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The High Probability Snap-Back Strategy
One of the most high probability trades occurs when a strong reversal is in effect. Few people are even aware the trend has changed direction, but as they realize it, it often creates another strong surge in price. If you know what to look for, you can get in before the crowd and ride the next price wave on a high probability trade.
The Snap-Back Strategy Setup
The snap-back refers to the first very strong move against a prior trend. It must be strong enough to indicate at least a short-term change in direction, and that another strong move will follow in the same direction as the snap-back.
Snap-backs are usually two or more price bars, although there is no fixed number of bars that works best.
Figure 1 shows a snap-back lower and a snap-back higher. The snap-back is an aggressive sharp move against the prior direction. The price falls away in the first example, and rallies sharply in the second example; it is only a snap-back if the movement is very strong (no drifting) and it is the first very strong move against the prior direction.
The strategy can be applied on anytime frame.
Figure 1. Snap-Backs – EURUSD
The time and price scales have been removed in the Figure 1, as the total movement or time isn’t of concern, rather, only relative movement matters. The two snap-backs marked clearly show aggressive first movement against the prior direction. This could be a 1-minute chart or a weekly chart, the set-up is still the same.
Figure 1 shows the “snap-back” we looking for. Following the initial snap-back move there is usually a pause–often moving mostly sideways–which is then followed by another strong move in the same direction as the snap-back. This can be thought of as “snap-back, pause, and follow-through.”
The pause provides the entry point. It must be two or more bars, which shows the price has actually slowed. The exact entry point is beyond the scope of this article, although the strategy is still highly effective if entering anywhere in the pause. If you have a bit of patience and don’t mind missing the odd trade, you can let three (or more) bars develop on the pause, and then place an entry order near the top of the pause if the snap-back was lower, or near the bottom of the pause if the snap-back was higher.
This keeps risk extremely small and maximizes return.
Figure 2. Snap-Back Trading – EURUSD
Figure two shows a snap-back lower, followed by two pauses which occurred back-to-back. Both pauses are fine to enter short on, as the expectation is still that the price will continue to drop.
The rectangles mark ideal entry areas. The second pause provided ample opportunities to get short near the top of that pause.
Stops and Targets
If trading binary options you don’t need to worry about stops and profit targets, although you will need to choose an expiry time. Choose an expiry time that is about 5 to 7 “bars” away from your entry time. For example, if you are monitoring a 1 hour chart, your expiry should be 5 to 7 hours away (5 to 7 bars). This gives enough time for the price to follow-through, but not enough time for it to start reversing. You may wish to adjust this based upon any tendencies in the price action at the time of the trade.
If trading traditional markets, place a stop loss just above the pause in a snap-back lower, and just below the pause in a snap-back higher.
The target is based on the original move. In figure 3 we measure the profit based on the high of the first red bar (start of down move) to the low of the first pause. If that is 100 pips, then we are looking for the price to continue to drop 100 pips from the top of the first pause.
In Figure 3 I have drawn a trend line to provide the distance (high of down move to low of pause case) of the snap-back. The line is then simply copied and moved (top of line at top of first pause) to provide the target for the trade.
Figure 3. Stops and Targets
These sharp moves against the trend catch most traders off guard, which is probability why it is such an effective trade. You will need to determine for yourself, possibly with the help of indicators, what exactly constitutes “strong” or “aggressive” to you. Define your own personal parameters for how you will handle these situations. Keep in mind, the profit target is set regardless of your entry point. You may wish to hold a trade a bit longer if the price is moving well in your favor, but avoid getting greedy–usually the method outline for profit taking is quite effective.
Trade “Middle Waves” For a High Probability of Success
A common trading problem is that if you wait too long to enter a trade–until everything looks perfect–the trend is likely almost over. Yet, if you try to anticipate changes in direction you’ll likely be too early and thus sustain losses before the market turns in your favor. If Goldilocks were a trader, she wouldn’t want to enter too early or too late, she’d want a trade right in the middle. That’s where the bulk of the money is, and where new traders should place most of their focus.
Finding the Middle
In trading circles, the middle of the trend is often referred as “the 3rd wave,” related to the Elliott Wave Theory assertion that trends typically unfound in 5 wave patterns, and then correct in 3 wave patterns as shown in figure 1.
Figure 1. Basic Elliott Wave Structure
Trading middle waves doesn’t require any Elliott Wave knowledge, because by looking for a certain pattern most trades will end up taking place during “wave 3,” or even if we don’t realize we are in a pullback and not a trend, worst case scenario we are trading in “wave c.” In either case, the setup aligns in the right direction to profit from wave 3 or wave C.
To find the middle of an uptrend, you need a higher high and a higher low.
To find the middle of a downtrend, you need a lower low and a lower high.
Figure 2 shows the start of an uptrend. The AUD/USD had been moving lower, making lower lows and lower highs. Then, on a strong rally it makes a higher high followed by a higher low. This provides a high probability that the trend has shifted–at least temporarily.
Figure 2. AUD/USD Shift in Trend – Daily Chart
In this case, after the higher high, we need to wait for a pullback. As long as the pullback stays above the prior low we are looking for a long trade, because we now have a higher-high and higher-low, which means either a wave 3 (preferably) or wave c is about to unfold and we want to be a part of it.
Figure 3. Setup
Figure 3 shows the basic set-up. Based on the higher-higher, we want to go long, but need to wait for a pullback to do so. We let the pullback materialize, but as soon as the price starts moving higher again we take a long position. Figure 3 shows an entry point where a very strong up bar moves above the highs of prior pullback-bars, indicating the buying is resuming.
A stop loss is placed just below the most recent low on the current pullback (or above the recent high on the current pullback if looking to go short in a downtrend).
At the very far right of the chart the price reversed again, therefore this “trend” only lasted 3 waves and not 5. By trading this strategy though it doesn’t matter; since markets almost always move in at least 3 waves, often more, by getting in just as the third wave (or wave c) is starting the trade has a high likelihood of at least moving somewhat in our direction before reversing.
With binary options your profit is already set, but for those trading traditional markets, a Fibonacci Extension tool can be used.
If the pullback is relatively shallow compared to the prior wave, as it is in Figure 4, exit at the 61.8% extension. If the pullback is quite deep (retraces more of the prior wave) then use the 100% extension level. As a general rule, use the first extension level which is above the prior high in an uptrend, as shown in Figure 4 (or below the prior low in a downtrend). The rectangle at the 61.8 level indicates the exit.
Figure 4. Target
This strategy takes advantage of what appears to be the middle of a trend. There is no way to know for sure when the trade is taken that it will work out. The market does produce repeating patterns though (even though they may look slightly different each time), therefore many traders seek out these middle or 3rd waves because of their “trustworthiness.” A strategy that covers how to enter the trend sooner is covered in The High Probability Snap-Back Strategy.
Snapback Forex Trading Strategy
Hey, traders. Welcome to video 16 of the Advanced Forex Strategies course. This is Cory Mitchell. In this video we are looking at the snap back strategy, as well some additional insights into overall trading. This strategy can be used on all time frames, brought to you by invest Investoo.com.
So trend trading is where the money is. The snap back is a reversal strategy. It shows the trend has likely reversed, so we’re going to trade the next wave in the new trend. As always, our risk is going to be lower than our potential reward. In this case, substantially so. We’re going to try to get our risk down to a very small level and our potential reward quite big.
So this is going to be one of the insights that we look at where a lot of traders look for a lot of confirmation in their trading and they end up with not very good risk/reward ratios. This is one where we can really… we’re going to allow ourselves to be wrong a bit more often, but we’re going to be able to profit on our trades that are winners quite a bit more.
It can be used on all time frames. We’ll introduce some new elements on this one. This is an advanced course, so these entries are going to become more advanced and we can still use the entries covered in prior videos if you’re more comfortable with it, but this is I guess taking it to the next level, you could say.
Trade in the direction of the trend which is the snap back strategy. With this strategy we can set and forget. Once we have our entry you can allow it to hit your target. This pattern is similar to a pennant except we are viewing this as a trend reversal, so it has a different context. With a pennant we are going to trade a breakout in either direction, typically expecting it to continue in prior direction. But this has a different context.
We are looking for a reversal of the prior trend. Also we are going to trust the reversal more, which means by trusting that reversal, that the trend is reversing is going to continue in the snap back direction, which I’ll tell you about in a minute, we can get a better entry price.
So if the trend is up, a snap back occurs when a sharp move lower occurs which is powerful enough to take out the former swing low and uptrend. So this is very similar to what we discussed in the cup and handle video which was video 12, except that in this case we need to have a sharp reversal. So we’re moving up, the price is trending up, moving in waves and then we have a sharp pullback which takes out or negates that last wave of the uptrend.
This move is sharp. We don’t want to see rounded bottoms. It can be a bit rounded at the bottom, but the move back, the snap back has to be sharp. And we call this a snap back lower because the price was moving up and it snaps back to the downside. If the trend is down, a snap back occurs when a sharp move higher is powerful enough to take out the former swing high in an uptrend. So basically it’s negating the last wave of the downtrend, and we call this a snap back higher.
Once we have the snap back, we only need a two bar pause. So this is a bit different than the pennant as well. The pennant we were looking for more of a pause. With this one we’re expecting that momentum to continue. Once we have two bars, we’re looking for our entry. For the snap back lower we place an entry near the high of the last two bars, of that two bar pause. For a snap back higher we place the entry near the low of those bars.
We place a stop about two or three pips outside the respective high or low. Three for most pairs. Like we said, we’re going to keep the risk on this very small. If you’re trading on a more volatile pair such as the British pound/Yen, you may want to use five pips but really three is about all we need. We’re going to keep our risk very small on this. Typically we’re looking at about a five to ten pip risk. On a bit more volatile pair, maybe 8 to 12. So risk, really small.
We can take bigger positions because our risk is small. Still we’re only going to risk 1% though, but since the stop is small we can take a bigger position and we’re going to try to collect more on this than most of our other strategies. If not filled on those entries… so we’re placing it, once I go though a few examples it will become a bit more clear… if we’re not filled on those entries we can just use a breakout strategy where we have that pause and we just wait for the breakout, but we only take it in the snap back direction.
So target is the height of the snap back subtracted from the top of a pause if we have a snap back lower, or added to the bottom of a pause if the snap back is higher. And once again, don’t use extremes in price. We only measure the sharp moves, and don’t measure slowdowns before the consolidation.
At a three-to-one risk/reward, and this is pretty typical for this strategy, you only need to be right three times out of ten to make money. So that is very powerful. Remember that. I’ll show you a few. This is a strategy. It’s probably about a 50/50.
If you get good at isolating them and introduce a few filter criteria you might get as high as six or seven out of ten, and at a three-to-one ratio that is an extraordinary return, because at three-to-one you’ll have seven that are losers, so that would be equivalent to losing $7, but on the three that you make you’re making $3. That would be $9. So you’re making more on three winners than on seven losers. So keep that in mind. This is a pretty powerful strategy, especially once you start to practice and get better at isolating good signals.
So risk must be kept below 1% on each trade and we are making an assumption about the new trend which allows us to get a very good price. So as mentioned, we can afford to be wrong quite often simply because our reward is going to be much greater than our risk.
So let’s look at one example here. This is a reversal strategy. So in order to have a signal we need to have a clear downtrend. So here we have a move lower, and then this move. This, some might consider a snap back. It is not, simply because at this point the trend is already in question. We’re no longer in a confirmed downtrend because we have this higher low. So this is one I would ignore.
If we wanted to trade this we would simply look for another method of entry that we’ve covered in other videos. At this point this really fails to go higher, so if we were trading this long it would have failed no matter what. But this is not a snap back strategy, simply because the downtrend is in question and therefore, by the time this signal occurs it’s not a reversal.
On the other hand, down here we have confirmed a move to the downside, making a slightly new low here, just barely, and then make a move higher. So this is much more of a confirm still in the downtrend, and we have a sharp move back higher. So it needs to retrace that last wave which it does here. It pulls back into where the last down wave started.
Preferably we do not want the rounded bottom. But that’s okay. This occurred overnight. That’s somewhat to be expected. And we have this sharp move back up. So this is what we’re really looking for, is a lot of conviction on the part of the buyers to match that former down move which we have here.
So as soon as we have a two bar pause, which is these two bars right here, we have this red one and a green one, we put out an order near the bottom of that pause. Right in here. There is no hard and fast rule, putting it one pip away from the low or two pips away from the low. It’s basically we’re going to draw a little area like this and based on your spread as well, where do you think you can get filled? So this pulls back to this low, we would have been filled there. And basically if this pauses, we’re looking at trying to get the absolute best entry point we can for this next wave up which occurs shortly after.
Now this is where I guess the insight of the video comes in, because this is a very big shift in the traditional way of thinking. By doing this and looking for the best entry point we can have, you’re sometimes not going to get filled. Other times it’s going to drop right through you. This is a shift to think of things in terms of mathematics, where you can be wrong a lot and still make money. So by waiting for this entry point, your reward is going to be a lot larger than your risk simply because by getting filled down here, you can put a stop right below that bar that you based this area on.
So we’d put a stop right about there. Like we said, about three pips below. So that’s about a pip and a half, so we’ll just move it a bit lower.
So if we’re filled in this box, even if we’re filled right at the top we’ll say, we are looking at about a seven pip risk. So at seven pips it is very easy to make 21 pips, or three-to-one. How we’re going to establish our reward is similar to the pennant pattern. We are going to isolate the most probable areas of the wave up. So once again, we’re not going to count extremes and we’re not going to count this very bottom part where it was consolidated. We’re only going to count where it really started to move up which is right about there. That is then added to the bottom of our pattern, so our target would have been right there.
Once again, if we entered right at the top of that box we are looking at a nearly 24 pip gain for 7 pips of risk. So almost four-to-one, or three and a half-to-one. A very good risk/reward ratio. I typically won’t even take a trade beyond that. We will occasionally see it. If we do get the target up there, we will take it. But at a three and a half-to-one or four-to- one, you can be wrong a lot and still make money.
So this is a very different strategy. A lot of traders have this mindset that they have to win all the time in order to be a profitable trader. Yet, taking a trade like this where you have a two bar low after a strong move and you’re just trying to get back in or put an order out at that two bar low, so in that case here, gives you a very small stop. In this case we’re talking about seven pips on an hourly chart, and on an hourly chart you can have some huge moves to capture. We’re talking about a very small risk to capture some big gains.
Let’s move to this one. This one would’ve been a loser, but if we do the math on it it’s quite extraordinary the amount that you could have made. So here we have a two bar pullback. This once again would have been a little bit questionable too here, simply because we had this up move here, but I just want to show you the math of it.
So this is the pattern we are looking for. Typically we’d want to see it an overall downtrend though. So we don’t want to see this move higher before it. Post sharp move down, equally strong move up. We have this two bar pause here. We would have placed an order at the bottom of that two bar pause. Five pips we might have been stopped out on this bar, but if not we still would have been eventually stopped out because it did not continue to the upside.
But let’s say we were looking to enter right about there. Yeah, that was right about five pips below so we would’ve been stopped out right about there and that’s fine. Looking at about ten pips of risk on that one just because we had a bit more movement. But our target, from the start of the strong move which was that first green bar, from the low of the pattern would have been up here and we’re looking at 53 pips for 10 pips of risk. So that one would have been a five-to-one had it worked out.
So don’t get caught up in the fact like oh, this is a losing strategy. If you win two or three of these at four-to-one or five-to-one, you’re going to end up being a profitable trader. So get rid of that notion that you have to be right on every trade. I use the term, I don’t want to say gambling or that you’re betting on something, because that gives the wrong perception or the wrong interpretation, but all we’re looking for is the most advantageous spot we can get and that occurs in this type of strategy where we have this slight pause and we just try to get in at the bottom.
So once again here, this is not one, this move and the move back simply because we already have some evidence that that trend was reversing, so some of the buying pressure here has already been absorbed. These looked like ones but they are not, simply because the overall trend is up. So when we have this sharp move up, that is the trending move already. We don’t expect it to keep jumping relentlessly. Here again this is a move back in the trending direction, so it is not. We want a counter-trend move.
This is a very powerful one. We have a sharp move up, little pullback, move to a new high. So this is the overall uptrend continuing. We have a sharp reversal here down to this former start of the last wave, so that is one there.
The question is down here, do we have a pause? This bar is technically a pause. It retraces. This bar is a pause. Whether we would get in on this bar, definitely debatable depending on where you placed it above. If you had placed it just above that and close to this high you may have gotten it, but this definitely would have been a close one because it just barely got into the high of those two bars.
But if you had gotten it we’re talking about a huge potential because this was a major reversal as we can see. We were in a long term uptrend, which is then very aggressively reversed by some news. A little pause there. We were looking to enter right at the top of that pause, and get that downside momentum. So this is what we call a major shift. I wouldn’t use this whole thing. From the top, and target down here, and the stop would have been just above, about five pips above where we set our high.
So we are going to get stopped out on quite a few of these. I think, the reasonable from when I first started trading these, it was about 50%, the win ratio. But because you’re making so much on your winners it creates a very profitable strategy, and then over time you’ll get a bit better at determining where to place your entries in here after the two bars. And it is I have mentioned somewhat subjective.
You’ll need to get into a demo account and really try this out. It’s a very powerful strategy. But since we are getting advanced… the rules, when you become an advanced trader, the rules turn to guidelines where you realize the market is dynamic and rules aren’t always the best application.
We want to look for guidelines. So it’s more we’re just looking for the pause and to get in near the highs of those, but it’s not exactly go two pips from here, three pips from there. The rules get thrown out and everything becomes more about guidelines, which means a lot more practice but the payoff becomes much better because you’re going to get these super high-reward entries as opposed to some of the other ones we’ve talked about which are still very good strategies and I use them all the time, but you’re not just getting quite as good a price as this.
Because if you trade the breakout, which is another thing we have to discuss, if you don’t get that entry you can still trade the breakout of the pause which would have been… so you can see a nice little shelf here that forms, and then this bar is the breakout. So you can still trade that breakout, but you can notice there’s a big difference in price between getting in here and getting in here. So just a little bit shift in thinking can get you that little bit better entry price. So that’s the focus today. When you have that pause, assume the next direction. We had a sharp move down, pause, assume the next direction, get in near the top of that.
Every trade has a stop and target. Put those out when you place the trade. Risk is less than 1% to your account. These take a lot of practice to spot. We’re talking about moving from rules to more guidelines as you become a better trader. So it does take a lot more practice but they payoff becomes much bigger. They look easy, but they’re lots of similar patterns with lower probabilities. Make sure that you have a good risk/reward ratio if you’re going to trade these.
And the snap back has to offset the prior trending wave. So we want to see a sharp move against a current trend. The bigger the trend and the sharper the pullback, the better the trade’s going to be. Trade in the snap back direction. Place a stop just outside the pause. Target is based on the height of the snap back. Be conservative. The reward will typically be very large compared to risk. We can afford to be wrong a few times, but not get greedy.
This, optional I include in most of the videos. The 1.6, if you just want to get out a bit of your money to lock in a profit. In this case I would probably not recommend it simply because we know that we’re going to be wrong probably 50% of the time at first with this strategy, so there’s no reason to get some out. Instead you want to capitalize as much as you can on the ones that do pay off. So instead of getting it out, wait for that five-to-one or six-to-one target where you’re going to recoup all those losses and make all those losses from the losing trades and make a profit.
Trading involves substantial risk of loss. Only trade with capital you can afford to lose. Test out strategies before using them and make sure you are actually able implement them and that they work for you. Very important with this because it is becoming a little bit more subjective and more guideline-based.
So get in there, practice this. If you can master this, you’re going to become a very good trader because it’s a big shift in the psychology of how most traders think. Until next time.
More About Adam
Adam is an experienced financial trader who writes about Forex trading, binary options, technical analysis and more.
The Power of The Pull Back Trading Strategy
Trading is easy, but people make it hard. I know this because, just like you are probably doing, I used to make trading very hard on myself. When I first started trading about 15 years ago, it felt like I was constantly on the wrong side of the market. As soon as I entered a position, it was as if someone was inside my computer, waiting to push price in the other direction. I literally felt like someone was ‘trading against me’ and trying to take my money.
Does this sound familiar to you??
If so, it’s probably because you are not aware of the power of pull backs or how to trade them properly. You are probably entering at the wrong time; just when the markets are ready to move against you. You are doing this because you are entering when it ‘feels’ good, instead of when it makes objective, logical sense to do so.
Today’s lesson will show you why market pull backs or retracements are SO powerful and why you need to start focusing on them ASAP….
The theory behind trading pull backs…
Everyone has heard the old cliché, “The trend is your friend until it ends”, but what exactly does “trading with the trend” entail? It can seem vague to the inexperienced or beginning trader. What we need are SPECIFICS, not vague clichés that accomplish nothing (unrelated side note; this is also what we need from politicians).
OK…so 90% of my trades are with the underlying bias of the market, in other words, I rarely try to pick tops and bottoms. However, that doesn’t mean I don’t trade against the current direction of the market. For example, I may see a long-term uptrend in Crude Oil and then wait for the market to start falling before I come in and buy the market, but I am doing that because I believe in the underlying trend. This is very different to top and bottom picking and it’s what professionals call “trading from value or trading pull backs or trading retracements” (all mean the same thing).
Waiting for a pull back and trading from that pull back is a much higher probability play than entering at the extended part of a move. Pull backs can help lower entry point risk as we are usually trading at a key market area (value area) that has previously shown support /resistance (depending on the direction you are trading of course). As we know, key levels are often major containment points and the tide can shift at these inflection points very quickly and lead to large moves in the opposite direction (in our trade’s favor).
To put it more succinctly, the reason why trading pull backs is so profitable, is because markets ebb and flow, and a pull back helps you to refine your entry point so that you are entering at or close to the turning point between the ebb and flow (again, this is not top or bottom picking because we are not trying to predict a trend change). You won’t always get it exactly right, but if you stick with the underlying trend or trade from a key chart level, you can usually get close.
Let’s look at a chart to understand this better…
In the chart below, we have a clear downtrend in place. By the time the circled areas occurred, it was obvious a downtrend was underway, if you don’t understand why, then read this article on trend trading. So, at the point of the red circled areas, experienced traders were certainly looking for pull backs within the trend, to join the trend from a high-probability point. Whereas, losing traders were thinking the ‘trend was extended’ and thinking it would end after every downward swing. As you can see, if you tried to buy near any of those low points, the market only moved up a small distance before the trend resumed, and the MUCH bigger pay-off came if you had looked to be a seller on the retracements higher, or a seller on strength.
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Also, many traders only feel comfortable entering when the market is currently moving in the direction they like. So, many traders lost money because they sold right near those bottom points, when the market looked weak, but was actually getting ready to retrace higher. This is partially why trading gives many people trouble; because you typically must do the opposite of what you feel like you want to do, to make money. I can assure you that selling when this chart was retracing higher, wasn’t easy to do, because it felt like the ‘bottom was in’, but we should trust the underlying trend, we must have faith it will resume…
Retracements: The cornerstone of a market technician
Identify trend then look for pull backs…
The primary way to trade pull backs is to look for trends and then look for pullbacks within the trend. What you are doing here is first identifying the overall momentum of a chart; which direction is the chart generally moving, from left to right? This will be your path of least resistance, or the path the market is most likely to continue moving down in the near future.
We need to remember however, that markets do not move in straight lines. So, if you have identified an uptrend for example, it doesn’t mean the market may not move down for a day or two or three or even a week or two, within that overall uptrend. The thing traders forget about is the element of time. A downward pull back of 3 or 5 days, can seem significant to the average trader who really wants to make money, but in the context of a multi-month or multi-year uptrend, those few days are just a blip, a blip that can cause you to lose a lot of money if you aren’t careful.
Let’s look at an example of this…
Notice in the chart below, a clear uptrend was in place. Note the minor pull backs to the downside within the trend; these are high-probability opportunities to enter the trend. The best entry and the most obvious, was the bullish pin bar notated on the chart; a prime example of trading a price action signal on a pull back or “buying weakness in an uptrend” …
Identify most recent swing move and trade early retracement
Now, there are many times when the market trend is not super clear or obvious, and during such times we can still use pull backs or retracements to our advantage. Notice in the chart below, there was an existing uptrend, this was obvious, but then price began to pull back, to swing lower, within that uptrend. Over the course of a few weeks, it became evident this was a protracted pull back that could keep moving lower, yet it was not quite clear whether the overall uptrend was over just yet. In this case, we can look for upside retraces to get short or to sell. Especially, after the first retrace higher got turned lower again, we would then be looking to sell on subsequent retraces…
Trading pull backs to support / resistance levels or moving averages
We also want to focus our attention on key chart levels of support or resistance as well as moving averages, for pull backs. You can easily identify support and resistance levels and watch for price to pull back to them and then either enter blindly or wait for a price action confirmation signal to enter and ‘fade’ the recent market direction into the level. By that I mean, if the market was falling into a level, you buy at the level, and if it was rising into the level, you sell at it, or fade it. Moving averages are usually better in obvious trends; you can watch for smaller retracements to the moving averages (exponential moving average or ema) and then look to join the trend from that ema, ideally on a price action signal, but it’s not always necessary, especially in very strong trends.
50% retraces even on intraday charts.
Pull backs provide us entry opportunities on daily as well as intraday charts. One way to look for pull backs is to watch for 50% retracements of moves. These don’t always have to be major moves, as we can see in the chart below. Sometimes, there won’t be an obvious key level to watch for pull backs to, or there won’t be a moving average, so you can also use the Fibonacci retracement tool to look for approximate 50% retracements of moves, look to get in near that 50% level. Ideally, the market will be trending and you can watch for these 50% retracements within the trending structure, and then re-join the overall trend direction from the 50% level. We can see an example of this on the 4-hour chart below:
Pull backs to key levels can result in big risk reward potential
Trading pull backs can also assist in creating high risk to reward plays, especially if we are entering from a long-term key level and using the 4 hour or 1 hour chart to pin-point an entry. It’s not uncommon to pick up trades that exceed a risk reward of 5 to 1 and sometimes far more.
In the chart below, we can see an example of trading a pull back to a key support level. We had a nice pin bar buy signal to confirm our entry and notice the huge potential risk reward here. Pullbacks to key / long-term levels often result in huge moves the other direction as price bounces or repels from the level, creating huge potential pay offs / risk rewards:
Order types used to enter on pull backs…
Generally speaking, one can use market entry orders or limit entry orders to enter the market after a pull back. As discussed above, a pullback provides us with a high-probability spot to enter a market, as a blind entry at a predetermined level with a pending limit order or on ‘confirmation’ with confluence which usually means a price action signal, which would be entered on a market order typically.
When waiting for a pull back and TLS or confluence, we usually can use market orders when the conditions are met.
When entering on a blind entry at an event area or similar key level, we can set a limit ‘pending’ entry order at or very near to the level.
What to do in a ‘runaway trend’ that doesn’t really pull back….
Please note, that just as great trades can be entered on pull backs, the ‘golden rule’ still prevails; that markets move in extended trends and remain in over-extended moves for longer than you think. It’s those who have the guts to commit to trading in the direction of what looks like an ‘over-extended trend’ when everybody else is running scared, that make the money. I would ideally want to be trading pull backs and entering on retracements during these large moves, but they don’t always come…
Sometimes we have to jump on-board the train and sometimes we must be prepared to miss the trade if we don’t get a pull back. Markets often run further than we expect, trends last longer than we imagine…
In these market conditions, we would ideally trade in-line with these moves but ideally enter a trade after a pull back, but if we only applied this concept, we will miss some trades as there won’t always be a pull back. So, if markets don’t pull back and we miss a trade if we don’t get on board, we will kick ourselves 50% of the time. A solution is to read the daily chart time frame on a day-to-day basis and watch for any price action signals which may provide entry opportunities. Even in the absence of a pull back in prices, there are often clues that the market is likely to continue and breakout with the trend (such as inside bar pattern trend breakout). As I have said, price action is like reading a book from left to right; you have to know what happened on the previous page for the current page to make sense…this is a skill mastered with education / training, time and experience.
Trading pull backs not only provides you with very high-probability entry points into trends and from levels with huge potential risk rewards, it also helps with the psychology of trading. You can consider this yet another advantage of pull backs and another reason they are so powerful; trading pull backs will teach you great habits.
A trader truly focused on trading pull backs must learn discipline and patience, because trading pull backs means you aren’t just entering wherever and whenever you want. It means you are held accountable to a set of planned scenarios that you have defined in your trading plan and that you wait and watch for in the market.
I personally employ the idea of set and forget and this has forced self-discipline and routine into my trading approach by only trading at pre-determined levels and scenarios. It helps me avoid the urge of jumping into the market on market orders and over-trading, and it develops the patient, sniper trading mindset that is the foundation on which my entire trading strategy is built. Today’s lesson is a just small preview of what you will learn in my price action trading course and members’ area. I hope you have learned something new that you can apply to your trading.
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Two Leveraged ETFs with High Probability Buy Setups
December 20, 2020 by Michael Carr
In a volatile market like we’ve experienced recently, short-term traders can enjoy large gains in just days. Leveraged ETFs can be used to increase the potential trading gains. For example, SPDR S&P 500 ETF (NYSE: SPY) gained 4.3% in the final three days of last week. ProShares Ultra S&P500 (NYSE: SSO) is designed to move twice as much as the S&P 500 on any given day and gained 10.0% over that same time. ProShares UltraPro S&P500 (NYSE: UPRO) is designed to move three times as much as the S&P 500 on any trading day and gained 15.1% from Tuesday’s close to Friday’s close last week.
As this example demonstrates, with the right strategies, leveraged ETFs can be profitable for short-term traders. In the guidebook Trading Leveraged ETFs with ConnorsRSI we provide details on two dozen strategy variations with a win rate above 90% and 15 strategy variations with an average profit/loss per trade of 9% or more. These are short-term trades with an average holding period of only 4.71 days across all variations.
The ConnorsRSI Leveraged ETF Strategy also utilizes a concept known as scaling in, which allows us to increase our position size as the trade becomes more attractive. The general rules for scaling in can be applied to other strategies as explained in the guidebook ETF Scale-In Trading. This guidebook will teach you the specific professional disciplines you need to “scale-in” correctly. The book contains over 80 variations with specific entry/exit rules and scale-in ratios. More than 20 variations show a winning trade rate over 92.8% of the time. Thirteen variations show an average profit/loss per trade of over 4.0% and the average holding period is only 2.63 days across all variations.
For the ConnorsRSI Leveraged ETF Strategy, if the leveraged ETF meets minimum liquidity requirements, a buy setup is completed when the ConnorsRSI value of the leveraged ETF is deeply oversold and other conditions are met.
Heading into Monday’s open two leveraged ETFs meet all of the setup requirements.
Both of these ETFs are also potential buys with a PowerRatings of 9.
PowerRatings are based on the relationship between price and the 5-day moving average (MA) of price. The further prices move away from the 5-day MA, the stronger the tendency to snap back becomes. PowerRatings uses the 5-day MA and several other components to identify high probability trade entry points. This strategy was thoroughly back tested and the history of over 4 million trades was analyzed.
We know from back testing that PowerRatings can be used as the basis of a trading strategy. Detailed back testing has confirmed that the higher the rating, the greater the one week historical gain has been for stocks and ETFs with that rating. For best results, enter trades on stocks with a PowerRatings of 8 or higher with a limit order 3-7% below the previous day’s closing price. Higher % limit entries have historically shown a greater percentage of winning trades but higher % limit orders also reduce the chance of trade execution.
As an example of a trading strategy that can be used, in the past, buying stocks with a rating of 9 on a 3% pullback the next day and selling after the stock closes above its 5-day simple moving average has been profitable 75% of the time with an average gain of 4.3%. Other entries and exits also show high winning percentages and large average gains.
Now let’s look at the most overbought and oversold stocks (according to ConnorsRSI) heading into trading for December 22, 2020. ConnorsRSI is a proprietary and quantified momentum oscillator developed by Connors Research that indicates the level to which a security is overbought (high values) or oversold (low values).
WGO (Winnebago Industries) is the most oversold stock with a ConnorsRSI reading of 4.64.
SJB (Short High Yield Proshares) is the most oversold non-leveraged ETF with a ConnorsRSI reading of 7.36.
ERY (Energy Bear 3X Direxion) is the most oversold leveraged ETF with a ConnorsRSI reading of 5.53.
HIIQ (Health Insurance Innovations I) is the most overbought stock with a ConnorsRSI reading of 99.19.
IYE (DJ US Energy Ishares) is the most overbought ETF with a ConnorsRSI reading of 95.52.
TradingMarkets Lists provide users pre-populated lists of stocks and ETFs identifying symbols with overbought and oversold ConnorsRSI and Bollinger Bands® readings. The Screener Lists are powered by The TradingMarkets Screener.
All data is as of the end of day on 12/19/2020.
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