One of the dangers with hindsight price action analysis is that almost every move looks obvious in retrospect. As the eye follows the subsequent price movement it seems apparent that the subsequent price movement was the natural outcome of the prior price action.
We are all price action savants in hindsight, unfortunately, this genius level ability does not translate to the hard right edge during live trading. Few thing s irritate me as much as watching some “expert” walk through a chart of yesterday’s trading session calling out all the “obvious” big entries and exits for a host of large winners.
But for those of us we actually trade, we know its not that simple. In the moment often several different paths of future price movement all look probable and the obvious only looks obvious after the fact.
The below example is not to show how easily you could have walked away with a 150 tick winners, but rather to show how difficult it often is in the moment to be correct when in hindsight the correct direction and entry and exit all look obvious.
Price Expansion and Price Constriction
As you advance as a trader you will start to recognize areas and opportunities where there is a high likelihood of an extended move. What frustrates many traders as they become more entuned with the market and are better able to recognize areas of opportunity on their charts is the growing awareness of areas of opportunity but the inability to capture a large enough piece of the opportunity.
The market tends to move on those days when conditions are favorable to trading in bursts. There will be a directional movement of price followed by a constriction of price. This constriction of price is the area of opportunity, where price is very likely to have another large directional move.
At this constriction of price the only question is whether price will continue in the same direction as the initial move or will price reverse and head back from whence it came.
In theory this sounds simple, there are only two choices, you should have a 50/50 chance of getting it right and if you are wrong just exit and reenter. Said the person who has never traded before.
Common areas of opportunity include areas of tight consolidation after a large move and major support and resistance areas.
We have looked at this chart in another post, dealing with the dangers of high conviction trading, but this chart also offers price constriction after a large move.
What I want to focus on is this very strong uptrend that occurred from 9:45am to 1pm and covered about 950 ticks in a single strong directional move. This occurred after the market broke strongly lower from the open and created a double bottom with the overnight low (this double bottom is not visible on this chart). I think we can all agree that this was an awesome trading opportunity if ever there was one.
Specifically, I want to focus on the area of price consolidation that occurred around 10:50am and lasted to 11:20am. This area of consolidation occurred at around where the market opened and significantly below the HOD up to that point.
Looking at the chart now, the opportunity seems clear and obvious, a small pause in price without any pullback, before price shoots higher.
But let’s look at this area in greater detail and as if we did not know what was going to happen. Below is that same period of time o the 1 minute chart.
As you can see this “small” pause in price is actually 80+ ticks in size!
In the moment would you have read this as a lower high from the high of day established close to the open? Would you have seen this as a double top reversal pattern and hoped for a large move back down to the low of day?
Imagine you were still bullish after the first pullback and you entered long around 11am. How would you have managed this trade? Would you have been aiming for the high of the last swing high? That would have been a great trade. Depending where you entered you would have profited somewhere around 50 ticks. But let’s say you instead set your target for the then HOD at 12645. If you held your trade you would have netted a cool 250 ticks! Wow, isn’t it great to be a trader? Like taking candy from a baby.
And someone probably did take this exact trade and make a very nice winner. But what I want to point out is why this trade probably wasn’t so obvious to traders at the time.
Trading in the Moment is Never as Simple
Let’s say you entered this initial pullback for a continuation long and let’s say you got a great entry at 1583.65 you would have been excellently positioned to a great winner. This trade took off immediately with a large bull bar. If you held the trade to the swing high you would have walked away with 60 ticks. A 3 to 1 risk reward trade.
Great trade, but when we look at these charts after the fact we imagine getting all of the move. “I would have held it to at least the HOD if not more.”
The problem with that is we only know there was a lot more to the upside, because we are looking at a chart of the past. In the moment would it you give up 60 ticks of profit for the hopes that price would eventually continue its upward trend?
Additionally, most traders move their stop to breakeven after a trade has moved in their favor a certain amount. If you are one of those traders chances are you would have been stopped out for breakeven before this trade continued up. Getting stopped out for breakeven after being up large is a terrible feeling and unfortunately leads to a reentry and a much worse price.
Here, if you had entered at 12583.65 you would have has a trade go 60 ticks in your favor and then form what looks like picture perfect double top and come back and put you in the negative briefly before continuing up strongly.
Would you have had the stomach in the movement to sit through this pullback? If you did have the stomach for this deep of a pullback, should you have the stomach for it? Is that a high probability trade management strategy?
If you are a set it and forget it style trader than this is one of those occasions when you would look good at the end of the day, but if you are a discretionary trader and assuming you are trading with a stop somewhere around 20 ticks than letting a 60 tick winner retrace past breakeven can really mess up your mind for the rest of your trading day.
Let’s assume you played it safe and took profit once price stalled at the prior swing high. Would you have taken a very aggressive short on the second top? That would not have been an unreasonable entry and depending on your entry this trade could have netted you 20 or 30 ticks. However, if you were waiting for conformation or a break of the neckline, hopefully you never entered short.
On the very large bull candle would you have entered long on the higher low double bottom? It’s a strong bull candle, but if you waited until the close of the candle you are right at the top of a trading range and facing a 60 tick stop.
In retrospect it works out very well, the trade moves on strongly ang you would never face any pullback through your entry. But trading in the moment should you take this trade from a probability perspective?
Its hard to say, because looking at the chart after it has already happened it seems easy to say of course you would take this trade, but that’s because we are looking at a chart from the past and the trade was a winner and therefore to most of us a good decision.
However, you would not have to scroll back too far on your charts to find this same set up where price instead formed a double top or even triple top and then fell back to the start of the initial move.
I wanted to show this chart and walk through it to so that the next you see a chart like this and beat yourself up for not getting a huge winner you remember that real trading in the moment is hard. If it was as easy as some would like to make it appear we would all be rich.
Take what you can get out of the opportunity and as you progress on your trading journey perhaps the next time the market presents a similar opportunity you will take more out of the market.