YTC Price Action Trader Volume Two PDF

Volume Two – Markets and Market Analysis YourTradingCoach presents…YTC Price Action Trader YTC Price Action Trader by Lance Beggs Published by: LB68 Publishing PO Box 4097 Kirwan QLD 4817 Copyright © 2010. Lance Beggs. All rights reserved. No part of this publication may be reproduced or transmit...

Volume Two – Markets and Market Analysis YourTradingCoach presents…YTC Price Action Trader YTC Price Action Trader by Lance Beggs Published by: LB68 Publishing PO Box 4097 Kirwan QLD 4817 Copyright © 2010. Lance Beggs. 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 Australian Copyright Laws. First Edition, 2010. Published in Australia. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 2 YourTradingCoach presents…YTC Price Action Trader No Reprint Rights While other YTC eBooks (http://www.yourtradingcoach.com/ebooks.html) specifically authorise Free Reprint Rights, this does NOT apply to the YTC Price Action Trader series. The YTC Price Action Trader series is subject to standard copyright laws. You are not authorised to share this eBook via electronic means, including forwarding a copy to your friends, sharing it with your newsletter subscribers, hosting it on your website, or including it as a free bonus with any other trading product. Affiliate Sales If you find this six-volume series of ebooks to be of great value and wish to offer it for sale to your own customers or website/blog readers, I encourage you to sign up as an affiliate. More information, including details on affiliate commissions, is listed at the following webpage: www.YourTradingCoach.com/Affiliate.html © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 3 YourTradingCoach presents…YTC Price Action Trader Disclaimer The information provided within the YTC Price Action Trader ebook series and any supporting documents, websites and emails is GENERAL COMMENT 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 YTC Price Action Trader ebook series and any supporting documents, websites and emails. Reference to any market, trading timeframe, 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 timeframes, indicators and parameters) used within this ebook series 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. 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 UNDER-OR-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 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 4 YourTradingCoach presents…YTC Price Action Trader About the Author Lance Beggs is a full time day-trader with a current preference for forex, FX futures and eminifutures markets. His style of trading is discretionary, operating in the direction of short-term sentiment within a framework of support and resistance. As an ex-military helicopter pilot and aviation safety specialist, Lance has an interest in applying the lessons and philosophy of aviation safety to the trading environment, through study in human factors, risk management and crew resource management. He is the founder and chief contributor to http://www.YourTradingCoach.com, which aims to provide quality trading education and resources with an emphasis on the „less sexy‟ but more important aspects of trading – business management, risk management, money management and trading psychology. Lance can be contacted via [email protected] © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 5 YourTradingCoach presents…YTC Price Action Trader “Since we cannot change reality, let us change the eyes which see reality.” …Nikos Kazantzakis © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 6 YourTradingCoach presents…YTC Price Action Trader Table of Contents Volume One – Introduction Chapter One – Introduction 1.1 – Introduction………………………………………………………………... 1.2 – Scope – Strategy, Markets & Timeframes…………………………………. 1.3 – Acknowledgments…………………………………………………………. 1.4 – Prerequisites………………………………………………………………... 1.5 – Feedback…………………………………………………………………… 1.6 – Contents Overview………………………………………………………… 15 17 19 19 20 20 Volume Two – Markets and Market Analysis Chapter Two – Principles of Markets 2.1 – Principles of Markets………………………………………………………. 2.2 – The Reality of the Markets………………………………………………… 2.2.1 – Trading the Shadows…………………………………………….. 2.2.2 – Cause and Effect…………………………………………………. 2.2.3 – What is Price?……………………………………………………. 2.2.4 – How Does Price Move? …………………………………………. 2.2.5 – What are Markets………………………………………………… 2.2.6 – Summary – The Reality of the Markets…………………………... 2.3 – The Reality of the Trading Game………………………………………….. 2.3.1 – How Do We Profit? ……………………………………………… 2.3.2 – Analysis for Profit………………………………………………… 2.4 – Effective vs Ineffective Trading Strategies and Systems………………….. 2.4.1 – Principles of my Effective Strategy………………………………. 2.5 – Conclusion.………………………………………………………………… 15 16 16 19 22 23 32 37 38 38 39 43 50 52 Chapter Three – Market Analysis 3.1 – Introduction to Market Analysis…………………………………………... 3.1.1 – The Aim of our Market Analysis…………………………………. 3.1.2 – Subjectivity vs Objectivity in Market Analysis…………………… 3.2 – Past Market Analysis………………………………………………………. 3.2.1 – Support and Resistance…………………………………………… 54 54 55 57 57 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 7 YourTradingCoach presents…YTC Price Action Trader 3.2.2 – Multiple Timeframe Analysis……………………………………... 3.2.3 – Market Structure………………………………………………….. 3.2.4 – Trends…………………………………………………………….. 3.3 – Future Trend………………………………………………………………... 3.3.1 – Strength and Weakness…………………………………………… 3.3.2 – Identifying Strength and Weakness………………………………. 3.3.3 – Principles of Future Trend Direction……………………………. 3.3.4 – Visualising the Future……………………………………………. 3.3.5 – What Happens After S/R Holds? ………………………………… 3.4 – Initial Market Analysis Process……………………………………………. 3.4.1 – Initial Market Analysis Process Summary………………..……… 3.4.2 – Initial Market Analysis Checklist...………………………………. 3.4.3 – Initial Market Analysis Example…………………………………. 3.5 – Ongoing Market Analysis – Theory………………………………………... 3.5.1 – Determine Candle Pattern Sentiment……………………………. 3.5.2 – Consider the Context……………………………………………... 3.5.3 – Does it Support our Premise? …………………………………… 3.6 – Ongoing Market Analysis Process…………………………………………. 3.6.1 – Ongoing Market Analysis Process Summary…………………….. 3.6.2 – Ongoing Market Analysis Checklist……………………………… 3.6.3 – Ongoing Market Analysis Example……………………………… 3.7 – Practice…………………………………………………………………….. 3.7.1 – Market Structure Journal………………………………………… 3.8 – Conclusion…………………………………………………………………. 3.9 – Addendum to Chapter 3 – Alternative Questions for the Conduct of Price Action Analysis……………………………………………………………. 72 79 90 113 113 116 145 153 156 160 160 161 165 172 173 180 184 186 186 186 189 200 201 202 203 Volume Three – Trading Strategy Chapter Four – Strategy – YTC Price Action Trader 4.1 – Strategy – YTC Price Action Trader…………………………………….... 4.2 – Setup Concept…………………………………………………………….. 4.2.1 – The Expectancy Formula……………………………………….. 4.2.2 – Principles behind the YTC Price Action Trader Setup Locations. 4.3 – YTC Price Action Trader Setups………………………………………….. 4.3.1 – Setup Definition………………………………………………….. 4.3.2 – Setups Appropriate for each Particular Market Environment…... 4.3.3 – Revisiting the Initial Market Analysis Process and Checklist…… 4.3.4 – More Action – Trading In-between Setup Areas………………… 4.3.5 – When Price Enters Setup Areas………………………………….. 15 15 15 17 25 25 41 54 56 56 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 8 YourTradingCoach presents…YTC Price Action Trader 4.4 – Trading the Setups………………………………………………………… 4.4.1 – Stop Placement…………………………………………………. 4.4.2 – Targets………………………………………………………….. 4.4.3 – Entry……………………………………………………………. 4.4.4 – Trade Management…………………………………………….. 4.5 – The Trading Process……………………………………………………… 4.5.1 – Trading Process Diagram……………………………………… 4.5.2 – Trading Process Checklist……………………………………… 4.6 – Practice…………………………………………………………………… 4.7 – Conclusion………………………………………………………………... Chapter Five – Trade Examples 5.1 – Trade Example 1 – BPB – T1 & T2 Achieved…………………………… 5.2 – Trade Example 2 – PB – T1 Achieved – Part Two Worked Exit………… 5.3 – Trade Examples 3 – BOF, BPB, TST – Sideways Trend within another Sideways Trend………………………………………..…….…………… 5.4 – Trade Example 4 – CPB – T1 Achieved – T2 Trailed……….…………… 5.5 – Trade Example 5 – TST – Part 1 Stopped Breakeven - Part 2 Trailed…… 5.6 – Trade Example 6 – BOF – T1 & T2 Achieved…………………………… 5.7 – Trade Example 7 – TST – Part 1 Scratched, Re-entered & Stopped Out – Part 2 Stopped Out………………..…………………………………….... 5.8 – Trade Example 8 – PB – Scratched – No Re-entry………………………. 5.9 – Trade Example 9 – CPB – T1 & T2 Achieved…………………………… 5.10 – Trade Example 10 – TST – Scratched & Reversed - PB – T1 Achieved – Part 2 Stopped (Trail)..……..…………………………………….………... 5.11 – Trade Example Summary Notes………………………………….……… Chapter Six – Other Markets, Other Timeframes 6.1 – Other Markets, Other Timeframes………………………………………... 6.2 – Examples – Forex…………………………………………………………. 6.2.1 – Additional Forex Considerations……………………………….. 6.3 – Examples – Emini Futures………………………………………………... 6.3.1 – Additional Emini Futures Considerations………………………. 6.4 – Examples – Stocks & ETFs………………………………………………. 6.4.1 – Additional Stock & ETF Considerations……………………….. 6.5 – Conclusion………………………………………………………………... 57 57 64 70 99 119 119 120 123 123 126 138 152 167 177 189 200 213 225 235 250 253 255 261 264 269 271 275 276 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 9 YourTradingCoach presents…YTC Price Action Trader Volume Four – Your Trading Business Chapter Seven – Money Management 7.1 – Ensuring Survival…………………………………………………………. 7.2 – Financial Survival…………………………………………………………. 7.3 – Money Management………………………………………………………. 15 15 15 Chapter Eight – Contingency Management 8.1 – Contingency Management………………………………………………… 8.1.1 – Contingency Management………………………………………. 26 26 Chapter Nine – Goals & Targets 9.1 – What Win% Should You Expect?................................................................ 9.2 – Ok… If I Absolutely Must!.......................................................................... 9.3 – Stats……………………………………………………………………….. 9.4 – Another Option – For the Consistently Profitable………………………... 30 31 31 32 Chapter Ten – Trading Psychology – A Practical Approach 10.1 – Personal Survival………………………………………………………… 10.2 – Prerequisites for Survival………………………………………………... 10.3 – Mastery of Trading Psychology…………………………………………. 10.3.1 – Focus on Process……………………………………………… 10.3.2 – Peak Performance Mindset……………………………………. 10.4 – Maintenance of Peak Physical Condition……………………………….. 10.5 – Psych Wrap-Up………………………………………………………….. 10.6 – Additional Study………………………………………………………… 37 37 42 42 45 53 58 58 Chapter Eleven – Trading Platform Setup 11.1 – Trading Platform Setup………………………………………………….. 60 Chapter Twelve – Trading Plan 12.1 – Trading Plan……………………………………………………………… 12.2 – Trading Plan Template…………………………………………………… 12.3 – Trading Plan – Explanatory Notes……………………………………….. 12.3.1 – Cover Page…………………………………………………….. 12.3.2 – Preface…………………………………………………………. 12.3.3 – Introduction…………………………………………………….. 12.3.4 – The Trader……………………………………………………… 12.3.5 – The Trading Business…………………………………………… 12.3.6 – The Trading Process……………………………………………. 65 67 69 69 69 70 70 71 74 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 10 YourTradingCoach presents…YTC Price Action Trader 12.3.7 – Annexes………………………………………………………… 76 Chapter Thirteen – Procedures Manual 13.1 – Procedures Manual……………………………………………………….. 13.2 – Sample Procedures Manual………………………………………………. 78 78 Chapter Fourteen – Additional Documentation 14.1 – Additional Documentation………………………………………………. 14.2 – Trading Journal Spreadsheet…………………………………………….. 14.3 – Trading Log……………………………………………………………… 14.4 – Motivation Journal……………………………………………………….. 14.5 – Lessons Learnt Journal…………………………………………………… 14.6 – Market Structure Journal…………………………………………………. 14.7 – Trades Journal……………………………………………………………. 106 106 106 108 108 109 110 Volume Five – Trader Development Chapter Fifteen – The Journey 15.1 – FACT: Most Readers Will Fail to Achieve Consistent Profitability……. 15.2 – The Journey……………………………………………………………… 15 17 Chapter Sixteen – The Learning Process 16.1 – Effective Learning………………………………………………………. 16.2 – Deliberate Practice………………………………………………………. 16.3 – Trade-Record-Review-Improve…………………………………………. 16.4 – Deliberate Practice Tools and Techniques………………………………. 16.4.1 – Defined Trading Procedures…………………………………... 16.4.2 – Trading Logs and Journals……………………………………. 16.4.3 – Documented Review Process………………………………….. 16.4.4 – Market Replay…………………………………………………. 16.4.5 – Market Replay Alternatives……………………………………. 16.4.6 – Peer Review…………………………………………………… 20 20 21 22 22 22 22 23 26 26 Chapter Seventeen – Taking Action 17.1 – Taking Action……………………………………………………………. 17.2 – The Development Stages………………………………………………… 17.2.1 – Stage 1 – Establish Your Foundation………………………….. 17.2.2 – Stage 2 – Simulator Environment……………………………… 17.2.3 – Stage 3 – Live Environment – Minimum Size………………….. 29 29 30 33 34 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 11 YourTradingCoach presents…YTC Price Action Trader 17.2.4 – Stage 4 – Live Environment – Increasing Size………………… 17.2.5 – As You Progress……………………………………………….. 17.3 – Taking Action – Alternate Strategies……………………………………. 17.4 – Challenges and Difficulties……………………………………………… 17.5 – The Target……………………………………………………………….. 17.6 – Additional Study…………………………………………………………. 35 35 36 37 41 41 Volume Six – Conclusion Chapter Fourteen – Conclusion 18.1 – Summary…………………………………………………………………. 18.1.1 – Principles of Markets –Summary………………………………. 18.1.2 – Market Analysis –Summary……………………………………. 18.1.3 – Trading Strategy –Summary…………………………………… 18.1.4 – Setups Poster…………………………………………………… 18.1.5 – The Learning Process –Summary……………………………… 18.2 – For Those Concerned That It Appears Too Simple………………………. 18.3 – And For Those Who Perceive It As Too Complex………………………. 18.4 – Take Action………………………………………………………………. 18.5 – Wrap Up………………………………………………………………….. 18.6 – Supplementary Resources………………………………………………… 15 15 17 20 29 30 31 32 32 33 33 © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 12 YourTradingCoach presents…YTC Price Action Trader VOLUME TWO MARKETS AND MARKET ANALYSIS © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 13 YourTradingCoach presents…YTC Price Action Trader Chapter Two – Principles of Markets © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 14 YourTradingCoach presents…YTC Price Action Trader 2.1 – Principles of Markets One of the key reasons most traders fail to achieve consistent success is that they do NOT understand the game they are playing. They fail to understand the true nature of the markets They fail to understand the true nature of the game of trading In this chapter we aim to correct these errors. Some of the discussion may appear extremely obvious; but stick with it. It sets a foundation that builds to give you a more enlightened view of the environment within which we operate and how that view of the markets allows us to profit. Most trading books and courses focus on price movement and the resultant patterns and indicator based signals. They‟re missing a key fundamental concept that underlies this price movement. At the end of this chapter, you‟ll have a clear understanding of: The true nature of the markets The true nature of the trading game. You‟ll finally understand why all those systems you tried were ineffective. You‟ll no longer be interested in systems. You‟ll be free of the search for the Holy Grail trading strategy. And the foundation will be set for correct analysis and correct trading of the markets, via the YTC Price Action Trader strategy, or in fact any other reality based strategy you may wish to develop yourself. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 15 YourTradingCoach presents…YTC Price Action Trader 2.2 - The Reality of the Markets 2.2.1 Trading the Shadows What did Plato know about Trading? Probably nothing! But he has a great analogy which I‟m going to share in order to demonstrate some key concepts: Our reality is based upon that which we perceive. Often there is an underlying reality which we have just not seen. From Great Dialogues of Plato: Complete Texts of the Republic, Apology, Crito Phaido, Ion, and Meno, Vol. 1. (Warmington and Rouse, eds.) New York, Signet Classics: 1999. p. 316. Figure 2.1 – Plato‟s Allegory of the Cave © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 16 YourTradingCoach presents…YTC Price Action Trader In describing the scenario, I‟ll share a short passage from Wikipedia, as it discusses Plato‟s Allegory of the Cave… “…imagine a cave inhabited by prisoners who have been chained and held immobile since childhood: not only are their arms and legs held in place, but their heads are also fixed, compelled to gaze at a wall in front of them. Behind the prisoners is an enormous fire, and between the fire and the prisoners is a raised walkway, along which people walk carrying things on their heads “including figures of men and animals made of wood, stone and other materials”. The prisoners can only watch the shadows cast by the men, not knowing they are shadows. There are also echoes off the wall from the noise produced from the walkway. Is it not reasonable that the prisoners would take the shadows to be real things and the echoes to be real sounds, not just reflections of reality, since they are all they had ever seen or heard?” In other words… What we perceive as reality is not necessarily so. Often there is a deeper reality which we have just not seen. Or… That, which is perceived to be reality, is actually an illusion. The same applies to trading. My belief is that most people do not understand what a market is. They see a chart and perceive price movement and its resultant technical analysis patterns and indicator based signals. And they assume this is reality. It‟s all they know. And it‟s all that‟s taught in the majority of books, websites and courses. Unfortunately, these traders are like the prisoners in the allegory of the cave. Chained to their viewpoint, they falsely believe in their version of reality, which is in fact an illusion. They fail to perceive the fact that there is a much deeper truth to the markets. A reality that I believe makes ALL the difference in trading. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 17 YourTradingCoach presents…YTC Price Action Trader Most traders are Trading the Shadows*, usually with no understanding at all of the reality behind those shadows. The reality of the markets (which we‟ll discover shortly) is projected as price chart patterns or their derivative indicators. These are the shadows, or the illusion. Most people perceive the shadows as the game. They think it‟s all about the price, or the patterns or the indicators, so they try to trade them. It‟s not about that – the game is about something else entirely. Figure 2.2 – Reality vs Illusion Finding no success with their setups, or indicators, traders go on the search for new indicators, new setups, new parameters. But they‟ll never find the truth, because they‟re trading the shadows. They don‟t perceive the reality. Successful trading requires seeing the reality that forms the shadows. That is, the reality that produces the price movement, then indicators and the patterns. The reality is not just „price‟. It exists at an even deeper level of understanding – that which creates price and price movement. * Thanks to one of my newsletter readers, Stuart, who came up with the term, Trading the Shadows. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 18 YourTradingCoach presents…YTC Price Action Trader 2.2.2 Cause and Effect Just quickly, we‟ll look at this in one other way, which some of you may find more useful. Let‟s look at price movement through a different lens – that of Cause and Effect. Price movement and any resultant indicator and pattern based signals are the EFFECT. Most traders focus here. That‟s all they see and that‟s what they try to trade. Figure 2.3 – Cause vs Effect Instead, to truly understand the markets, we need to focus on the CAUSE. What causes price to move? That‟s where we focus, because: Only then can we understand the reality of the markets. And only then can we understand how to identify when a move is likely to start, when it‟s likely to continue and when it‟s likely to end. In analyzing the chart of figure 2.4 on the following page, most people focus solely on price. They observe the bearish breakout as price broke below a period of sideways consolidation, or a short-term head and shoulders patterns (marked by labels S-H-S). If they‟re pattern based traders they‟d be looking to enter short either at the break of the head and shoulders neckline (point B), or on the first confirmed close below the neckline (point C). Indicator based traders would also likely enter in the vicinity of C as their signals are typically based on a lagging derivative of price, which won‟t trigger entry until significant movement has occurred in the new direction. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 19 YourTradingCoach presents…YTC Price Action Trader Figure 2.4 – Chart Based Cause and Effect The problem for these traders is they‟re focusing on price. The price move is the EFFECT. These traders are simply responding to the effect, entering in the HOPE that the momentum of this move continues in the bearish direction, long enough for them to attain a profit. Hope is not good enough for me. A better way to trade is to understand the CAUSE of price movement. Although you don‟t see it yet, identifying the CAUSE in this example would have allowed you an entry in the vicinity of A, with an expectation that if price broke the area of B and the slightly lower support, movement would be clear until possible target areas in the vicinity of D and E. Had the move failed at B, sufficient opportunity would be available to scratch the trade for either a small profit or a breakeven result. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 20 YourTradingCoach presents…YTC Price Action Trader Understanding CAUSE allows you to identify potential moves before or as they occur. Understanding CAUSE allows you to enter a price move earlier. Understanding CAUSE allows you to understand why a price move is occurring. Understanding CAUSE allows you to assess when a move is likely to continue and when it‟s likely to end. Understanding EFFECT only, means that all you can do is react to what has already occurred, usually well after it has already occurred, and then simply hope that sufficient profit potential is still available in the move. So, if the market is not price movement, patterns and indicators, then what is it? What is the reality? To understand the true nature of the markets we need to take a journey through a few steps. Figure 2.5 – Discovering the Reality of the Markets We need to start at some very basics – what is price and why does it move? That will lead us to a new understanding of the nature of the markets. The nature of markets is not price. It‟s something else entirely different. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 21 YourTradingCoach presents…YTC Price Action Trader 2.2.3 - What is Price? Regardless of whether we‟re talking stocks, futures, foreign exchange, or any other product at all, price is the amount a buyer pays to acquire a product from a seller. Any one transaction involves a product, and two parties – the buyer and the seller. The seller holds the product. The buyer wants to purchase it. Price is the amount that they agree upon for the transfer of the product from the seller to the buyer. The key word in this sentence is… … agree… The buyer wants to buy at this price. . The seller wants to sell at this same price. They come together. There‟s a transaction. So, what is price? Yes, it is the dollar amount, or points value, that they agree to transact. But that‟s not how I want you to view it. Instead, view price as two parties making a buy and sell decision. From a trading perspective… Price is two traders making a buy and sell decision. It‟s a subtle difference, but it‟s important. Now, markets don‟t transact all at one price… they move. Thankfully, otherwise there wouldn‟t be profit opportunity. As we mentioned before, most people are happy to just accept that markets are price movement. I‟m going to take us deeper. Now that we view price as not just the dollar or point value of each transaction, but of traders making buy and sell decisions, we‟re going to look at how those decisions make price move. This will lead us to our deeper, and superior, understanding of the nature of the markets. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 22 YourTradingCoach presents…YTC Price Action Trader 2.2.4 - How Does Price Move? Price movement is a function of supply and demand. In fact, as we‟ll see it‟s deeper than that, again. We‟ll soon be discussing what drives supply and demand. But for now, I need to discuss supply and demand; to be sure you understand this basic concept. Let‟s define the concept and the terms in simple (non-textbook) language: Supply is the amount of a product which sellers want to sell at a particular price. Demand is the amount of a product which buyers want to buy at a particular price. Price will move with changes in supply and/or demand. Let‟s look at some examples… First we‟ll look at an example that most people will be familiar with - a housing auction. In this scenario, we have a fixed supply – one house for sale. And we have a variable amount of demand, depending on the public perception of value. For a very nice house in a great location during times of strong economic growth, there might be a large crowd of potential buyers, all competing for the property. For an overpriced house, in a down-turning market, there may be only a small number of potential buyers, or possibly even none. For this example, we‟ll assume we have a large crowd of buyers, all desperate to take ownership of the property, all willing to buy at varying prices between say $650,000 and $750,000. The realtor opens the auction at $550,000. What happens next is that the bidders will compete with each other at ever increasing prices, hoping to be the last one standing at the end of the process. Initially price will increase rapidly, $575,000 - $600,000 - $620,000 - $640,000 - $650,000 $660,000. As each bidder‟s maximum price is exceeded they‟ll drop out of the race. The rate of price increases may slow and bidders will typically take more time to consider their next move. If enough emotion is involved in the purchase, bidders may even exceed their pre-planned maximum price, desperate to ensure no-one else gets their property. $750,000 - $752,000 $752,500 - $753,500. Eventually there will be no bidders left who are willing to pay a higher price, and the property is sold to the highest bidder. In this example, demand consisted of multiple buyers all wanting to buy and willing to pay higher prices to do so. Supply consisted of a single seller, willing to allow price to increase until there are no more buyers. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 23 YourTradingCoach presents…YTC Price Action Trader Demand has overwhelmed supply, leading to price rallying. Price continued to rally until there were no more buyers willing to pay a higher price. Now let‟s consider a hypothetical example where there are two desperate sellers, offering for sale two essentially identical properties. Let‟s say two apartments side by side, with similar quality fittings and fixtures and similar view; essentially identical value. And let‟s assume there is only one buyer interested in purchasing a property. The process would now work in the reverse of the previous example. The buyer can afford to hold out, while the two sellers would be required to compete. The sellers would take turns lowering their asking price, until it reached a point at which one was not willing to go lower. Assuming the price was then acceptable to the buyer, a transaction could occur. Supply has overwhelmed demand. Price has fallen until there is no-one willing to sell at a lower price. Important point… it‟s not just the number of participants that is most important, but the desperation, or urgency, with which they are seeking a transaction. Consider the original housing auction where buyers were once again willing to pay differing amounts up to a maximum of $750,000, but this time the owner was asking too much for the property. The auctioneer opened the bidding at $850,000. In this case there will be no bidding. No transaction will occur, despite multiple potential buyers and one seller. The only way for a transaction to occur is if either one or more of the buyers decide they absolutely must have the property, and are willing to pay a higher price by increasing their bid above their pre-planned maximum, or if the seller is willing to drop the opening ask price in an attempt to find buyers. Let‟s assume the seller is desperate to offload the property. The auctioneer will be instructed to lower the asking price in increments, until a buyer can be found and a sale can occur. In this case, despite only one seller, the desperation of that seller has been greater than the desperation of the buyers, resulting in price falling. Supply has overcome demand and price has fallen. Ok, let‟s consider the financial markets. We now have what is known as a dual-auction process. Multiple buyers competing to buy into the market, and multiple sellers competing to sell into the market; all at the same time. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 24 YourTradingCoach presents…YTC Price Action Trader Figure 2.6 – The Dual-Auction Process Figure 2.6 displays a depth of market (DOM) screen from Interactive Brokers TWS platform. The centre column displays the price of the tradable item, in this case the market is 6B, the British Pound currency futures (equivalent to spot forex GBP/USD). The last sale price is the one in the centre, highlighted by the dark blue colour, currently 1.4787. The left column displays the Bid and the right column displays the Ask (sometimes referred to as the Offer). So, looking firstly at the bid column, we can see that we have 2 contracts wanting to be bought at 1.4786, 4 contracts wanting to be bought at 1.4785, 3 contracts wanting to be bought at 1.4784, and so on, down to 15 contracts at 1.4782. It goes further, but the DOM screen here only shows 5 layers of depth. Please note that each of these bid quantities is not necessarily just one trader. The 15 contracts bid at 1.4782 could be from one trader, but are equally as likely to be from multiple traders, for example, 5 traders bidding 1 contract each and 2 traders bidding 5 contracts each, totaling 15 contracts being bid at this price. On the Ask side, we have 3 contracts offered for sale at 1.4787, 5 at 1.4788, and so on, all the way up to 5 contracts offered at 1.4791. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 25 YourTradingCoach presents…YTC Price Action Trader So, the Bid column on the left shows the current demand, or what I sometimes refer to as Bullish Pressure. And the Ask column on the right shows the current supply, or what I sometimes refer to as Bearish Pressure. At the moment, the highest someone is willing to pay in order to buy a contract is 1.4786, the highest bid price being represented by the top of this column of buyers. And the lowest price at which someone is willing to sell a contract is 1.4787, the lowest ask price being represented by the lower end of this column of sellers. So, someone wants to buy at 1.4786, but someone else wants to sell at 1.4787. Can a transaction occur? No. The only way for a transaction to occur is for one of the buyers to be willing to raise their price and accept the current ask price, or for one of the sellers to lower their price and accept the current bid. Or alternatively some other trader not currently waiting in these queues decides they want to get in or out of the market at whatever price they can, and so uses a market order, which will automatically buy at the current ask price or sell at the current bid price. Let‟s assume that buyers are more desperate than sellers, so they‟re willing to pay higher prices. Buyers are desperate to get into this market, so they‟ll raise their bid and accept the asking price. The last sale price remains at 1.4787 until all three contracts at that level are bought. At this point, with no contracts remaining at 1.4787, buyers will have to buy at 1.4788. The last-sale price rises to 1.4788. Other buyers, seeing price rise, will also raise their bid in desperation or simply buy via a market order accepting whatever ask price they can get. They feel they have to get into this market. Once the 5 contracts at 1.4788 have been bought, buyers will then have to be willing to pay 1.4789, which then becomes the new last-sale price. Supply at each level will be absorbed and buyers will be forced to bid even higher and higher prices in order to get their transaction filled. The last sale price continues to rally. Some sellers will observe this rally in price and pull their sell order from the market, replacing it at a higher price. Price will continue to rally while there are more buyers willing to buy at a higher price. At some point, the buying demand will finish. Price will have rallied to a point at which the buyers are no longer willing to pay higher prices, or until the higher prices attract more sellers, adding to the quantities available in the Ask column, in sufficient number to absorb all the bullish pressure. The rally will stop. Some of the traders who have previously bought may now offer their contracts for sale in order to take profits and close out their transaction, effectively adding to the supply, or bearish pressure. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 26 YourTradingCoach presents…YTC Price Action Trader In the absence of further buying though, sellers will be forced to lower price in order to make a transaction. They‟ll reduce their ask price so that it matches a bid price. The last sale price will now fall. Seeing the last transaction price fall, other sellers will follow suit and lower their price, or simply sell via a market order accepting whatever bid price they can get. Desperation will have moved from the buying side to the selling. Bids will be absorbed at each price level and so sellers will then be forced to drop price further. Some of the potential buyers will see this falling price, and will withdraw their bid and replace it at an even lower price. Price will continue to fall until we run out of supply. Either potential sellers will be no longer willing to sell for such low prices, or sufficient new buyers will be attracted to the market by the lower prices, in order to absorb all supply. The price fall will stop. And then the process starts all over again. That‟s how the market works from a supply/demand perspective. It‟s a dual-auction process, with price auctioning both up and down depending on which force is dominant at the time – demand or supply. Price rises while demand is greater than supply, and while those buyers are willing to pay higher prices. Price rises until we run out of buyers, or until supply increases sufficiently to absorb all the demand. Price falls while supply is greater than demand, and while those sellers are willing to sell at lower prices. Price falls until we run out of sellers, or until demand increases to the point it absorbs all the supply. Price movement is a function of supply and demand. Or more correctly…price movement is a result of supply/demand imbalance. And the supply/demand imbalance is created by trader’s sense of urgency to transact. Let‟s look at how this dual auction process displays on a price chart, as demonstrated via figure 2.7 below. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 27 YourTradingCoach presents…YTC Price Action Trader Figure 2.7 – Dual-Auction Process Displayed on a Chart Individual price bars are the result of the dual auction process operating within the timeframe of that price bar. Each price swing is the result of the dual auction process operating for the duration of that price swing. Over a period of time, when the demand is consistently greater than supply price will rise as it did in swings 1 and 3. When the supply is consistently greater than demand price will fall as it did in swing 2. Additional info: Note the gap at the start of the candle marked A. This is also a result of the auction market process. This occurred at the release of two GBP-related news events, the Claimant Count Change and the Average Earnings Index. The bullish reaction to the news means that all supply was withdrawn from the market, so those bulls wanting to participate in the market were required to seek higher prices to find a © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 28 YourTradingCoach presents…YTC Price Action Trader seller. The first price someone was willing to sell becomes the open of the first post-news candle, leaving a gap on the chart of approximately 10 pips. Individual trader sentiment at any one time may be either bullish or bearish. The net effect though, when considering all traders operating within the market, will be either a net bullish, bearish or neutral sentiment. Bullish sentiment leads to bullish orderflow resulting in price rising, as in swings 1 and 3. Bearish sentiment leads to bearish orderflow resulting in price falling, as in swing 2. Neutral sentiment leads to narrow range sideways price action. Note that price within these swings is not moving in a straight line – it fluctuates constantly. The market is comprised of buyers and sellers all competing through different analysis styles, on different timeframes, with different reasons for wanting to enter or exit. We don‟t know their individual reasons. It‟s the collective sentiment that matters. And price moves with whichever crowd most desperately needs to act. It comes down to sentiment of the market participants. As individual traders become increasingly bullish, they add to the bullish sentiment of the collective group of buyers. If enough of them do this, the overall sentiment of the whole market becomes bullish, demand overcomes supply, and price rises. As individual traders become increasingly bearish, they add to the bearish sentiment of the collective group of sellers. If enough of them do this, the overall sentiment of the whole market becomes bearish, supply overcomes demand, and price falls. Price moves with changes in the forces of supply and demand. Supply and demand change as the sentiment of the crowd changes. And the sentiment of the crowd changes with changes in the bullish or bearish sentiment of the market participants. So, here‟s the key point… © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 29 YourTradingCoach presents…YTC Price Action Trader Just as we discovered that price is two individuals making buy and sell decision, we have now established that price moves also as a result of the net effect of all market participants making individual trade decisions. Some people use fundamentals to make trading or investing decisions. Others use technicals. Others may even use lunar cycles. It doesn‟t matter. At the core level, it’s all just people making decisions. Price doesn‟t move up or down because of fundamentals or technicals. Individuals form an opinion about market direction. Some of them will act on their opinion – they‟ll make a decision to buy or sell. The sum of all the buy or sell decisions forms the collective sentiment of the crowd, which may be bullish or bearish. And this collective sentiment of all market participants, leads to a net bullish or bearish order flow, which moves price. The most „fundamentally‟ bullish stock will still fall if the sentiment of the crowd is bearish, and they don‟t want to own it. The most technically perfect breaking of a neckline of a head and shoulder pattern (which is supposedly bearish) will fail to reach its projected target, if the sentiment of the crowd at this point changes to bullish, and they all want to buy this stock. It’s not about the fundamentals or technicals. It’s about people… and the decisions they make about market direction. Price changes as supply and demand change… supply and demand change based on the beliefs of market participants, or more correctly on the decisions of market participants to act on their beliefs. Let‟s summarise this section – How does price move? Price movement results from a supply/demand imbalance Changes in supply and demand occur as sentiment changes within the market participants. Price therefore depends on the bullish or bearish sentiment of market participants. The net sum of all individual trader decisions and actions, form the Net Order Flow. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 30 YourTradingCoach presents…YTC Price Action Trader When Net Order Flow is bullish (demand greater than supply), price will rise. Price continues to rise until we run out of buyers at higher prices, or until the higher prices attract sellers in sufficient quantity to overcome demand. When Net Order Flow is bearish (supply greater than demand), price will fall. Price continues to fall until we run out of sellers at lower prices, or until the lower prices attract buyers in sufficient quantity to overcome supply. Or more simply: Price moves as a collective result of all traders’ bullish or bearish sentiment and their decisions to act in the market (buy or sell). Note: Some common terms which you’ll hear me use from time to time, in particular when conducting price chart analysis, are: Bullish Pressure – sum of all demand in the market (forces attempting to push price up) Bearish Pressure – sum of all supply in the market (forces attempting to push price down) Net Order Flow – the resultant of bullish and bearish pressure. Net order flow (NOF) is bullish if price is going up, bearish if price is going down. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 31 YourTradingCoach presents…YTC Price Action Trader 2.2.5 - What Are Markets? Most traders simply see markets as price movement. They look at a chart and they filter all the price action into what they consider to be significant movement, usually represented by either charting patterns or indicator based setups. To return to Plato‟s Allegory of the Cave, these traders are trading the shadows; the illusion. They‟re not considering the reality underlying the price movement. Or if you prefer to use the cause/effect analogy, these traders are trading the effect. They‟re not considering the cause of price movement – the underlying reality, or the nature of the market, which is… Traders making trading decisions. Traders make trading decisions; which leads to a net order flow; which leads to the effect – price movement. Figure 2.8 – The Underlying Reality of the Markets © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 32 YourTradingCoach presents…YTC Price Action Trader We see markets as a collective group of traders all making trading decisions and taking action based upon their bullish or bearish sentiment. This leads to a net bullish or bearish orderflow, which leads to the effect – price movement. You may think this is irrelevant. You‟d be wrong. It‟s a subtle difference, but it‟s essential. Until you get the significance of this, you‟ll be stuck in the indicator and pattern-based TA treadmill, simply observing past price movement and trying to predict future price movement. Markets are traders making trading decisions. Markets are not the resultant price movement. When we look at a chart, don‟t see it as price movement. See it as traders making decisions whether to buy or sell or stand aside. You need to see when they‟re in pain. You need to see when they‟re feeling greed. Only then will you be operating in the real market, profiting from the traders who are operating under false assumptions and a lack of understanding of the game. Let‟s look at some examples. Figure 2.9 – Breakout Pullback – From the Perspective of Other Traders © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 33 YourTradingCoach presents…YTC Price Action Trader Don‟t look at figure 2.9 and just see a breakout below support at point A. Learn to view all price movement from the perspective of other traders, and how the price movement influences their decision making. See the bears entering at point A with anticipation and greed, with their sell orders, expecting lower prices to follow the breakout. See the bulls who bought at point B expecting support to hold. These people are panicking – they‟re in drawdown – the market is moving fast against them. Those bulls who aren‟t frozen will be activating their stops, adding to the bearish pressure, forcing price even lower. Traders, making trading decisions. When price stalls at point C, don‟t just see a swing low. See the shorter-term traders who caught the breakout, covering their position to take profits. This adds to bullish pressure and slows the breakout move. See also some new bulls deciding to enter long, in the hope of catching a breakout failure. These trader decisions, and their resultant buy orders, were enough to tip the supply / demand equation to the bullish side, causing a retrace. Don‟t just see a breakout pullback at point D. See the traders who missed the original breakout, enthusiastically selling as price gives them a second opportunity to enter short, or perhaps those who did catch the original move deciding to add to their position. Both scenarios adding to the bearish pressure. See the traders who were long from point B, having suffered through the drawdown to point C, enthusiastically selling as the pullback offers them an opportunity to get out at close to their entry point for a reduced loss. Once again, adding to the bearish pressure. See the more astute short-term traders who entered long at C in anticipation of a scalp back to the breakout point taking their profits via a sell order, further adding to the bearish pressure. Then as this bearish pressure causes price to move down again from point D, see those longs who bought at C in expectation of a breakout failure and longer term reversal back to new highs, having to sell in panic as they realise that the breakout failure did not occur and they‟re stuck in a losing position. All these trading decisions lead to a bearish sentiment, bearish pressure, bearish net order flow, and therefore a price fall. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 34 YourTradingCoach presents…YTC Price Action Trader One more example… Figure 2.10 – Trend Pullback – From the Perspective of Other Traders Don‟t look at figure 2.10 and see a pullback within a trending market at point A. Learn to view all price movement from the perspective of other traders, and how the price movement influences their decision making. Large numbers of traders have a natural tendency to try to fight a trend. These people will be looking for any opportunity to enter long, in the hope of catching the reversal. See these hopeful bulls entering in the vicinity of B with anticipation and greed, with their buy orders, expecting higher prices and an opportunity to brag to their friends about how they caught the reversal. Their bullish orderflow, added to the pressure of those shorts who take profits at new lows (also a buy order), being sufficient to overcome the downward price movement and commence a pullback. As price gets to the area of point A, see the fear levels rise within the longs who bought at B, as price stalls for three candles. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 35 YourTradingCoach presents…YTC Price Action Trader See the more astute traders trading with the trend and taking the pullback to point A as an opportunity to enter short, creating bearish pressure which opposes the short-term pullback. The see the panic set in at point C as the market thrusts back downwards, and the longs from B bail out of their positions, some smarter ones at breakeven, but most at a loss as they watch in disbelief as the market takes out their stops and their reversal is proven to be just a pullback within the trend. © Copyright 2010. Lance Beggs, www.YourTradingCoach.com. All Rights Reserved http://www.YourTradingCoach.com 36 YourTradingCoach presents…YTC Price Action Trader 2.2.6 - Summary – The Reality of the Markets Figure 2.11 – Markets are Traders Making Trading Decisions The reality of the market is traders making trading decisions. It‟s all about people, not price. Individual traders make trading decisions based on their perception of the market. The net effect of all traders operating within the market will result in a net bullish, bearish or neutral sentiment, which leads to bullish, bearish or neutral orderflow and its corresponding price movement. Learn to view all price movement from the perspective of other traders, and how the price movement influences their decision making. When we look at a chart, don‟t see it as price movement. See it as traders operating through a foundation of fear and greed and all of the perceptual limitations and heuristics and biases which influence their decisions and subsequent actions. You may feel this