry and our stop-loss is what we call the Anxiety Zone. It is simple to understand why. Remember that we shorted below the setup bar at the price level marked “Entry” in Figure 8-2. If the market stays below our entry price, our profit and loss reflects a nice greenish number - a profit. We will be happy. If the market rises straight up above our stop-loss, we exit the market at a loss. We will be unhappy. However, if price stays between our entry and our stop-loss, our profit and loss shows an ugly red mark. We are not losers, yet. But the prospect of becoming one is undeniable. And that prospect makes us anxious and nervous. We are jittery. A small nudge will push us over the edge and into giving up on our positions. Figure 8-3 shows the nudge that resolved the anxiety into regret.

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2. The break of this bar high was the nudge that tipped the balance

1. Bullish bar within the Anxiety Zone Figure 8-3 Nudging anxious traders out of their short positions

1. The bullish bar moving into the Anxiety Zone represents the market moving against us. We became anxious because it seemed like the worst case scenario, which was price moving against us almost immediately after our entry. Furthermore, the market did not move much in our favour, which meant that even traders aiming for small profits (scalpers) were still trapped in this sticky situation. 2. When the market pushed above the high of the bullish bar, some of us started to exit, which prompted more traders to cover their shorts. This escalated in a spiral fashion to hit the stop-loss above the setup bar and the upwards trend resumed. The effectiveness of the Anxiety Zone arises directly from the anchoring bias. Traders committed to a trading position are anchored to their entry price and stop-loss level. In this case, we are the biased traders. Hence, we became anxious when our trading positions showed paper losses. We were anxious enough

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to cover our positions in response to the slightest show of strength by the bulls. Of course, when we trade the Anxiety Zone, we are not going to be the anxious traders. We are going to switch roles and become the force that pushes them out of the Anxiety Zone. Naturally, this trading strategy works best when the intense fear and hope of the anxious traders are most apparent.

8.2 - Identifying the Anxiety Zone In finding Anxiety Zones, we will look for counter-trend versions of setups discussed earlier. Thus, you should be familiar with the earlier setups we covered before continuing.

8.2.1 - Anxiety Zone Finding an Anxiety Zone is a simple two-step process. If you can imagine yourself as a counter-trend trader, it makes things easier. (Just imagine, don’t become one.) This is how we look for an Anxiety Zone. 1. Look for a counter-trend setup near the top of a bull trend or the bottom of a bear trend. 2. Once the counter-trend setup bar is triggered, the area between the bar’s high and low is the Anxiety Zone. A long setup bar is triggered if the next bar moves above its high. A short setup bar is triggered when the next bar moves below its low. Figure 8-4 shows how we find a bullish Anxiety Zone in an upwards trend.

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Chapter 8 – Anxiety Zone 3. Project an Anxiety Zone from the high and low of the triggered setup bar

1. Bearish Anti-climax

2. Short setup bar triggered

Figure 8-4 Drawing a bullish Anxiety Zone

1. In a bullish market, a bearish Anti-climax pattern formed. 2. The bearish inside bar was the setup bar of the Anti-climax short setup. The following bar moved below the setup bar by a tick to trigger it. 3. Using the high and low of the triggered setup bar, we projected a bullish Anxiety Zone. Figure 8-5 shows an example of an Anxiety Zone in a bearish market.

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3. Setup bar triggered

1. Bullish Anti-climax 2. Bullish Pressure Zone

4. Project an Anxiety Zone from the high and low of the triggered setup bar

Figure 8-5 Drawing a bearish Anxiety Zone

1. A bullish Anti-climax formed in a bear trend. The next bar was a setup bar, but it was not triggered. Thus, we were not able to project an Anxiety Zone with it. 2. The next few bars formed a bullish Pressure Zone setup. With two consecutive bullish patterns, we expected interest from counter-trend traders. 3. Moreover, the setup bar was a bullish bar with a long lower shadow. Lower shadows always look good to buyers. The subsequent bar broke the high of the setup bar and triggered it. 4. Using the high and low of the triggered setup bar, we projected a bearish Anxiety Zone. Other than the bullish Anti-climax and Pressure Zone, there was also a bullish outside bar followed by the setup bar with a long bottom shadow (implying buying pressure). Hence, the countertrend setup in Figure 8-5 was particularly attractive. As a result,

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the corresponding Anxiety Zone had a greater number of potential anxious traders which enhanced its effectiveness. Like Pressure Zones and Congestion Zones, Anxiety Zones can also become invalid. A bullish Anxiety Zone becomes invalid when:  

A bar clears below it; or Price hits the high of the Zone.

An example is shown in Figure 8-6.

1. Bearish Pressure Zone

3. If price crosses this level, the Zone becomes invalid as well

Anxiety Zone

2. This bar cleared below the Zone, making it invalid Figure 8-6 A bar clearing below a bullish Anxiety Zone

1. The bearish Pressure Zone in a bull trend led us into marking out an Anxiety Zone. 2. However, once a bar cleared below the bullish Anxiety Zone, the Zone becomes invalid. The clearing below of the Anxiety Zone was a sign of bearish strength and had possibly reduced

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the worries of counter-trend traders. This means that the Anxiety Zone had become less effective. 3. Even if price did not clear below the Zone, the Zone can still be invalidated if the market crosses the high of the Zone. When the market moves above the Anxiety Zone, it means that the anxiety has probably been resolved into feelings of regret. The implication is the same. The Anxiety Zone is no longer potent. A bearish Anxiety Zone becomes invalid when:  

A bar clears above it; or Price hits the low of the Zone.

Figure 8-7 shows an example of a bearish Anxiety Zone becoming invalid.

2. This bar cleared above the Zone, making it invalid.

Anxiety Zone

1. Bullish Anticlimax

3. If price crosses this level, the Zone becomes invalid as well.

Figure 8-7 A bar clearing above a bearish Anxiety Zone

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1. We drew an Anxiety Zone that could potentially trap traders who bought against the bear trend with the bullish Anti-climax pattern. 2. However, this bar moved entirely above the Zone, rendering it invalid. It was a sign of bullish strength and had possibly reduced the worries of counter-trend traders. 3. Another way for the Zone to become invalid is for price to cross the low of the bearish Anxiety Zone.

8.2.2 - Long Anxiety Zone Setup Figure 8-8 illustrates a long Anxiety Zone setup.

1. Bullish Anxiety Zone

3. Place a buy stop order at the high of this bar.

4. Cancel the order if it is not triggered by this bar. 2. Bullish bar overlapping with the Anxiety Zone (setup bar)

Figure 8-8 Long Anxiety Zone setup

1. Bullish Anxiety Zone 2. Wait for a bullish price bar that overlaps with the Anxiety Zone. 3. Provided that the Zone is still valid, place a buy stop order a tick above the high of the bullish price bar. www.tradingsetupsreview.com

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4. Cancel the order if it is not triggered by the next bar.

8.2.3 - Short Anxiety Zone Setup Figure 8-9 explains the short Anxiety Zone setup.

1. Bearish Anxiety Zone

3. Place a sell stop order at the low of this bar

2. Bearish bar overlapping with the Anxiety Zone (setup bar)

4. Cancel the order if it is not triggered by this bar

Figure 8-9 Short Anxiety Zone setup

1. Bearish Anxiety Zone 2. Wait for a bearish price bar that overlaps with the Anxiety Zone. 3. Provided that the Zone is still valid, place a sell stop order a tick below the low of the bearish price bar. 4. Cancel the order if it is not triggered by the next bar.

8.2.4 - Important Notes Outside bars do not form reliable Anxiety Zones. If you do use outside bars for projecting Anxiety Zones, wait for a second incursion into the Anxiety Zone before considering a trade. (The enhanced reliability of second incursions is explained in the NQ 10-Minute Example below.)

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Anxiety Zone trading setups are not common in lower time frames. If you do not find them, increase your trading time frame. As Anxiety Zones form within a tight band near the extreme of a trend, they seldom get confirmation from other trading setups except for the Trend Bar Failure pattern. Hence, market bias analysis is the key to determining the quality of this setup. Overall, the Anxiety Zone is an advanced trading setup. Attempt other setups and familiarise yourself with them before looking for Anxiety Zones.

8.3 - Trading the Anxiety Zone 8.3.1 - CL 4-Minute Example The CL chart below shows a bearish market with an effective bear trend line extended from the previous session.

2. The first serious attempt to rise was rejected

4. Bullish Pressure Zone entry bar

5. Bearish setup bar in the Anxiety Zone

1. Gapped down and cleared last pivot low for two bars

3. Bullish Pressure Zone against the trend

Figure 8-10 Anxiety Zone (based on Bullish Pressure Zone)

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1. The session opened with a down gap to test the last pivot low. The second and third bar stayed below the support level projected from the last pivot low. It was a sign of bearish momentum. 2. The strength of the bears was soon doubted as the market rose up with a clear bullish bar. However, the upthrust was short-lived as the market rejected the ascent immediately. 3. As prices fell, the market offered resistance with a bullish Pressure Zone setup. Since the start of this session, we have not seen conclusive force from either the bulls or the bears. Hence, we expected the bullish Pressure Zone setup to attract some traders to go long. However, we would not join them because our market bias was pointing down. 4. The bullish Pressure Zone setup was triggered by this bar. Thus, we were able to establish an Anxiety Zone with it. Instead of buying with the bullish Pressure Zone, our strategy was to wait for its failure within the Anxiety Zone. 5. Our Anxiety Zone setup bar came quickly as a bearish bar materialised. By shorting when the market broke the low of this bar, we caught the beginning of a downwards trend that lasted the entire session.

8.3.2 - NQ 10-Minute Example Second incursions into an Anxiety Zone offer more reliable setups. Figure 8-11 below shows an example.

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3. Bearish Pressure Zone

5. First setup bar not triggered

2. Price continued the bull trend with strength

4. Bullish Anxiety Zone

6. Second setup bar triggered

1. The market tried to reverse this bullish Pin Bar for 11 bars but failed

Figure 8-11 A more reliable second incursion

1. This bullish Pin Bar was the most outstanding feature on this chart. The market used 11 bars trying to fight it but lost. This failure lent credence to a bullish bias hypothesis. 2. The creation of new trend highs with strong momentum confirmed the bullish bias. 3. A short Pressure Zone setup (solid box) presented itself near the top of the bull trend. We had no intention of shorting the market, but we paid attention to it in order to construct an Anxiety Zone. 4. Once the bearish setup bar was triggered, we drew the corresponding bullish Anxiety Zone (dotted box). 5. As the first Anxiety Zone setup bar was not triggered by the next bar, we cancelled the buy stop order.

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6. The second setup bar was a smaller bullish reversal bar that moved into the Anxiety Zone. Not only did it offer a lower risk entry, it was a more reliable setup bar. Why is a second incursion into the Anxiety Zone more reliable? Recall the psychological underpinnings of the Anxiety Zone. When the market moves into the Anxiety Zone for the first time, the counter-trend traders become anxious. As the market moves in their favour out of the Anxiety Zone, they feel relieved. However, if the market moves back into the Zone again, their relief is replaced by a sense of anxiety greater than before. In fact, fear might be a better word in this case. Since the effectiveness of the Anxiety Zone depends on how anxious the trapped traders are, the second incursion implies a better setup. If you want to gun for high probability trades, you can ignore first setup bar regardless of whether the market triggers it or not. Place your order only when you get a second setup bar. However, this method sacrifices the quantity of trading opportunities.

8.3.3 - ES 10-Minute Example This example shows the ES market in a prolonged bull run. Look at the bull trend line at the bottom right hand corner of Figure 8-12. The market had risen far above it. In markets like this, counter-trend traders are tempted because they think that the bull trend might be overextended.

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2. A bearish Marubozu trapped the bears and formed an Anxiety Zone

1. Bearish Anti-climax 4. Bullish setup bar 3. These two bars freaked out traders who went short Figure 8-12 A devilish Marubozu

1. A bearish Anti-climax threatened to reverse the bull trend. It did in fact manage to stop the market for the next three bars (Dojis). 2. Opening at its high and closing at its low, a bearish Marubozu is the ultimate bearish candle. In this case, it appeared after an Anti-climax pattern and seemed like the start of an urgent bear thrust. We could confirm that counter-trend traders had showed their hands. Hence, when the Marubozu was triggered, we projected an Anxiety Zone to trade its potential failure. (Note that the Marubozu and the following bar formed a bullish Trend Bar Failure setup as well. However, the setup bar was not triggered.) 3. The first two bars after the entry of counter-trend traders foretold the failure of the bears. Both bars did not close below the Anxiety Zone. From the perspective of the counter-trend

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traders, their short positions showed paper losses right after their entry and were unable to sustain any paper profits. What could possibly make the counter-trend traders more nervous than this? 4. Hence, this bullish Anxiety Zone setup held promise. The bullish setup bar rose right to the high of the Anxiety Zone. When the market ticked above it, most counter-trend traders would take that as a sign to cover their short positions.

8.3.4 - 6E 60-Minute Example Market bias analysis is more important than setup analysis. This is why we spend more time examining the price action context in Figure 8-13.

5. Bullish Anxiety Zone 4. Bearish Deceleration and Pressure Zone 1. Show of bearish momentum in a sluggish bull market

2. Attempt to push below the last valid low failed

3. Very strong upthrust

Figure 8-13 A very bullish break-out

1. It was a sluggish bull market. Hence, when the bears pushed below the previous swing low with momentum to form a tested low, we stopped looking for long setups and paid close www.tradingsetupsreview.com

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attention. As the market later rose up to make a new trend high, this tested low evolved into a valid pivot low. 2. The bears tried to assert their strength again. However, they failed to close below the newly-formed valid low. 3. Instead, prices shot up with great momentum, breaking out of the sluggishness. 4. The upthrust, although strong, formed a short setup with a Deceleration pattern and a Pressure Zone. 5. While we did not take the bait to go against the powerful bulls, some traders did. And we drew an Anxiety Zone to watch for its potential failure. Shortly after, a bullish setup bar appeared and led us into a profitable long Anxiety Zone trade. Figure 8-14 shows how this Anxiety Zone trade turned out.

Measured move target projection

Bought here

Figure 8-14 Outcome of the Anxiety Zone trade (Measured move target)

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The target projected by a measured move of the bullish thrust was optimal here. Setting targets with measured moves of directional thrusts is covered in the next volume.

8.3.5 - NG 6-Minute Example In terms of the market context, this example is similar to the 6E example in Figure 8-13. Both examples show a deeper bearish pullback that was rejected by the market with strong bullish momentum. Figure 8-15 starts with the first bar of the trading session. Based on the price action from previous sessions, our market bias was bullish when the session began.

3. Anxiety Zone based on a bearish Anti-climax setup

2. Pushing the trend higher with momentum 5. Second setup bar which also completed a bullish Pressure Zone 1. This tested low did not clear below the last swing low

4. First setup bar

Figure 8-15 A failed bearish Anti-climax setup

1. The first tested low of the session looked promising with a strong bear trend bar closing below the last swing low. However, as more price action unfolded, it was clear that the downswing could not muster enough momentum to clear the last pivot low. www.tradingsetupsreview.com

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2. Instead, the bearish thrust was rejected clearly with strong bullish momentum that led to a new high in the bull trend. 3. At this new trend high, a short Anti-climax setup emerged with a nice little bearish reversal bar as the counter-trend setup bar. When the next bar ticked below this setup bar, we marked out the Anxiety Zone (dotted box). 4. The bears were sorely disappointed when the market reversed up with a bullish Pin Bar into the Anxiety Zone. That was our first long Anxiety Zone setup bar. It was triggered by the next bar but the bullish strength did not persist. 5. The second move up into the Anxiety Zone offered us a second setup bar, which also completed a bullish Pressure Zone. Comparing the two Anxiety Zone setup bars, the second opportunity was superior. The counter-trend signal in this case was not particularly attractive. While some traders might be tempted by the small risk offered by the relatively narrow bearish reversal bar, many other traders would not risk going against the recent firm bullish momentum. Thus, we did not expect many counter-trend traders to be trapped. This is why the first setup bar was not a high quality one. The second setup bar was the second incursion into the Anxiety Zone. The number of trapped counter-trend traders might not have increased substantially compared with the first setup bar. Then, why is this bar a better trading opportunity? This is because of its reliability and timing. As the setup bar was near the top of the bull trend, the break of its high would signal

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without a doubt that the bulls were in control. Hence, this setup bar was reliable. In addition, the market could have rose up with a much stronger thrust, pushing to a new trend high. In fact, that was the more likely scenario given the complete lack of bearish momentum. But it did not. Instead, it paused just below the trend high, offering us an excellent timing to join the rising market with relatively low risk.

8.4 - Conclusion The Anxiety Zone is the ultimate failure trade. Most trading strategies wait for a sufficiently deep pullback before joining the trend. The question in those trading strategies is how deep is sufficient. The approach of the Anxiety Zone setup is different. We do not look for deep pullbacks. Instead, we look for good timing within a sensitive area (the Anxiety Zone) where counter-trend traders are likely to be emotional. Very often, it is near the top of a bull trend or the bottom of a bear trend. You can also relate the Anxiety Zone to the Trend Bar Failure pattern. Both are failure trades. The Anxiety Zone is almost like an extended version of the Trend Bar Failure. Indeed, in some cases, an Anxiety Zone setup is also a Trend Bar Failure setup. The Anxiety Zone is more of a concept rather than a precise setup.9 Hence, when looking for counter-trend setups that might lead to Anxiety Zones, you are not limited to the setups in this volume. I only use the trading setups detailed in this book because these are the patterns I trust and understand. This is why in the indicator pack (available separately), you will not find the Anxiety Zone indicator. Anxiety Zones can be created with any counter-trend setup. 9

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But in your trading, feel free to look for other price action setups that are trying to reverse the trend in order to find Anxiety Zone setups. Of course, the concepts underlying this setup remain. Look for attractive counter-trend setups in a clear trend. In all, the success of the Anxiety Zone setup depends on a clear market bias and a tempting counter-trend setup. The countertrend setup must be tempting enough to make traders ignore the clear market bias right in front of them.

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Chapter 9 - Weak Pullback

Chapter 9 - Weak Pullback 9.1 - The Psychology Behind In a bull trend, every pullback gives hope to the bears. They hope that it is the beginning of a new bear trend that will give them windfall profits. They hope. But the fact is that hope does nothing. Without a show of conviction from the sellers, this hope for bearish action will slowly dissipate and eventually reverse into bullish resignation. To the hopeful bears, the manner of pullback matters. If the pullback down is sluggish, bearish traders will lose hope while bullish traders will regain confidence. If the pullback down is strong and signals bearish conviction, the bears will get more aggressive and the bulls will start to doubt their positions. How do we make use of this understanding to find setups? Look for a weak pullback down in a strong market that is going up. Or find a weak pullback up in strong bearish market. Then, join the confident group and crush the hopes of the counter-trend traders. How do we find weak pullbacks? Let’s assume the position of a trader who just shorted against a bull trend. What kind of price action will embolden you? What www.tradingsetupsreview.com

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kind of price movement will convince you that you were right to go against the trend? To answer that question, let’s look at a couple of real price charts. If you shorted here, are you feeling good now?

Figure 9-1 A weak pullback down in a bull trend

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If you shorted here, are you feeling good now?

Figure 9-2 A strong pullback

Look at Figure 9-1 and Figure 9-2. Both pullbacks consist of two downswings. But which one shows serious attempt to reverse? Which is a weak pullback? It is clear. While Figure 9-1 shows a sluggish pullback down, Figure 9-2 shows the participation of many sellers or at least sellers who were more eager to sell. Let’s look at what happened after these two pullbacks. Figure 9-3 below shows the price action after the weak pullback you saw in Figure 9-1.

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The trend continued with good momentum The weak pullback shown in Figure 9-1

Figure 9-3 Trend resumed after the weak pullback

Figure 9-4 below shows the price action after the deeper pullback you saw in Figure 9-2.

Transition from bull trend to bear trend

The strong pullback shown in Figure 9-2

Figure 9-4 Trend reversal after a strong pullback

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Following this logic, weak pullbacks are great setups for joining a trend. The problem is that “weak” and “strong” are subjective terms. How do we decide if a pullback is weak or strong? This is the question we will answer next.

9.2 - Identifying the Weak Pullback Take a closer look at Figure 9-1 and Figure 9-2. Why did you feel that one pullback was weak and the other was strong? As a trader who shorted right before the pullback, what made you afraid?

9.2.1 - Weak Pullback Let’s learn how to identify a Weak Pullback from a bullish trend perspective. In a bull trend, a strong pullback has two key features. The first is a series of consecutive bearish bars. The second is the presence of strong bearish bars (i.e. bear trend bars). Hence, a Weak Pullback is one that lacks these features. The criteria for identifying Weak Pullbacks are stated below, together with examples.

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9.2.2 - Weak Pullback in Bull Trend A practical method to look out for Weak Pullbacks in a bull trend is to assume that all pullbacks are Weak Pullbacks, until you see one of the following price formations.  

Three or more consecutive bearish bars (close lower than open) Two or more consecutive bear trend bars

Figure 9-5 shows a pullback in a bull trend. It is not a Weak Pullback, for the reasons stated below.

1. Four consecutive bearish bars

2. Three consecutive bearish bars

Figure 9-5 Not a Weak Pullback

1. This streak of four bearish bars negated the possibility of a Weak Pullback. 2. This series of three bearish bars had the same effect. Figure 9-6 below shows an example of a Weak Pullback in the context of a bullish trend. www.tradingsetupsreview.com

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1. A single bear trend bar with no follow-through

2. Two consecutive bearish bars, but only the first was a trend bar

Figure 9-6 Weak Pullback

1. The first swing downwards started with a bear trend bar. If another bear trend bar followed it, we would not have a Weak Pullback. However, the following bar was a bullish reversal bar. The bearish push was not sustained. 2. The second swing had two consecutive bearish bars. However, only the first one was a trend bar. Hence, a Weak Pullback was still possible. When the second downswing ended, we got ourselves a Weak Pullback formation.

9.2.3 - Weak Pullback in Bear Trend To look out for Weak Pullbacks in a bear trend, assume that all pullbacks are Weak Pullbacks, until you see any one of the following price formations. 

Three or more consecutive bullish bars (close higher than open)

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

Two or more consecutive bull trend bars

Figure 9-7 show examples of pullbacks that are not Weak Pullbacks.

1. Five-bar bullish thrust

2. Two consecutive bull trend bars

Figure 9-7 No Weak Pullbacks in this bear trend

1. This series of five bullish bars was a clear sign that we didn’t have a Weak Pullback on hand. 2. Bull trend bars are solid indicators. Two consecutive bull trend bars were sufficient to negate the possibility of a Weak Pullback. After looking at negative examples, now it’s time to look at an example of a bearish Weak Pullback. Figure 9-8 below shows such an example.

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2. Two bullish bars that lacked power

1. Buying pressure might have caused some worry

Figure 9-8 A nice Weak Pullback in a bear trend

1. The long lower shadows here formed a bullish Pressure Zone that might have caused some worry for the bears. 2. However, we did not see any signs of bullish strength. There was no series of at least three consecutive bullish bars. There was no bull trend bars at all, not to mention two consecutive bull trend bars. This pullback was in every sense a Weak Pullback.

9.2.4 - Trading the Weak Pullback The Weak Pullback is defined here as a technical setup, that you should consider together with your assessment of the market bias and the possible price target options. It does not imply any guaranteed outcome. A Weak Pullback might lead to a trend reversal. And a trend regularly resumes after a strong pullback. This is why a trend is the true source of our trading edge. www.tradingsetupsreview.com

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When trading a Weak Pullback, ignore one-swing pullbacks.10 Why? A single swing pullback reveals little information. Each market swing turns the price direction and draws interest. The more swings, the greater the market interest. Hence, a one swing pullback does not generate much interest. It cannot imply sustained counter-trend interest. At the same time, it does not confirm the conviction of the trend traders. A single swing pullback does little and shows less. A multi-swing pullback allows the counter-trend traders more time to see if there’s follow-through for their ambitious reversal project. It also gives the trend traders a chance to observe if the counter-trend traders are serious this time. Each swing against the trend is a chance for counter-trend traders to show their force. Hence, multi-swing pullbacks imply that there were ample chances for counter-trend traders to show their strength. If the counter-trend traders fail to make their mark on the chart despite the ample opportunities, the trend traders have a good case. The above explains why you will find additional limiting criteria in the trading rules that follow. In essence, we wait for a second counter-trend swing before looking for any setup.11

9.2.5 - Long Weak Pullback Setup Figure 9-9 below shows a long Weak Pullback setup.

Price swings as defined in Volume II. If you are not sure of how to mark price swings, refer back for clarification before proceeding. 11 As Weak Pullbacks involve at least a second counter-trend swing, it resembles Al Brooks’ M2B and M2S setups. A Weak Pullback is a stricter version. 10

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1. No sign of bearish strength in the pullback that started from here

3. Place a buy stop order above the high of this bar

2. Second downswing started here

Figure 9-9 Long Weak Pullback setup

1. Ensure that a Weak Pullback is present. 2. Wait for the second downswing to start before looking for a setup bar. 3. Place a buy stop order a tick above the high of any bullish price bar that follows a bearish bar.12 4. Cancel the order if the next bar does not trigger it. You can place a new order based on subsequent bullish twobar reversals. At any point, if strong bearish price action forms and destroys the Weak Pullback premise, stop looking for any Weak Pullback setup until the bull trend resumes. Figure 9-10 below shows an example.

12

Essentially a bullish two-bar reversal

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1. These are not bear trend bars 2. Second downswing started here 3. Three consecutive bearish bars; stop looking for a Weak Pullback setup Figure 9-10 Weak Pullback negated on the second downswing

1. The first downswing did not exhibit bearish strength. 2. Hence, when the second downswing commenced with this bar, we were on alert for any bullish setup bar. 3. However, this bar completed a series of three consecutive bearish bars, a sign of bears with conviction. Hence, we gave up our search for a Weak Pullback setup.

9.2.6 - Short Weak Pullback Setup Figure 9-11 below shows a short Weak Pullback setup.

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2. Second upswing started here 1. No sign of bullish strength in the pullback that started from here Figure 9-11 Short Weak Pullback setup

1. Ensure that a Weak Pullback is present. 2. Wait for the second upswing before looking for a setup bar. 3. Place a sell stop order a tick below the low of any bearish bar that follows a bullish bar.13 4. Cancel the order if the next bar does not trigger it. You can place a new order based on subsequent bearish twobar reversals. At any point, if strong bullish price action forms and destroys the Weak Pullback premise, stop looking for any Weak Pullback setup until the bear trend resumes.

9.3 - Trading the Weak Pullback Before we start with the trading examples for Weak Pullback, take note two important conditions. These conditions will improve the quality of Weak Pullback setups. 13

Essentially a bearish two-bar reversal

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First, avoid opposing momentum shown by tested pivots. Momentum against the trend is in many cases a show of strength by the counter-trend traders. Next, you will find that many Weak Pullbacks are so weak that they form tight congestion patterns. Avoid such Weak Pullbacks if the congestion is prolonged and erratic. This is especially important if the congestion pattern forms after the trend hits a major support/resistance. These tips will get clearer as we work through the examples below.

9.3.1 - ES 10-Minute Example The example below in Figure 9-12 shows a two-legged pullback in a session that was clearly bearish.

2. Clear bearish momentum

4. Setup bar for both Weak Pullback and Trend Bar Failure

1. Gapped away from the broken bull trend line

3. All bullish bars in the pullback had no follow-through Figure 9-12 Short Weak Pullback with no congestion

1. The first bar of the session gapped below and away from the most recent bull trend line. www.tradingsetupsreview.com

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2. Bearish momentum was established firmly. Even though there was no bear trend line yet, we turned our market bias bearish. 3. A pullback upwards started here. It was an obvious Weak Pullback. All four bullish bars in the pullback did not enjoy follow-through. 4. This bar served several purposes. It started the second upswing which prompted us to start looking for a Weak Pullback setup. Then, as it ended as a bearish bar, it became the short setup bar for two setups - the Weak Pullback and a Trend Bar Failure. It also showed the last swing high working as a resistance, pushing the bulls back down. The best aspect of this setup was its lack of congestion. This pullback clearly lacked bullish strength. From afar, it looked congested. However, if you took a closer look, according to our definition of congestion, it did not form any congestion pattern. The absence of a congestion pattern in this Weak Pullback was a plus. It indicated that this pullback was a genuine but weak attempt by the counter-trend bulls to reverse the trend.

9.3.2 - NQ 3-Minute Example The chart below (Figure 9-13) shows another bearish example of a Weak Pullback setup. Like the previous example, this setup occurred after a strong bearish thrust.

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3. The first bar was a trend bar but the next one was not 4. Short Weak Pullback setup bar

1. This outside bar brought the market away from the broken bull trend line - bearish bias

2. These were short Anxiety Zone setup bars that failed

Figure 9-13 Failure of a failed Anxiety Zone

1. This outside bar led to a series of bearish bars that cleared below the last swing low. Given that the bull trend line has just been broken, our market bias turned bearish. 2. These bars were setup bars for a short Anxiety Zone. Stoplosses placed above these bars were taken out. It was an excellent Anxiety Zone setup. When a solid short setup fails, we expect the bulls take over quickly and forcefully. (But, as we shall see in this case, the bulls did not take over with strength.) 3. Here, we pointed to two bars. The first one was a bull trend bar, but the second one was not. The sustained bullishness we expected did not materialise. That was a bearish sign. 4. In this two-legged pullback, there was no sign of at least three consecutive bullish bars or two consecutive bull trend bars. Hence, this bearish bar served as the setup bar for a Weak Pullback trade.

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9.3.3 - CL 3-Minute Example In Figure 9-14 below, the market gave subtle clues of a new bull trend towards the end of a session.

2. Cleared above the last swing high

4. The Congestion Zone worked as a good support

1. This bar confirmed the valid low for drawing a new bull trend line

Valid low

3. A long Weak Pullback and Trend Bar Failure setup bar with the support of a Congestion Zone and the bull trend line

Figure 9-14 More than one reason to take this Weak Pullback setup

1. This bar closed above the bear trend line. It confirmed the valid swing low and enabled us to draw a bull trend line. We adopted a bullish bias. 2. While the next bar was bearish, it managed to stay above the last swing high. (The last swing high was the bar high of the third bar in the Congestion Zone dotted box.) It was a sign of bullish momentum. With a bull trend line and supportive momentum, we gained confidence in our bullish bias. 3. This Weak Pullback setup bar was also a Trend Bar Failure setup bar for the bulls. Not only that, it enjoyed the support of the bull trend line and a Congestion Zone. It was a great setup.

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4. The market tried to resist the developing bull trend. However, the Congestion Zone proved to be an effective support in this case. It protected the stop-loss for the Weak Pullback setup from the downthrust.

9.3.4 - 6J 30-Minute Example In a nascent trend, it pays to be careful and wait for a better trade setup. Figure 9-15 below shows such an example.

2. Broke the bear trend line with solid momentum

3. Anxiety Zone and Trend Bar Failure long setup bar; better to skip

1. The first hint that the bearish trend might be over

4. Weak Pullback with Congestion Zone support

Figure 9-15 First is good, second is better

1. The market rejected the attempt to move lower. This wide range bullish outside bar with a long lower shadow was the result. It hinted that the bear trend might be over. Of course, it was premature to start looking for long setups. It was an early warning. That’s all. 2. In a healthy bear market, a wide range bullish bar would stall and fail to generate momentum. Yet, in this case, it did not hesitate in pushing the market up. The upswing broke the bear

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trend line and the last swing high with solid momentum. A technical bullish bias was assumed. 3. A long Anxiety Zone and Trend Bar Failure setup formed. (The Anxiety Zone had a bearish Pressure Zone setup as its basis.) Was it a good idea to take this setup and go long? We held a bullish bias because there was bullish momentum and a strong break of the bear trend line. But we were missing something. We missed a bull trend line. Without a bull trend line or further sustained bullish swings, we were holding the bullish bias as an uncertain premise. Hence, it was better to skip this setup and wait for the next one. (Specifically, we wanted to take a re-entry equivalent setup, an idea that forms the subject matter of Chapter 12.) 4. This two-legged pullback down did not show bearish strength. Hence, this bullish bar offered a long Weak Pullback setup. It was a nice bullish reversal bar with the support of a Congestion Zone. It was also a re-entry setup. Hence, it was good enough even for our uncertain bullish premise.

9.3.5 - 6A 30-Minute Example It’s time for a reminder that no price pattern is perfect. They fail at times, for both good and bad reasons. The example in Figure 9-16 shows a losing trade. More importantly, it also shows that the overall price action context deserves more weight than the form of the price pattern setup.

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4. The setup failed immediately with a bearish outside bar

2. Overlapping Congestion Zones

3. Weak Pullback and Congestion Break-out Failure setup bar

Figure 9-16 Signs of reversal are bad for pullback trades

1. Both attempts to push the market higher were rejected. The selling pressure was clear in both cases, ending respectively with a long-legged Doji and a strong bearish reversal bar. These were warning signals. A reversal or at least a deep pullback might be round the corner. 2. These overlapping Congestion Zones signalled that the market has encountered significant resistance. Those hoping for a healthy bull trend would have been disappointed. It was evident that the bull trend was struggling. 3. This was a bullish setup bar for a Weak Pullback and a Congestion Break-out Failure. In isolation, it looked good. However, given the bearish signs highlighted earlier, it might be wise to skip this setup.

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4. If we had insisted on taking this trade within this mess of congested price bars, we would have been stopped out by the entry bar itself – a bearish outside bar.

9.4 - Conclusion Most Weak Pullback setups come right after a trend line break. A trend line break signals a trend reversal, and the birth of a new trend in the other direction. Weak Pullbacks are common in new trends. In mature trends, pullbacks tend to be stronger and Weak Pullback setups do not form as frequently. The best Weak Pullbacks come after a strong price thrust, not within an area of congestion. From our discussion above, you might have noticed that the Weak Pullback setup is similar to an Anxiety Zone setup. Indeed, they share the common basis of trapping counter-trend traders. In some examples, a Weak Pullback might be an Anxiety Zone as well. The difference between them is minor. Both setups prey on the fear and anxiety of trapped traders. Don’t be bothered by the need to demarcate them. There’s no point in doing so as there are many overlaps among price action concepts. What is more important is to make use of what we know about price action to think of market conditions we look out for to help us find trading opportunities. In the Weak Pullback setup, we’ve used our understanding of price action to define patterns that show strength (consecutive price bars in the same direction). Then, we apply this definition to the market to look for Weak Pullbacks. Once you get used to

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this approach to the market, you will start seeing new trading opportunities within the same old price action.

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Chapter 10 – High Quality Setups After learning eight price patterns and working through dozens of trading examples, it is time to review our experience and identify the characteristics of high quality setups. But before that, let’s clarify the meaning of high quality setups. As highlighted in the introduction, the greatest value of a trading setup is not the entry it offers, but the stop-loss it implies. For price action setups, our stop-loss is always one tick below a long setup bar or one tick above a short setup bar. Accordingly, a high quality setup offers a reliable stop-loss point that the market is unlikely to hit in the near future. The stop-loss of a high quality setup is often a solid support point in a bullish market or a resistance point in a bearish market. Another important concept is that high quality setups are not necessarily more likely to be profitable. Whether or not a trading setup ends up with profits depends on a few other critical variables that we will elaborate on in the next volume. We cannot assess the likelihood of making money by looking at trading setups in isolation. Please bear in mind that you should evaluate the market bias before assessing individual trading setups. The market bias trumps any individual trading setup. If we get the market bias wrong, regardless of the quality of the trading setup, it will not work out over the long run. There are three factors you should consider in assessing the quality of a trading setup. They are listed below in decreasing order of importance.

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1. Support and Resistance 2. Confluence of Setups 3. Form of Individual Setups

10.1 - Support and Resistance A high quality setup usually occurs at a support or resistance level. A long trading setup at a support area is superior to one that is hanging in the air, so to speak. Reliable support levels include:     

Tested or valid pivot low Bull trend line Broken bear trend line (with price re-testing it as support) Valid Congestion Zone 50% retracement level of a strong bull swing

A short trading setup is more promising if it appears as the market tests a resistance area. Reliable resistance levels include:     

Tested or valid pivot high Bear trend line Broken bull trend line (with price re-testing it as resistance) Valid Congestion Zone 50% retracement level of a strong bear swing

Beyond just looking for trading setups at support and resistance areas, we should observe the interaction between price and the support/resistance areas. www.tradingsetupsreview.com

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Is price rejected from those areas? Figure 10-1 is replicated from an earlier example (Figure 3-16). It demonstrates the power of an effective support area.

Congestion Zones

Bullish Pressure Zone

Trend line test

Figure 10-1 High quality long setups at a solid support area

Figure 10-1 shows a bullish Pressure Zone setup that was decisively rejected from a support area consisting of a compound Congestion Zone and a bull trend line. After all, finding a good setup is about identifying a reliable stop-loss point, and support and resistance areas are the natural choices in bullish and bearish markets respectively.

10.1.1 - 50% Retracement We’ve discussed the support/resistance levels listed above with the exception of the 50% retracement level. I’m taking the chance to introduce it here as a useful trading tool.

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Measuring retracement in terms of the percentage of a price thrust is popularised by Fibonacci traders. Fibonacci numbers are found in nature and are often used in aesthetic applications. Not surprisingly, there is a sizeable group of traders who use Fibonacci numbers as a basis to predict market movement. Let’s not delve into the efficacy of individual Fibonacci methods.14 We are only interested in the concept of finding percentage retracements. In fact, 50 is not even a Fibonacci number. However, it is one of the most popular percentage number used for measuring retracements. Figure 10-2 shows how to draw a support zone using the retracement levels of a bull thrust.

100%

B

50% 61.8% Support zone based on 50% retracement of bullish thrust AB 0% A Figure 10-2 Projecting a support zone with a bullish thrust

To learn more about Fibonacci trading, refer to the Fibonacci section on the course resource page. 14

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The 50% and 61.8% retracement levels are projected to form a support zone. Using a price zone as support is more realistic than focusing on a specific price level. To draw effective support/resistance levels using the concept of 50% retracement, the key is the price thrust you choose. The price thrust must be a strong one that has momentum on its side. Ideally, a strong bull swing should have at least two bull trend bars and three consecutive bullish bars. An ideal bear swing for projecting a 50% retracement resistance level should have at least two trend bear bars and three consecutive bearish bars. Figure 10-3 below shows an example of a trading setup that formed within a 50% retracement resistance zone.

1. This powerful bear thrust worked well for marking a 50% retracement

Bearish Anti-climax at projected resistance and Congestion Zone

61.8% 50%

2. Congestion Zones Figure 10-3 Bearish Anti-climax at 50% retracement resistance zone

1. This downswing had three consecutive bearish bars, of which two were trend bars. It also cleared below the previous swing

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low (not shown) with good momentum. It was a solid candidate for projecting a 50% retracement resistance zone. 2. After pushing a little lower, the market started to drift sideways forming several congestion patterns. Hence, it was not surprising when the market rose firmly to break the bear trend line. 3. However, the upthrust ended as an Anti-climax pattern that bumped into the 50% resistance level projected with the bearish swing, and a congestion zone. This upthrust failed to clear above the preceding swing high. That was another bearish clue. At the same time, the setup bar also completed a bearish Trend Bar Failure setup. Given the confluence of resistance levels and setups, this trading opportunity was excellent. More specifically, the entry timing it offered was great. However, its profit potential was limited. First, given the merged congestion zone at the bottom of the trend, it would be difficult for price to push to a new low. Next, the session was coming to an end and there was not much time left for price movement. It was a good idea to target conservatively. We’ll discuss more about how to place realistic profit targets in the next volume.

10.2 - Confluence of Setups The best setups are seldom lonely. They often appear together or close to one another. By looking for a confluence of price patterns, we are able to identify the high quality setups. Examples of setup combinations include: www.tradingsetupsreview.com

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  

Bullish Deceleration finding support at a Congestion Zone Long Congestion Break-out Failure which is also a Trend Bar Failure (i.e. break-out bar is a trend bar) Bearish Deceleration rising into a bearish Pressure Zone

There are countless possibilities. The point is that when you find clusters of trading setups pointing in the same direction, you find quality.

Bearish Anti-Climax without clearing the Pressure Zone Bearish Pressure Zone

Setup bar for both patterns

Figure 10-4 Finding clusters (Pressure Zone with Anti-climax)

In the NG chart in Figure 10-4, the market tried to push above a bearish Pressure Zone. However, the push did not clear above the Pressure Zone and ended as a bearish Anti-climax pattern. The resulting bearish bar was the short setup bar for both the Pressure Zone and the Anti-climax pattern. This confluence of two setups implied that this opportunity to short was a high quality one.

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10.3 - Form of Individual Setups Not all patterns are equal, not even when they share the same name. The specific form of the pattern differentiates them. Each pattern has defining characteristics, and some are better defined than others. For each trading setup, the identification rules stated represent the minimum requirements. Each setup lies within a quality spectrum that ranges from “barely” to “clearly”. Some trading setups barely make it within our definition of a price pattern. Others clearly fit the mould of a solid price pattern. Since we understand the psychology behind each trading setup, we know how the ideal pattern should look like. We have already discussed the traits of a good setup in their respective chapters. The following is a summary of guidelines to help us assess the form of each setup. Setup

Form Guidelines

Congestion Break-out Failure Congestion Zone

Horizontal congestion pattern. Clear break-out bar and immediate failure. Clear rejection from the Zone.

Trend Bar Failure Deceleration

Clear trend bar against the market bias and lack of follow-through. Obvious slowing down of price thrust.

Anti-climax

Obvious quickening of price thrust.

Pressure Zone

Strong and clear rejection from the Zone without signs of congestion. Minimal movement out of the Zone. (Minimal favourable excursion for counter-trend traders)

Anxiety Zone Table 10-1 Ideal setup form

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Even with the guidelines above, you will find it hard to picture the perfect form of each setup. This is because there is no such thing. However, with these guidelines, you can look at different instances of the same pattern/setup and determine which pattern has a superior form. For each pattern, there is a better form and a poorer form. There is a good form and a bad form. However, there is no perfection to be found. Most importantly, remember that the form of a pattern is the least critical factor affecting the quality of a trading setup. If the market bias is clearly bearish and price pulls back up to test a resistance area while presenting two bearish setups, the sub-optimal form of each price pattern is certainly something we can overlook. I would certainly take such a short trading setup.

10.3.1 - Outside Bars Trading setups are short-term timing tools. We employ trading setups in order to place a stop-loss order relatively near to the market price to limit our risk. Yet, we also want our stop-loss to avoid the market in the near future. Thus, what we want to achieve with price patterns and setups is precision. Precision is elusive in markets with erratic price action. Thus, we need to avoid such markets. Outside bars indicate potential erratic price swings. Hence, we should be careful when we encounter outside bars as part of our trading setups.

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Outside bars show strength in both directions with increased volatility. Thus, they are notoriously hard to interpret and often lead to wild price swings. If we use an outside bar as our setup bar, we are essentially trading its break-out when we buy above it or sell below it. It is not a good idea as break-outs of outside bars often retrace by a fair amount even if the market does eventually resume moving in the break-out direction.

1. Congestion Zone

2. Long Pressure Zone setup

3. The setup bar is a bullish outside bar with support from the trend line

Figure 10-5 Outside bars are tricky

Figure 10-5 shows a great long setup with support from a Congestion Zone and a trend line. However, the setup bar was a bullish outside bar. While the market made a new trend high, it quickly collapsed. Then, it shot up swiftly to test the broken trend line. Ultimately, the bull trend did not resume. This is the type of erratic price action outside bars portend. When confronted with an outside setup bar, waiting for a second setup bar is usually worth it. The second setup bar might not appear and even if it does, it might not be triggered. If the

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second setup bar is triggered, it often provides a better trading opportunity with lower risk. An example is shown in Figure 10-6.

2. Outside bar as setup bar

3. Second setup bar

1. Long Pressure Zone setup with trend line support Figure 10-6 A better second setup bar

The long Pressure Zone setup in Figure 10-6 had the support of the trend line and was a good setup. The last bar of the Pressure Zone was an outside bar that also served as our setup bar. Although buying above this setup bar with a stop-loss below its low was profitable, if we were patient and waited for the second setup bar, we could get in at a slightly better (lower) price and set a much tighter initial stop-loss. An outside bar is also a classic price action feature brought about by significant news with price impact. It is common for the market to form an outside bar right after a news release. Just as we avoid trading when we expect significant news, we should be especially careful around outside bars. If other factors are favourable, you will still find many high quality setups that contain outside bars. After all, the outside

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bar is a matter of individual pattern form, which is not a dealbreaker in most cases. However, given that outside bars hint at erratic movements, prudent traders might want to give them a miss altogether. If you are already unsure about the market bias and the quality of a trading setup, an outside bar will only aggravate your uncertainty.

10.4 - Checklist for Assessing Setups When we assess the quality of a setup, we run through the following questions. We give the most weight to the first question and the least to the last. 1. What is your assessment of the market bias? How sure are you? (Refer to Volume II if you need help with this.) 2. Does the setup have a support/resistance area backing it up? 3. Are there multiple trading setups? 4. Does the setup have a good form? An example of a high-quality long Congestion Break-out Failure setup would be one that: 1. Occurs in a market that has just established a clear bullish bias; 2. Is supported by a bull trend line and a Congestion Zone; 3. Follows a bullish Pressure Zone; and 4. Has broken out with a strong bear trend bar and now presents a bullish reversal bar as the setup (failure) bar.

10.5 - Conclusion I strongly recommend that you take only high quality trading setups.

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Focusing on taking the best trading setups is the closest you can get to the Holy Grail of trading. If you do so, you will find yourself taking fewer trades. This is a worthwhile trade-off, because you are getting a higher win rate. Learn to respect your trading capital. Employ it only when you are certain that you have found a high quality trading setup. This is the fastest way to achieve trading success.

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Chapter 11 – Tracking Market Bias with Trading Setups The subject matter of this chapter lies somewhere between market bias and trading setups. However, without first showing you the trading setups, I could not introduce this topic. This explains why I have placed this chapter towards the end of this volume. So far, our trading approach is to first determine the market bias and then look for setups in the direction of that bias. This is because our trading premise is that setups that are aligned with the market bias are more likely to produce winners while setups pointing against the bias tend to be unreliable. In other words, this is what I mean.  

When the market bias is bullish, long setups tend to succeed and short setups tend to fail. When the market bias is bearish, short setups tend to succeed and long setups tend to fail.

In this chapter, we are sticking with the same premise. But we will reverse our perspective.  

When long setups are working and short setups are failing, the market bias is more likely to be bullish. When short setups are working and long setups are failing, the market bias is more likely to be bearish.

This change in perspective produces the useful idea that by observing the success and failure of trading setups, we are able to track the market bias. This concept is extremely handy when

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the market bias is unclear (based on trend line and momentum analysis), and you need a second opinion.

11.1 - Assessing the Success of a Trading Setup To track the market bias by observing trading setups, we need to know the difference between a successful setup and a failed setup. When we trade a setup, typically, it is successful when our target is hit. It is a failure when our stop-loss is hit. However, for tracking the market bias, we need a threshold that is less precise but more significant. Note that the following considerations apply only when we are assessing trading setups for the purpose of tracking market bias. They are not directly applicable for assessing the quality of trading opportunities.

11.1.1 - Long Trading Setup A long setup is considered a:  

Success once a price bar clears above the high of the setup bar Failure once a price bar clears below the low of the setup bar

If you are not sure what I mean by a price bar clearing above and clearing below, revisit the concept of clearing in Volume 2 Chapter 3.3.2 on Tested Pivots. Generally, 

Successful long setups imply a bullish market bias; and

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

Failed long setups imply a bearish market bias.

Figure 11-1 and Figure 11-2 illustrate a successful and a failed long setup respectively.

3. Cleared above the high of the setup bar; successful setup

High of the setup bar

1. Bullish Pressure Zone

Low of the setup bar

2. Hit the stop-loss but did not clear below it; setup has not failed

Figure 11-1 A successful long trading setup

1. We were evaluating a bullish Pressure Zone setup. We focused on its setup bar and paid attention to the market’s interaction with its high and low. 2. The market crossed below the low of the setup bar twice but did not manage to clear it. The setup did not fail. 3. Eventually, the market moved up and cleared the high of the setup bar. Thus, this long setup was successful. It implied a bullish market bias. As you can see from Figure 11-1, for a setup to succeed, we do not require the market to hit a specific target. We just need to see a significant movement away from the entry price. When a

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price bar clears above the entry level of a long setup, it shows that the bulls are strong enough to at least keep the market above the entry price for the duration of one price bar. We shall deem that as a sign of a successful long setup.

2. Crossed above the high of the setup bar but did not clear it

High of the setup bar

1. Bullish Pressure Zone

Low of the setup bar

3. Cleared below the low of the setup bar, confirming the failure of the setup

Figure 11-2 A failed long trading setup

1. The long setup here was again a bullish Pressure Zone, and we marked the high and low of the setup bar accordingly. 2. The market first tried to clear above the high of the setup bar but could not pull it off. 3. Then, the market fell through the low of the setup bar and cleared it with a strong downthrust. This long setup failed and indicated a bearish market.

11.1.2 - Short Trading Setup A short setup is considered a: 

Success once a price bar clears below its entry price level

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

Failure once a price bar clears above its stop-loss level

Generally,  

Successful short setups imply a bearish market bias; and Failed short setups imply a bullish market bias.

Figure 11-3 and Figure 11-4 illustrate a successful and a failed short setup respectively.

1. Bearish Deceleration

High of the setup bar

2. Impressive bullish outside bar; but it did not clear above the high of the setup bar

Low of the setup bar

3. Bar cleared below the low of the setup bar; successful setup

Figure 11-3 A successful short trading setup

1. The short setup we were assessing was a bearish Deceleration. 2. Shortly after the setup bar was triggered, the market produced a terrible bullish outside bar. However, it did not manage to clear above the high of the short setup bar. Hence, the setup did not fail.

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3. On the other hand, the market fell later and cleared below the low of the setup bar, hinting at a bearish market bias.

1. Bearish Pressure Zone

High of the setup bar

3. This bar cleared above the high of the setup bar; failed setup

2. The market tangled with the low of the setup bar for four bars without clearing below it

Low of the setup bar

Figure 11-4 A failed short trading setup

1. Our focus in Figure 11-4 was the bearish Pressure Zone. 2. Price fluctuated around the low of the setup bar for four bars without clearing below it. 3. This bar cleared above the high of the setup bar, confirming the failure of the setup and the implied bullish market bias.

11.1.3 - Imperfect Setups As our goal is to track the market bias and not to trade the setups, we can be less exacting about the setups we look for. There are two main ways for us to exercise this flexibility. First, we can assess the setups that are not triggered, which means that we are basically evaluating a price pattern and not a

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specific setup. Of course, if the setup was not even triggered, it has most likely failed. Figure 11-5 shows how an untriggered setup can also indicate the likely market bias.

3. Bullish setup bar not triggered 4. This bar cleared below the limit line, implying a bearish bias

1. Bullish Anti-climax

2. Limit line Figure 11-5 A helpful untriggered setup

1. There was a strong downthrust in the form of a bullish Anticlimax. 2. We drew the limit line of the Anti-climax pattern. (In case you’ve forgotten what a limit line is, please refer to Chapter 6.2 - Identifying the Anti-Climax.) 3. A fine bullish setup bar appeared. However, it was not triggered as the following bar did not rise above it. 4. Instead, price cleared below the limit line. Despite the fact that the setup bar was never triggered, this implied a bearish bias.

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Note that we could also have used the low of the potential setup bar instead of the pattern limit line as the line to clear in order to indicate a bearish bias. The outcome would have been the same. The other aspect of this flexibility concerns the appearance of the setup bar. While we have been using bullish bars for long setups and bearish bars for short setups in our earlier discussions (except for the Trend Bar Failure pattern), we need not do so for the purpose of tracking market bias. Bearish bars are acceptable as long setup bars. Bullish bars are acceptable as short setup bars. Dojis are certainly adequate. Figure 11-6 shows how observing a bearish setup bar in a long trading setup led to an earlier indication of the market bias.

3. A bullish setup bar implied bullish bias here

1. Bullish Pressure Zone

2. A bearish setup bar implied bullish bias here

Figure 11-6 Relaxed criteria of setup bar led to an earlier clue of bias change

1. We had a bullish Pressure Zone. According to our trading rules, we should buy a tick above a bullish setup bar.

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2. However, in this case, we bent our rules to consider this bearish bar as our setup bar. This setup then succeeded within the next three bars, implying a bullish market bias. Important: We bend our rules only for the purpose of tracking the market bias with setups, and not for actual long trade entries. 3. Let’s consider what would have happened if we insisted on considering the “correct setup bar”, which was the bullish bar that came next. In this case, we would only consider the setup as a success eight bars after our entry. By being flexible here, we managed to get an early warning that a bullish bias might be looming. This signal that came six bars earlier offered a trading advantage. The key idea behind tracking the market bias with trading setups is to set price level parameters based on price patterns and setups, and then to observe price action as they interact with these price points. Hence, within the context of tracking the market bias with trading setups, the technicalities of the setups are less important. Of course, we should accord less weight to the signals from less ideal setups. For instance, consider the failure of a bullish Pressure Zone setup with a nice bullish reversal bar as the setup bar versus the failure of an untriggered bullish Pressure Zone setup. The former is certainly a stronger signal of a bearish market bias. You might have noticed similarities between the Anxiety Zone setup and the methods we employ to ascertain the success of a setup in the chapter. Both concepts rely on zooming in on a setup bar to define price parameters. However, the Anxiety www.tradingsetupsreview.com

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Zone has stricter criteria than the bias-tracking methods we are looking at in this chapter.

11.2 - Tracking the Market Bias To track the market bias with trading setups, follow the guidelines below. 1. Assess every price pattern/trading setup. (Not just those that are aligned with the trend.) 2. Base your analysis on the outcome of the last three setups. (Exclude setups that occur too long ago.) 3. Maintain trend lines and momentum analysis as your main bias-tracking tools. If you find that tracking the market bias with trading setups constantly is confusing, then employ this technique only when you are not getting a clear read of the market bias with trend lines and momentum analysis.

11.2.1 - ES 10-Minute Example This example shows how the failure of long setups helped to confirm the trend line break as a change in market bias.

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2. Long Congestion Break-out Failure setup bar

3. Limit line of the Bullish Anti-climax 1. Original bullish bias

5. Short Congestion Zone setup

4. This bar signalled the failure of both long setups

Figure 11-7 Failure of two long setups pointed to a bearish market bias

1. The market had a bullish bias as shown by the bull trend line. 2. The long Congestion Break-out Failure setup bar appeared before the trend line break. 3. Then, the trend line broke with a bullish Anti-climax pattern. However, no setup bar was triggered. 4. This bar cleared below the low of the Congestion Break-out Failure setup bar and the limit line of the bullish Anti-climax pattern. These failures of bullish signals hinted at a bearish bias. Add that to the break of a bull trend line with good momentum, and we could comfortably assume a bearish bias. 5. This short setup was based on the Congestion Zone mentioned in point 2 (dotted line box). It led us into a strong and swift down trend. The long bearish bar on the extreme right of the chart was only its beginning.

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11.2.2 - NQ 5-Minute Example In this example, observing trading setups gave an excellent indication of a bullish market bias. It also helped us avoid two losing setups.

1. Price has moved far below the bear trend line

2. Bullish Deceleration

4. Ignored two bearish Decelerations

3. Signalled the success of the bullish Deceleration

5. Failure of the 1st bearish Deceleration

6. Long Congestion Break-out Failure setup bar

Figure 11-8 Consistent bullish signals

1. The market was in a bearish state. However, it had fallen a large distance below the bear trend line. It was time to heighten our sensitivity to any signs of a bias reversal. 2. The bullish Deceleration offered an excellent chance to gauge the market bias. 3. This bar cleared above the high of the Deceleration setup bar and signalled a possible bullish bias. However, the bear trend line was still intact, and the market had not broken any swing highs with momentum. Hence, there was only a single hint of a bullish bias.

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4. As we were sensitive to reversal clues at that juncture, the success of the bullish Deceleration was sufficient to cause us to skip the two bearish Deceleration setups that came after. 5. Moreover, the first bearish Deceleration failed as well, further cementing the arrival of a bullish bias. This bar also cleared the previous swing high. Hence, even if we took the first Deceleration setup, we should not take the second one until there were signs of the bears returning. 6. Given these bullish signals, despite the lack of a bull trend line to confirm the bullish market bias, it was reasonable to take this long Congestion Break-out Failure setup.

11.2.3 - 6A 10-Minute Example This example shows how a trading setup gave the first clue of a market reversal. I have marked out all the setups on Figure 11-9.

3. Failed bearish Pressure Zone

4. Successful bearish Anti-Climax

1. Failed bearish Anti-climax

2. Bullish Congestion Break-out Failure setup

Figure 11-9 Setups pointed up consistently until…

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1. This Anti-climax with a bearish reversal bar as its setup bar was triggered, but failed as the market rose higher. 2. On the other hand, this bullish Congestion Break-out Failure setup went exceedingly well. 3. After a strong upthrust, a bearish Pressure Zone formed but failed again without even being triggered, showing that the bullish market bias was continuing with strength. 4. However, the bearish Anti-climax that followed succeeded in pushing the market down. A bullish bar cleared below the low of the setup bar. It was the first bearish sign we gathered from observing trading setups. Figure 11-10 shows the price action that unfolded after the success of the bearish Anti-climax.

1. The bearish Anti-climax referred to in Figure 11-9

2. Turned out to be the beginning of a down trend

Figure 11-10 Falling back to the bull trend line

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The bearish Anti-climax turned out to be the top of the bull trend and started a new down trend. This example might tempt you to start looking for reversals. However, taking the short Anti-climax setup at the top was clearly an act against the bullish market bias. The short setup has already proved its usefulness by warning us that a bearish market might be coming. Do not abuse it by taking a premature short position. Wait for more signs of a bearish market, like another successful short setup, or clear bearish momentum, before looking for opportunities to short. In fact, as shown in the close-up Figure 11-11, these signs came soon.

3. Successful bearish Pressure Zone

1. Pushed below the last swing low with momentum 2. Failed bullish Deceleration

Figure 11-11 Confirming the bearish bias

1. Shortly after the success of the bearish Anti-climax, the market made a tested low with good momentum, clearing below the previous swing low.

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2. A bullish Deceleration formed but did not push the market up significantly. 3. At the same time, a bearish Pressure Zone formed. This short setup was acceptable given that the momentum was on our side. As the market fell further, the bullish Deceleration failed and the bearish Pressure Zone succeeded. With these signals, the bearish market bias was confirmed, and we could start looking for opportunities to short.

11.3 - Conclusion Most price patterns/setups are not sufficiently reliable entry signals for a variety of reasons like being against the market bias, lack of confluence from other setups, or a low reward-torisk ratio. We see these setups, but cannot trade them. Keeping tabs on trading setups to track the market bias is an excellent way to put these “untradeable setups” to use. Furthermore, it helps you to maintain your “market feel”, keeping your mind on the market pulse. It is similar to the art of tape reading, but a lot simpler to pick up. When evaluating price action, the context is crucial. Trading setups offer a short-term context (with the high and low of the setup bar or pattern extremes like the limit line) for interpreting current price action. This concept of using the success and failure of price patterns to track the market bias is not exclusive to the setups in this book. It works for other price action patterns as well.

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However, be careful not to overload yourself by trying to look for too many patterns at the same time. To track the market bias efficiently, focus on a few patterns and setups that make sense to you. Remember that you should still use trend lines and swing pivots (momentum) as your primary tools for deciphering the market bias.

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Chapter 12 - Re-entries For every trading setup that we take, there is a possibility that our stop-loss order is hit. And for every setup that we are stopped out of, there is a possibility of re-entering the position. For a long position that we are stopped out of, we might consider re-entering in the same direction (as in re-establishing a long position). For a short position that we are stopped out of, we might re-enter the market with a short position. Do not confuse re-entering in the same direction with reversing from a long position to a short one and vice versa. In this chapter, we will discuss the pros and cons of re-entries, and the setups that qualify for re-entry.

12.1 - The Psychology of Re-entries When we are stopped out of a trade, there are two possible scenarios. The first scenario is that our market analysis was wrong. The market had already changed its bias or the market momentum has turned against us, and our trading techniques failed to detect it. In such cases, as long as we have been consistent in our analysis and have not broken any trading rules, we should accept the failure of the setup with grace. Move on, and wait for the next trading setup. The other scenario is that our market analysis was right, but our timing was wrong. It means that, despite being stopped out of our trade, it remains likely that our anticipated market direction is correct. In that case, we should try to re-enter the position in order to capitalise on our market analysis. www.tradingsetupsreview.com

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It sounds logical, but there is an obvious question. How do we know which scenario we are caught up in? If we are caught in the first scenario but we persist in thinking that our market analysis was right, we will end up multiplying our losses as the re-entry gets stopped out as well. This is not uncommon because when traders get stopped out of their positions, they often imagine that they are facing the second scenario, so that they have an excuse to jump right into the market again for some more action. Such behaviour leads to consecutive losses. For many traders, that is all it takes for them to engage in self-destructive behaviour like revenge trading. If we are facing the second scenario and yet we abstain from reentering the market, we are losing out on a solid trading opportunity, despite having the correct market analysis. Our trading results will suffer financially. However, that is not our worst fear. It is the emotional consequence that will break the trader. “I was right. But I lost money. How can that be?” It is difficult to accept that we were wrong and therefore we lost money. It is even more difficult to accept that we were right, and yet we lost money. Instinctively, we want to fight and get back what is due to us. “Hell, because I was right!” This mentality is again self-destructive and will almost certainly cause over-trading. Re-entries offer a second chance to enter the market and overcome inevitable timing errors. However, it is a dangerous www.tradingsetupsreview.com

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manoeuvre with important implications on a trader’s psychology. Hence, it is crucial to have clear guidelines to distinguish between the two scenarios and adopt the right course of action. These guidelines provide a rational basis for determining if we should re-enter. Of course, they are not perfect. You might still end up confusing the two scenarios. However, with a set of guidelines, you are less likely to lapse into the kind of selfdestructive behaviour described above.

12.2 - Re-entry Criteria The re-entry criteria are really more about “when we should not re-enter” rather than “when we should re-enter”. Before we re-enter the market, we must make sure that the market bias is intact. If the setup failure has caused us to doubt our original assessment of the market bias, then we should not re-enter. In addition, only good setups deserve a second chance. So, think twice before re-entering. Do not jump back into the market simply because you cannot accept that you made a loss. Remember that good traders lose well. Beyond the quality of the setup, there are two main reasons why we should not re-enter. The first reason is that the setup has failed, and is no longer worthy of a re-entry. Here, we borrow the definition of failure from Chapter 11 in which we learned to observe trading setups in order to track the market bias.

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To recap, if price clears below the low of a long setup bar, it is a failure. If price clears above the high of a short setup bar, it is a failure. Figure 12-1 shows an example of a failed short setup that denies a re-entry attempt.

1. Bearish Pressure Zone

4. This bar cleared above the setup bar, indicating a setup failure that prevented re-entry

3. Projected from the high of the short setup bar 2. Bearish bar as setup bar

Figure 12-1 No re-entry due to failure of the original setup

1. The last bar of the bearish Pressure Zone was a Doji. We waited for a bearish bar that could act as our setup bar. 2. This strong bearish bar was our setup bar, and we shorted one tick below it. However, the market rose up sharply and hit our stop-loss order placed above the high of the setup bar. 3. We projected this line from the high of the short setup bar. If price cleared above this line, we would abandon all attempts at re-entering the setup.

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4. This bar was decisive. It cleared above the high of the setup bar. The setup has failed. Due to this development, we should not re-enter the short setup. We should not re-enter when the setup has failed conclusively. How about when a setup has reasonably succeeded? This question brings us to our second reason for not re-entering. We do not re-enter when the setup has apparently succeeded. Again, we borrow the definition of a successful trade from Chapter 11. To recap, if price clears above the high of a long setup bar, it is successful. If price clears below the low of a short setup bar, it is successful. At times, we get stopped out of a successful trade because our target is too far away. In such instances, it is not a case of unrealised potential due to timing issues. The potential had already been realised by the market, but we did not realise the profit. Re-entries are meant for fixing the problem of good trades being stopped out before they become successful. When a trade is already successful, there is no basis for re-entry. Figure 12-2 shows an example of a successful long setup that got stopped out eventually. We should not re-enter in such cases.

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2. Long setup bar

3. Projected from the high of the long setup bar

4. This bar cleared above the setup bar and the setup was considered successful 1. Bullish Pressure Zone

5. Do not look for a re-entry after the stop-loss was hit

Figure 12-2 Do not re-enter a successful setup

1. The market formed a bullish Pressure Zone. 2. The last bar of the Pressure Zone was a bullish bar that we used as our setup bar. 3. We projected a line from the high of the long setup bar. If the market cleared this line, the trade would be considered successful. 4. This strong bullish bar cleared above the line and confirmed the success of this setup. It implied that we should not re-enter this trade if we were stopped out. 5. Eventually, the market fell and hit our stop-loss order. However, as mentioned, we should refrain from re-entering the market. For re-entries, we rely on the same trading premise as the original setup. Hence, we do not need a second setup to re-

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enter, although having one is a clear bonus. We can re-enter with any price bar that is in the direction of the original setup. The re-entry criteria for long and short setups are summarised below with examples.

12.2.1 - Long Setup Re-entry 1. Bullish market bias must be intact. 2. Original setup must be a high quality setup. 3. Price must not clear above the high of the setup bar. (Setup must not succeed.) 4. Price must not clear below the low of the setup bar. (Setup must not fail.) 5. Re-entry setup bar must be bullish. 6. Enter a tick above the re-entry setup bar and place a stop-loss order a tick below it. A long re-entry example is shown in Figure 12-3.

2. Original setup bar 5. Re-entry setup bar (bullish bar)

3. Low of the original setup bar

1. Four-bar Deceleration that ended with a bullish Pressure Zone

4. Clear buying pressure

Figure 12-3 Long setup re-entry

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1. The market formed a four-bar Deceleration pattern that ended with a solid bullish Pressure Zone. This combination presented a high-quality setup. 2. The last bar of the Pressure Zone was a bullish bar with a long lower shadow. We entered a tick above this bar. 3. We placed our stop-loss a tick below the low of the setup bar. If price cleared below the low of the setup bar, we would stop looking for any re-entries. 4. Price fell through our stop-loss order but found clear support as shown by the long lower shadow of this pin bar. Note that the market merely hit the stop-loss order but did not clear below it. Furthermore, the bullish bias was intact and no tested low formed. Although not shown, there was also an effective bull trend line that was entirely below the price action shown in Figure 12-3. 5. Hence, we could re-enter this setup with the next bullish bar. Sharp-eyed traders might have noticed that the re-entry setup bar was also a bullish Congestion Break-out Failure setup bar. We had no reason not to take this re-entry.

12.2.2 - Short Setup Re-entry 1. Bearish market bias must be intact. 2. Original setup must be a high quality setup. 3. Price must not clear below the low of the setup bar. (Setup must not succeed.) 4. Price must not clear above the high of the setup bar. (Setup must not fail.) 5. Re-entry setup bar must be bearish.

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6. Enter a tick below the re-entry setup bar and place a stop-loss a tick above it. An example is shown in Figure 12-4.

1. Short Congestion Break-out Failure setup with bearish Deceleration

3. Stopped out by the entry bar

2. Original setup bar

5. More possible re-entries

4. Re-entry setup bar (bearish bar)

Figure 12-4 Short setup re-entry

1. The market broke a bull trend line with momentum, ushering in a new bearish bias. Then, price broke out above a congestion area with a bearish Deceleration pattern towards the broken trend line. It was a high-quality short setup. 2. Hence, we shorted with this bearish bar, despite its Doji-like form. 3. The entry bar turned into a bullish outside bar that stopped us out. 4. However, the outside bar did not lead price to clear the original stop-loss level. In fact, the outside bar had no bullish

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follow-through. The next bar was a bearish bar which offered us a chance to re-enter the short trade. 5. Perhaps due to the shock from being stopped out of the original trade so quickly, you might be uncertain and choose not to re-enter immediately. In this case, the market was kind enough to offer us two more opportunities for re-entering.

12.2.3 - More Tips for Re-entries A useful way to identify good re-entries is to watch the speed at which the stop-loss level rejects the market. If the market hits the stop-loss of a long setup and rebounds quickly upwards, it bodes well for re-entries. Similarly, if the market is rejected quickly down by the stop-loss level of a short setup, re-entries are favoured. These swift rejections are signs of good support and resistance for long and short setups respectively. In addition, to avoid the risk of using re-entries as an excuse for over-trading, we should only re-enter once. When we are stopped out of the original setup, we re-enter. But when our reentry trade is stopped out, we stand aside and re-evaluate the market.

12.3 - Re-entry Equivalent It is possible to take re-entry setups without taking the original setup. A setup taken this way is called a re-entry equivalent setup. In fact, trading re-entry equivalent is a very good idea. This means that when we find a trading setup, we do not enter. We wait for the setup to fail. Then, we look for a re-entry.

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Why would we do that? This is because re-entries are generally more reliable than the original setup.15 It is an excellent way to pinpoint highly reliable trades. However, traders using this approach will end up with fewer trading opportunities as some trading setups will take off without pulling back to allow reentries. Figure 12-5 shows an example of a superior re-entry.

2. Original setup bar (skipped)

4. Re-entry setup bar (bought above its high)

1. Bullish Deceleration

3. Traders who entered with the first setup bar got stopped out here

Figure 12-5 Dealing with outside bars by waiting for a re-entry

1. The market started pulling back down with a bearish outside bar and ended with a bullish Deceleration pattern. 2. As discussed earlier, outside bars might signal erratic price action. Add that to the long upper shadow of the setup bar (implied selling pressure) and we had enough reason to hold back our entry. The idea that a later entry is superior is well-established. Al Brooks popularised the second entry (failure of a failure). Classical chart patterns also include double tops and bottoms. These are concepts that seek to trade the second (or later) turning point. More information on the course resource page. 15

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3. If we had entered, we would have been stopped out by the second bearish outside bar. Instead, we got a chance to watch for a re-entry equivalent setup. 4. Price did not clear below the stop-loss level despite hitting it. The bullish re-entry setup bar appeared, and we bought a tick above it. Although the re-entry got us in at approximately the same price as the original setup and entailed a larger trade risk due to the wider bar range, it was a more reliable setup bar. Figure 12-6 shows another example in which we waited for a reentry equivalent trade as we were uncertain if the market bias had changed.

3. Bullish Anti-climax with support from the Congestion Zone

2. But none of the tested highs showed strong momentum

4. Re-entry setup bar 1. The market broke above the trend line and made a basic low above it. Figure 12-6 Uncertain if the bias has changed? Wait for a re-entry.

1. The market reversed up and broke a bear trend line. The break was firm, and price soon formed a basic pivot low above

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the broken trend line. Our market bias assessment turned bullish. 2. However, none of the tested swing highs showed momentum. This lack of bullish momentum at the supposed start of a new trend introduced uncertainty into our bullish premise. 3. The market presented a seemingly high-quality long setup comprising a bullish Anti-climax and support from a Congestion Zone. The setup bar was triggered as the next bar rose above it by one tick. However, as we were uncertain about the market bias, skipping this setup was sensible. Moreover, the form of the Anti-climax was not ideal as the climactic fall was not apparent. 4. Shortly after, the associated stop-loss was hit. The nice bullish bar that punched above the Congestion Zone was a great re-entry setup. This example again demonstrates the merits of waiting for a reentry when price action is unclear. Most of the time, when we assess the quality of a setup, a reentry setup is seen as a higher quality entry. However, if the re-entry is good, isn’t the re-entry of a re-entry even better? How about the third, fourth, and fifth re-entries? This question brings us back in a circular manner to our point at the beginning of this chapter. When we are stopped out of a trade, it might be a timing issue or a market bias issue. Re-entries can fix the former but not the latter. With each trade we are stopped out of, the probability that we are not facing a timing problem increases. This relationship is illustrated in Figure 12-7. www.tradingsetupsreview.com

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Original entry Timing Problem

Stopped out st

1 re-entry Stopped out 2

nd

re-entry

rd

re-entry

Stopped out 3 And so on…

Market Bias Problem

Figure 12-7 More stopping out means a higher probability of a bias problem

If the problem lies with having a wrong market bias, then reentering the market will only cause more losses. This is why we must limit the number of re-entries. In fact, very often, after the 1st re-entry is stopped out, there are already signs of a market reversal which should prevent further re-entries. Re-entry equivalent setups are technical re-entries. Thus, if we are stopped out of a re-entry equivalent setup, we should not re-enter. Taking a re-entry equivalent trade means skipping the original setup to wait for a subsequent chance to enter. It means being patient. The market rewards patience. If you want to gun for high probability trades, you should always wait for a re-entry equivalent setup.

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“Patience is power. Patience is not an absence of action; rather it is ‘timing’. It waits on the right time to act for the right principles and in the right way.” Fulton J. Sheen

12.4 - Conclusion Re-entry is an important concept that will differentiate the better traders from the average ones. If you know when to reenter, you stand to improve your trading results by a vast margin. However, if you re-enter indiscriminately, prepare to suffer deep drawdowns and massive confusion. Re-entry equivalents offer a winning formula for the patient trader. Wait for a high quality trading setup. Do not take it. If a re-entry presents itself, then go for it. However, this approach will result in fewer trading opportunities, and most traders crave more action than that. This is why most traders do not make money. Nonetheless, there is nothing wrong to take the original setup as long as it is a high quality one. Just that the re-entry, if the market offers one, is going to be better. As a final note to augment our appreciation of the larger picture, let me draw your attention to Figure 12-7 again. Basically, it relates the performance of trading setups to the market bias. This connection is similar to what we were exploiting in Chapter 11 to track the market bias. At the end of this series, you will realise that our trading techniques originate consistently from a few core trading concepts.

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Chapter 13 - The Meaning of Form We have spent a huge chunk of this book explaining the rules for identifying patterns and the rules for trading them. We even have rules for picking the best setups and rules for re-entries. In other words, we were learning forms. For instance, we learned the form of a congestion pattern and the form of a trend bar. We also learned that a long setup bar should be bullish and a short setup bar should be bearish, with the exception of the Trend Bar Failure setup. Now, let’s learn to bend these rules. This is a dangerous manoeuvre. However, sooner or later, you are going to bend the rules. Instead of avoiding this topic, let’s face it and talk about how to bend rules correctly.

13.1 - The Need for Bending Rules You must understand that the trading style we have been discussing is, at the end of the day, a discretionary trading style. This means that we place value on something that the human mind can perceive, but cannot quantify. That something is a trader’s intuition. This means that whatever rules and criteria we mentioned are ultimately just guidelines. For those who still have qualms over the eventual need for discretion to enhance trading performance, think about the various time frames that traders use. There is no magical trading time frame. Building our charts using time frames is just a simple sampling method to condense a market that is constantly moving for ease of analysis. Let’s say you are trading with 30-minute bars. For the discretionary trader, there is no critical difference between the www.tradingsetupsreview.com

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30-minute time frame and the 31-minute time frame. There might be very slight differences. For instance, the perfectly formed pattern on the 31-minute chart will appear in the 30minute chart as a little less than perfect. With well-honed discretionary trading skills, you will be able to bend your rules and take that less well-formed trading setup. You might be thinking why not just switch over to the 31-minute time frame then? That does not solve the problem because the same relationship exists between the 31-minute chart and the 32-minute chart. It is a slippery slope that does not make sense pursuing. And I have neglected to mention the 31.5-minute chart and the 31.7-minute chart. You get the drift. Essentially, there are price patterns forming on all time frames constantly, presenting trading opportunities of various probabilities. This complex flux in the market creates grey areas where patterns are not well-defined. However, these blur patterns are still effective if you can pick them out. Another example highlighting the need for discretion is the Zones setups (Congestion, Pressure, and Anxiety). They highlight the fact that a pattern can assume varied forms. These Zones setups simply define a price range and look for a setup bar within the range. These Zones can be formed in an indefinite number of ways. No two Zones are the same even when they represent a similar underlying premise. The first and very reasonable objection people have against not following (or bending) rules is that it results in inconsistency. Isn’t consistency something we have been stressing? We must maintain consistency in our analysis. If we trade haphazardly, we cannot expect consistent results. That is absolutely correct.

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However, there is a difference between inconsistency and flexibility. The main difference is that flexible traders are guided by sound trading principles, but inconsistent traders are not guided by anything other than their gut and emotions running amok. The best traders are both consistent and flexible. They are consistent in applying trading principles, but are flexible in adapting to changing market conditions. The learning curve goes like this. First, a trader learns to be consistent by adhering to the trading rules. At the same time, the trader accumulates trading experience in the market. As the trader becomes more familiar with the rules, he will also start to question the rules. The trader will notice that under certain circumstances, varying the rules result in better trading performance. If you ask the trader what are the “certain circumstances”, the trader might or might not be able to articulate it. But the trader can recognise these circumstances when he sees them. The trader gains enough confidence in his read of the market, and decides to bend the rules at times. The trader records the outcome of these rule-bending instances rigorously. After a period of time, he reviews the records and realises that his judgement calls have improved his trading performance. He becomes convinced of his intuition as a trader. This is the ideal cycle for a discretionary trader. Ultimately, the best trader is the most flexible trader who remains consistent. However, the reality is that it is extremely difficult to tell damaging inconsistency apart from healthy flexibility. Many top traders cannot explain their trading methods explicitly, despite making profits from the market day www.tradingsetupsreview.com

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after day. Hence, only their trading profits over time will tell if the trader has been reasonably flexible or just purely reckless. Unfortunately, the reckless trader will only know the answer when it’s too late, when his trading account has been wiped out. For the serious trader, there are two aspects we can work on to avoid this unfortunate outcome. The first aspect is to understand a few general principles about exercising discretion in trading. The second is to keep solid records of your trades, especially of the instances when you bend your trading rules. We will deal with the first aspect here and leave the second aspect to the next volume as record-keeping is relevant to the entire trading process and not just limited to price pattern and setup analysis.

13.2 - Principles for Discretionary Trading The first principle is that your margin for bending rules depends on your trading proficiency. Absolute beginners do not bend rules. As you gain experience from observing the market and as you internalise market price action concepts, you can then start to bend some rules. You start to pay more attention to concepts instead of the exact form of each pattern. When you attain a high level of trading proficiency, rules do not matter anymore. The most important trading principles are ingrained in your mind, and you react to price action subconsciously and correctly. This evolution of a learner I have described is a common process in many disciplines beyond trading. Forbidden Kingdom (2008) is a Hollywood movie starring Jet Li, one of the most renowned martial artist on screen. Unsurprisingly, he acted as an ancient Chinese hero, the Silent Monk, who is highly skilled in martial arts. With regards to www.tradingsetupsreview.com

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learning martial arts, the Silent Monk said, “Learn the form, but seek the formless. Hear the soundless. Learn it all, then forget it all. Learn The Way, then find your own way.” This quote accurately describes the passage from learning to mastering and is wholly applicable to skills beyond subduing your opponents with physical force. “Learn the form, but seek the formless. Hear the soundless. Learn it all, then forget it all. Learn The Way, then find your own way.” Silent Monk, Forbidden Kingdom

Every price action trader starts with learning price patterns (visual forms). Over time, if you persist in your trading endeavour, the definitions and rules that helped you learn the basics will become the boundaries that limit your progress. Then, it is through training your subconscious to perceive market nuances (the formless) that you proceed towards success. The sequence goes like this. Form before formless. Learning before forgetting. Basically, learn the rules well before you break them. Use this principle to guide your trading. This principle implies the need for a delicate approach. Do not be too quick to exercise discretion. Learn the forms first. However, at the same time, remember that employing trading rules mechanically will impede your progress. The second principle is that the more confident we are of the market bias, the more rules we can bend. The market bias is truly what gives us our trading edge. Getting the market www.tradingsetupsreview.com

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bias right is the most important part of our analysis. The clearer the market bias, the less important the exact entry setup becomes. Hence, we get more room to bend the rules. Figure 13-1 shows a clear bearish trend in the NQ futures market. It demonstrates how the market bias is much more important than any one setup.

Setups that did not reach our targets

Assuming that we targeted the amount equal to the trade risk each time, 6 out of 8 entries using a simple two-bar reversal hit their targets.

Figure 13-1 Most bearish setups work in a clearly bearish market.

This chart is extremely telling. Usually, traders would look out for two-bar reversals that have strong bars in both directions or for the second bar to reverse the first bar completely. However, in Figure 13-1, we marked out every single bearish two-bar reversals in its simplest form without imposing extra criteria to enhance the pattern. Basically, we considered all instances of a bullish bar followed by a bearish bar. That’s it, as simple as that. As it turned out, this simple pattern did exceedingly well. Six out of eight bearish two-bar reversal patterns attained a target

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aimed at achieving a 1:1 reward-to-risk ratio. (This simplistic target placement is just for illustrative purposes.)

Assuming that we targeted the amount equal to the trade risk each time, 6 out of 8 entries with a simple two-bar reversal hit their targets.

Setups that did not reach our targets

Figure 13-2 Simple patterns work in a clear bullish market

Figure 13-2 shows an equivalent example in a bullish market. When the market is clearly bullish, even the simplest of patterns work. New traders, after looking at examples like these, rush off to trade every two-bar reversal (or whatever other pattern) they can find. They miss the point. The merit does not lie with the pattern. It lies with the market bias. The point here is that once we get the market bias right, the exact pattern or form that we employ is not critical. There might be some whipsaws, but they are acceptable as long as our trade risk is under control. Ultimately, we should devote more effort to figure out the market bias instead of searching constantly for the perfect form of a price pattern or trading setup.

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Of course, this is easier said than done. I selected the examples in Figure 13-1 and Figure 13-2 by looking back in time. Anyone can do that. The difficult part is in evaluating the market bias in real-time. We’ve discussed how to do that in Volume II and Chapter 11 of this volume. Even in the other chapters of this volume, analysing the market bias was the first step in each trading example. As you try to exercise discretion in your trading, abide by this guideline. The more confident you are in your assessment of the market bias, the more justified you are in bending the rules. There is a related sub-principle. The more familiar you are with the market you are trading, the more discretion you can take. For instance, you may notice that certain patterns work better in certain markets at certain time of the day. If you have been trading the ES futures market for the past 10 years and understand its price action tendencies well, you can certainly afford to bend some rules when trading the ES contract. However, if you’ve just switched over to trading FDAX, please do not start bending the rules from day one. Observe the market for a period of time first. I have no intention of discussing these market-specific nuances in detail. These market-specific nuances are important but they change over time. Hence, they are best left for the individual trader to figure out through actual trading experience. The third principle is that we must maintain consistency. This is the most important check to prevent us from abusing flexibility as an excuse for reckless trading. Your trading techniques might disagree with other traders. However, your trading techniques must be consistent internally.

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The most common kind of inconsistency is going against the market bias. We trade pullbacks because we are convinced that trends tend to continue. Since trends tend to continue, taking counter-trend trades is inconsistent with our market perspective. Yet, many traders cannot resist the temptation. Occasionally, when they go against the trend, they make money. Such small victories lure them into thinking that they are right to go against the trend. However, they are sacrificing consistency. As a result, they are unable to achieve sustainable trading profits over the long run. Nonetheless, you can go against the trend while maintaining consistency. For instance, a bullish market was clearly rejected from an area of strong resistance (a previous Congestion Zone) twice with strong selling pressure. The third thrust upwards fell short of the resistance area and was a bearish Deceleration pattern that ended with a bearish reversal bar. Coupled with an acceptable reward-to-risk ratio, it was reasonable for you to go against the trend. Why is this instance of counter-trend trading consistent? It is because you clearly respected the power of a trend by waiting for multiple tests of the resistance, and the occurrence of credible bearish patterns, before deciding that the trend might not continue. Of course, such trades should only be taken by experienced traders. These instances of being flexible and yet staying consistent are extremely varied. Thus, I cannot offer any concrete rules for internal consistency. I can only show you examples of what is consistent and what is not. The first example below looks at our definition of a congestion pattern. In our introduction of the congestion pattern in Chapter

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2, I mentioned that all definitions of congestion are imperfect, including mine. Look at Figure 13-3. Both boxes in the chart highlight congestion patterns according to our definition.

Weak upthrust

Horizontal shape

Figure 13-3 Weak directional thrusts also fall into our definition of congestion

The typical congestion pattern is made up of alternating bullish and bearish bars, with a couple of Dojis sprinkled among them. However, the bars in these two congestion patterns close in the same direction. The one on the left consists entirely of bearish bars while the one on the right is made up of bullish bars. When we encounter such “congestion patterns”, we need to put the rigid definition aside and ask ourselves if they look like a horizontal trading range. The congestion pattern on the left forms a horizontal shape expected of a sideways market. Hence, there was little issue with it. However, the one on the right looks more like a weak upthrust rather than a congestion pattern.

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The normal congestion pattern is directionally neutral. It does not imply weakness or strength in any direction and our basic trading methods were designed around this premise. However, the weak upthrust “congestion pattern” implied weakness of the bulls. Hence, it hinted at the possibility of a short position rather than being neutral. If we had followed our definition rigidly, we would have missed the implied weakness of the upthrust. This is a great example for illustrating the need for discretion in trading. No pattern definition is perfect. While we bent our rules for identifying a congestion pattern, we stuck to our understanding of congestion price behaviour. We managed to be flexible while maintaining consistency. Figure 13-4 shows an acceptable long trade despite a bearish market bias. The first bar of the chart is the first bar of the session which opened with a strong gap down. Our market bias was bearish when this session started.

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1. Congestion Zone projected from a five-bar congestion pattern 5. Highly probable target 3. Massive congestion

4. 5th rejection from the Congestion Zone (buy) 2. Bear trend line drawn after this bar made a new market low Figure 13-4 Taking a long setup despite a bearish market bias

1. The 2nd to 6th bar of the session (five bars) formed a congestion pattern. It projected a Congestion Zone as a potential support or resistance. In the price action that followed, the trend was clearly struggling to continue. Recall from Volume II the definition of a struggling trend. It is a trend that fails to resume after four attempts. In this case, the bear trend took five downswings to push to a new trend low. 2. This was the price bar that made a new market low which confirmed the first valid high of the session. We adjusted the bear trend line to catch up with this development, resulting in the trend line shown in the chart. However, despite making a new low, price was clearly rejected from it as shown by the wide range bullish reversal bar.

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3. Following that, the market meandered along the Congestion Zone without following through with any bearish action. Due to the newly-adjusted bear trend line and a lack of bullish momentum, we maintained a technical bearish bias. But were we certain that the market was still bearish? Certainly not. 4. Hence, when the break below the Congestion Zone was rejected for the fifth time with a nice bullish inside bar, we could no longer deny that the Congestion Zone was holding up extremely well as a support level. Was buying one tick above the bullish inside bar acceptable? 5. The bear trend line was still overhanging. It was our likely target for this potential long trade. With a standard stop-loss below the setup bar, this setup offered a healthy reward-to-risk ratio. (More on reward-to-risk in the next volume.) Hence, this trade was acceptable. Technically, our market bias was bearish. But we took a long trade. Were we consistent? We respected the power of the bearish market bias. Thus, we waited for the fifth bullish rejection from the same price area before considering a counter-trend trade. Moreover, the price area was a Congestion Zone which has proven itself as a support area. We respected the effectiveness of our bear trend line (which was drawn according to our rules in Volume II) as a resistance point. Thus, we assessed the trading opportunity using the trend line to estimate our profit potential. We respected the premise of our Pressure Zone pattern. Lower shadows means buying pressure. In this case, the five bullish www.tradingsetupsreview.com

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rejections showed obvious lower shadows within the same price range. Think of it as a bullish Pressure Zone spread over a longer period. Were we consistent in our analysis? Did we respect our trading principles? We were consistent. On top of that, we were flexible enough to profit from a long setup despite a technically bearish market. Let’s look at another example in Figure 13-5. It shows an imperfect Deceleration pattern.

1. This session has been plummeting

3. Bearish Deceleration?

2. After bouncing above the bull trend line twice, the market broke it decisively

Figure 13-5 Can Deceleration setups look like this?

1. The session opened with a gap up. However, after a little meandering, it took a single trip down. 2. A bull trend line extended from previous sessions supported the falling market for two light bounces before price punched

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right below the trend line with strong momentum. The bearish bias became clear. 3. Then, the market started to rise towards the broken trend line. The shape of the ascent resembled that of a bearish Deceleration pattern. However, on a closer look in Figure 13-6, it did not fit our identification rules for the Deceleration pattern.

Equal bar highs do not fit the definition

This bar high should be higher

Figure 13-6 “Deceleration pattern” enlarged

For a bearish Deceleration pattern, we need three consecutive bars, each rising above the high of the previous bar by a decreasing amount. Each of the three bars must exceed the high of the previous bar, just that the range by which it exceeds must be decreasing. However, for this pattern, the last bar did not rise above the high of the previous bar. Thus, strictly speaking, this pattern does not fit our definition of a Deceleration pattern.

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Nonetheless, this pattern fits the underlying logic of the Deceleration pattern. We are looking for an upthrust that exhibits weakness as it pushes higher. In this example, the last bar of the pattern did not push higher than the previous bar. Could we have considered its failure to push higher as a sign of weakness? Yes, we could. Although it was not the perfect Deceleration pattern, considering the clear bearish bias in this case, it was a tenable exception. Since this variant is acceptable, why don’t we expand the definition of the Deceleration pattern to include it? First, it is not possible to include all variants and whether or not we find each variant acceptable depends on the clarity of the market bias. Second, it is not necessary to do so. The aim of the definition is not to comprehensively define all forms of Deceleration. The aim of a pattern definition is to facilitate learning and comprehension of the underlying concept. For that purpose, a clear and basic definition is sufficient.

13.3 - Records of Discretionary Trades When you exercise flexibility in your trading, how do you know if you are consistent? This is where record-keeping is essential. To reliably track the consistency of your trading decisions, you must maintain an analysis report. Write down or type out your ongoing market analysis. It is like writing a report to your superior to analyse the situation and recommending a certain course of action for a project. Write down your observations and explain why you might or might not take a trading setup. www.tradingsetupsreview.com

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There are several important pointers regarding maintaining this record which I will elaborate in the next volume.

13.4 - The Real Meaning of Form We have spent this chapter emphasising how rigid forms of price patterns and trading rules constrain our trading performance and how flexibility enhances it. In that case, why did we introduce seemingly strict definitions for the price patterns earlier? Learn the Form. Imagine being completely new to trading and hearing this on your first lesson with your trading mentor. “Look for a weak upthrust in the market and sell when it is clear that the market is unable to rise further.” Well, seems to make sense. But what exactly does it mean? What do you really need to look for? No idea. Thus, having a clear definition for price patterns is essential for learning. The definition of a form is especially important for new traders to kick-start their learning. Armed with a clear definition of a price pattern, traders who are new to the pattern can identify them on charts unambiguously for further study. As the trader progresses, the form becomes less important. Rigid forms are also helpful for more experienced traders. Price action that fits the strict definition can be marked out quickly before in-depth analysis. For traders following multiple markets, a set of rules for price patterns opens up the possibility of scanning for price patterns across markets with computer programs. www.tradingsetupsreview.com

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The above are equally applicable to other price patterns and even indicator trading rules. When learning any new trading strategy, starting with clear rules is the best way. Seek the Formless. However, the ultimate aim is not to memorise these rigid identification rules. It is to understand the price action and market behaviour that underlie these patterns, and to develop a reliable trading instinct. At the end of day, you do not need complicated and exact harmonic patterns or an exact 50.0% pullback to the tick to make money. You do not even need to remember what is a Trend Bar Failure or Deceleration pattern or any of the trading setups we’ve discussed at length. When you start to find value beyond the form of a trading technique, you have made real progress.

13.5 - Conclusion Move slowly towards exercising discretion. Rigid rules protect you, but flexibility propels you. When in doubt, always choose to be inflexible and consistent, rather than attempting to be flexible but ending up reckless. Bear in mind that you are not ready to trade yet, especially for new traders. You can analyse the market bias. You can spot and assess the quality of trading setups. You understand both the importance and danger of bending trading rules. However, you are still not ready to trade, not until you take a close hard look at the concept of positive expectancy in the final volume of this series. www.tradingsetupsreview.com

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