Promoted from comments...

loanme5 asked the following in comments:

"X, What is your process for putting together or finding set ups that you test? I've watched you make adjustments over the years and always wondered what was going on underneath those patterns that I don't seem to grasp. I guess I am asking what are the basic fundamentals of all set ups that you feel make up a quality set up and trigger? You often say, "trade what works best for you", but sometimes I struggle with even knowing where to start and knowing what works best for me. Hence, I still find myself "chasing success" every now and then.

And if I have not said it in awhile, thanks for everything that you do. If not for you, I would have been out of this business long ago."

My process is simple - I look at a lot of charts five days a week (outside of my normal trading hours). I can't stress enough the importance of establishing (and maintaining!) this discipline. I look at charts, I take screen shots, and I make notes. I study several different timeframes, I experiment with plotting my Fibonacci lines in different ways, I segment my watchlist by price, I segment my watchlist by gap (size of gap, gap inside the previous day's range vs. outside the previous day's range), and I study!

I have several dozen solid setups that I study, but in the end I only trade a few because I believe in less trades with higher win rates. But, I still study everything else. And I am always on the lookout for new setups, or variations of existing setups.

As regular readers know, my trading has evolved over the years. Today, I am normally done trading within two hours of the open; sometimes I am done within one hour of the open. As a result, I trade faster timeframes. I have migrated from 30, 15, and 10-minute timframes to 5 and 2-minute timeframes. But throughout my trading career, these characteristics remain constant:

1.) I trade gaps.
2.) I use Fibonacci lines.
3.) I use candlestick charts and analysis.

Along with these "constants", I have these "almost constants":

1.) I use moving averages to help me tell if price is extended too far.
2.) I sometimes watch the previous day's high/low for support/resistance/targets.
3.) I sometimes keep an eye on pivot lines (standard calculation in my software package) for support/resistance/targets.
4.) I sometimes watch whole dollar levels, and to a lesser extent half-dollar levels for support/resistance/targets.

I am sure there are a few other things I can list, but this is a good overview of my style. It is important to note that I have left everything on the blog as my trading has evolved - so you can go back and look at what I did when I traded 15-minute or 10-minute timeframes, or what I did when I plotted my Fibonacci lines one way vs. another. Nothing is obsolete, regardless of whether I still use it or not.

In March, I will try to elaborate more on my methods as I continue to post charts and analyze reader's trades. I have also talked to Kernan from TRADEthemove.com about doing a guest post on the different ways of plotting Fibonacci lines. He has committed to get me something in the next few weeks, and I think everyone will find it informative.

Goodbye February!

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Bad setups sometimes work

"Hi X. Let me start off by saying I don't know how you do it, but I have been reading your posts for five years and more than anything else they are responsible for helping me to stop losing money and start making consistent profits. So, a sincere thank you.

Having said that, I still consider myself a novice even all these years later, and I still question myself and my methods even though I have turned the corner to profitability. A good case is a trade I took in ROYL today. I made over 18% on this one trade, but I also broke one of my rules in taking it. Namely, I entered when price was below the 5EMA. But, if you look at the chart (5-minute) without any indicators and plot your Fibonacci lines over the first swing high (so, actually, the low and the high for the Fibonacci lines cover the range of the first two bars), price pulled back from the high and found support at the retracement zone, and then stepped up and found support on the top of the retracement zone, making a "higher high" and a "higher low" which is very bullish. The 14th bar was a hammer, though it had a red body (which is another rule I broke). I entered on a break of the 14th bar's high, and rode it all the way up to $6.

So, I guess I am asking how do you know when to bend your rules so you don't miss a big mover like this? Looking at it with the 5EMA, I would pass. Looking at it strictly from the setup in relation to the Fibonacci lines, it seemed pristine.

Thanks,
Fast Eddie"

Fast Eddie, first and foremost - cool name!

Now to the question - there are a few instances in my trading career that I consider "aha moments". One was when I learned to accept this fact:

Bad setups sometimes work.

I am not calling your setup bad, by the way. I am simply saying rules exist for a reason. For me, I have been studying charts for longer than I care to remember. As a result, I have a good understanding of the setups that work 40-50% of the time, the setups that work 60% of the time, and the setups that work 80-90% of the time.

If you have been reading my blog for years, you know that I strive to be in the latter category - a high win rate, and a lower number of setups/trades. Thus I have rules. A setup has to adhere to those rules, or I pass. But the trap that we as traders fall into is that, when we pass on those setups, they sometimes work beautifully. And that usually frustrates us so much that the next time we will "bend the rules" and take a setup that isn't quite right...and inevitably, it won't work this time.

It can be a vicious cycle and, if you don't get control, it will chip away at your discipline and ultimately your self-confidence. So always remember:

Bad setups sometimes work.

I have posted both charts below (with and without the 5EMA) with the trigger bar and exit marked. I hope everyone has a great end to the week!





Note - I am still playing with the colors on my charts, searching for the combination that makes them easier for you guys to read. Also, "loanme5" posted a great comment that I will address over the weekend.

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COG - 022311

Promoted from comments:

"X, today was my best day in a long time. Thank you for all of your guidance and for keeping a great site for so long. I had several profitable "u-turn" setups and several profitable "beyond the Fibonacci extension setups". I wanted to ask you about one in particular, COG, and see if you would have taken it. I entered on a break of the seventh bar's high with the following rationale:

1.) Support from the 5EMA.
2.) Second time through the Fibonacci extension (the fourth bar closed above it previously).
3.) The seventh bar (trigger bar) closed at a new morning high.

The only issue I see is that my trigger bar was somewhat overextended (after the first bar, it was the widest range of the morning). Thoughts? My exit was at $45, which is another trick I learned from you. I watched $44 closely and would have exited if price broke below the 5EMA. It didn't, and I ended up with almost a 4% gain.

Thanks again.

Todd

PS - my chart parameters are 5-minute, Fibonacci plotted from the previous day's low to the current day's open, and 5/8/100EMA."

Todd, I think you had a solid analysis of your setup. I didn't trade COG, but had I seen it I would have given it serious consideration. I see what you mean about the wide-range trigger bar, but as you pointed out it had solid support from the 5EMA and closed at a new high for the day. Nice trade!

Here is Todd's trade with the trigger bar and exit marked:



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Blogs wane?

Interesting article on the state of blogs, and their "competition" with Facebook and Twitter. I've often wondered if Facebook would be a better format for Trader-X...it would most-likely allow for a wider audience and more/easier collaboration, but the flexibility of posting content would be diminished.

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Promoted from comments...

There is some great feedback and analysis from readers in the "comments" of the last post. Since tomorrow is a market holiday, I will try to look at a few of the trades mentioned and do some analysis, and maybe post one or two as well (or, maybe I will enjoy the nice weather and not make it back here until Tue or Wed!).

Here is some reader analysis worth sharing:

Kris C. said...

Chips and Salsa, if I may I would like to comment on your trade vs. X's trade because this is exactly the thing that used to screw me up. First and what I consider the key difference - X's trade gaps up above the previous day's range/outside the previous day's range. Your trade gaps up into the middle of the previous day's range. Avoiding your trade type and taking X's trade type will increase your wins substantially. Second, you are below the 100EMA which means you have overhead resistance. Third, if you follow standard pivot lines, your stock's price is bouncing all around the pivot point which adds to the choppiness and indecision. Finally, your pullback actually penetrates deeper into what X calls the retracement zone. It is not a clean bounce off the top, and technically the upper white line of the retracement zone, the 38.2% retracement, is going to be resistance when price tries to move back up.

Again, I make these comments in a positive spirit. I used to do the exact same things as you, and another commenter pointed out these things to me and my trading drastically improved. I hope my comments help you in kind.

Kris' comments were in response to this question:

Chips and Salsa said...

X,

The trade I took today is eerily similar, but I had a different outcome. I seem to have a knack for picking all of the fake-outs. GMCR, 5-min, PDC to CDO, 5EMA, entry on break above the 6th bar.

Set-up is exactly the same as ZMH in that the trigger bar hovers above the Fib Ext, but rests squarely on the RZ if Fib lines are instead drawn for the low/high of the morning's range.

Entry was at $42.11, just above the whole number. I keep getting stuck in these range-bound drifters or getting stopped out altogether.

Perhaps GMCR's morning range is too wide? It doesn't seem much wider than ZMH's morning range, but perhaps I'm wrong.

If GMCR didn't show up as a candidate for you this morning, then perhaps it's my candidate scanning that is flawed.

Any feedback is much appreciated, and thank you for all the great examples over the recent weeks.

Read all the comments here.

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ZMH - 021811

Most of you seem to really like the 5-minute charts, so along with the 2-minute charts I have been trading, I have been keeping an eye on the 5-minute timeframe as well. This morning ZMH provided an interesting setup.

Based on how I normally plot my Fibonacci lines - from the previous day's close to the current day's open - there were several positives and negatives:

1.) Positives - gap up, nice rally in the first four bars, an orderly pullback, and a nice hammer-type candle at the rising 5EMA.
2.) Negatives - I would have preferred the pullback to end, and the hammer candle to form, at the Fibonacci extension (FE) as opposed to a distance above it. And, if you took an entry on a break of the hammer candle's high, you were entering below a whole number ($64). So you had the potential to run into that level and get a quick reversal. It is worth noting, however, that price had previously penetrated the $64 level.

Now for a slight tweak, which I often do in my analysis. When you plot your Fibonacci lines from the morning's low to high (high being the point prior to the first substantial pullback), you will see that the pullback ends and the hammer forms right on top of the retracement zone (RZ). When viewed with those parameters, this is a textbook setup. I entered on a break of the hammer candle's high (sixth bar, if you are counting), and watched the $64 level and the previous morning's high for resistance. Price rallied through both of those levels and continued to the FE. My exit was $65. A nice trade that yielded almost 2% in less than 20 minutes.

Both charts are below in the order that corresponds to my notes above. Please note that due to some feedback in comments, I have tried to adjust colors to make the charts easier on the eyes. I may tweak them more in the future, but here is the current layout:

5EMA - black line.
8EMA - yellow line.
100EMA - blue line.
The "trigger bar" is marked with a blue arrow.
The Fibonacci lines are all white - the highest and lowest lines are what I refer to as the "Fibonacci extension" (FE), the next highest and lowest lines are the high/low of my chosen timeframe, and the middle three lines are the "retracement zone" (RZ).





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Moving Averages

Randall asked the following question in comments:

"Hey X, just something I've noticed. You used to not use Moving Averages like the 5EMA and SMA, and it seemed like you were successful without them. But then you started adding them to your trade, what was the reasoning behind that? More importantly, has the MA improved your trading as well?"

I use the 5 and 8EMAs to determine if price is extended too far. If there is a good setup based on candlesticks and Fibonacci patterns, but there is a lot of "white space" between the current price level and the EMAs, most likely there will be a pullback. If you enter the setup under those circumstances, you may face a quick shakeout as price reverts to the mean (in this case, the 5 or 8EMA). It does not always work, as we have all seen cases of price that is extended too far, but continues to become even farther extended. However, the majority of time it is a great indicator. Not to mention that there are so many setups that occur off of the 5 or 8EMAs...you often hear me say "the EMA pushed price up", or "price bounced off the EMA", or "price found support at the EMA". It happens setup after setup, day after day.

The other moving average you see on my charts is the 100EMA. In my experience, if price is passing through or bouncing around the 100EMA, the setups are not as reliable. So you have to factor that into your risk analysis before taking the trade. Generally I avoid setups if this condition exists, but I have been known to break that rule if something is overly compelling.

I'm back so hopefully I'll have some charts up tomorrow or Friday.

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Fibonacci humor...

I laughed. On a side note, I will be away from the blog until Wednesday, so I will try to get a few new charts up mid-week. I hope everyone has a productive and profitable week!



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BWLD - 020911

BWLD - I have never eaten there, but I do trade the stock.

I entered on a break of the sixth bar's high, with a first target of the Fibonacci extension (FE). Price broke through that level and made a nice pullback to test it as support.

Had price broke below the 18th bar's low (marked with the second arrow), I would have closed the position for a small gain (I gave it this additional latitude because I figured the $51 whole number would provide additional support). Price held and resumed the rally, cutting through $52, and I closed the position at $52.50 for ~4% gain.

note - ignore the horizontal white line above the $47 level - it is left over from another chart and does not apply. Fibonacci lines were plotted from the previous day's close to the current day's open.



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Turn that frown upside down...

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Chart roundup

Here are a few charts from me with a comment on MAs, and a chart from Ray with a question on how late in the day I enter trades.

Friday I had several "beyond the Fibonacci extension" trades - TSO and SIMG were the best. Before I show the charts, I wanted to address several questions on MAs. I plot the 8 and 100EMAs, and I use the 8EMA as a guide to help determine if price has extened itself too far and too fast. If there is a lot of white space, I wait to enter until the 8EMA "catches up" with price; otherwise, you may enter only to get nailed by a pullback. The problem is that - in a fast market with strong price movement - price may not "catch up" with the 8EMA, and you will miss the move. As a result, I also keep an eye on the 5EMA (I don't go any shorter than 5). I usually don't show the 5EMA on charts I post here because it probably only factors into 1/4 of my trades. In the case of TSO and SIMG, it factored into both. Note how on both charts the 5EMA (light blue (turquoise?) line) provided nice support in conjunction with the other factors noted:



1.) Fibonacci lines plotted over the previous day's close to the current day's open.
2.) Entry on a break of the fourth bar's high.
3.) Fourth bar was an offsetting bar, closed above the Fibonacci extension (FE), and had support from a rising 5EMA.
4.) I watched the $21.00 level closely for resistance. Had price showed signs of stalling, I would have closed the position. But it remained strong (price never closed below the 5EMA) and rallied to $21.50 where I closed the position for a 3%+ gain.




1.) Fibonacci lines plotted over the previous day's close to the current day's open.
2.) Entry on a break of the seventh bar's high.
3.) Price was very strong from the open, with a minor pullback that didn't break the 50% level of the morning's range. The seventh bar closed strong above the FE, set a new high for the morning, and had support from a rising 5EMA.
4.) $9.00 was my exit. A ~5% gain in 20 minutes...a few of those a week, and you have a trading career!


Ray wrote the following:

"X, how late in the day do you enter a trade? I know you like to trade the first hour, but do you ever enter beyond that? I entered CIEN when it bounced perfectly off the Fibonacci extension and rode it to the end of the day for a nice gain. In your opinion, was this a good trade or did I just get lucky? The chart was 5-minute, and I entered on a break of the 24th bar, with my lines plotted over the previous day's close and the current day's open. Price was below the 8EMA, but the bounce was perfect so I took the chance. Thanks, Ray"

Ray - based on my experience, the exact same setup has a lower probability of success as you get later in the day. Does that mean you shouldn't trade it? No, it all depends on your style and what you are comfortable with. Many people make a good living with 50% "losers" and solid money management. If you are a long-time reader you know that, psychologically, I have problems with that style. That is why I have tried to customize my trading to give me a higher success rate - generally above 80% and often higher. So, I would not take this trade based on that philosophy. Kudos to you however!



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Blog roundup

On the heels of Trader Mike selling his blog last week, I wanted to do a roundup of blogs that are still active. I have some listed on the sidebar, but over the years many have fallen off the map. I'm fortunate that my site gets a high amount of traffic, and I would like to provide some good resources to my readers (that they may not know about), and hopefully send some new visitors to other blogs.

Leave a comment with the blogs or sites you read, and over the next week I will compile a list and follow-up with a comprehensive post.



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APKT - 020211

Chad submitted a trade in APKT today. Before I get to that, how many of you use RealTick? I've noticed over the past few days that my gap lists in RT have doubled in size. I am not sure if they changed an algorithm or made some other tweak. It doesn't impact my trading, as I tend to focus on the top 20 or so candidates ranked by daily volume. But, I was curious if anyone else noticed the change?

Chad's trade:

"X, I like to use 5-minute charts and plot my Fibonacci lines over the opening range's high/low, something I learned from you a few years back. I am not sure if you still use this technique, but I have had a lot of success with it. APKT was what I would call a "textbook X trade". It gapped up, pulled back to the retracement zone, and rallied to the Fibonacci extension. It then found support at the FE, and rallied again. I entered on a break of the 8th bar's high at $64.01 (I use a faster 5EMA, and the 100EMA), and I sold when it hit $67.00 because it was a whole number (another technique I learned from you), and I wanted to lock in sizable profits from the move.

Thanks for the years of posts and teaching."

Here is Chad's chart with the trigger bar and exit marked:



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