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You Can't Become Rich In Your Pocket Until You Become Rich In Your Mind | ||||
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In trading, it is never a good idea to try to catch a falling knife (buy a steep sell off)SUMMING UP THE CURRENCY BOX PLAY I always enjoy the act of giving presents and opening them over the holidays. I find that I enjoy that feeling almost as much as discovering a new box to open up in the currency markets. With this play, Christmas seems to happen a few limes each week instead of just once a year. In parting, I can't emphasize enough how important it is for traders to find a market that fits their own personality if they hope to be successful. If you find thai you are happy only if you are buying breakouts and selling breakdowns, then the currencies are probably your market of choice. Currencies break and trend well, while the E-mini S&Ps tend to suck in traders with false breakouts and breakdowns. In other words, if you are buying breakouts in the S&Ps and getting killed, then give the currencies a try. HOLP AND LOHP CATCHING TREND REVERSALS WITHOUT GETTING SMASHED BUYING A MARKET JUST BECAUSE IT IS CHEAP OR SHORTING A MARKET JUST BECAUSE IT IS EXPENSIVE IS DANGEROUSUNLESS IT'S DONE LIKE THIS When it comes lo the financial markets, the bottom line is that current action is going to be determined by one thing and one thing only; the price that people are willing to pay right now. A stochastic can be overbought, a MACD (Moving Average Convergence Divergence) can be rolling over as a potential short, and moving averages can be violated to the extreme. Whatever the case, it doesn't mean price action is going to reverse. There h a high probability to be sure, but that doesn't mean it's going to happen. On the contrary, prices can still keep trending higher or lower in these cases of extreme overbought or oversold readings for a long. long time. In 1999, overbought stayed overbought for months and months. In 2000 and 2001. oversold stayed oversold almost continuously. Everyone who screamed, It's a bargain on the way down learned many times over the meaning of pain. I hear stories nearly every day from people who bought a stock because it looked cheap only to have it continue to crater on a daily basis. Some of these stocks like EXDS (Exodus Communications, Inc.) and WCOM (WorldCom, Inc.) got real cheap, real fast. Eventually the people who bought these stocks on the way down either got frustrated and couldn't lake the pain anymore so they sold, or, in many instances, they got out using one of the best tried-and-true sell signals on the planetthe company declared bankruptcy, and the stock went to zero. The opposite is also true in that I've heard plenty of war stories about' traders shorting a stock because it looked loo high. They were soon experiencing shell shock as the stock continued to race higher and destroy their account. Speaking of shorting, I always find it amusing that brokers talk about how dangerous shorting a stock is, because the potential losses are infinite. Well, 1 have yet to see a stock rise to infinity, but I've seen plenty of stocks go to zero. Never mind the fact that brokers and trading firms make a huge living shorting stock to the public. In trading, it is never a good idea to try to catch a falling knife (buy a steep sell off) or step in front of a freight train (short a frantic rally) just because prices look too low or look too high How, then, does a trader catch a reversal without risking life and limb? That is where this setup comes into play. This method for catching market tops and bottoms is based on the one solitary thing that matters most in trading: price. TRADING RULES FOR SELLS (BUYS ARE REVERSED) This is a reversal play, I will short tops and buy bottoms only upon confirmation of this setup. I generally use this for swing plays, but it is valid on all timeframes including smaller time frames for intraday plays. HOLP and LOHP are acronyms for high of the low period and low of the high period, We refer to them as HOPE and LOPE 1. Identify a trending market, or individual stock, that is ideally making new 20-day (or period) highs. This is a rule of thumb and markets that are only making 17- or 18-day (or period) highs are also fine. The point is that you want to see a defini tive trend and be ready to step in when that trend reverses. 2. Identify the high bar in the uptrend. This is typically the current bar, but it could be a few bars back. By high bar1' I mean the bar with the highest intraday price prints in the entire move higher. 3. Once I identify the high bar, I will then go short once price action closes below the low of this high bar. (Say that really fast three times.) 4. The initial stop is the high of the high bar. If I am still in the trade on the third day, or period, I will start to use a two-bar trailing stop. I will exit this trade when the current bar closes above the price level represented by the two-bar trailing stop. 5. Due to retracement price patterns while in a play, the two-bar trailing stop will have to at times be held on the current stop bar until the trend resumes. Once the trend resumes, the two-bar trailing stop can also be resumed. This doesn't happen very often, and I realize it makes no sense while reading this text. Don't worry, it is not subject to interpretation, and it will become clear when you see a specific example. I will focus specifically on this in Fig 15.13. This setup works in all markets, in all timeframes. 1 usually use this play on individual stocks and their corresponding stock options, stock index futures, and the forex currencies on the 60-minute and daily charts. This is an example of the entry method. This particular chart is a daily repre sentation of the E-mini S&P futures. Once I've gone over this entry method, we will jump into the exit strategy. It is important to understand how to enter this trade. The white bar labeled point 1 represents the high bar in the uptrend. The low of this high bar is 1133.50. This high represents the highest prices seen in at least 20 days. In fact, the last time the S&Ps were at this price level was back on July 1,2004. 2. Since the black bar labeled point 2 broke the low of the high day, we enter this position at the close of this day. My entry is 1131.50, This trade does not have an exit at the time this snapshot was taken because an exit signal has noi fired oft'. I usually get a few questions here when I discuss this trade. The first is, Can I enter the trade intraday as soon as it breaks the low of the high day instead of waiting for the close? My answer to this is that you can, but I really want to see a close to show that the market means business. Often I would take this trade inlra-day, only to have it close back up above the low of the high day, which invalidates the trade. By waiting for the close, you are getting extra insurance that this reversal is valid. The other question I get usually has to do with entry points and in knowing which bar is actually going to be the high bar. Of course, you don't know which bar is going to be the high bar that kicks off the reversal until the price break actually occurs. Is it going to be this bar? Or are we going to get another, higher bar first? All you can do is continue to watch the new bars develop. When I identify a high bar, I keep an eye to see if price action closes below the low of that high bar If the next bar goes even higher, then this new, higher bar becomes (he high bar. In essence, I'm trailing an imaginary sell stop order. As prices advance higher, so will my entry until we finally get a break of the low of the high bar. Although this is a simple concept, 1 have found that it takes a few examples for people new bo this setup to get the hang of it. That said, lei's look at some more examples. 1. This daily chart of ihe E-mini S&Ps (Fig. 15.2) is ihe same as Figure 15.1. However, this chart focuses on the initial reversal trade off the lows. The bar labeled point 1 takes place at the end of the September, marking the lows of this particular move, which aren't quite 20-day lows, but they are J8-day lows, which is fine. 1 want to buy a close above the high of the low day. The high on this day registered at 1H2.50. 2. The next day we close above this bar, and 1 enter this trade right after the 4:00 p.m. Eastern close of the regular cash session. I am filled at 1115,25. My initial stop is the lows of bar 1 just above 1100.00, ' 3. I'm in this trade for seven days. In the bar labeled 3 the S&Ps close below the low of the previous two bars. Once this happens, I exit right after 4:00 p.m. and get out at 1132.25 for a gain of +17.00 points, or $850 per contract. Note that the exit of this long also coincides with the initialization of the new short position in Figure 15.1. This doesn't always happen, but it does once in a while. Mini-Sized DowSeptember 2004 Contract, August 6,2004 1. On August 6, 2004, the mini-sized Dow establishes a new low within its current trend, and then starts to rally (see Fig. 15.3). This bar marks the low day, so I'm looking to buy a break of the high of this low day. 2. It takes seven trading days to close above the high of the low day. When this finally happens on August 17,1 get in after the close, and my entry is 9974. My initial stop is the low of Ihe bar that triggered off this tradet near 9770. Once I'm in the trade for two days, I start using a two-bar trailing stop. 3- On August 26, this bar closes below the close of the iwo^bar trailing stop. I*m out at 10121 for a gain of +147 points, or $735 per contract. Mini-Sized DowSeptember 2004 Contract, June 23,2004 1* On June 23, 2004t the mini-sized Dow futures put in a nice high bar (see Fig. 15.4). The low of this high day is 10343. 2* On June 28, the YM closes below the low of the high day at point #2.1 enter this position short at ihe close of this day at 10329.1 start oft with a stop at the highs of the high day, and once I'm in the trade for two days, I start to use a two-bar trailing stop. Remember, I'm looking for a close above these levels as a signal to exit the trade, 3. On July 27,1 exit at the close of bar 3 at 10061 for a gain of +268 points* or $1,340 per contract 1. On August 13, 2004, the high of the low day on the E-mini NASDAQ is 1317.50 2. On August 16, since the bar labeled 2 broke the high of the low day, 1 enter this position at the close of this day at 1322.00. 3. On August 30, ] exit at the close of bar 3 at 1367.00 for a gain of +45 points, or $900 per contract. E-mini NasdaqSeptember 2004 Contract June 30, 2004 1. On June 30, 2004, the low of the high day is 1506.00 on the daily NQ chart ( 2. On July 1, since the bar labeled 2 broke the low of the high day, we enter this position at the close of this day at 1494.00. 3. As the NQ sells oft, we stan using the two-bar trailing stop. On July 29, prices close above our trailing stop, and we exit at the close of the bar labeled point 3 at 1401.50 for a gain of +92.50 points, or $1850 per contract. Macro trend reversals, as these can result in big plays. The stops are also wider, so it is important to position size correctly on this larger timeframe. In this weekly chart, a new low bar is created during the week of August 29, 2003, with a low of 1.5620. The very next week, prices dip below this level to 1,5612,. creating a new low bar. Because this is a weekly bar, the only time action is taken is at the end of the week. These plays require a lot of patience, 2. There is a close above the high of the low week ending September 12, at point 2. The entry is 1,6037, 3* GBPUSD rallies strongly the following week and then edges up for the next several weeks. During the week of November 9, labeled at point 3, prices fall below the two-bar trailing stop intraweek, but rally and close above the lows by 30 pips. At this point, if we move the two-bar trailing stop up to the next bar, we would be stopped out because prices are already trading below that new stop. This is what 1 talked about in rule 5. Because of this, I just leave my closing stop in place, which is designated by the longer line reaching out from point 3.1 will just leave my stop here until I am stopped out or until prices make new trend highs, 4. At point 4 prices make new trend highs, and I go ahead and resume my two-bar trailing stop. 5. GBPUSD rallies strongly until my two-bar trailing stop is hit during the week ending on March 5, 2004, about six months after the entry, for a gain of 2,424 pips, or $24,240 per contract. This is the type of trade that makes the forex markets interesting, because a trader could take a $50,000 account in this example and make a million dollars on the trade. Needless to say, there is also the obvious risk of losing the entire $50,000. It wouldn't be fun if it was easy. SUMMING UP THE HOLP AND LOHP PLAYS There are two ways to try to catch tops and bottoms: the wrong way, and the only way. Shorting a stock or a market just because it is too high is the trader's rendition of committing suicide. Just as a dog will generally let you know when it's about to attack, a market will let you know that it is about to reverse. All you have to do is pay attention and be alert to the appropriate entry signal. |
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