Gaps are areas on a chart where the price of a financial instrument has moved either up or down with no trading in between. As a result of this, the chart shows a "gap" in price. Gaps most often appear between the close of a market and the next session’s open. However, they can also – albeit less frequently - appear intra-day. Gaps can occur as a result of a variety of technical and fundamental reasons. For example, a gap on a Daily chart may be seen if a company announces strong earnings after the market close and its stock then gaps up on the open of the next day. An intra-day gap may appear when, for example, the bid/ask spread widens and market participants may need to pay up or down to enter or exit the market causing price to "jump" from the last traded price to the next that the trader can get filled at. This can often be seen around the release of key market news.

Some quick research on gaps shows that there are several different types of gap including breakaway gaps, exhaustion gaps and common gaps. Each one is said to signify a different outcome for price. Today we are focusing on gaps in the FX markets which are, more often than not, common gaps. In Foreign Exchange markets - which trade 24 hours a day, five days a week - you tend to see gaps occur most regularly on the Sunday open when New Zealand enters the markets first. In actual fact, gaps in Foreign Exchange are relatively common - over the last 18 months there has been a gap in the EUR/USD spot price approximately 65% of the time on the Sunday open. It is these daily gaps that we pay most attention to. One reason that gaps are of interest to traders is because of their tendency to fill. That is to say that price will often trade counter to the direction it gapped in and return to the price at which it last closed on the time frame you see the gap occur. In fact, again, over the last 18 months in the EUR/USD 98% of the gaps recorded have filled at some point. This statistic however, masks the fact that traders can suffer unsustainable draw downs when trying to execute gap-fill type trades on this basis.

However, armed with these statistics, we can get a clear idea that a gap is a “potential setup” that a trader can exploit for profit. One way that these gaps can be traded is by waiting for the market to open and then to see if there is any follow-through in the direction that the market gapped in. If the follow-through is insignificant, we can fade the gap - take a position against the direction the price gapped in - by entering at the first significant support or resistance level that the price reaches and hold the position until the price reaches the Sunday close and the gap technically "fills".
So, gaps are another example of price behaviour that the astute trader should be aware of. A gap can provide a frame of reference for the trader and those who aspire to be profitable will look at what happens after price creates one in order to spot potential patterns that they can profit from. By back testing the phenomenon, traders will likely be able to work out consistent, controlled ways to exploit these for profit.

Over the last year and a half, Inbox Education has focused upon many different elements of technical analysis. We have discussed Market Profile, support and resistance, the simple trend line and Eliott Wave amongst other techniques. All of these techniques allow you to interpret both the market price and the day structure, and to identify buying and selling opportunities. However, one advantage that our professional Proprietary Traders have when using the Market Depth is an ability to identify those buying and selling opportunities that are not manifested on any chart.
Many of the intra-day levels that provide profit opportunities for Futex’s traders are borne out of the interaction between market participants – buyers and sellers – at any one price, or over a series of prices. However, these interactions may only last for a few seconds and would register only as “noise” on a higher timeframe bar or candlestick chart. An example may be the repeated rapid-fire failure of a large participant(s) to breach a particular price. No matter how much is bought at the price in question, and no matter how big the individual clip (transaction), the price just will not break i.e. serious resistance has been formed. But if this activity takes place slap bang in the middle of a 5 minute range, the relevant candlestick or bar just will not highlight it.
Now, just because such “levels” are visible to intra-day Market Depth traders doesn’t mean that they can always trade them and profit accordingly. Of course you have to be in front of your screen to stand a chance but even so the Price Action can be lightning quick and sometimes too quick to exploit. But here’s the key… If you can observe and then commit to memory not only the price level in question but the precise price action that caused it, then whilst it may not pay dividends right there and then, there’s a strong chance that it will later in the trading session or maybe even tomorrow. For example, if the market trades away from this price level, establishes value elsewhere and then returns, the first retest of the same level tends to have a significant and potentially highly profitable reaction.
The most successful Proprietary Traders have an enviable ability to recall every last detail of the market(s) they trade, the trades that they execute – and there may be upwards of 100 each day for some – and the price levels that attract significant participant interaction. Armed with this information they are then able to execute highly effective, high probability trades that the majority of other participants that do not have the same market access and skill simply cannot. Proprietary Trading is a tough career to pursue and gaining an edge over the market wherever possible is vital. Investing in technical analysis that few other participants can see or are even aware of is just one way in which our traders are coached to establish their own edge.

This week we would like to set the record straight on a form of technical analysis some of you may have encountered known as Elliot Wave.  Although a very common tool used by technical analysts, Elliott Wave is unfortunately also commonly misused as many analysts fail to adhere to all of the rules set out by both its creator and it's most prominent experts. 

Elliott Wave

Ascending Triangle Pattern

This pattern is commonly seen in a bull market and should only be taken seriously when the market is trending. It is characterized by having one side of the triangle horizontal as the market bounces off a level of resistance in the market. The retracements off this level become progressively smaller before the market breaks through the resistance level and continues in the direction of the preceding trend.

Descending Triangle Pattern

This pattern is a mirror image of the ascending pattern except that it occurs primarily in a bear market or significant down trend. Instead of the market bouncing off resistance, it bounces off the support level before finally breaking lower.

Symmetrical Pattern

While the Ascending and Descending patterns are most prevalent in trending markets, the symmetrical pattern is most common in range bound or deer markets. The symmetry of the triangle indicates an evenly matched number of bulls and bears in the market, both of whom have tried unsuccessfully to move the market in one direction. This indecision continues until a break of the triangle occurs and a clear direction is established.

Triangle patterns provide great trading opportunities to the technical analyst as they have clear and well defined entries and exits. A note of caution though; one must be wary when trading triangle patterns that large players in the market will use the obviousness of these trade-types to try and “squeeze” the trader out of his position before allowing the market to act in its expected manner. Experienced traders should be able to use this real-life knowledge of technical analysis to their advantage...

It is also important to note that no pattern in technical analysis is a sure thing. It is just a pattern which over time is seen to have a high probability of creating certain outcomes or behaviour. Therefore, a trader should not rely solely on such patterns and should take into consideration any other pertinent factors in the market that may jeopardise the intended outcome.

Futex Investment & Trading Academy

“The Ultimate Futures Trading Education” ]]> http://www.futex.co.uk/inbox-education/triangles/feed/ 0 http://www.futex.co.uk/inbox-education/relative-strength-index-rsi/ http://www.futex.co.uk/inbox-education/relative-strength-index-rsi/#comments Fri, 03 Sep 2010 08:00:35 +0000 John http://www.futex.co.uk/?p=2666 While bonds have been trending aggressively over the last few months in a Bear Market (yield), equities seem to be very directionless or sitting in a deer market. A deer market is a term used to illustrate a market condition when investors are unable or unwilling to move due to uncertainty - like a deer who freezes when "caught in the headlights" of a vehicle.

To an investor this is usually a good time to do nothing; to sit on the sidelines and wait for a clearer indication of what is to come. However, for traders like those at Futex, sitting idly on the sidelines is not an option. Our traders have overheads to pay, mouths to feed at home and must therefore be adept at making money at all times of the year and in all types of markets.

So, how exactly does a trader trade a range-bound market and what are the common technical indicators or tools they use in such a situation?

Well, through repeated deliberate practice, Futex traders develop an instinctive ability to adapt in real-time to the market that exists in front of their eyes. By being heavily involved in the markets on a daily basis, and fighting to extract ticks wherever possible, they naturally amend their style to fit the prevailing conditions. For example, profit expectations may be reduced on a per trade basis; the duration of trades may increase compared to an individual’s average; and the frequency of breakout-type trades may be reduced.

One technical indicator used by some of our traders in range-bound markets is the relative strength index or RSI. The Relative Strength Index was developed by J. Welles Wilder and published in a 1978 book, New Concepts in Technical Trading Systems, and in Commodities magazine (now Futures magazine) in the June 1978 issue. The actual indicator is classified as a momentum oscillator that compares the degree of recent gains to recent losses in order to ascertain the overbought and oversold situation of a particular product or asset. The indicator is considered to be overbought if it gives a reading above 70 and oversold if below 30. However, one of the most powerful signals that RSI can generate is divergence. A bearish divergence forms when the price of the product or asset makes a new high while the RSI indicator makes a second, lower high confirming a slowdown in the momentum of the prevailing move. A bullish divergence, by contrast, forms when the price of the product or asset makes a new low while the RSI indicator makes a second, higher low.

This technical indicator provides a very useful backdrop to our traders’ decision making; it helps provide context to the intra-day information upon which they make their high-frequency trading decisions. However, as with all technical tools, the skill lies in understanding the tool being used and its effective implementation. While many traders make use of the RSI, it is important to note that large surges and drops in the price of a product will have an adverse impact by creating false buy or sell signals. Therefore, like any other technical indicator it is best used to complement other trading tools, techniques and ideas, and is not a solution in isolation.

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“The Ultimate Futures Trading Education”

Following last month’s article on the 'curse of the breakout', we thought it prevalent to discuss one technical pattern synonymous with a failed breakout as well provide some insight in regards to trading around key levels.

The name Cat's Whisker describes a candle which opens within a level, then breaks though it before it failing and eventually closing within the level. It is the actual wick of this candle poking through the level we describe as the Cat's Whisker. The subsequent price action is likely a sharp correction as the market aggressively rejects the breakout. This pattern is extremely common because large traders are aware of the significance of key levels and will therefore squeeze the market through this price to:

1 Hunt for stops
2 Trap trend following traders (the large part of the retail market) as they play the breakout.

Once the breakout has failed, all the traders playing for the market to continue must unwind their positions. This action, combined with many professional traders vying for a rejection, usually leads to an accelerated change in market direction. Unfortunately, once you recognise this technical pattern, it may be too late to act. Which brings us to the question; how should you trade around key levels?

Louis Borsellino, the revered S&P trader, has been quoted saying that in the pit you could sense when a breakout of the market was going to be genuine. You could hear it. If the market was going to breakout, the noise volume in the pit would rise, as the big traders moved the market and the smaller guys screamed to get a piece of the action. Conversely, if the market was trading at a level and the pit was quiet, it was likely the market would reject this level. Unfortunately, the modern day trader does not have this luxury; however, what he does have access to is the order flow. A trader purely looking at charts and the bid/ask spread has no idea of the games being played at each price, the level of buying/selling or the intentions of the big traders. Using a product such as Trading Technologies X-Trader to read the order flow, a trader can see the market interact at every price. Like the increase in noise was a potential signal of a breakout for the pit trader, a screen based trader gains an edge over the rest of the market who only see the final product on a chart, once the opportunity has passed.

Futex Investment & Trading Academy

“The Ultimate Futures Trading Education” ]]> http://www.futex.co.uk/inbox-education/cats-whiskers-and-trading-around-key-levels/feed/ 0 http://www.futex.co.uk/inbox-education/the-curse-of-the-breakout/ http://www.futex.co.uk/inbox-education/the-curse-of-the-breakout/#comments Fri, 02 Jul 2010 08:06:37 +0000 John http://www.futex.co.uk/?p=1938 A common preoccupation, bordering on an obsession, for many novice traders is the ability to identify and profit from a technical breakout that leads to a trending market. I don’t blame them for seeking the answers to questions such as “how do I know when this market is going to break?” or “where do I enter and where should I place my stop?” It seems a logical subject for discussion to which there must be a solution; how else do you make money! Unfortunately for them this preoccupation is fuelled by the retail trading industry and the trading communities on the internet that promote freely available, fool-proof systems and free training with guaranteed results. The majority of these products are trend-following in nature and make for easy-to-draw technical charts, clear and unambiguous to all those that view them – after the event of course. How convenient it is to offer a product that once plugged-in will turn the global financial markets into an instant cash-generator for anybody with internet access.

What people don’t realise, and often don’t want to know, is that many financial markets remain range-bound for 70 to 80% of the time meaning no discernible direction is evident and you have to actually work the “boring” markets to generate your income. The ability to spot the transition from range-bound to trending is one of the hardest to acquire and one that even experienced traders can get wrong. However, the key difference is that our elite traders, having made a loss as the market transitions, will overcome the losing trades and still make money by the end of the day. Profiting in range-bound markets requires a high level of involvement, multiple trades with small profit targets, an ability to trade counter to the prevailing short-term direction and an intuition honed through guided, repeated observation and study of price action – not plug and play solutions I admit! It also involves profiting from the naive retail traders who all to often, on any sign of the market breaching their support or resistance levels, attempt to jump-on board the new trend only to stop out as the market reverts to its previously-established range...

However, for those of us that are determined to improve our ability to spot the transition from range-bound to trending markets, here are a few technical questions for your consideration:

1. How do today’s KMMs compare to those of recent, range-bound days? (Click here for information on KMMs).
2. Is the real-time traded volume elevated and sustained as the market breaches key technical levels?
3. Does the market breach support or resistance by an atypical number of ticks?
4. Does the market struggle to find value at prices immediately below breached support or above breached resistance and move swiftly in an attempt to establish new value?
5. Are there single prints denoting strong initiative activity?
6. Is the market incapable of trading back through this area of activity?
7. Are large participants prepared to sell at lower value than before upon a breach of support or buy at higher value upon a breach of resistance?
8. Is the breached technical level rejected upon retests (i.e. does its role reverse)?
9. Is your market moving in isolation or do correlated markets exhibit similar patterns?
10. What is the time of day/schedule for economic data releases?

If you can assimilate the necessary information to answer these questions instantly, in advance of trading around a breakout, you will increase the effectiveness of your trade decisions.

Futex Investment & Trading Academy

“The Ultimate Futures Trading Education”

The risk of spreading yourself too thinly as a new trader is very high and the chance of generating consistent, controlled returns over the medium to long term is very small; as a trading approach it is certainly not conducive to generating a regular income – the key objective for our new market participants. Our tried and tested approach is to educate, coach and mentor our trainees in such a way that they develop a deep understanding of the characteristics of one product. Within that one product they are then helped to identify a series of high probability, repeated patterns of price behaviour that can be aggressively traded, with confidence, to generate consistent returns. To this solid foundation of understanding novice traders can add new patterns, techniques and skills with a view to becoming a Master of one market. Combined with their comprehensive appreciation of the technical and fundamental outlook for a broad range of global markets, as developed during the Trading Floor Training programme, they are strongly positioned to develop an enduring and successful career.

Futex Investment & Trading Academy

“The Ultimate Futures Trading Education”

As part of our regular look at Technical Analysis for Inbox Education we recently introduced the concept of Key Market Metrics (KMMs) (click here to see more information). KMMs are the objective, market-generated patterns of price activity that form the basis of a trading approach. The observation, recording, discussion and subsequent implementation of KMMs form a key component of the Trading Floor Training programme and a very effective technical analysis strategy. The May Trading Floor Training intake has just completed their analysis of KMMs and their findings provide some interesting insight.

Taking the Euro Stoxx 50 – a Blue-chip representation of 50 supersector leaders in the Eurozone and one of the most popular products amongst the Futex traders - as their focus product, our latest trainees have delved into the statistics and generated results that will go a long way to shaping their trading approach over the next 4 weeks. For example, the average trading range in the first hour (the Initial Balance) has tripled in size in May when compared to March. The average daily trading range has also tripled. The volatility that has permeated the financial markets over the past few weeks has manifested itself in the KMMs and trading styles should be amended as a result. It was also interesting to confirm that the outliers in terms of KMM data were as a direct result of significant fundamental drivers, for example the announcement of the European rescue package and the dramatic intraday sell-off, exacerbated by computerized trading, in the US equity markets.

And herein lays the key to the use of KMMS. By regularly analysing their chosen market objectively and in detail as part of their daily/weekly technical analysis routine, our novice traders are able to ensure an intelligent and thus effective trading approach. By studying metrics such as the smallest, largest and average size of an hourly or daily trading range and correlating the results to the day of week and the economic calendar, our trainees become skilled at interpreting in real-time the developing market conditions. They develop an ability to objectively assess whether the unfolding price activity is suggestive of a typical or an atypical trading day. This assessment guides the trading approach and assists in the rational identification and execution of higher probability and lower risk profit opportunities – a key goal for any professional Proprietary Trader.

Futex Investment & Trading Academy

“The Ultimate Futures Trading Education

As regular readers will know, our professional traders use technical analysis to complement rather than define their understanding of the markets. Each market trades uniquely and none stand still. So although helping all students of our Trading Floor Training programme to develop their own style of trading is of paramount importance, experience shows that keeping technical analysis simple and unambiguous is key to achieving consistent profitability.

Enter the simple trend line.

All of us when presented with any form of chart will naturally impose mental trend lines on the price movements we see- it is the only way the human mind can make sense of such large data series. This sometimes leads us to find order where there is none however, and so an essential precursor to attempting to make sense of a price chart is to absorb yourself in your market. Learn who and what drives it; study it intently every day; and begin to understand its behaviour. This essential pre-condition is the reason the Trading Floor Training programme incorporates small daily trading sessions from its very beginning. Once the understanding of price behaviour is instilled, charts can be used efficiently and trends can be drawn appropriately. The noble idea of a random walk died out long ago, and it is now widely accepted that prices have a tendency to trend directionally. This after all is how and why we are able to make a living as professional traders.

The great advantage we have as free-thinking discretionary traders is flexibility. We are not bound by rules, and we trade our views. Trend lines can help maintain perspective when price action is strong and seemingly moving against a view held with conviction. Smaller price movements against an underlying trend, and strong activity at the extremes of range-bound markets are normal and healthy, but do not always feel like it at the time- great trades are rarely easy to hold. A good trend line drawn in advance maintains objectivity, and enables optimum entry and exit of positions, with risk clearly defined in advance. Just as important, an objectively drawn trend line quickly tells us when we are wrong, or when the market has changed. As professionals we exit the instant conditions dictate and without regret.

Futex Investment & Trading Academy