ET He a aS A aaFOREWORD CONTENTS ACKNOWLEDGMENTS INTRODUCTION carter 1 UNDERSTANDING HOW FIBONACCI WORKS xi n SECTION I CHAPTER 2 CHAPTER 3 THE MOST IMPORTANT FIBONACCI TOOLS HOW TO FIND IMPORTANT SUPPORT AND RESISTANCE LEVELS WITH FIBONACCI USING FIBZONES TO IDENTIFY HIGH- PROBABILITY REVERSALS 15 WwContents MY FAVORITE FIBONACCI STRATEGIES 55 SECTION If CHAPTER 4 How To Enter Trends Using The Trend 59 Trigger Strategy CHAPTER 5 THE REFLECTION REVERSAL METHOD 67 CHAPTER 6 TRADING PULLBACKS USING THE ‘TRIPLE 83 CROWN STRATEGY CHAPTER 7 -TWO-STEP PATTERNS (rsp) 100 Capture Strong, Trends With The symmetrical TSP Enter Pullbacks Using The Gartley TSP ind Powerful Reversals With The Butterfly TSP m 13 CHAPTER 8 HEISENBERG 200 137 CHAPTER SHARK ATTACK 153 cuarrer 10 AiR POCKETS 165 SECTION Hil 1 BOILS DOWN TO PROPER EXECUTION 189 cuarrer D1 ENTRY PATTERNS: WOW TO ENTERTHETRADE = 92 SK MANAGEMENT: IDENTIFYING AND cuaprer 12 1 MANAGING THE KEY AREAS OF RISK CONTROL 21 n9 BIBLIOGRAPHY ABOUT THE AUTHOR 22aINTRODUCTION When 1 first started trading 12 years ago, I was looking for the secret answer to trad- ing. What was the one indicator, the one method, the one guru, that could tell me when to buy and sell? To find it, I spent thousands of hours and dollars on books on the subject of techni- cal analysis. I had myself tutored directly and indirectly by some extremely success- ful traders who have been in the thick of this business for years From my initial exposure to the market, to the present day, this 12-year journey has been filled with reward, humility, excitement, disappointment, and hard-knock edu. cation. Early on, my trading was very volatile and unpredictable. Much of that roller-coaster ride was due to the fact that I was making highly charged emotional trading decisions. I was floating from one trading system to another. I had no plan of attack. Fortunately, it was this frustrating experience that became the driving force behind my desire to create a well-thought-out trading plan. Tam excited to say that what I have learned with Fibonacci analysis over the years has become my “holy grail.” With this methodology, I have a plan of attack before each market day's open and can execute every trade with confidence. Sure I have losses and draw downs like every trader. But I have the confidence that over a rea- sonable sample size, I will be profitable. So, when I was approached about writing a book on the trading strategies I use with Fibonacci, I was, naturally, excited. It is my honor to share with you the fruits of my labor. The information I'm about to share with you is extremely exciting to me.Introduction Not a trading day goes by that I am not applying Fibonacci analysis to the markets and, in turn, watching markets con- form to my Fibonacci work. Now, let's take a peek at a few examples of Fibonacci at work and the potential de- ee —“C‘“ Fe trader. Don’t get caught up in the specifics or math of these charts, for now. I'll take a couple of chapters er on to walk you through those details. For now, just ‘observe some of the oppor- tunities this analysis presents on a daily basis:_ OO Introduction 3 5,400 70,300 4.010 110,000 100.000 0.000 i Fibonacci alerts us to a potential reversal. —— = netem — foon sto, 5.609% {50.000 5 2000" 7s.s50 i Bee etna Way an Ghart created by Dynamic Trader v. 4 ¢ 1996-2009 (oni .Oynamictraders.com) By properly applying Fibonacci to price charts of stocks and commodities, we are able to project price zones where there is a high probability of a trend reversal oc Guring. To the trader, this represents tremendous profit opportunity.4 Introduction Over the next couple of months, the BBH traded up over 27 points or 42%. Not bad for a market that had essentially been trending down for the last two years. 730 69.550 2A ee Si v 27.500 30 days later, the BBH is up 42%. f 65.961 Ret 2618 ee ee Bate fi 000 9.888 Bop aso x sssto, 53.50%, eeiaoo, 75.550 tas ar Apr ay ‘aug SSD Chart created by Dynamic Trader (c) 1996-2001 130,000 120,000 110.000 100.000 {0.000 0.000 70,000 {0.000 }s0,000 ‘As the next example will show, verse to the downside, cre: or commodity. Fibonacci also alerts us to where price will likely re- 1g opportunity to profit by selling short a stock, future,Introduction 5 Below is a chart of Myriad Genetics (MYGN). Over the course of five weeks, this Stock had rallied from a low of $16.00 per share to a high on August 15, 2002, of $13.22. I knew Fibonacci analysis was accurate, but this seemed like an aggressive target. Fibonacci projects a potential downside reversal. 26.200 agp 1618, 2660 ap 1000i 6 Introduction {As you can see below, the accuracy of this analysis can be downright scary. Not only JAY MYCN reverse and go down when Fibonacci told us it would, but within a few Short weeks it actually hit our profit objective. Who would have imagined that a stock that was up 63% trading at $26 would be trading at half of that value in just a few short weeks? I guess Fibonacci did! pYCND-D Fone Sep HOO TSO Leo 19.180 15.9605 ‘ug rea nee 1272 zaa7e Re 03k MYGN loses nearly 50% of its value in 5 weeks. iE den 4 we. ‘eo oe 12.000 eee mee ct reste by Dynamic Wade (1996-2001Introduction as o—rCr SC —r———_CL we are looking at a 60-minute chart of eBay (each bar tivity). This stock has sold off over 4 points in four days. Most investors were head- ing for the exits. Fibonacci not only kept me in my seat but identified a key price ee ———— —S_ reverse. Fibonacci Projects an opportunity to go long, SRG BN 3z8 SS 0 aso ies BES 0s x e ‘Seam oe ow Chart created by Dynamic Trader (¢) 1996-2001LS 8 Introduction ‘The very next day, over six hours, eBay traded up over 3 points, or 6%. It would take at least three years at your local bank (at 2003 rates) to net those kind of returns ina savings account. 20c83 ERy09, 3.610 Si9% zie eBay trades up over 3 points the next day. in| f 0382 Bat 2218 9 gin gt tc, fe oe is ret 28 0.000 49.967 Ret 1618 24 . 19.000 sats 40 hr a a "ow ‘Chart created by Dynamic Trader (c) 1996-2001 ‘Trading opportunities like this one and the previous examples exist every day with Fibonacci. They exist on weekly, daily, and intraday charts. They occur in stocks, commodities, and futures contracts. And this analysis can be used and applied by daytraders, swing traders, and long-term traders alike.Ss Introduction I could go on with many more examples to show you how Fibonacci can help you identify trading opportunities in both stocks and futures and for different time frames, But instead, for the remainder of this book let me focus on teaching you how Fibonacci works and how you can apply it to your own trading. Here is what you will lean as we work together chapter-by-chapter: Chapter 1: Understanding How Fibonacci Works—In this chapter, I will explain what you need to understand about Fibonacci numbers in order to use them as a powerful tool in your trading. Section I: The Most Important Fibonacci Tools Chapter 2: How To Find Important Support And Resistance Levels With Fibonacci— Next I will lay the foundation for the rest of the book by teaching you the basic step-by-step process that is common to all of the strategies that I will be teaching. Chapter 3: Using FibZones To Identify High-Probability Reversals—You will then Jearn about FibZones. FibZones will provide you with a way of using multiple Fibonacci relationships to find reversals that have a higher-than-normal probability of occurring Section II: My Favorite Fibonacci Strategies Chapter 4: How To Enter Trends Using The Trend Trigger Strategy—Here, I will teach you one of my favorite Fibonacci trend-following strategies. Chapter 5: The Reflection Reversal Method—Next, you will learn how repeating patterns in price can play a key role in helping you to identify the most powerful re- versals. Chapter 6: Trading Pullbacks Using The Triple Crown Strategy—This is my favorite pullback strategy. I will show you how, through the use of certain Fibonacci ratios and certain swing patterns, you can find excellent pullback trades at the beginning of a reversal or within a strong trend. Chapter 7: Two-Step Patterns (TSP)—In this chapter I will teach you three variations on what I call “Two-Step Patterns.” These three patterns will enable you to capture strong trends, enter the initial pullbacks of newly formed trends and trade major re- versals in all time frames. Chapter 8: Heisenberg 200—In this strategy, I will teach you how to determine when a violation of the widely watched 200-day moving average is likely a fake-out. I will teach you how to use Fibonacci in order to enter the powerful reversals that occur from these fake-out moves.LS 10 Introduction Chapter 9: Shark Attack—The next strategy Il teach you is a special variation on double-top and double-bottom patterns. By using Fibonacci Extensions, you will be able to identify major reversals that occur off the second bottom (or top) of this pat- tern, Chapter 10: Air Pockets—In this strategy, I will show you how to trade momentum moves that occur when a Fibonacci support or resistance zone is violated. Section III: It Boils Down To Proper Execution Chapter 11: Entry Patterns: How To Enter The Trade—In this chapter, I will focus on teaching you the best patterns to use in order to trigger entries into trades. These en- try patterns can then be applied to any of the strategies that I teach you in this book. Chapter 12: Risk Management: Identifying And Managing The Key Areas Of Risk Control—Finally, ll wrap up by teaching you the most important principles that enable you to achieve long-term trading success. Now let's get started!CHAPTER 1 UNDERSTANDING HOW FIBONACCI WORKSes Tn this chapter, 1 will teach you the basics of Fibonacci numbers the financial markets and trading. Also, I will show you the numbers to use in the strategies I'll be teaching you. and how they relate to most important Fibonacci The Fibonacci numbers series and its unique mathematician named Leonardo de Pisa de Fi The series starts like thi Properties was first written about by a ibonacci (1170-1240), 1~1-2-3_5—8_13213455_g9 +++ and goes on from there. summation series, is right around 1.618. Over the years, this ratio, 1.618, has been mentioned in writings, essays, and gPeeches by some of the greatest minds in science and mathematics. Why? Because itis found in the structure of a universal assortment of phenomena in the physical world. This includes nature, architecture, geometry, music, our DNA, and most rele- vant to us... the financial markets, My theory is that Fibonacci ratios represent the purest human behavior. It is a barometer for human hope, fee decay of psychological interest in a stock, futures By understanding this structure, you can identify where the emotional shifts be- ‘ween euphoria and pessimism in the markets will come, That, in tum, can be used by you to identify trading opportunities, In the next chapter, I will teach you how to use Fibonacci te errr ———_—S— calculations to make these kinds of projections. Wher a The basic Fibonacci ratios I use are 1.618 and .618,ee 4 Chapter 1 Besides these two numbers, other derivative ratios that I use in trading are: (382 = 618 squared. Also, the ratio between alternate numbers in the Fibonacci sequence is 2.618 or its inverse, 0.382 '500 = divide the 2nd number by the 3rd in the Fibonacci sequence .786 = square root of 618 4.000 = 1.618 x .618 (also used simply for symmetry measurements) 1.272 = square root of 1.618 2.618 = 1.618 squared We will soon discuss the specific ways in which these ratios are used. The important point here is to know which ratios are used and how they are derived. At this point you should have at least a basic understanding of the background of Fibonacci and the ratios we'll be using. If you are interested in furthering your education in the history of the Golden Mean or Fibonacci, all you need is a computer and Internet connection, There are thousands of articles and materials on the subject. Have fun!_ ss SECTION I THE MOST IMPORTANT FIBONACCI TOOLSCHAPTER 2 HOW TO FIND IMPORTANT SUPPORT AND RESISTANCE LEVELS WITH FIBONACCI‘When you have completed this chapter, you will be able to look at a chart, identify key highs and lows, and calculate Fibonacci price levels. You will also be able lentify a FibZone which is simply my term for a combination of atleast three Fibonacci price lev. cls within a relatively tight range. This concept will be the backbone of the rest of the book and will enable you to perform the following Fibonacci price studies, the basic building blocks of all the strategies that I will be teaching you / | EXTENSIONSSEED 20 Chapter 2 Before we can even think about calculating Fibonacci price support and resistance levels, we must learn to identify key swing points. Swing points are low or high points on a chart where price reverses direction. These are the key points used to calculate Fibonacci price levels. Rather than getting into a highly technical discus- sion of swing points, I am going to provide general guidelines to be followed in choosing these swing levels. A swing high occurs | when the current high has a lower high before | and after it. has a higher low before A swing low occurs when the current low and after it. | | | | |How To Find Important Support And Resistance Leels With Fibonacci [Use Tis 0 ne | Question: What if there are multiple lows (or highs) relatively close to the same price due to a price Consolidation range? Do | use all of them to calculate Fibonacci levels? Ld amar Use This O Not This One amen | Answer: No For swing lows, if the lows are relatively close in price, use the low Ww furthest to the right in the consolidation area. For swing highs, if the highs are relatively close in price, use the high furthest to the right in the consolidation area.————E—=——————————————— 2 Chapter 2 Question: When is a swing point not valid to use? ee [4 Not This One _| | QI [Us Use This One| aw [Use This One | ‘Answer: When calculating support, a swing low is not valid when there is a lower swing low to the right of it. When calculating resistance, a swing high is not valid when there is a higher swing high to the right of it.How To Find Important Support And Resistance Levels With Fibonacci 23 CREATING FIBONACCI LEVELS Let’s look at a few charts to get a feel for what to look for: In the case of this chart, we are in an uptrend and the stock has just started to make a move to the downside (A) over the last three days. It will be my goal to calculate a Price support zone with enough strength to stop the price action from going down and reverse it back up to continue the trend that has been in place. To do this | need to identify a swing high (A) and multiple swing low points (B). Please note that when we are calculating support levels there is only one swing high and multiple swing lows. This is the exact opposite for findin, ig Tesistance in a downtrend (one swing low and multiple swing high points). Tt is the consolidation areas where swing points are most difficult to determine. Just apply our general rules discussed earlierEEE 4 Chapter 2 Below is a stock in a downtrend. Once a swing low (A) is made in a downtrending stock, I look for swing high points (B) to use along with the current swing low (A). These are the swings to be used to calculate Fibonacci price resistance. In (1) and (2) below, you may ask why I wouldn’t use both of those swing points. This was a situ- ation where the swing high points were close in price, so I used the one furthest to the right on the chart. Pe |= valid swing pt. | | invalid swing pt. Ir To calculate price resistance zones | find the last swing low point along with multiple swing high points.How To Find Important Support And Resistance Levels With Fibonacci. 25 STRATEGY Q&A Question: How many swing points do you use to calculate your Fibonacci levels? Answer: I'll go back as many as eight consecutive swing points. Beyond that it would be wise to shift to a higher time frame chart to analyze support and resis- tance. So, if you are studying a 30-minute chart and have gone back eight swing points, I suggest if you want to go back any further, shift to a daily chart. Question: Are certain swing points more significant than others? Answer: If a trend is in progress, I believe there are four swing points that carry the most weight. The first (A) is the swing point that was just made. Second (B) is the swing point made immediately before reversing into the trend that is in place. The third and fourth (C, D) are the last two swing points made in the direction of the trend before forming swing point A (see illustration). Rule of Thumb: Step back and look at the whole chart in a general way. The significant swing points WILL stand out. It's not rocket science and should not be a stumbling block to learning to calculate Fibonacci price levels. The more you do this analysis the quicker you will be at picking up the swing points and calculating the price levelsLL 26 Chapter 2 FIBONACCI PRICE STUDIES Now that we have established how critical it is to the calculation of Fibonacci price Jevels to identify the key highs and lows on a chart, we can move on to the various types of Fibonacci price studies I use. ‘There are four types of Fibonacci price studies: retracements, extensions, projections, and expansions. Do not get hung up on the terminology as we will define each of these graphically to give you a solid visualization of what each means. Through the use of these four price studies, we will be calculating key areas of price support and resistance. Retracements First let’s take a look at a picture of a retracement: \ RETRACEMENTS| B ‘A retracement is simply a move in the opposite direction of the current trend. In a sense it is “recapturing” a portion of the move that was just made. In the illustra- tions above, the current trend is defined as X:A. When price reverses direction from ‘A to B, it is “retracing” or recapturing a portion of the move from X to A. The Fibonacci ratios I use to calculate retracement levels are: 382 , .50, .618, and .786How To Find Important Support And Resistance Levels With Fibonacci 27 Ad 12 RESISTANCE A RETRACEMENTS| B B SUPPORT A Retracements can be used to calculate support or resistance. When the move from X to Ais up and price starts to go down (as in Figure 1.1), retracements are used to calculate support for B. Let’s say X is $10 and A is $30. First, let’s calculate what the range of X to A is: Price @ A: $30 Price @ X: $10 Range = $20.00 Next let’s multiply this range by each Fibonacci ratio: Ratio Points _ 0382 $7.64 0.500 $10.00 0.618 $12.36 0.786 = $15.7228 Chapter 2 Ww ae, RESISTANCE RETRACEMENTS}| B 5 / \ SUPPORT i Finally, take the number (points) from each ratio and subtract it from A, which is $30.00. This will provide you with Fibonacci retracement levels: Fibonacci Retracement Ratio Points Levels 0.382 $ 7.64 $22.36 0.500 $ 10.00 $ 20.00 0.618 $12.36 $17.64 0.786 $15.72 $14.28 So, if I were to ask you for the .618 retracement of swing X-A, the answer would be $17.64. The price levels in the table above represent Fibonacci price support deci- sions. The exact same analysis can be done for Figure 1.2 to calculate retracement levels acting as resistance. In Figure 1.2, X is 30 and A is 10. This time, instead of subtracting from A, we would add to A to determine price resistance levels: Fibonacci Retracement Ratio Points PLA Levels 0.382 $ 7.64 $ 10.00 $17.64 0.500 $ 10.00 $10.00 $ 20.00 0.618 $12.36 $ 10.00 $22.36 0.786 $15.72 $10.00 $25.72How To Find Important Support And Resistance Levels With Fibonacci 29 Let's look at a couple of charts with retracements at work. The daily chart of JCOM above put in a key low (X) at 15.52. Over the next 17 trad- ing sessions JCOM traded up to (A) which was a high of 21.90. A reversal to the downside began. So, as soon as the key high (A) was established (with a lower high on each side), we could calculate the Fibonacci retracement levels that might act as support and stop the downside movement. Those levels are: 382 = 19.46 500 = 18.71 618 = 17.95 786 = 16.88 So, if I were to ask you what the .786 retracement of X:A is, you would answer 16.88.nn 30 Chapter 2 Below is a chart in a downtrend that just put in a swing low (A) an a | ——t A | | 45.39 re _ ee r- Any time a stock is in a downtrend and has just completed a significant low point (A), we can calculate Fibonacci retracement levels. Again, the goal is to determine oe ———r—“—S“C “|” it has a Iikelinood to reverse and go back down. Based on the move from X to A, the Fibonacci retracement levels are:How To Find Important Support And Resistance Levels With Fibonacci 31 Extensions = 24) A 2.2 B RESISTANCE / EXTENSIONS | x x SUPPORT A An extension is very similar to a retracement. It is “recapturing” a percentage of the Previous move (X:A illustrated above). The difference between a retracement and an extension is that an extension recaptures more than 100% of the previous X:A move. Basically, B will go beyond X. The specific ratios I use for extensions are 1.272 and 1618. Let's assume X is $20 and A is $30 in Figure 2.1. Below is the process to deter- mine Fibonacci extension levels. First, let’s calculate what the range of X to A is: Price @ A: $30 Price @ X: $20 Range = $10.00 Next let’s multiply this range by each Fibonacci ratio: __Ratio Points 1272 $12.72 1618 $16.18Chapter 2 2.4 ie 22 B RESISTANCE EXTENSIONS a x SUPPORT Finally, take the number from each ratio and subtract it from A, which is $30.00. This will provide you with Fibonacci extension levels: Fibonacci Extension Ratio Points PLA Levels 1.272 $12.72 $30.00 $17.28 1.618 $16.18 $ 30.00 $13.82 So, if I were to ask what the 1.272 extension level of swing X:A in Figure 2.1 was, you would answer 17.28. This is a support level. Now we can do the same type of analysis to determine resistance. Let’s look at Figure 2.2 where X is 30 and A is 20. Instead of subtracting from A (like in Figure 2.1), we will add to A to determine re- sistance: Fibonacci Extension Ratio Points PLA Levels 1.272 $12.72 $20.00 $32.72 1.618 $16.18 $20.00 $36.18stance Levels With Fibonacci 33 How To Find Important Support And Res Let’s look at a couple of charts with extensions at work. The daily chart of IGT above put in a swing low point (X) at 73.21. Over the next 12 trading sessions IGT traded up to (A), which was a high of 80.10. A reversal to the downside began. So, as soon as the swing high (A) was established, we could calculate the Fibonacci extension levels that might act as support and stop the downside move- ‘ment. Remember, extensions are basically retracements of greater than 100% of the X to ‘Amove. The specific ratios we use are 1.272 and 1.618. Those levels came in at: 1.272 = 71.33 1.618 = 68.95How To Find Important Support And Resistance Levels With Fibonacci 35 Here is the same stock from a different perspective. Here we look to calculate resis- tance extension levels based on swing X:A. The daily chart of (GT) above put in a swing high (X) at 78.40. Over the next 12 trading sessions (IGT) traded down to (A), which was a low of 73.21. A reversal to the upside began. So, as soon as the low (A) was established, we could calculate the Fibonacci extension levels that might act as resistance and stop the upside move- ‘ment. Remember, extensions are basically retracements of greater than 100% of the X to A move. The specific ratios we use are 1.272 and 1.618. Those levels came in at: 1.272 = 79.81 1.618 = 81.6036 Chapter 2 Projections x 34 c 32 B j * PROJECTIONS A x . . 3 SUeEont c : RESISTANCE Now that we've covered retracements and extensions, the next Fibonacci study that T use is called a projection. From the figures above, projections measure the size of previous swings (%:A) in the same direction and project those swings from the cur- rent swing beginning at (B). The ratios used in this study are .618, 1.00, and 1.618. Projections can be used to calculate support or resistance. To calculate a projection three points must already be established (X, A, B). For illustration purposes, let's as- sume X = 40, A= 30, B= 35. First, let’s calculate what the range of X to A is: Price @ A: $30 Price @ X: $40 Range = $10 Next let’s multiply this range by each Fibonacci ratio: __ Ratio __ Points _ 0.618 = $ 6.18 1.000 $10.00 1618 $16.18How To Find Important Support And Resistance Levels With Fibonacci 37 \ PROJECTIONS A A \ B SUPPORT c RESISTANCE Finally, take the number from each ratio and subtract it from B, which is $35.00, This will provide you with Fibonacci projection levels: Fibonacci Projection Ratio Points Pt.B Levels 0.618 $ 6.18 $35.00 $28.82 1.000 $10.00 $35.00 $25.00 1.618 $16.18 $35.00 $18.82 So, if I were to ask you for the 1.618 projection of swing X:A from B, the answer Would be $18.82. The price levels in the table above represent Fibonacci price sup- Port decisions. The exact same analysis can be done for Figure 3.2 to calculate pro- jection levels acting as resistance. In Figure 3.2, X is $30, A is $40, B is $35. This ime instead of subtracting from point B, we would add to B to determine price resistance levels: Fibonacci Projection Ratio Points PLB Levels 0.618 $ 6.16 $35.00 $41.16 1.000 $10.00 $35.00 $45.00 1.618 $16.18 $ 35.00 $51.18nn 38 Chapter 2 art of Johnson & Johnson ts, This range was multi- the those numbers where lowing projection support “Above is an example of a price projection on the daily ch AND. Swing X to A was measured for a total of 4.11 point plied by our Fibonacci ratios (618, 1.00, 1.618) and each of Fien subtracted from swing B high of 64.83 to get the foll numbers: 618 = 62.29 1.000 = 60.72 1.618 = 58.18How To Find Important Support And Resistance Levels With Fibonacci 39 Above is an example of a price projection on the daily chart of (QSFT). Swing X to A was measured for a total of 8.4 points. This range was multiplied by our Fibonacci Tatios (616, 1.00, 1.618) and each of the those numbers were then added to swing B low of 13.24 to get the following projection resistance numbers: 1.64 1.618 = 26.8340 Chapter 2 Expansions ts ad Cc 42 B \ EXPANSIONS A A ‘ B SUPPORT c | RESISTANCE Price expansions are similar to projections with one small difference. Instead of measuring swing X:A and projecting it from B, we project the values from A. Bis saessed in this study. Basically, expansions measuring swing X:A “expand” that swing further in the direction price is headed using the following Fibonacci ratios: G18, 7.00, and 1.618. These price levels will be labeled as (Exp) on the charts ‘To calculate an expansion only two points must be established (%, A), For illustra- tion purposes, let’s say X is 50 and A is 45 in Figure 4.1 First, let’s calculate what the range of X to A is: Price @ A: $45 Price @ X: $50 Range = $5.00 Next let’s multiply this range by each Fibonacci ratio: __Ratio Points _ 0618 = $ 3.09 1.000 $ 5.00 1618 — $ 8.09How To Find Important Support And Resistance Levels With Fibonacci 41 A SUPPORT a4 EXPANSIONS B RESISTANCE Finally, take the number from each ratio and subtract it from A, which is $35.00. This will provide you with Fibonacci projection levels: Ratio 0.618 1.000 1.618 Points $ 3.09 $ 5.00 $ 8.09 $45.00 $ 45.00 $35.00 Fibonacci Expansion Level $41.91 $40.00 $36.91 So, if I were to ask you for the 0.618 expansion of swing X:A, the answer would be $41.91. The price levels in the table above represent Fibonacci price support deci- sions. The exact same analysis can be done for Figure 4.2 to calculate projection lev- els acting as resistance. In Figure 4.2, X is $30, and A is $40. This time instead of subtracting from A we would add to A, to determine price resistance levels: Ratio 0.618 1.000 1.618 Points $ 6.18 $ 10.00 $ 16.18 PLA $ 40.00 $ 40.00 $ 40.00 Fibonacci Expansion Level $46.18 $50.00 $56.18LS a2 Chapter 2 Expansions are a “confirming” Fibonacci study. This simply means that the other three studies—retracements, extensions, and projections—should be the first price studies applied to a chart. Then utilize this price study to confirm a potential price support or resistance zone, REVIEW In this chapter we learned general guidelines on how to spot significant highs and lows on a chart that will assist us in calculating Fibonacci price support and resis- tance levels We also learned the specific Fibonacci ratios used in each of the following price studies and how to calculate each of these Fibonacci price studies: + Retracements * Extensions + Projections + Expansions Mastering these price studies will be essential to your success with the strategies in this book. It is imperative to be able to pull up a blank chart and calculate the Fibonacci price levels. It is through these Fibonacci price studies where areas of con: centrated price levels will begin to appear. Those concentrated zones are the focus of the next chapter.CHAPTER 3 USING FIBZONES TO IDENTIFY HIGH- PROBABILITY REVERSALSWHAT IS A FIBZONE? ee ——‘“‘“‘—s™—CO—S—CSOCC—CSCC—COCNN [5 time to shift gears from theory into strategy. Almost all of the strategies I trade are based on a stock, commodity, or futures contract hitting a Fibonacci price support or resistance zone. I have coined the phrase “FibZone” to represent these areas, Below is the definition of a FibZone. ee eS—“‘“‘—Ss—OOOSOSOCSOSCOCOCS;S—trs—N at least three Fibonacci price retracements, extensions, projections, or expansions oc- fur Ifa FibZone occurs above the current price, itis resistance, and if a FibZone ie below the current price, itis support. I have coined a unique phrase to describe » nokso-unique general concept. What I call a FibZone, others call “confluence,” “price zones,” “clusters,” etc. Later, you will find that I have defined specific types of FibZones that do carry a unique and different characteristic to the runcof-the vell “zone.” Below is a perfect example of a Support FibZone. | yi FibZone Ih | H \46 Chapter Let’s walk through an example of how to build a FibZone. Below is a daily chart of AOL, Price has just made a swing high point on December 2, 2002. The goal now is to create one or multiple Support FibZones where AOL will likely stop declining and reverse up to continue the current uptrend. To do that, the first step is to iden- tify the key high and low points. STEP #1: Identify Key High and Low Points Tue 2Dec 2002 15.150 15.260 14.050 34.210 2.360 ‘zeke——— Using FibZones To Identify High-Probability Reversals. 47 Now that the key points are determined, we can begin to apply our Fibonacci price studies. The first Fibonacci price study to apply is a retracement. So, let’s measure from the July 2002 low to the December 2002 high and calculate the various retracement levels. If the current price on the chart is already below a retracement level, then delete the Fibonacci price level, as it has been “violated” and is no longer a valid support level. STEP #2: Calculate RETRACEMENT levels using swing low points identified in this uptrend and the current swing high point. watiretasie 2000 te S is (Swing Points: Low = 8.70 High = 17.89)Leen ee ee EEE 48, Chapter 3 This is a continuation of Step #2, as we have a higher swing low point we will use to calculate additional retracement levels using the October 9 low of 10.26 and the December 2 high of 17.89. As you can see, there are now a couple of price levels starting to group together. A zone is beginning to form STEP #2 (cont.): Calculate RETRACEMENT levels using swing low points identified in this uptrend. 075 Ret 0500 —————— 3 a 3.000 ware ose 1.859 Ret 0705 1.867 Rat 0.796 10'260 ssi bx oat rat ba Taser 95-0 (Swing Points: Low = 10.26 High = 17.89)Using FitZones To Identify High-Probablity Reversals 49 Now let’s shift to calculating extension levels. Remember, an extension is simply a retracement greater than 100%. So, with the low point from November 20 at a higher level than the current price, 1 am concerned with the 1.272 and 1.618 extension levels that come in at 13.62 and 12.47, respectively. Can you see a zone forming? STEP #3: Calculate EXTENSION levels using swing low points that are higher than current price up to the current swing high. 14075 Ret 0500 «000 et aunts = 11.893 Ret 0.705 [32000 ——— 104 net 0.708 Ee = e 2 few (Swing Points: Low = 14.54 High = 17.89)——————————————————— 50 Chapter 3 Now let's apply a Projection study. In this trend up, there has been one countertrend decline from August 22 to October 9 that was 4.5 points. Project this decline from the current December 2 swing high point of 17.89. This simply means subtract 4.5 points from 17.89 and we have a projection or “symmetry” level at 13:39 STEP #4; Calculate PROJECTION levels by measuring previous de- lines (in an uptrend) and subtract the size of those declines from the current high point. Opposite for downtrends. haw Lane \ b= 4.000 raa7oRet 1618 att ket asia —— 9 Rt 078 2.000 3.000 = 1087 net 0798 | azn 2618 5000 a reset 1272 te at a "a9 om ‘oct Ter Dee thc cate bo vate Tarr (0 6-200 (Swing Points: High: 14.80 Low = 10.26 High = 17.89)rr Using FibZones To Identify High-Probablity Reversals 51 IDENTIFYING A FIBZONE Here is your new Support FibZone that will be used to look for long trades. Note that due to the nature of this chart, we did not need to calculate EXPANSION levels, If this study can be performed, it should be done after the retracements, extensions, and projections have been calculated. You will notice that the range of the FibZone in the chart below is spanning a 2 point range. How does this provide you with an edge? The key is to remember that you should never trade on the basis of a FibZone alone. You should only trade when you have a legitimate entry pattern within the FibZone. This applies no mat- ter how many Fibonacci levels are calculated for a specific price level. I apply sev- eral different entry patterns to the Fibonacci strategies that you will learn in this book. I will teach them to you in Chapter 11 ive Dec 2002 TS. IS) 5.200 40) 17 zeke ‘ee abe 000 fl | aa 7 53 Rat 0.796 32.000LS 52 Chapter 3 Just to play out this example, AOL traded deep into our Support FibZone, but re- versed around 12.20 and rallied up to almost $16.00 over a couple of weeks of activ- ity. This would have been a 27% gain for someone who identified an entry pattern within a Support FibZone.Using FibZones To Identify High-Probability Reversals 53 STRATEGY Q&A Question: Does the size of the FibZone matter? Answer: To qualify as a zone, it needs at least three Fibonacci price levels. Yes, as the Pumber of price levels that occur in a FibZone increase, the moze important that FibZone becomes. I equate it to ripping one piece of paper in half or trying to rip a phone book in half. One page is no problem. But as each additional page is adcled to the stack, it becomes more difficult to tear them in half, Question: What Fibonacci ratio is the most important in a FibZone? Answer: A couple of the strategies I discuss have specific ratios that must be present. These are specific types of FibZones. Generally speaking, though, lam not looking for a specific ratio. I just want to see a confluence of Fibonacet price levels (I don’t care which ones) in a relatively tight range. Question: Which Fibonacci studies are better? Answer: Well, as you have read, there are four basic Fibonacci studies: Retracements, Extensions, Projections, and Expansions, No study is necessarily better than another T continue to go back to the focus of the FibZone. A tight price area with « large number of price levels represents a trading opportunity. Question: After running the Fibonacci studies on a chart, do you remove any of the Fibonacci levels from the chart? er errt————CC—C—=SC Fibonacci levels around it to create a FibZone, then I will delete that price level. Iam simply looking for groups of Fibonacci ratios concentrated in a small price range, Question: How big can a FibZone be? Answer: Depending on the chart, a FibZone can be very wide, However, for trading Purposes, I try to find charts that provide FibZones that are no more than 10% of the————_—_—— 54 Chapter Question: Sometimes there is more than one zone after running these studies. So, how do you decide which one to trade against? ‘Answer: FibZones simply provide decision points in a particular market. A decision point, that's it. Fibonacci, by definition, is a tool that assists the trader in finding support and resistance levels. So, the key to knowing what zone to trade against will be based on what you use for a “trigger.” After those decision zones are on the chart, it is necessary to have certain patterns, indicators, oscillators, etc., that you will use to determine the internals of the market you are looking at and when to ac- tually take a trade. That will be the focus of most of the rest of this book. Question: What software programs do you recommend using to calculate these FibZones? ‘Answer: There seems to be a new software program coming out every day to ad- dress Fibonacci. I personally use Dynamic Trader. I believe it is the most comprehen- sive Fibonacci tool on the market right now. Whatever program you consider, T think you need to be able to delete lines/price levels that you don’t need, be able to do each study we mentioned earlier, and manipulate the chart with relative ease, as well as perform other technical studies, and the ability to make notes on the charts. 1 personally also require a program that allows me to convert a bar chart to candlesticks. Question: When is a zone recalculated? ‘Answer: In an uptrend, a new support zone is calculated when the current high is violated and a new high point is made. In a downtrend, a new resistance zone is calculated when the current swing low point is violated and a new lower low point is made. Remember, a high point is confirmed when a lower high is made on each side of the high, and a low point is confirmed when a higher low is made on each side.SECTION II MY FAVORITE FIBONACCI STRATEGIESSPECIAL NOTE BEFORE I TEACH YOU MY FIBONACCI TRADING STRATEGIES Before I begin teaching you my trading str Sate “emphatically that you must always wait for confirmation before taking a trade. ‘That means you wait for a trigger before entering a long or short Position. All of the Stategies we'll be discussing involve a stock hitting a FibZone, and it is in the price ac- tion against this FibZone where I look for entries, ee rt—trt—————————_ and list of the pattern triggers I use to enter trades in Chapter 11 ‘ategies in the following chapters, I want to For the purposes of this book, please make these two assumptions: 1. Always use a pattern or some other form of trigger to enter a trade. 2. Whenever I refer to entries as I teach you my strategies, I am referring to one of the patterns in Chapter 11CHAPTER 4 HOW TO ENTER TRENDS USING THE TREND TRIGGER STRATEGYSTRATEGY #1: TREND TRIGGER Trend Trigger is probably the simplest way to trade with FibZones. The basic as- sumption here is that we are trading with the trend and that a normal and natural pullback is occurring, and this pullback will stop somewhere in our FibZone and re- verse direction. ie __/ © “ ! FIBZONE | (3)How To Enter Trends Using The Trend Trigger Strategy 61 Rules For Buys (Sells Are Reversed) 1. 6. ‘There must be at least two higher swing high points and at least one higher swing low point. This structurally confirms we are trading with the immedi- ate trend. The current bar low must at least touch the top of the FibZone. At this point, look for an entry pattern to get you into the trade, Once you are filled, a stop loss order should be placed just below the FibZone. This assumes your money management rules will allow you to risk the entire zone. If not, do not take the trade until price drops deep enough into the zone to meet your money management stop loss rules, or reduce the number of shares or contracts to be purchased. Once a swing low point is determined against the FibZone, calculate the 50, 618, and 1.272 extension of the high-to-low swing into the Support FibZone. These levels will serve as profit objectives. The first profit-taking area is between the .50 and .618 retracement range. ‘Once these profits are booked, trail your stop loss to reduce risk. The final objective of a Trend Trigger trade is the 1.272 extension of the high-to-low swing made into our FibZone.Chapter 4 1 4) ‘Trend Trigger Example: Long We have identified two higher swing high points with at least one higher swing low point. Price touches the Support FibZone, and I'm long at 32.60 based on the trigger Tuse. The initial stop is placed just below the zone around 31.00. With a swing low in place, we calculate the .50 and .618 retracement levels of the high-to-low swing into support. Profits are taken on half the position between 34.57 and 35.16, which are the 50 and .618 retracement levels. At this point, I also move my stop to breakeven. The final objective on the trade is 38.47, which is the 1.272 extension of the high-to-low swing into the Support FibZone.EE 2. How To Enter Trends Using The Trend Trigger Strategy 63 Trend Trigger Example: Long 1. We identify two higher swing high points and a higher swing low point. After making a swing high, price comes down and touches our zone at 24.63, which is where we take a long position. Our initial stop loss order is placed just below the zone around 23.80. Price goes lower into the zone over the next couple of days, then reverses up out of the FibZone. We calculate the .50 and .618 retracement of the high-to-low swing into support. 1 take partial profits between 25.57 and 26.00 and immediately trail my stop to reduce risk. The final objective, which is the 1.272 extension of the high-to-low swing into support, is hit and I take the last portion of the long off around 28.06.rr How To Enter Trends Using The Trend Trigger Strategy 65 Trend Trigger Example: Short 1 Two lower swing lows and at least one lower swing high have been identi- fied. Once the second swing low is made, we can calculate price resistance. That zone comes in from 927.50-941.75, Price rallies up and touches the Resistance FibZone, so I go short at 927.50. My stop is at 942.00. That's 145 points of risk. Once a swing high is made into the FibZone, we can calculate the 50 and 618 retracement of the low-to-high swing into our Resistance FibZone. These Price levels are 916,50 and 913.50. Price hits our first target and half the position is taken off around 916.00. My stop is moved down to breakeven (especially on intraday trades). The final objective at the 1.272 extension of the low-to-high swing into resis- tance is hit at 897.50SS 66 Chapter STRATEGY Q&A Question: What if a Trend Trigger trade comes up and the FibZone is too large and 1 am unable to put a stop below the FibZone and risk that much? ‘Answer: Don’t take the trade until the stock drops lower into the FibZone (for longs). If your money management rules don’t allow you to take the trade, then please don’t take it. Risking too much on one trade will come back to haunt you. ‘The other choice is to still take the trade, but trade fewer shares or contracts to keep your risk in line with your money management rules. Question: Where do you place the stop after hitting the first objective? Answer: Ideally a stop can be placed at your original entry price so that risk can be completely eliminated from the trade. However, there are situations where moving the stops to that level will get you prematurely stopped out of the trade. Be aware of the volatility of the stock, and avoid placing stops at round numbers or levels too close to the current market price. Question: How long do you typically hold these trades? Answer: That is always dictated by the market. It has been my observation that the best trades bounce immediately out of a FibZone and become profitable quickly. If T find myself looking at a chart where price has hit our zone and it continues to print bars that hover around the FibZone, then I often scratch the trade. Question: Are there any confirming indicators to use with this strategy? ‘Answer: By definition, this is supposed to be a “trend following” strategy. We are trying to identify pullbacks into FibZones. So, the stronger the trend, the better the opportunity. I've found that a strong ADX reading is an excellent scanning tool, as well as a nice confirming indicator. I would use a 14-period ADX of 20 or greater. Ideally, the ADX line is upsloping and not downsloping. This just means the reading is continuing to go higher and the trend is getting stronger. Downsloping means the trend is losing strength.CHAPTER 5 THE REFLECTION REVERSAL METHODHere is a strategy that should lay to rest any doubt you may have about order in the markets. Reflection is a strategy that combines three concepts with our FibZones. Those con- cepts are Symmetry, Average Directional Index (ADX), and Directional Indicator (DD. Let’s quickly review each of these concepts. After our review, we will look at a few examples of Reflection in action. Symmetry: When the current market swing is similar in relation to price and/or time with the previous market swing. With this kind of similarity, or symmetry, there is a high likelihood for price to reverse direction. Let's look at a couple of examples. Man 1 Oe 2002 35,190 a6, 000 34,400 54.710 0.700. ay zangpyoe | . ‘in ‘ PRICE SYMMETRY 0.000 Feb ar "Apr 7 Sun Chart crested by Dynamic Trader (c) 1996-2001 ‘Above is a daily chart of Verizon Wireless (VZ). This illustrates the power of price symmetry. After VZ completed a 6 point rally on May 28, 2002, which matched the previous rally that ended March 4, 2002, VZ. sells off more than 7 points over a few weeks with very little countertrend movement.‘The Reflection Reversal Method 69 [Tet oD ors] [Mon 14-Oct-2002 29.250 31.670 29,250 30,040 0.160 TIME SYMMETRY i} | | } {1 6 ty ir TRADING DAYS 6 TRADING DAYS ere. ero Dect istanoe [be tee Sane Chart created by Dynamic Trader (c) 1996-2001 Symmetry, in the markets, not only exists on the price axis, but also on the time axis. Symmetry that occurs on the time axis can be a precursor to powerful reversals as Well. The illustration above is a daily chart of the retailer Target (TGT). On January 15, 2002, the market had just completed a six-day selloff from high to low. Coinci- dentally (or not), the previous countertrend decline was also six days. After the Jan- uary 15 low was put in, the stock climbed over 5 points in a few days. That's over 10% in one week’s time.el 70 Chapter 5 Next we have the Directional Indicator (D1). There is a Positive Directional Indica- tor (xDD, which measures the force of an uptrend and a Negative Directional Indi- cator (-DD, which measures the force of a downtrend. The third and final ingredient to our Reflection strategy is the Average Directional Index (ADX). This is an oscillator that moves between 0 and 100 and tells the chart reader how strong the current trend is, but NOT whether that trend is up or down. Readings below 20 indicate a weak trend and readings above 35 represent a strong trend. Readings above 60 are rare. Again, the ADX does not tell you the direction of the trend, it simply states how strong a trend is, be it up or down. Most charting software packages combine the DI and ADX into one study. The DI and ADX originate from Welles Wilder’s book New Concepts In Technical Trading Systems written in 1978. On the chart of Verizon (VZ) below, I have added the DI study to the bottom of the chart. The dotted line represents a Negative Directional Indicator (-DI) and the solid line represents the Positive Directional Indicator (+DD. When the -DI is above the +DI, the trend is down. When the +DI is above the -DI, the trend is up. For our study purposes, we are looking at the Directional Indicator of the past 21 bars. v20-D ~ Men 14-Oct-2002 35.190 36,000 34 400 a. 710 0.450 = zenro 6pt rn SYMMETRY 6pts nal ‘ity ¥ ‘Chart created by Dynamic Trader (€) 1996-2001The Reflection Reversal Method 71 - For the Reflection strategy, tional Indicator, and Average Directional Im have established what each and short trades. we will be looking at Symmetry, Direc- dex against our FibZones. Now that we ingredient looks like, let me teach you the rules for longSLL 72 Chapter 5 STRATEGY #2: REFLECTION ‘The goal with this strategy is to find strong short- to intermediate-term trends using the ADX and DI that are in the process of pulling back into a FibZone. The kicker here is that we are looking for the pullback to be symmetrical in time or price with the previous countertrend swing, It is this symmetry that triggers powerful reversals. (10) 2.000 " “aly - eo) 24.00 ae har crested by Dyame Trade (0) 1996-2001 NN re ‘Chart crated by Dynan Trader (1996-2001The Reflection Reversal Method 73 Note: In other chapters, 1 illustrate strategies using a diagram. Due to the combination of in- dicators that the Reflection Strategy uses, I will use an actual chart (shown on the previous page) of real price action instead. Rules For Buys (Shorts Are Reversed): 1. The eight-period ADX must cross above 50. 2. After #1 is complete, wait for a swing high point to form. This swing point will be labeled “C.” 3. At swing point “C,” the 21-period DI should show the +DI line above the -DI line. Between the ADX and +DI, this will give us a stock that is strongly trending and is trending up based on the +DI oscillator reading, 4, After items 1 through 3 have been established, from point C, find the previ- ous significant countertrend decline. Measure the amount of time that countertrend lasted and the number of points it declined from high to low. The high point will be labeled A, and the low point of this countertrend rally will be labeled B. Using retracements, extensions, projections, and expansions, calculate Fibonacci price support levels based on the high point C. 6. One addition that we will add to our normal Fibonacci analysis is measuring the size of Swing A:B from #4 and projecting that price rally from swing high point C. This will establish the price symmetry point and help us to focus on a specific Support FibZone to look for a trade against. Once price hits our Support FibZone, look to buy on a trade above the previ- ous day’s high. 8. The initial stop will be just below the Support FibZone. 9. The first objective on this trade is between the 50 and .618 retracement of high point C to low point D made into our Support FibZone. At this point, trail the stop to breakeven, or as close to breakeven as you can get based on the price action. 10, The final objective is the 1.272 extension of high point C to low point D made into the Support FibZone.Chapter 5 ‘Char: creates by Dynami rar (¢) 1996-2001—_—_———— Reflection Long Example The Reflection Reversal Method 75 1. The eight-period ADX crosses above 50. 2 A swing high point is formed just under $84. This point will be labeled point c 3. At point C; confirm that the 21-period +DI is above the -DI line. In this case, it is, so we can continue with the setup. Now go back to the previous countertrend decline. It is labeled A:B with A being the high point. This countertrend move was three bars (each bar was 60 minutes) and a total of 1.3 points. We'll come back to this, bi to identify the amount of time and the size of the previous decline. 5. With the high point in place, it is construct a Support FibZone. This 6. Remember our measurement from #4? Let’s take th Project it from the point C high. nut it is critical time to calculate Fibonacci price levels and zone comes in from 82.22 to 82.87. iat 1.3 point decline and That price level comes in at 82.78. This is called the Symmetry level, which happens to fall within our Support FibZone. 7. Price hits our FibZone and begins trade above the previous bar's high AFTER hitting the Support FibZone. Our entry in this scenario was 83.39. to reverse. A long trade is entered on a 8. A stop is placed immediately below the Support FibZone. 9. Once price starts to reverse to the upside, Support FibZone as point D. Now wi retracement of the move from C to D. This is we can label the low point into the e can calculate the .50 and 618 typically where we take partial Profits and trail up our stop. However, this is a scenario that often occurs on lower time frames where there really isn’t do not take any profits there. I wait to tal ‘ta gain to lock in at this point, so I ke the entire position off at the 1.272. ihe only action item here would be to trail the stop to higher levels, ideally to breakeven, or to the swing low point made into the Support FibZone. 10, The final objective, Which is the 1.272 extension of swing C:D, is hit at 84.26 for an approximately 1 point gain in three hours of trading. Note that an op- tonal money management technique once the 1.272 level is hit would be to trail the stop to the previous bar's I Participate in a much larger move, could give up gains as well, but it d low. That way it allows you to potentially if it develops. The downside is that you loes keep you in a winning trade.Chapter 5 Seniesa A Ta ae Sas = = (19) 2 @) A ric \ 6.0 pts, ve" saasree tare et seated by Dynan Trade Osean RI 7 one Tp ented by Dynan Trader (2) 1996-2001(6) (10) ermine sone 6.700050 (5) a98 ReeThe Reflection Reversal Method 79 Now, referring to the chart on the previous page Rules For Shorts (Buys Are Reversed): a 2 5. 8. 10. The eight-period ADX must cross above 50. After #1 is complete, wait for a swing point low to form. This swing point will be labeled “C.” At swing point “C” the 21-period DI should show the -DI line above the +DI line. Between the ADX and DI this will give us a stock that is strongly trending and is trending down based on the ~DI oscillator reading, After items 1 through 3 have been established, from point C, find the previ- ous significant countertrend rally. Measure the amount of time that countertrend lasted and the number of points it rallied from low to high. The low point will be labeled A, and the high point of this countertrend rally will be labeled B. Using retracements, extensions, projections, and expansions, calculate Fibonacci price resistance levels based on low point C. One addition that we will add to our normal Fibonacci analysis is measuring the size of Swing A:B from #4 and projecting that price rally from swing low Point C. This will establish the price symmetry point and help us to focus on a specific Resistance FibZone to look for a trade against Once price hits our Resistance FibZone, look to short on a trade below the previous day’s low. The initial stop will be just above the Resistance FibZone. The first objective on this trade is between the .50 and 618 retracement of low point C to high point D made into our Resistance FibZone. At this point, trail the stop to breakeven, or as close to breakeven as you can get, based on Price action. ‘The final objective is the 1.272 extension of low point C to high point D made into the Resistance FibZone.80 Chapter 5 ae a” , » © son a ARH Rak SR D xian - sagem fy K 3502t— (7) . . At —th women [ \ nf Owe | C |) oct0 Mn a ‘Chart created by Dynan Trade (c) 1996-2001 OK, hart ests by Dynan Trade fc) 19962001—_ The Reflection Reversal Method 81 Reflection Short Example 1. The eight-period ADX crosses above 50, 2. A swing low point is formed at 30.14. This Point will be labeled point C. 3. At point C, confirm that the 21-period -DI is above the +DI line. In this case 1's, 80 we can continue with the setup. Previous countertrend rally labeled A:B, with A being the low point. This days and 53 points. We'll come back to amount of time and size ofthe previous ray. 5. With the high point in pla Of significance. Above it is countertrend move was 17 but it is critical to identify the 7, Price hits our FibZone and begins to reverse. A short trade is entered on a fade below the previous bar’s low AFTER hitting the Resistance FibZone. Our entry in this scenario was 35.02 ee FibZone. 9 Once price starts to reverse to the downside, we can label the high point into the Resistance FibZone as point D. Now we can calculate the .50 and .618 ebacement of the move from C to D. This is whew we take partial profits and trail our stop. So, half the position is covered around 33.00 for a 2 point gain and a stop is trailed down to eithe i er a previous swing high point or breakeven. 10. The final objective, which is the 1.272 extension of swing C:D, is hit at 28.44 for approximately a 65 point gain,82 Chapter 5 STRATEGY Q&A Question: Is there a mechanical way to scan for symmetry? Answer: To my knowledge, there is no software that can scan for price symmetry. I do know that some software programs are working on perfecting the time symme- try scan. That's one of the reasons I like these strategies. They are not easily put into a box. Question: Why do you take partial profits between the .50 and .618 retracement levels? Answer: Trading this strategy, I found that stocks or commodities would reverse at this level and many times stop me out for a loss. When I started taking profits and trailing stops at this level, I not only added some “base hits” of profits to my bottom line, but I eliminated losses. Then occasionally I would hit a home run on the last half of a trade that kept moving in my direction, Sure, there are cases where I get stopped out prematurely and price keeps moving in the direction I wanted. That's trading!CHAPTER 6 TRADING PULLBACKS USING THE TRIPLE CROWN STRATEGYSTRATEGY #3: TRIPLE CROWN After analyzing thousands upon thousands of Support and Resistance FibZones and analyzing what the characteristics were of those FibZones that provided some of the most powerful trading opportunities, I have found a combination of Fibonacci price levels based on a specific set of swing high and low points that are combined to cre- ate what is one of my favorite strategies, the Triple Crown. A Triple Crown is com- prised of three Fibonacci price ratios which occur in this specific order: 50 786 618 It is a specific combination of these three Fibonacci retracement levels that identify potentially powerful reversal areas in any tradable market with liquidity. ‘There are three swing points that we need to be concerned with in this strategy from which the ratios are derived. In the case of looking for long trades, we identify the most recent swing high point and the two most recent swing low points. ‘Swing Point: C a | | | )_ yw Swing Point: B ww Swing Point: A 4) 50 786 618 @)85 Trading Pullbacks Using The Triple Crown Strategy Rules For Buys (Shorts Are Reversed) 1. A stock has formed a swing high point with a bar on each side with a lower high. Label this point C. 2. Identify the two previous low points that are below the current bar's low. La- bel the low point closest to point C as point “B.” The swing low that is lower than B will be labeled “A.” 3. There are only three Fibonacci ratios we need in this strategy. So, first calcu- late the .50 and .618 of low point A to high point C. At the same time, calcu- late the .786 retracement of low point B to high point C. To be a valid Triple Crown Zone (TC2), the .786 retracement must fall between the .50 and 618, So, the order from the top of the zone to the bottom is .50, 785, .618. 4. If the order of the Fibonacci ratios are “valid,” then we have a TCZ, and now Wwe wait for price to come down and touch our TCZ. Once it does hit the TCZ, look to buy above the previous bar's high. 5. Initial stops are just below the TCZ for long trades. 6 Once the swing point is made into the TCZ, which is labeled point D (be- cause A, B, and C are the swing points used to calculate the original TCZ), ‘we can calculate the 1.272 extension of Swing C:D. This price level serves as a trigger to initiate the trailing stop game plan. 7. When this Fibonacci price level is hit (which, by the way, means the trade is working for us), our Trailing Stop Plan takes effect * Place a stop on half of the position at the higher of the previous bar low or the original entry price (breakeven), * On the other half, place the stop at the original entry (breakeven), 8. As a higher high is made, continue to trail the first half stop to the previous bar’s low. Again, only if you make new highs do you move the stop to the previous bar's low. 9. Once the first half of the position is stopped out * Start trailing the last half of the position at swing low points as price moves up. This allows for potential home run trades and gives room for some volatility. There is more subjectivity and discretion to this stop, but the idea is to give the trade room to breathe, but not to be foolish and turn a winner into a loser.Chapter 6 Triple Crown Long Example: 1. High point C is identified. 2. Go back and label the previous two swing low points A and B. 3. After calculating the .50 and .618 retracement of A to C and the .786 retracement of B to C, we have identified a TCZ. In fact, we also have a sym- metry level at 77.80 to strengthen our TCZ. 4. Price hits the TCZ, and I'm looking to buy above the previous bar's high. In this case, a long trade is initiated just above 79.11. The initial stop on this trade will be just below 77.80.Trading Pullbacks Using The Triple Crown Strategy 87 eI EE | A= 76.50 B=77.53 | C = 80.80 D = 77.95) i I | Triple Crown Long Example: 6. Once low point D is established and price starts to reverse up out of the TCZ, it is time to calculate the 1.272 extension of the C high to the D low. That comes in at 81.57. Trail the stop on half of the position to the previous bar's low at 80.48 after the 1.272 ratio price level is touched. The other half of the trade moves to breakeven. We are now focused on actively managing half of the position. As higher highs are made, continue trailing half of the position’s stop up to the previous bar’s high. This goes on for quite a few bars, and half of the trade is finally stopped out at 87.00. Over 7 points of locked-in gain. Now let’s tum our focus to the stop that is sitting down at breakeven around 79.11 This final stop placement is a bit more subjective, as we want to trail it up to a previous swing low point, but still give the stock room to run. In this case, I first trail the stop up to 84.91. Price then makes a higher swing low point at 86.15 where I am ultimately stopped out of the final portion.88 Chapter 6 Te a Sa a) Ny Sell offs are [Symmetrical (3) Triple Crown Long Exampl 1. High point C is identified. 2. Go back and label the previous two swing low points A and B. 3. After calculating the .50 and .618 retracement of A to C and the .786 retracement of B to C, we have identified a TCZ. The .786 is slightly above the .50, but when it is within pennies like this AND we have a symmetry level at 51.84, I will consider it a valid TCZ. 4. Price hits the TCZ, and I'm looking to buy above the previous bar's high. In this case, a long trade is initiated just above 55.40. ;. The initial stop on this trade will be just below 50.98.Trading Pullbacks Using The Triple Crown Strategy 89. Triple Crown Long Example: 6. Once low point D is established and price starts to reverse up out of the TCZ, it is time to calculate the 1.272 extension of the C high to the D low. That co- mes in at 61.38. 7. Trail the stop on half of the position to the previous bar's low at 58.90 after the 1.272 ratio price level is touched. The other half of the trade moves to breakeven. We are now focused on actively managing half of the position. 8. As soon as the 1.272 is hit, price reverses and half the position is stopped out at 58.90 for a 3.5 point profit on half. Now let’s turn our focus to the stop that is sitting down at breakeven around 55.40, 9. This final stop placement is a bit more subjective, as we want to trail it up to a previous swing low point, but still give the stock room to run. In this case, I first trail the stop up to 55.82 when the first half of the trade is stopped out. Price then makes a higher swing low point at 57.23, so I move it up. Then a final higher swing low is made at 58.35, where I am ultimately stopped out of the final half of the position.90 Chapter 6 ereatin be aL aE ‘eqe ya0 2 ” (6) Med A = 852.25 B = 850.25 C = 845.75 D = 849.25 re K, ; Triple Crown Short Example: 1. Low point C is identified. 2. Go back and label the previous two swing high points A and B. 3. After calculating the .50 and .618 retracement of A to C and the .786 retracement of B to C we have identified a TCZ. |. Price hits the TCZ, and I'm looking to short below the previous bar's low. In this case, a short trade is initiated just below 847.75 on this five-minute chart. . The initial stop on this trade will be just above 849.75.———srrnene to rata | Triple Crown Short Example: er —t—t—_™ out of the Tc% itis time to calculate the 1.272 extension of the C low ty the D high, That comes in at 844.75, 7. Trail the stop on half of the position to the previous bar's high. In this case, that would be the same as our entry point, so the whole Position’s stop is moved down to breakeven. We are now focused on actively managing half of the position as the E-mini SéeP 500 futures make new lows 8. Price continues down, and I'm able to trail half my stop as we make new lows down to 843, then to 842, then to 840, where 7m stopped out of half the Position for a 7.75 point gain on a five-minute chart92 Chapter 6 \ on Triple Crown Short Example: 1. Low point C is identified. 2. Go back and label the previous two swing high points A and B. 3. After calculating the .50 and .618 retracement of A to C and the .786 retracement of B to C, we have identified a TCZ with a symmetry price level at 46.06 to strengthen our zone. 4. Price hits the TCZ, and I’m looking to short below the previous bar's low. In this case, a short trade is initiated just below 45.19 on this daily chart. The initial stop on this trade will be just above 47.86.Trading Pullbacks Using The Triple Crown Strategy 93 Triple Crown Short Example: 6. Once high point D is established and price starts to reverse down out of the TCZ, it is time to calculate the 1.272 extension of the C low to the D high That comes in at 39.81, 7. Once QQQ trades down through the 1.272 level, trail the stop on half of the Position to the previous bar's high, and move the other half of the position’s stop to breakeven at 45.19. 8. Unfortunately on the first half of the trade, price reverses back up against the short position, and we are stopped out at 42.40 for over 25 points of profit As soon as this stop is activated, we need to focus on the other half of the po- sition with a stop at breakeven and move it down, 9. Now let's shift to trailing the last half of the stop down. It looks like the swing point at 44.43 is a good swing to use. The stop is trailed down three additional times from 41,70 to 39.99 to 37.50 and finally to 3043 where I'm stopped out of the last half for over 15 points of profit. The trailing stop did its job in this case and allowed us to capture a much larger profit. That's the goal—to put ourselves in the position to participate in a move like this one.ES 94 Chapter 6 This is definitely a favorite strategy of mine. Why? © Risk is defined and relatively tight. This translates to small losses on losing, trades. + When these trades work out, they REALLY work out! With our stop strat- egy, it allows these profits to run and compound. * It is simple to calculate. You only have to look at three swing points and use three Fibonacci ratios. + The Triple Crown identifies many different patterns and market conditions that set up for reversal. The TCZ identifies consolidating areas that are set to explode. It identifies Head and Shoulders pullbacks to the neckline, which many times yield great reversal opportunities. I have noticed that it also identifies other solid patterns like Cup & Handles, Triangles, and the goes on. Bottom line: This specific Fibonacci price zone is very impor- tant! Spend some time with this Zone and watch it work. You'll be pleasantly surprisedrr Trading Pulloacks Using The Triple Crown Strategy 95 STRATEGY Q&A Question: How far below the TCZ. do you allow price to go to still consider the zone valid? Answer: The situation where this arises most is an intraday move that slightly vio- lates the Zone. I am a simple guy. If it looks like it has not violated the zone by too much, I would likely agree. Another requirement is that price cannot go higher than the high or lower than the low made past the TCZ. I give it one chance and one chance only. A second dip through the zone is all she wrote. Question: How did you come up with the trailing strategy? Answer: I was taking profits way too early on trades that would just make tremen- dous moves out of these zones. So I started holding the entire position for longer pe- tiods of time. Then I found that in choppy markets, I was losing more. So, after some hit and miss, I came up with this money management strategy that would put some money in my pocket relatively quickly and take my stop to breakeven. Then I could turn off the screens and let the charts do what they may, but at least I'm in the trade for a potential home run, and worst case (assuming no crazy gap moves), I get stopped out at breakeven. Question: If this Zone is so critical, what happens when it is broken? Answer: Great question. When a TCZ is broken, it quite often creates a momentum move in the direction in which the zone was broken.CHAPTER 7 TWO-STEP PATTERNS (TSP)STRATEGY #4: TWO-STEP PATTERNS (TSP) The best way to understand a TSP is to look at a picture of it. The name “two step” comes from the fact that there are two swings that move, or “step,” in the same di- rection. The first part of the pattern is Swing A:B. The second move in this pattern is a small pullback in the opposite direction of swing A:B to point C. Then the third and final move is swing C:D, which finds price trading beyond swing point B to make a new high or low. There are three variations of this pattern that we will dis- cuss in detail. All of these patterns create powerful trading opportunities because it is a pattern that takes advantage of “weak hands” and a “don’t miss the boat” men- tality exhibited by the masses. In this chapter I first want to give a general dese of the two-step pattern and how it ties into what is called the Theory of Parallel Channels. Secondly, I will de- scribe in detail three specific types of two-step patterns (TSPs) that I use to trade with against FibZones. [ Bullish TSP Bearish TSP ]Ato B = Step #1 Cto D = Step #2 The concept behind a two-ste} direction of the up from C to D and makes nel that acts as resistance o} Point D is to make a similar move dot called a Bearish TSP is because we an the channel that price a form of support, and [ Bearsn TS° ] I (1) P Pattern is that price trades wit trend. For example, in the case of a Bearish TSI a new high, it is hittin mn price. So the logic P, when price moves 1g a new high at the top of a chan- is trading in is down. So,i 100 Chapter 7 Capture Strong Trends With The Symmetrical TSP jo-step pattern is, we can dig into a few varia- tions of this basic pattern, The first is called a Symmetrical TSP. We take the general ee S——— er— Ss B is equal to the size of the move from C to D. The equation is A:B = C:D. Bullish TSP | Now that we have defined what a twrr 101 ‘Two-Step Patterns (TSP) Rules For Buys (Shorts Are Reversed) 1. A swing down is made that will be labeled A:B. 2. A pullback in the opposite direction of swing A:B is then made. This swing will be labeled B:C. Ideally, point C must not exceed the .786 retracement of swing A:B, 3. Once point C is established, price again reverses to the downside. Price must now trade below point B. 4. After low point B is violated, we will look for price to stop going down based on two items. First, a Support FibZone is calculated and defined. Sec- ond, the swing down from A to B is measured and projected from point C to determine what we will call the “Symmetry Level.” 5. Once the requirements of the setup are met and price trades down to the “symmetry level” within the Support FibZone, it is “all clear” to look for op- Portunities to take a long trade. (See Chapter 11 for discussion on possible entry techniques.) For the example, the trigger will be a trade above the pre- vious bar's high 6. Initial stops on these trades will be below the Support FibZone. 7. The objective on these setups falls within the 1.272 and 1.618 extensions of swing AD.ES 102 Chapter 7 v2 D-D [Mon 30-Sep-2002 27,250 27.750_26,750_ 27.440 -0.650 rn : A Symmetrical Swings ea tooa AB =CD 33.000 42.000 31.000 | 7 { = (3) "8.000 8 Bat 9.295, f= 37810 App 1000 Ato B=5 pts 4) 27.000 CtoD=5 pts 26.228 Ret 1.618 26.000, 5.000 24,000 ; «5% Se B® Chart created by Dynamic Trader (c) 1996-2001 Symmetrical TSP Setup: 1. A move down from A to B. 2. Price rallies from B to C. High point C does not exceed A. 3. After establishing point C, price reverses down and goes below B. 4. The move from A to B was 5 points. From point C, we project a 5 point de- 1 cline. That price level is 27.41. I call this the symmetry level. With three other Fibonacci price levels around our symmetry level, it’s time to look for an opportunity to go long and for price to reverse to the upside.Two-Step Patterns (TSP) of % $2750, 0.00 (6) Sozentis is 2 30 Sep 13 20 27 ‘oa hh le 2S F Chart created by Dynamic Trader (c) 1996-2001 ‘Tue 22-Oct-2002 95,500 38.900 35.360 37.750 2.070 220«02 (0.000 38300, 11.55 isto r et et 1108 38.000 35.959 Ret 1.272 16.000 34,000 42.000 30.000 8.000 S86 RAR Ato B=5pts ——_ CtoD=Spts —__B 5 pts 26.228 Ret 1.618 oy Symmetrical TSP Result: The result of this symmetrical two-step was quite powerful. In 16 days, Verizon (VZ) traded up almost 50%, or 11 points. 5. The long trade was taken around $28. 6. Initial stop was placed just below the Support FibZone around 26.20. 7. Trade objective was between the 1.272 and 1.618 extension of swing A:D. Those prices were 35.95 to 38.46.EE! 104 Chapter 7 BSxXD-D_ ae Fri 15-Jon-2001 15,400 16,560 14.250 14,800 -1,000_ a a) © 416,000 (2); “hy _ + 415.000 2 () 14,500 aes Ret 1272 = 14:385 BORD ¢ | (4) a= Hise RiP oteie s4.021 Ret 1.618 14,000 hula ft ~ 12,500 pe @ 1s man ra Chart created by Dynamic Trader (c) 1996-2001 Symmetrical TSP Setup: 1. A move down from A to B. Price rallies from B to C. High point C does not exceed A. ‘After establishing point C, price reverses down and goes below B. ee The move from A to B was about 1.6 points. From point C, we project a 1.6 point decline. That price level is 14.25. I call this the symmetry level, where CD is symmetrical with A:B. With five other Fibonacci price levels (Support FibZone) around our symmetry level, it’s time to look for an opportunity to go long and for price to reverse to the upside.‘Two-Step Patterns (TSP) |_ Thu 1 Feb-2001 16.400 18,000 16,400 17.590 ‘syac01 iEebot {e180 0.000 6-00, 3750 og Ea + arr Re 1638 17.023 Ret 1.272 ih Roe Soares 13279. 48350, 2.190 on 2 "9 cs Feb Chart created by Dynamic Trader (c) 1996-2001 Symmetrical TSP Result: The result of this symmetrical two step was also quite powerful. Notice the day after point D is formed, Boston Scientific jumps higher at the open, and in 9 days, BSX traded up over 26% or 3.75 points 5. A long trade was taken around $15.50. 6. Initial stop was placed just below the Support FibZone around 13.70. 7. Trade objective was between the 1.272 and 1.618 extension of swing A:D. Those prices were 17.02 to 17.77.LN EEE 106 Chapter 7 Let’s reverse the scenario and look for short trade setups. Bearish TSP |Two-Step Patterns (TSP) 107 Rules For a Bearish TSP (Shorts): 1 2 A swing up is made that will be labeled A:B. A pullback in the opposite direction of swing A:B is then made. This swing will be labeled B:C. Point C ideally will not exceed the .786 retracement of swing A:B. The only requirement is that C does not trade below point A. Once point C is established, price again reverses to the upside. Price must now trade above point B. After high point B is violated to the upside, we will look for price to rally, but find resistance higher based on two items. First, a Resistance FibZone ic calculated and defined. Second, the swing up from A to B is measured and Projected from point C to determine what we will cal the “Symmetry Level.” Once the requirements of the setup are met and price trades up to the “eym- metry level” within the Resistance FibZone, it is clear to look for opportuni- ties to take a short trade. Initial stops on these trades will be above the Resistance FibZone. The objective on these setups falls within the 1.272 and 1.618 extensions of swing A:D.108 SS Chapter 7 II i =i hsom ” AtoB= .3 points Cto D = 2.5 points Bearish Symmetrical TSP Setup: 1 2. 3. 4. A move up from A to B. . Price falls from B to C. Low point C does not exceed A. After establishing point C, price reverses up and goes above B. . The move from A to B was 2.3 points. From point C, we project a 2.3 point rally. That price level is 17.39. I call this the symmetry level. With four other Fibonacci price levels around our symmetry level, it’s time to look for an opportunity to go short and for price to reverse to the downside.Two-Step Patterns (TSP) 109 hg Me Eo / » |] Bearish Symmetrical TSP Result: After Webex tested our FibZone for a few days, it sold off over 4.5 points and imme- diately went down to the 1.272 extension of swing A:D. 5. A short trade was taken around $16.50. 6. Initial stop was placed just above the Resistance FibZone around 18.10. 7. Trade objective was between the 1.272 and 1.618 extension of swing A: Webex formed a double bottom against the 1.272 extension at 13.02, which would be a warning sign to consider taking profits.110 Chupter7 STRATEGY Q&A Question: Do you ever take profits before the 1.272 or 1.618 retracement? ‘Answer: Yes. Many times I have found a resistance or Support FibZone that stands between my entry and the ultimate 1.272 to 1.618 objective. If this FibZone is of sig- nificant size (number of price levels), then I will consider taking a portion of my trade off at that intermediate level and trailing my stop. This is especially beneficial in markets that are not trending and very choppy. When a stock is in a strong trend, I typically do not have to do this. Question: Sometimes the number of bars from A to B are significantly more or less than the C to D swing, but the swings are still symmetrical in price. Does this matter? Answer: Generally speaking, the number of bars to complete each step are not criti- cal. Sometimes the two-step pattern does not look all that pretty, but the concept we are trying to capitalize on is the fact that each of these swings are equal in price. Of course, the pattem does have to pass the basic visual test. So, if you look at a chart and the move from A to B is 5 bars and the move from C to D is 40 bars, I would not classify it as a two-step pattern. Use common sense here. Question: Is this considered a reversal or is it momentum trading with this pattern? ‘Answer: The answer to this question—for this pattern and ALL patterns in this book—is based on the size of the pattern. For example, we may be looking at a sym- metrical two-step pattern where A to B is 20 points and C to D is 20 points, leaving current price at, say, 15. This would be considered a reversal setup. However, if we are in a major up trend and the price of the stock is $50 and the A to B and C to D steps down are each only 1 point, then this would be considered a micro-pattern pullback setting up for a continuation/momentum trade. It is all based on the size of the pattern to determine whether it’s a reversal or momentum trade. These setups occur on all time frames and in many sizes.Two-Step Patterns (TSP) Enter Pullbacks Using The Gartley TSP We have just looked at one variation of a Two-Step Pattern (TSP). Now Iet’s look at the second of three, called a Gartiey. Forty-year trading veteran Larry Pesavento Published this pattern in his book Fibonacci Ratios with Pattern Recognition (1997). Larry originally saw the outline of this pattern in H. M. Gartley’s 1932 book Profits In The Stock Market. No Fibonacci ratios were assigned to the pattern in this book. It was Larry who ultimately added Fibonacci to the Gartley price structure. In the con- text of his trading, Larry stated that the Gartley is “one of the best patterns I ever found.” I agree. For purposes of this book, I have titled the pattern a “Gartley TSP” because within this pattern is an A:B = C:D two-step pattern (TSP). Specific Fibonacci ratios apply to this pattern, so let’s look at the setup for a Bullish Gartley TSP.m2 Chapter 7 1.272 to 1.618 of BC! .618 to .786 of XA_—_—————————— Two-Step Pattems (TSP) 113 Rules For Buys: (Shorts Are Reversed): 1. A low point, “X”, is determined on the chart. X will be the lowest low in this entire pattern. If price falls below X, the Bullish Gartley TSP will be void. 2. From point X, a rally occurs up to a swing high point we will label A. This swing high is the highest high in the entire pattem. If price goes above A be- fore pattern completion, the Bullish Gartley TSP will be invalid. 3. Now that the upper and lower swing points of the pattern are established, we are looking for a move down from point A to the low point labeled B. This will be labeled Swing A:B. B should be between the .382 and .618 retracement of swing X:A. 4. A pullback in the opposite direction of swing A:B is then made up to point . This swing will be labeled B:C. Point C ideally falls between the .382 and 786 retracement of swing A:B. The only hard requirement is that point C does not exceed point A. 5. Once point C is established, price again reverses to the downside. Price must now trade below point B and down between the .618 to .786 retracement of Swing X:A. Once price reaches this level, a Bullish Gartley TSP has been com- pleted, and we look for opportunities to buy. 6. In this case, we will enter above the previous day’s high. 7. The initial stop will be below the Support FibZone. 8. The first objective is at the first major Resistance FibZone 9. The final objective is the 1.272 extension of swing A:D. The key differences between the Bullish Gartley TSP and the Bullish Symmetrical TSP are: * An additional reference low point “X” is added into the mix. We gauge points B and D from this point with Fibonacci ratios. Low point B should be between the .382 and .50 retracement of swing X:A. Low point D should be between the .618 and .786 retracement of swing X:A. Point D is even stronger when it is also the 1.272 or 1.618 extension of swing B:C. * The step from A to B does not necessarily have to “equal” C to D. A to B may be longer or shorter in size than the C to D move. That is fine because this pattern is not defined by symmetry, but by specific Fibonacci ratios.cai hea SS De as OS ” X = 28.20 A = 34.00 B = 30.60 Cc = 33.12 Bullish Gartley TSP Setup: 1. Low point X is determined. 2. A rally occurs and establishes high point A. X and A now serve as the boundaries of the pattern. 3. Price falls to B, which turns out to be between the .50 and .618 retracement of swing X:A. This is a valid swing point, so the pattern is currently valid, 4. VAR rallies up to the .786 retracement of swing A:B. It does not violate the high at A, so at this point, we are 1 point away from a complete setup. 5. Price, in fact, reverses down to D and makes a low point at the .786 of Swing, X:A and between the 1.272 and 1.618 extension of swing B:C. Our pattern is valid at this point, so it’s time to look for a long trade. (See Chapter 11 for possible entry techniques.)Two-Step Patterns (TSP) 15 Bullish Gartley TSP Result: After VAR completed the pattern, the stock rallies over 8 points! 6. A simple trigger to use to enter these patterns is a trade above the previous day’s high. In this case, I entered at 30.71. 7. Initial stop was placed just below the Support FibZone around 29.00. 8. I take profits in two stages. The first stage is when price meets the first Resis- tance FibZone that includes the symmetry level of swing B:C. In this case, that Resistance FibZone was from 31.75-32.25. My rule is to take profits on half when price trades below the previous day's low after touching the price zone. In this case, it was 31.99. At this point, I also move my stop to breakeven. 9, My final objective on the trade is between the 1.272 and 1.618 extension of swing A:D. I take profits on the rest of the position on a trade below the pre- vious bar’s low after touching the 1.272 extension of swing A:D. That was at 35.25.Leeann eee ee EEE 116 Chapter7 Let’s reverse the scenario and look for setups for short trades. [Bearish Gartey ~. 618 to .786 of XA 1.272 to 1.618 of BC DTwo-Step Patterns (TSP) 117 Rules For Shorts (Buys Are Reversed): 1. A high point, “x”, is determined on the chart. X will be the highest high in this entire pattern. If price rallies above X, the Bearish Gartley TSP will be void. 2. From point X, a selloff occurs down to a swing low point we will label point A. This swing low is the lowest low in the entire pattern. If price goes below A before pattern completion, the Bearish Gartley TSP will be void. 3. Now that the upper and lower swing points of the pattern are established, we are looking for a move up from point A to a swing high point labeled B. 4. A pullback in the opposite direction of swing A:B is then made. This swing will be labeled B:C. Point C must not exceed the .786 retracement of swing ASB. It does not need to go all the way to .786, but should at least go to the 382 retracement of swing A:B. 5. Once point C is established, price again reverses to the upside. Price must now trade above point B and up to the .618 to .786 retracement of Swing X:A. Once price reaches this level, a Bearish Gartley TSP has been completed, and we look for opportunities to sell short 6. In this case, we will enter below the previous day’s low. 7. The initial stop will be below the Support FibZone. The first objective is at the first major Support FibZone The final objective is the 1.272 extension of swing A:D. The key differences between the Bearish Gartley TSP and the Bearish Symmetrical TSP are: 1. An additional reference high point, “X”, is added into the mix. We gauge points B and D from this point with Fibonacci ratios. High point B should be between the .382 and 50 retracement of swing X:A. High point D should be between the .618 and .786 retracement of swing X:A. Point D is even stronger when it is also the 1.272 or 1.618 extension of swing B:C. The step from A to B does not necessarily have to “equal” C to D. A to B may be longer or shorter in size than the C to D move. That is fine because this patter is not defined by symmetry, but by specific Fibonacci ratios.118 Chapter Bearish Gartley TSP Setup: 1. High point X is determined. 2. A selloff occurs and establishes low point A. X and A now serve as the boundaries of the pattern. 3, Price rallies to B, which turns out to be between the 50 retracement of swing X:A. This is a valid swing point, so the pattern is currently valid. 4. NVDA reverses down to the .786 retracement of swing A:B. It does not vio- late the low at A, so at this point, we are one point away from a complete setup. 5. Price, in fact, reverses up and rallies to D and makes a high point at the .786 of Swing X:A and between the 1.272 and 1.618 extension of swing B:C. Our pattern is valid at this point, so it's time to look for a short trade against the Re- sistance FibZone where the pattern has completed‘Two-Step Patterns (TSP) 119 fro Bearish Gartley TSP Result: After NVDA completed the pattern, the stock declines over 20 points! & A simple trigger to use to enter these patterns is a trade below the previous day’s low. In this case, I entered around 57.15. 7. The initial stop will be above the Resistance FibZone around 62,00. 8. Take profits in two stages. The first stage is when price meets the first Sup- Port FibZone that includes the symmetry level of swing B:C. In this case, that Resistance FibZone was from 53.54-54.87. My rule is to take profits on half when price trades above the previous day's high after touching the price Zone. In this case, it was 52.83. At this point, I also move my stop to breakeven. 9. My final objective on the trade is between the 1.272 and 1.618 extension of swing A:D. I take profits on the rest of the position on a trade above the pre- vious bar’s high after touching the 1.272 extension of swing A:D, That was at 49.55. Note that NVDA falls another 9 points after I'm out!120 Chapter 7 A = 836.75 B = 829.75 0 C = 835.75 D = 828.00 oxo 1 2 Our patter Intraday Gartley TSP Setup: Low point X is determined on this five-minute chart. ‘A rally occurs and establishes high point A. X and A now serve as the boundaries of the pattern. Price falls to point B, which turns out to be between the .50 retracement of swing X:A. This is a valid swing point, so the pattern is currently valid. ES03H rallies up to the .786 retracement of swing AB. It does not violate the high at A, so at this point we are one point away from a complete setup, Price, in fact, reverses down to D and makes a low point at the .786 of swing X:A and between the 1.272 and 1.618 extension of swing B:C. 1m is valid at this point, so it’s time to look for a long trade.Two-Step Patterns (TSP) 121 Intraday Gartley TSP Result: After ESOSH completed the pattern, the contract rallied over 11 points! 6. A simple trigger to use to enter these pattems is a trade above the previous day’s high after price completes the pattem, In this case, I entered around 829.50. 7. Initial stop was placed just below the Support FibZone around 825.00. 8. 1 take profits in two stages. The first stage is when price meets the first Sup- port FibZone that includes the symmetry level of swing B:C. In this case, that Resistance FibZone was from 833.25-835.00. My rule is to take profits on half when price trades below the previous day's low after touching this price zone. In this case, it was 832.50. At this point, I also move my stop to breakeven. 9. My final objective on the trade is between the 1.272 and 1.618 extension of swing A:D. | take profits on the rest of the position on trade below the previ- ous low after touching the 1.272 extension of swing A:D. That was at 837.75. Not bad for a five-minute chart.Nee El 122 Chapter 7 STRATEGY Q&A Question: You mention an easy trigger to use for longs is a trade above the previous day's high after completing the pattern and for shorts when price trades below the previous day's low after pattern completion. Do you use different triggers? ‘Answer: Yes. We will discuss in later chapters the various triggers that I will con- sider and on what time frame I look for them. Question: Do you need a FibZone around the pattern completion level before you will con- sider taking the trade? Answer: Yes. | want a total of at least three Fibonacci price levels acting as support or resistance before I will consider the trade. Question: Should someone trading this pattern use your stop loss rules? “Answer: I believe you have to “own” whatever you do. If this stop loss strategy that Thave outlined fits your style . . . go for it! However, if it doesn’t fit, find a stop loss program that does fit. Question: What time frames work best for these patterns? ‘Answer: I've traded these patterns all the way down to five-minute charts, and they work just as accurately as do the daily or weekly charts. The highest time frame I have traded these patterns on were monthly charts. I tend to trade the daily and weekly patterns more than any other. The time frame chosen will be largely depend- ent upon how much risk your money management plan allows you to take per trade (to be discussed later). Remember, the Gartley is “officially complete” when it reaches the .618 retracement of swing X:A. However, it can go down to the .786 retracement of X:A and still be valid. The higher the time frame you go, and the big- ger the pattern, the bigger the gap between the .618 and .786, which translates to a larger point risk if a trade is initiated at the 618 level. Sometimes by waiting on a trigger to enter, it keeps a trader patient until price goes deeper into the FibZone be- tween the .618 and .786 before being called to take the trade leaving less point risk.rr ‘Two-Step Patterns (TSP) 123 Find Powerful Reversals With The Butterfly TSP The “Butterfly Pattern” is a TSP-type pattern that was discovered by Bryce Gilmore and Larry Pesavento. This pattern allows you to find significant bottom and top tuming points in the markets. The Butterfly is a “hybrid” of the Gartley. The key difference in this pattern vs. the Gartley is the fact that point D completes between the 1.272 and 1.618 extension of X:A vs. the .618 to .786 for a Gartley. It can be traded as a large reversal pattern, or if spotted on a smaller/micro time frame within the context of a larger trend, it could be used for momentum continuation trading. Why the name? When you look at this pattem with the specific ratios at- tached to each swing and connect the dots, the pattern looks just like a butterfly in flight.LNT 124 Chapter 7 .382 to .786 of AB| (not to exceed A) ©) [382 to .786 of XA (not to exceed X) | D 172 to 1.618 of XA Rules For Buys (Shorts Are Reversed): 1. Point X—The beginning point of the pattern and the second lowest point in the entire pattern. It will be the “anchor” point to calculate the pattern com- pletion level at point D. 2. Point A—The highest high of the pattern. 3, Point B—This will ideally fall between the .382 and .786 retracement of Swing, X:A. The only hard rule here is that point B cannot fall below point X. 4, Point C—The only hard requirement for this point is that it be lower than point A. Ideally, it hits one of our retracement levels at .382, 50, .618, or 786 of swing A:B.rr ‘Two-Step Patterns (TSP) 125 5. Point D—This is the critical point. Once point C is established and price falls and trades below point B, we calculate the 1.272 and 1.618 extension of swing X:A. This will provide the pattern completion zone. Point D must be lower than point X. At this point, if you “connect the dots” in the following order XtoA XtoB AtoB BtoC BtoD CtoD you should be able to see the outline of what looks like a butterfly. Sometimes the butterfly is a little distorted depending on the time between swing points, but it should look like a Butterfly with its right wing dipping down lower than the left. Let's look at a couple of examples. 6. For illustration purposes, we will enter a long trade above the previous day’s high. (See Chapter 11 for other trigger ideas.) 7. Initial stop on the trade is below the Support FibZone. 8. The first objective will be between the .618 and .786 retracement of swing ep! 9. The final objective is the 1.272 extension of swing A:D. The key differences between the Bullish Butterfly TSP and the Bullish Gartley TSP are: 1. Point B can go lower in the Butterfly TSP vs. the Gartley TSP. 2. Point D goes below X and, by definition, falls between the 1.272 to 1.618 ex- tension of swing X:A. The Gartley TSP has D completing within the X:A swing between the .618 and .786 retracement of X:A. 3. The step from A to B does not necessarily have to “equal” C to D. C to D is typically longer than A:B. There are situations where A:B does equal C:D, which means we could have a Symmetrical TSP AND a Butterfly TSP all rolled into one.126 Chapter 7 BULLISH BUTTERFLY TSP 27a na 8296 ‘Chan crsted by Dynamic Tada (c) 1996-2001 Bullish Butterfly TSP Setup: 1 2. A low point, X, is made in April at 30.00. Price rallies to point A and forms a swing high at 36.85. This is the highest high in the pattern. Low point B is made at 31.02 around the .786 retracement of X:A. Remember, the only hard requirement here is that we don’t go below X. ‘A 6 point rally unfolds and high point C is made at 35.66 around the .786 retracement of A:B. Here, the only requirement is that we don’t exceed point A. ‘Over the course of the next four weeks, ZMH sells off 8 points and hits a Support FibZone from 26.60-28.13. On July 24, ZMH hits the 1.272 extension of X:A to officially complete our pattern. Now we look for opportunities to go long. (See Chapter 11 on Triggers for potential ideas on how to look for entry opportunities once a pattern completes.)Two-Step Patterns (TSP) 30.00 A= 36.85 B= 31.02 C = 35.66 (9) BULLISH BUTTERFLY TSP SR Le Base ene 2 oo oS wee eA SS a at ated bic ate e201 Bullish Butterfly TSP Result: This pattern resulted in a 42% rally profits, in 12 trading sessions. ly from point D, or roughly 12 points of possible 6. The same day ZMH hits our Support FibZone, we go long, ‘The initial stop is just below the FibZone around 26.60. First profits are taken at the .618 to .786 retracement of swing C:D. ‘The final objective on these trades is around the 1.272 to 1.618 extension of swing A:D.128 fiue SRov-2002_75, 710 Pe 14025360 60a) OSS Aa" ( BULLISH BUTTERFLY TSP (5) waeerepe — feo.c00 em 1 ‘Chart created by Dynamic Troder (c) 1996-2001 Bullish Butterfly TSP Setup: 1 2. A low point, X, is made in August at 21.30. Price rallies to point A and forms a swing high point at 26.21. This is the highest high in the pattern. Low point B is made at 21.93 around the .786 retracement of X:A. Remember, the only hard requirement here is that we don’t go below X ‘A small rally unfolds and high point C is made at 24.35 around the 50 retracement of A:B. Here, the only requirement is that we don’t exceed point A. Over the course of the next four weeks, QQQ sells off 4 points and hits a Support FibZone from 19.28-20.05. QQQ hits the 1.272 extension of X:A to of- ficially complete our pattern at 19.96.Two-Step Patterns (TSP) 129 peach BuTEReLY i i il! ) VA ee Wy m7 tt 18h Bullish Butterfly TSP Result: Ina little over one month, QQQ rose over 45%, or 9 points. 6 7. 8. A long trade is entered around 20.50 above the previous day's high after pat- tem completion. The initial stop loss is just below 19.25, As soon as a swing point D is established, I immediately calculate Fibonacci Price resistance levels that will tell me where price will face major decisions. The first level that I look to take profits is between the .618 and .786 retracement of C:D. At this level, I typically take half the position off and move my stop up to reduce or eliminate risk. . The final objective on these trades is around the 1.272 to 1.618 extension of swing A:D. In this situation, we took profits between 27.00 and 28.00.130 Chapter 7 Bearish Butterfly TSP [ yee} 1.272 to 1.618 of XA] > (1) > 82 to .786 of XA (not to exceed X) 382 to .786 of AB) (not to exceed A)Step Patterns (TSP) 131 Rules For Short Sales (Buys Are Reversed): 1. Point X—The beginning point of the pattern is the second highest point in the entire pattern. It will be the “anchor” point to calculate the pattem com- pletion level at point D. 2. Point A—The lowest low of the pattern. 3. Point B—This is typically between a .382 and .786 retracement of Swing X:A. 4. Point C—The only hard requirement for this point is that it be higher than point A. Ideally, it hits one of our retracement levels at .50, 618, or 786 of Swing A:B. 5. Point D—This is the critical point. Once point C is established and price ral- lies and trades above point B, we calculate the 1.272 and 1.618 extension of swing X:A. This will provide the pattern-completion level. Point D must be higher than point X. At this point, if you “connect the dots” in the following order . XtoA XtoB AtoB Btoc BtoD CtoD ; You should be able to see the outline of what looks like a butterfly. Sometimes the butterfly is a little distorted depending on the time between swing points, but it should look like a Butterfly with its right wing pushing higher than the left, Let’s look at a couple of examples. § For illustration purposes, we will enter a short trade below the previous day’s low. (Gee Chapter 11 for other trigger ideas.) 7. Initial stop on the trade is above the Resistance FibZone. 8. The first objective will be between the .618 and .786 retracement of s ing cD. 9. The final objective is between the 1.272 and 1.618 extension of swing A:D.132 Chapter 7 6) “@) 4h A a Dye Ht hal J E wy - | = 4) 2 Bearish Butterfly TSP Setup: 1 ‘A high point, X, is made 15.52 on this 60-minute chart. Price declines to point A and forms a swing low point at 15.04. This is the lowest low in the pattern. High point B is made at 15.35 around the 50 retracement of X:A. Remember, the only hard requirement here is that price cannot go above point X. ‘A small decline unfolds and low point C is made at 15:17 around the 50 retracement of A:B. Here, the only requirement is that we don’t trade below point A. CSCO rallies from point C and hits a Resistance FibZone from 15.60-15.85 that includes the 1272 extension of X:A to officially complete our pattern. Now we look for opportunities to go short. (See Chapter 11 on Triggers for potential ideas on how to look for entry opportunities once a pattern completes.)Two-Step Patterns (TSP) ———— sisrtw so Bearish Butterfly TSP Result: From this pattern on a 60-minute chart, CSCO falls over 1.6 points in three days. 6. A short is entered around 15.50. 7. The initial stop loss is just above 15.85. 8. As soon as swing point D is established, I immediately calculate Fibonacci price support levels that will tell me where price will face major decisions. The first level that I look to take profits is between the .618 and .786 retracement of C:D. At this level, I typically take half the position off and move my stop up to reduce or eliminate risk. In the situation above, you may decide to simply tighten stops due to the minimal amount of movement it took to get to these levels. 9. The final objective on these trades is around the 1.272 to 1.618 extension of swing A:D. Once this zone is hit, I occasionally use the previous bar’s high as a trailing stop as price makes lower lows to see if we can maximize and ride out a larger winner.—_——————— 134 Chapter wear w. aos Let's drill down to a — daily chart to look at | price action . ph ” \ AA NW NV - I = —__ —= a 19d bozo fae oF we Chart created by Dynamic Trader (c) 1996-2001 You're probably thinking, "Wait a minute here. This chart doesn’t have a Bearish Butterfly TSP setup.” You're right, but over this two-year time frame, how would you have known that the high made during the week of March 23, 2002, was going to lead to a 20 point selloff in Wal-Mart (WMT)? On the next page, check out what was forming at this weekly chart peak when we drilled down to the daily chart.Two-Step Patterns (TSP) 135 S imp? tL t oas21 Re 1518 — S53 Bat 88 ——— £4507 Ew 0616 64,000 3.882 pepe 62.000 Bn Tw lam SG BF Lim" Tw Ta SF "lo TAS ‘Chast created by Dynami Trader (c) 1996-2001 When we drill down to the daily chart of Wal-Mart (WMT) and look closer, we see that our Bearish Butterfly TSP pattern developed against a Resistance FibZone, Point D of this pattern was THE high in 2002. This pattern is often found at significant high and low points. In this case, it led to a 20 point selloff (as seen from the previ- ous page)LS 136 Chapter 7 STRATEGY Q&A Questio Do you enter the trade as soon as the pattern completes at point D? Answer: Personally, I do not enter right when the pattern hits the 1.272 extension. I almost always look for a trigger to enter. When trading this pattern on a daily time frame or higher, this pattern is usually occurring in the midst of a strong trend, which means I would be going against the grain. That's fine, but I don’t want to be stepping in front of oncoming traffic either. So, I look for a trigger. For example, let’s say a Bullish Butterfly TSP is official as price hits the 1.272 exten- sion of swing X:A. A simple trigger would be to only take a long trade if price goes above the previous day’s high. That previous day’s high acts as the “trigger” for me to take action and go long. That is a simple trigger. More complex triggers are dis- cussed later in this book. That being said, I know many people that successfully trade these patterns that enter the trade as soon as price hits the 1.272 Fibonacci ex- tension level with the thought process that there is less risk. I agree that there is po- tentially less “point risk,” but there is no structural price confirmation that price is reversing, so there is a higher likelihood of getting stopped out in my opinion. Re- gardless of how you chose to enter into these trades, stops must be used. Question: I see that you take profits in two stages. Why is this? Answer: This is risk control for me. I'm not trying to hit home runs. I want to posi- tion myself to benefit from a home run trade, but I realize most trades are going to be base hits. So, I take half profits at the “base hit level” and trail my stop to a closer level (ideally at breakeven, if the chart allows). If price keeps moving in my favor, then great . . . Ill benefit. If not, that’s fine, because I’ve locked in profits and I’ll get stopped out with little or no damage on the last half of the trade. There are many ways to take profits and trail stops. I have found this strategy to work best for me. The key concept to remember is to lock in profits on a portion of the trade as soon as possible and let the rest of the trade move as it may with a focus on reducing and eliminating risk by trailing the stop order as a trade moves in your favor,CHAPTER 8 HEISENBERG 200—_———— STRATEGY #5: HEISENBERG 200 The 200-day Simple Moving Average (SMA) is a highly watched level by institu- tional investors, and Wall Street research outfits. In the case of the 200-day SMA, there is a mass belief and following that one should be a buyer when price crosses above the 200-day SMA and a seller when it crosses below. I don’t know how many times T've tumed on the TV to watch my financial soap operas and hear that a “Street firm” has upgraded XYZ Corp. for reasons supposedly related to an improv- ing fundamental outlook. So when I pull up a chart of that company, where is price sitting? Lo and behold, it’s sitting on the 200-day SMA. Countless timing systems have been constructed around the 200-day SMA following the same concept to be a buyer above the 200-day SMA and a seller below it. The bottom line here, is that the 20-day SMA is followed closely by many market participants to determine the state of the overall direction of a particular financial instrument or index. With such an interest in the 200-day SMA, I was motivated to design a strategy us- ing Fibonacci around these levels. What I came up with was a strategy that identi- fies moves that are contrary to how the crowd acts on price action around the 200-day SMA. I named this strategy Heisenberg 200 after the Heisenberg Uncer- tainty Principle. The Heisenberg Uncertainty Principle basically says that in measur- ing something, we alter it, and that makes the measurement invalid. Could I apply this principle to the markets? In my mind, it was clear that with so many people making decisions to buy or sell based on the general rule I gave above, it would nat- urally distort the observation and make those buy or sell decisions “obsolete” or in- accurate. Is it a stretch? Conceptually it may sound that way, but the actual trade opportunities speak to the contrary. What I have done is taken two concepts you have already learned, which are Sup- port and Resistance FibZones and Two-Step Patterns (TSPs), and put them in a melt- ing pot with the 200-day SMA. I was able to create a personal strategy that identifies quite powerful reversal moves. 139140 Chapter 8 BEARISH HEISENBERG 200 [Price goes above the 200 Day SMA but | completes a Bearish ‘Two Step Pattern (TSP) and hits our resistance FibZone. | This initiates a potential short Heisenberg 200 trade. FibZone 200 Day SMA 200 SMA violated initiating ~~ crowd reaction by hitting sell stops and short selling ; Price Movement (A) Once price reverses down after hitting | the resistance FibZone the crowd has to sell longs. In some cases they shift to short selling because price is back below the 200 SMA. This addes fuel for the ride down.Heisenberg 200 141 HEISENBERG 200: RULES Rules For Short Sales (Buys Are Reversed): 1. A bearish Two-Step Pattern has completed. This includes Symmetrical, Gartley, and Butterfly TSPs, ~The pattern has hit a Resistance FibZone of at least three Fibonacci price lev- els, + The final point (D) of the TSP must complete above the 200-day SMA. + Enter a short trade when price goes below the Previous day’s low. Or, con- Sider a trigger entry from Chapter 11.Heisenberg 200 Setup: Above is a daily chart of Xilinx (XLNX). The necessary ingredients are in place: 1. A Bearish Gartley TSP Pattern has formed. 2. A Resistance FibZone of at least three levels has been tested. In this case we have four Fibonacci price resistance levels in our FibZone. 3. Point D of the pattern completes above the 200-day SMA. So, it’s time to look for shorts.TT Heisenberg 200 143 Heisenberg 200 Result: 4 After the TSP is complete, a simple trigger would be to take a short trade be- ow the previous bar's low. In this case, I am triggered short at 73.81 5: My initial stop is just above the resistance zone at 84. This is a 15% difference between my stop and entry price. With such a large price and Percentage ange, J will reduce my position size to account for this relatively large Resis tance FibZone. 6. The next day, I take profits between 64 and 66, which is the range of the .50 and 618 Fibonacci retracements of low point A to high point D. Price tallies but finds a swing high point and my stop is moved down. I find a couple of swing high points to move my stop to as price falls. 7. Price finally hits the 1.272 extension of swing A:D at 47.46, I now trail my stop to the previous bar high. Continue to do this as we make new lows. UL timately I'm stopped out at 48.43 for a 25-point gain.Chapter 8 ) ro4 192 em 06 1858 Rast 200 Day SMA 00.000 75.000 i Tee ee ee e (Chart creatad by Dams Trace 1 Heisenberg 200 Setup: ‘Above is a daily chart of Goldman Sachs (GS). The necessary ingredients are in place: 1. A Bearish Butterfly TSP Pattern has formed. 2, A Resistance FibZone of at least three levels has been tested. In this case we have seven Fibonacci price resistance levels in our FibZone. 3, Point D of the pattern completes above the 200-day SMA. With these ingredients in place, it’s time to start looking for short trades.Heisenberg 200 45 8) Heisenberg 200 Result: 4. After the TSP is complete, a simple trigger would be to take a short trade be- low the previous bar’s low. In this case, I am triggered short at 102.30. 5. My initial stop is just above the resistance zone at 108.60. 6 Three days later, I take profits between 95 and 97, which is the range of the 50 and .618 Fibonacci retracements of low point A to high point D. Price ral- lies but finds a swing high point and my stop is moved down. I find a cou- ple of swing high points to move my stop to as price falls. + Price finally hits the 1.272 extension of swing A:D at 84.97. I now trail my stop to the previous bar high. Continue to do this as we make new lows. UL timately, I'm stopped out around 83.50 for almost 20 points of gain.146 Chapter 8 BULLISH HEISENBERG 200 Once price reverses up after hitting the support FibZone the crowd has to cover shorts and be buyers again because price is back above the 200-Day SMA providing fuel for the ride up. Price Movement (a) \ 200 SMA violated initiating crowd reaction by hitting sell stops and short selling _. 2). 6) (1) Price goes below 200-Day SMA but completes a Bullish Two-Step Pattern (TSP) and hits our support FibZone and initiates a potential long Heisenberg 200 trade.————— Heisenberg 200147 Rules For Buys (Shorts Are Reversed): 1 2 3. A Bullish Two-Step Pattern has been completed. This includes Symmetrical, Gartley, and Butterfly TSPs. ‘The pattern has hit a Support FibZone of at least three Fibonacci price levels, The final point (D) of the TSP must complete below the 200-day SMA. Enter a long trade when price goes above the previous day’s high. Or, con- sider a trigger entry from Chapter 11 Once triggered into a long trade, my initial stop is just below the Support FibZone. My first objective on the long trade is the .50 to .618 retracement level of Point A to D. Once I have taken profits on half the position at this level, I will trail my stop up. Ideally the stop can be moved to breakeven. However, the more important issue is that the stop is trailed up to a recent swing low point. My second and final objective is the 1.272 extension of swing A:D. I do not immediately take profits at this level. Once price hits this Fibonacci level, trail my stop to the previous day’s low. As higher highs are made, I continue to tail the stop to the previous bar’s low. Basically what I am trying to do here is allow myself to ride a home run if it happens. Otherwise I’ve trailed the stop to a point where I've locked in sizeable profits.Symmetrical TSP yi ay ve \ 7 = rae a a Heisenberg 200 Setup: Above is a daily chart of Amazon.com (AMZN). The necessary ingredients are in place: 1. A Bullish Symmetrical TSP Patter has formed. 2. A Support FibZone of at least three levels has been tested. In this case we have six Fibonacci price support levels in our FibZone. 3. Point D of the pattern crosses and completes below the 200-day SMA. At this point it’s time to start looking for opportunities to go long.335550 __ Heisenberg 200149 sere aa -(7) | fone aioe obo ses ” a Heisenberg 200 Result: 4. After the TSP is complete, a simple trigger would be to take a long trade above the previous bar’s high. In this case I am triggered long, at 9.85, My initial stop is just below the support zone at 8.25, 6. The next day I take profits at the open between 12 and 13, because price gap- ped above range of the .50 and .618 Fibonacci retracements of low Point A to high point D. 5. + Price declines one day then rallies to hit the 1.272 extension of swi 1 AD at 1382. I now trail my stop to the previous bar low. Continue to do thes as we make new highs. Ultimately I'm stopped out around 1339 for almost 35 Points of gains on a nine-dollar stock.Chapter 8 SEES fom 2) Above is a daily chart of Amgen.com (AMGN). The necessary ingredients are in place: 1. A Bullish Symmetrical TSP Pattern has formed. It looks like price has given up and is ready to fall apart after testing the 200-day SMA twice. I think Heisenberg has something else in store. 2. A Support FibZone of at least three levels has been tested. In this case we have six Fibonacci price support levels in our FibZone. 3. Point D of the pattern completes below the 200-day SMA. So, it’s time to look for longs.law teeta he a. bs Ta 7 Heisenberg 200 Result: 4. After the TSP is com plete, a simple trigger would be to take a long trade above the previous bat ws high. In this case I am triggered long at 45.53, 5. My initial stop is just below the support zone at 41.70, § Ina few days the first objective between 48 and 49 was hit, which is between the .50 and .618 Fibonacci retracements of high point A to low point D. AMGN continues to make higher swing lows to trail the stop Up as we ap- Proach the 1.272 retracement of swing A:D. 7. As of this writing, AMGN is still an active position (with only half of the original trade remainin; ig after taking profits around $48) and has just hit the 1.272 extension so the stop was trailed up to the previous bar's low.152 Chapter 8 STRATEGY Q&A Question: What makes this different than simply trading the TSP patterns? Answer: The 200-day SMA is adding market participants and increasing volatility. So, if the “crowd” is caught on the wrong side, then our TSP patterns can create even more significant trading opportunities. Question: What is a good way to scan for these setups? Answer: The two things I look for are stocks with liquidity and stocks around the 200-day SMA. So volume and the moving average is all you need. Once a watch list is established, it’s a matter of waiting for patterns to develop. But the one thing nice about this strategy is that there is always a pipeline of stocks approaching their 200-day SMA. Question: Do you trade this strategy on any other time frame? Answer: I do not. The 20-day SMA is for daily charts. You could shift to a 40-period SMA on a weekly chart. I have never traded this on intraday charts. Question: Are you looking for anything else with these setups? Answer: I do look to see if the setup is occurring within the context of the trend. For example, if we have made two or three higher swing lows and higher swing highs and price pokes its head above the 200-day SMA then falls back and forms a TSP, then I'm more excited about that setup than a stock that is simply in “chop” mode not really making higher highs and higher lows. A mechanical way to scan for this is by using the ADX. I would recommend a 13-period ADX greater than 20 and ris- ing. The ADX is just telling us the strength of the trend, not the direction.CHAPTER 9 SHARK ATTACK— STRATEGY #6: SHARK ATTACK At any one time, a Great White aligned in rows. The market, in many ways, Whether I'm looking at an intraday, daily, weekly, or monthly chart, I’ve observed an interesting relationship around swing high or low points. Whi Proaching the most recent swing high or Io retracement level. If the .786 retracement is this description sounds a lot like double ever, key points to remember that the sion do not include are: er —— and the extension levels at swing Points. 2. Hitt evel like the 1.272 and 1.618 of previous swings represent “stretched” price action and a tradable Shark Attack reversal typically occurs around these extension levels, The more Fibonacci extension levels that Some together in a tight price range, the greater the likelihood for a tradable reversal,Dee 156 Chapter 9 Shark Attack—Long Setup Price Activity]rr Shark Attack 157 Rules For Buys (Shorts Are Reversed): 1. 2 3. Swing point low A is identified. Once a low point A is established, price rallies to form a high point B. This is where it gets interesting. As price approaches the .786 retracement of swing A:B, a potential momentum trade is setting up. Basically, if price goes below the .786, it is likely to decline to the 1.272 to 1.618 extension of swing A:B. Many times, this move from the .786 to the extension levels happens very quickly. So this presents short-term momentum traders an opportunity. This opportunity is peanuts though, compared to the reversal potential. Once price goes down to the range of the 1.272 to 1.618 Fibonacci extensions, it forms a shark-looking formation. It's like the shark is getting ready to take a bite out of any short traders at this new low level as price reverses from these extension levels and rallies significantly to the upside. Go long on a trade above the previous bar high, Initial stop below the Support FibZone. The first objective on this trade is the .50 to .618 retracement of swing B: The next objective is the 1.272 extension of B:C. Once this price level is hit, begin trailing a stop to the previous bar low on the rest of the position,158 Chapter 9 Shark Attack Long Setup: 1. 2. 3. Low point A is made. Once a low point A is established, price rallies to form a high point B. Price goes below 19.20, which is the .786 retracement. This presents a short momentum trade opportunity down to the 1.272 to 1.618 extension of swing A:B. In two bars, SMH hits 17.83 for a quick potential profit of a little over 1 point, Once price hits the 1.272 to 1.618 extension of swing A:B, we have a Shark Attack pattern in full swing. With a new low established, the shorts are in control, or they think that's the case, until the shark takes a bite out of them.| rears BY sr fe pe 5: The initial stop loss order is placed just below the 1.618 extension level around 16,80. 6. The next objective is for price level comes in at 22.54. As the stoc the previous bar's low. In this case,160 Chapter 9 / - r r" A = 875.75 Shark Attack Long Setup: 1. A downtrend is in place as the stock forms swing point A. 2. Once a low point A is established, price rallies to form a high point B. 3. Price goes below 882.75, which is the .786 retracement of AB. This presents a short momentum trade opportunity. In two 30-minute bars, the S&P 500 Mini futures contract trades down 16 points without looking back. Once price hits the 1.272 to 1.618 extension of swing A:B, we have a Shark Attack patter in full swing. With a new low established the shorts are in control, or they think that’s the case until the shark takes a bite out of them.ee Shark Attack 161 =| 875.75] | | the previous day’s high after hitting our FiB = 63.30 C = 64.45 q) hart cont by Oar Tats) 196-2004 Shark Attack Short Setup: 1. An up trend is in place as the stock forms swing point A. 2. Once a high point A is established, price declines to form a low point B, 3. Price goes above 63.85, which is the .786 retracement of A:B. This presents a Jong momentum trade opportunity. In two 15-minute bars, EBAY trades up almost 30 points without looking back. Once price hits the 1.272 to 1.618 ex: tension of swing A:B, we have a Shark Attack pattem in full swing, With a new high established, the longs think they are in control. Unfortunately they are buying in shark-infested waters.—_—___—_—_—_—_—_—_—_—_—_— Shark Attack 163 Ricci Re ea ioe (5) ¥ Shark Attack Short Result: 4. A short trade is initiated at 64.01 when we get the first price bar to go below the previous bar's low, after hitting our Fibonacci extension levels. 5. The initial stop loss order is placed just above the 1.618 extension level around 64.50, The first objective on half of the position is between the .50 and .618 retracement of the high point B to low point C. In a situation like this when using intraday charts, I will sometimes not take profits and just wait for the 1.272 extension level 7. The 1.272 extension of swing B:C comes in at 62.98. Once price hits this level 1 start trailing my stop to the previous bar's high. As the stock makes new lows, I move the stop down to the previous bar's high. In this case we are Rot stopped out at the end of the day, so I close the position because the trade was based on a 15-minute chart. So, the short was covered around 62.50 for approximately a 2-point profit intraday.164 Chapter STRATEGY Q&A Question: This looks a lot like a double top/double bottom strategy. Is that what you are de- fining? Answer: In theory, yes, the double tops and bottoms can make slightly higher highs or slightly lower lows. I suppose you could look at this as a specific type of double top or bottom with a specific Fibonacci target completion point for the second peak/trough between the 1.272 and 1.618 extension levels. Question: Again, could you explain exactly why you call it “shark attack”? Answer: Sure. Let's talk in terms of a Shark Attack short setup. When you look at this pattern as it is forming, price establishes the first high point. Then it reverses in the opposite direction to the downside. This gives “hope” to the early reversal trad- ers looking for a nice downside move. However, when price returns to the previous high and makes a slightly higher high, then the early reversal traders typically get stopped out and are forced to buy to cover their short position. Not only do early reversal traders get stopped out, but this pulls new trend followers into the game as a new high is established. This influx of long order flow creates momentum and will typically push price to a Fibonacci extension level between 1.272 to 1.618 of swing A‘B as we defined earlier in this chapter. Many times this is the “last gasp” exhaus- tion move before the real change of direction occurs. When you look at a chart this price movement takes the shape of a shark head with its mouth open. Basically, the shark is “attacking.” Question: As a Shark Attack pattern completes, are there any specific characteristics about the FibZone that one should look for? Answer: | like to see multiple extension levels fall into this FibZone from various low to high or high to low swings. Specifically, multiple levels of the 1.272 and 1.618 ratios. When four or more extension levels come together, there is an extremely high probability for at least a short-term tradable reversal.ee cuaprer 1 0 AIR POCKETSTe STRATEGY #7: AIR POCKETS One of my favorite technical Im short, it is a tool that hel frend. By combining this a couple of strategies th, of Air Pockets we analysis tools is the Average Directional Index (ADx), ips determine the strength or lack of strength in a chart’s Col with Support and Resistance FibZones, I have created SF Lrt—— FibZones. The two types will discuss are Reversal Ay Pockets (RAPS) and the second one tance FibZone ay Reversal Air Po, f a Resis- -et's first look at the REVERSAL A POKES (Raps) Example #1 Support FibZone Failure Example #2 Resistance FibZone Failure168 Chapter 10 @) [Resstence Fzore #2 4g] Resistance Pf) pie FibZone (3) AirPocket | Trade Failure i Opportunity L—Pren Rules For Buys (Shorts Are Reversed): 1, Price has been trending down and has just established a low point where the M-period ADX is greater than 20. This is where we calculate Fibonacci price resistance levels using retracements, extensions, projections, and expansions. 2. After calculating Fibonacci price resistance levels, two Resistance FibZones are identified. FibZone #1 is closest to current price. 3. There must be a tradable gap “Air Pocket” between the two zones, where no Fibonacci price resistance levels exist. 4. Price trades up to FibZone #1 and pushes through the highest level in this zone as the 14-period ADX reading goes below 20. At this point there are two possible entry options. First, the trader could enter immediately upon vi- olation of the zone. Second, the trader could wait for a small pullback to test the zone that was just broken, then look to be a buyer, 5. Initial stop loss orders could be placed below FibZone #1, the current bar (the bar that violates FibZone #1), or previous bar low. 6. Objective on this trade is up to Resistance FibZone #2.Air Pockets 169 aco —amentsan sf Reversal Air Pockets: Long "Brice establishes a swing low point where the period ADX is above 20. At this point we calculate Fibonacci price resistance levels, * Two Resistance FibZones are identified, There are over 5 points of “Air Pocket” between FibZone #1 and FibZone #2 which should provide plenty of portunity if FibZone #1 is violated to the AS price trades up, the ADX drops below 20 Price moves up to the zone and Pushes through and a possible long, entry is made just above 24.69. (Note: the next day GENZ gaps up, but comes back to tee the FibZone it has just cleared. This is another entry opportunity.) * A stop is placed at the lower of a) the bottom of FibZone #1 or b) the low about the nn Gay Price trades above the FibZone, In this case the two are about the same so my stop is just below 22.89, » The objective on the trade is 27.59, Which is the bottom of FibZone #2,{ I Reversal Air Pockets: Long |. Price establishes a swing low point where the 14-period ADX is above 20. At this point we calculate Fibonacci price resistance levels. . Two Resistance FibZones are identified. . There is over 3.5 points of “Air Pocket” or profit potential, between FibZone #1 and FibZone #2, which should provide plenty of opportunity if FibZone #1 is violated to the upside. As price trades up, the ADX drops below 20. Price moves up to the zone and pushes through and a possible long entry is made just above 54.52. (Note: a pullback opportunity never occurred as ENZN hits the Air Pocket and our objective of 58.00 all in the same day.) A stop is placed below the previous day's low. This is a wide stop and I would consider moving the stop up to the current day’s low. The objective on the trade is 58.00, which is the bottom of FibZone #2.868 1 aesiem| . There is an Air Pocket of PPProximately 1 point of profit potential between FibZone #1 and FibZone #2 As price trades up, the ADX {irops below 20. Price moves up to the zone and Pushes through and a possible lang entry is made just above 32.34, * A stop is placed below FibZone #1 around 31.50, * Once again, price jumps through the Air Pocket the same day that it pushes through FibZone #1. I find Many of the powerful Air Pocket movee occur then there are one or more high points that have tested the upper level of FibZone #1 prior to the actual bar in which the FibZone is violated. These high points make the top of our MibZone even more critical and when vio- Jated, explosive opportunity.172 Chapter 10 (5) (2) | Support Fibzone #1 f @ | \ Momentum Support | (3) AirPocket fede Faia | il Opportunity (2) | Support Fibzone #2 Rules For Shorts (Buys Are Reversed): 1 Price has established a high point where the 14-period ADX is greater than 20. This is where we calculate Fibonacci price support levels using retracements, extensions, projections, and expansions. ‘After calculating Fibonacci price support levels, two Support FibZones are identified, There must be a tradable gap “Air Pocket” between the two zones where no Fibonacci price support levels exist. Price trades down to FibZone #1 as the 14-period ADX crosses below 20. At this point there are two possible entry options. the trader could enter immediately upon violation of the zone. Second, the trader could wait for a small pullback to test the zone that was just broken, then look to short. Consider three stop placement areas based on the current day being the day price violates FibZone #1: a) current bar high; b) previous bar high; c) highest price level in FibZone #1, Objective on this trade is down to Support FibZone #2.Air Pockets 173 Reversal Air Pockets: Short » Price establishes a swing high point where the 14-period ADX is above 20. At this point we calculate Fibonacci price support levels, Two Support FibZones are identified, . There is an Air Pocket of pPProximately 70 cents of profit potential between FibZone #1 and FibZone #2 | As price trades down, the ADX drops below 20. Price moves down to the FibZone and pushes through and a Possible short entry is made just below 54.61 A stop is placed above the previous bar high around 55.75, » Price drops like a stone through our Air Pocket the same day that it pushes through FibZone #1. I find many of the Powerful Air Pocket moves occur then there are one or more low points thet have tested the lower levels of ~—r—t. Objective on this trade is down to Support FibZone #2.Air Pockets 183 (6) Continuation Air Pockets (CAPS): Short 1 Price establishes a swing low point where the 14-period ADX is above 20, This just means there is at least a moderately strong trend in place. Instead of calculating Fibonacci price resistance levels, wait for a swing high to be completed. Now, let's calculate Fibonacci price support levels using retracements, extensions, projections, and expansions. There are over 27 points of “Air Pocket” between FibZone #1 and FibZone #2, which should provide a very nice opportunity if FibZone #1 is violated to the downside. As price trades back down from point (2), the ADX drops below 20. Price moves down and through FibZone #1 and a possible short entry is made just below 70.73. A stop is placed just above $74, which is the previous bar's high. ‘These are the nice juicy setups. The same day this short is triggered, we have closed out the position for a possible 2.7 point gain.SS el 184 Chapter 10 Re oS | @ = Mi "y fy ye? in _ft cova A Ore SS i a) (4) 50 198 fo Continuation Air Pockets (CAPS): Short 1. Price establishes a swing low point where the 14-period ADX is above 20. This just means there is at least a moderately strong trend in place. Instead of calculating Fibonacci price resistance levels, wait for a swing high to be completed. Now, let's calculate Fibonacci price support levels using retracements, extensions, projections, and expansions. There are over 1.7 points of “Air Pocket” between FibZone #1 and FibZone #2, which should provide a short opportunity if FibZone #1 is violated to the downside. ‘As price trades back down from point (2), the ADX drops below 20. Price moves down and through FibZone #1 and a possible short entry is made just below 46.35, A stop is placed around $49, which is the previous bar's high. This strategy is more powerful when there has been a previous test of FibZone #1, as seen above. By testing the zone prior to violating, it gives more reason for sell off upon violation. Same day profit of 1.7 points.a Air Pockets 185 Continuation Air Pockets (CAPS): Short 1. Price establishes a swing low point where the 14-period ADX is above 20. This just means there is at least a moderately strong trend in place. 2. Instead of calculating Fibonacci price resistance levels, wait for a swing high to be completed. Now, let's calculate Fibonacci price support levels using retracements, extensions, projections, and expansions. 3. There are over 1.4 points of “Air Pocket” between FibZone #1 and FibZone #2, which should provide a short opportunity if FibZone #1 is violated to the downside. 4. As price trades back down from point (2), the ADX drops below 20. Price moves down and through FibZone #1 and a possible short entry is made just below 52.28. 5. A stop is placed just above $54, which is the previous bar's high. 6. Two days later the potential to take 1.7 points of profits off the table is avail- able.SS 186 Chapter 10 STRATEGY Q&A Question: Why use the ADX with these Air Pockets? Answer: First of all, its good to understand the different readings of the ADX. I have learned to look at the ADX this way: O45 Non-trending market 16-20 New trend gaining strength 21-40 Trend strength in full swing >40 Extreme levels of strength likely to reverse down soon So, I chose to use 20 as my focus ADX number. An Air Pocket mixed with a reading that has crossed from above 20 to below 20 signifies a reversal that might be in the works. At the least, the chart will be in non-trending mode. So, with this under- standing of the ADX and price violating a FibZone at the same time creates nice Re- versal Air Pockets (RAPS). Now, to completely focus on reversal trading is probably a loser’s game. You need an arsenal of tools that will help you find trend continua- tion trades, The Continuation Air Pockets (CAPS) are perfect for this. As an ADX es- tablishes itself above the 20 level then falls slightly below it, it is creating a little “trap,” in my opinion. See, the trend may be taking its time and resting for a while along the way. That puts traders to sleep. So, when you have a trend in place and a little ADX trap (above/below 20 shake out) then price action resumes its trend, it can create powerful trading opportunities. Bottom line: ADX is a great filter for Air Pocket setups. Question: Do any price levels have to be deleted to create an Air Pocket? ‘Answer: Yes. If you remember a FibZone is only valid if there are three price levels coming together in a relatively tight range. So, if there are two FibZones nicely de- fined and between those two FibZones sits one Fibonacci price level all by itself, 1 will delete that price level and a clear Air Pocket will be identified. Even if two price levels are floating between FibZones I will delete them. Why? Because we need three. Three is the magic number for a FibZone. Question: What time frame(s) work best with this strategy? “Answer: The lowest I will go is a 60-minute chart and the highest is a weekly chart My sweet spot is the daily time frame. It creates Air Pockets anywhere between 1 and 10 points, while anything below 60 typically creates pennies of Air Pocket op- portunity.-__OO Air Pockets 187 Question: You mention that there are thee places to consider placing stops; (in the case {ong setup) below the current bar low (the bar triggered into the long trade), below the previ- ous bar low, or below FibZone #1. How do I know which one to use? Answer Stop placement involves thinking through a couple of things, First, identify ing how much of the Air Pocket profit potential is between FibZone #1 andi FibZone e—rti—‘“ e—st—r™—rs—SsSCs_:C—==_-_—s—=— the Air Pocket only presents the potential for 1 point of profit, by placing my stop be- low the previous bar low I will expose myself to 3 points of risk. Consistently putting myself in trades like this is a loser’s game. So, the placement of the stop must be ighter to perhaps the current day’s low. The other way to ‘o adjust the number of shares you are trading to account the trade. Knowing how many shares to trade is a fune- tion of knowing how much capital in your trading account can be at risk on each trade. That “per trade risk amount” is then divided by the number of points of risk in the trade you are considering. The result is the number of shares to wade with the trade setup you are looking at. Question: Do you ever continue to hold these positions beyond the objective of FibZone #2? Answer: Depending upon position size, I have at times taken half of my position off at FibZone #2 and moved my stop to breakeven on the rest. This definitely keeps yu in fhe Bame in the situation that price continues to move in your direction I also think this kind of money management works best when trading CAPS, because you are trading WITH the current trend.SECTION III IT BOILS DOWN TO PROPER EXECUTION—_——————————— ss A temptation that many Fibonacci tra ders succumb to is to enter a trade when a Fibonacci strategy merely indicates the Possibility of a tradable move. That is not proper cxecution. To trade Fibonacci successfully and gain consistent results, you must meke sure that you observe price action that confirms that a tradable move is occurring. Then ane only then, can you enter a trade. In this chapter, the topic of entering trades will be ous main focus and I will teach you the best entry methods that I have forind. The best approach that I have found for entering trades is to do the following after you have identified a trading setup: Find a trigger pattern in a lower time frame. For example, if a setup is occurring on a daily chart, or 30-minute chart to look for triggers. Twill drill down to a 60-minute What Chart Time Frame Should I Be Looking For a Trigger? Setup Occurs Look for triggers on Weekly Daily and 60-minute chart Daily 60- and 30-minute chart 30 13- and 8-minute chart 13 5-minute chart Trigger Patterns That I Use Now that we've established the time frames to look at to be triggered into trades, let's look at the types of triggers I use. Trigger list: 1. Candlesticks Doji Morning Doji Star Evening Doji Star Morning Star Evening Star Shooting Star Bearish 3 Method Bullish 3 Method Hanging ManLL 194 Chapter 11 Tweezer Bottoms ‘Tweezer Tops Bearish Engulfing, Bullish Engulfing In addition to Candlesticks, I also use more complex patterns on lower time frames after identifying a potential trade on a higher time frame. Some of these patterns will sound familiar because they are trading strategies that I taught you in earlier chapters. However, they are highly useful as entry triggers in lower time frames. I will give you clear illustrations of this concept later in this chapter. 2, Two-Step Patterns Symmetrical TSP Gartley TSP Butterfly TSP 3. Old School Patterns: Double Top Double Bottom Head & Shoulders Reverse Head & Shouldersa Entry Patterns: How To Enter The Trade 195 MY FAVORITE CANDLESTICK ENTRY PATTERNS Introduction Japanese rice traders developed candlesticks centuries ago to visually display price activity over a defined trading period. Each candlestick represents the trading activ- ity for one period. The lines of a candlestick represent the open, high, low and close for that particular period. The main body (the wide part) of the candlestick represents the range between the opening and closing price. If the closing price is greater than the opening price, the main body is white. If the closing price is less than the opening price the main body is black. The lines coming out of each end represent the highest high and lowest low of that particular period and are commonly referred to as wicks, shadows, or tails. ‘One can use candlestick patterns as a trigger to enter a trade on the same time frame the setup occurs, or drill down to the appropriate time frame mentioned on the pre- vious page, based on the time frame of the setup. HIGH HIGH OPEN CLOSE CLOSE: ‘OPEN Low Low Now, let’s run through the basic candlestick patterns I look for to trigger me into a trade.196 Chapter 11 Entry Patterns Below are graphic representations of each candlestick pattern I look for: |" Bearish 3 Method: A long black body followed by a few small bodies and ending in another long black body. The small bodies are usually contained within the first black body’s range. This is a bearish continuation pattern. , Bullish 3 Method: A long white body followed by a few small bodies and ending in another long white body. The small bodies are usually contained within the first white body’s range. This is a bullish continuation pattern.rr Entry Patterns: How To Enter The Trade 197 Doji: The open and close are the same so no “body” exists on this candle. This can- dle assumes longer-term significance the longer the vertical lines above and/or be- low the open and close horizontal line. Typically the doji between buyers and sellers and a high likelihood for reversal stick is complete. Bearish Engulfing: A small white body followed by and contained within a larger dark body candlestick. This is a top reversal pattern and typically leads to an initia- tion of a sell off. represents indecision -xists after this candle- ‘ Bullish Engulfing: A small dark body followed by and contained within a larger white body candlestick. This is a bottom reversal pattern and typically leads to an initiation of a rally.198 Chapter 11 Evening Star: a large white body followed by a small body that gaps above the white body. The third candlestick is a black body that closes 50% or more into the white body. This is a top reversing pattern f Morning Star: a large dark body followed by a small body that gaps below the dark body. The third candlestick is a white body that closes 50% or more into the dark body. This is a bottom reversing pattern. Hanging Man: Small body near the high with a long lower tail with little or no up- per tail. This is a bearish pattern during an uptrend.Entry Patterns: How To Enter The Trade 199 Shooting Star: A candlestick with a small body at or around the low with a long up- per tail and little or no lower tail. This is a bearish pattern in an uptrend. + Morning Doji Star: A large dark body followed by a doji that gaps down below the black candle. The next candlestick is a white candle that closes at least 50% into the dark candle. This is a bottom reversing pattern. 1 'y followed by a doji that gaps up above the a dark candle that closes at least 50% into the Evening Doji Star: A large white bod white candle. The next candlestick is white candle, This is a top reversing pattern.200 Chapter 11 li ‘Tweezer Bottom: Two candlesticks with matching bottoms. Ideally, the first candle is a dark candle and the close is at the low, and the second candle is a white candle with the open at the low. This typically represents a short-term low at the least. Oh : These are two or more candles with similar tops. Ideally, the first can- dle is a white candle and the close is at or near the high. The second candlestick opens at the high and typically has a higher tail and either a dark or white body be- low it. This typically represents a short-term top, at the least—_—_—_—_—_—_—_—_—_—_ Entry Patlerns: How To Enter The Trade 201 The candlestick patterns I've shown you speak volumes about market sentiment and shifts in supply and demand of a particular stock, commodity, or futures contract. I believe candlestick-pattern recognition and Fibonacci price analysis is unrivaled in their combined accuracy to define high-probability trading opportunities, There are countless software programs available that can scan for candlestick pattems of the entire universe of publicly traded securities in seconds, and kick out results of all the charts that possess any one of the candlestick patterns I've mentioned in this chapter: My favorite book on this subject is Candlestick Charting Explained by Gregory Morris, if you would like further information on this subject, Now, let me put these triggers together with trading setups and show you how they are used. The best way to apply the trigger patterns I've shown you involves identi- fying a setup on a certain time frame, and then drilling down to a lower time frame to look for either a candlestick entry pattern by itself or one of the following more complex patterns Double Tops & Bottoms Head & Shoulders/Reverse Head & Shoulders Gartley TSP Butterfly TSP Symmetrical TSP Shark Attack A couple of warnings here: 1. If you are looking at a weekly chart setup, remember to only drill down one or two time frames below the weekly chart to look for triggers. Otherwise, if You start trying to look for triggers on a S-minute chart for that weekly chart setup, you will likely get whipsawed out of your position quite often. So use the timetable guide mentioned earlier as a reference when looking for trig- gers. 2. Always be aware of at least one time frame higher than your setup. Higher time frames ALWAYS carry more significance and weight on price move- ment. So, if you have a bearish setup on a 30-minute chart and you ate look- ing for triggers to go short on, say, a 13-minute chart, stop looking for triggers until you have confirmed the larger picture is not setting up in the opposite direction. Always, alunys, alioays be aware of the higher time frame.— ee —— 202 Chapter 11 Examples of Triggers on Lower Time Frames Below we have a daily chart of EBAY. The stock had been in the midst of a signifi- cant sell off for a few weeks as it was approaching one of our Support FibZones. It was also completing a Bullish Butterfly TSP into this FibZone. So, when a stock is moving like a freight train to the downside, we want some kind of confirmation of a reversal to the upside. So, I pull out the microscope and drill down into price activ- ity on lower time frames around the area of pattern completion and around our FibZone. fen 7-Oct- 2002 51,700 62.294 80,224 50,640 4 LET'S DRILL DOWN TO A 13. [s2.000 MINUTE CHART AND LOOK AT THIS AREA OF PRICE ACTIVITY FORA TRIGGER — [co.000 ts9.000 lse.000 bse.co0 fs2.000 ts0,000 SF ie ie ino ears ep oie Lee.000 CC rrt—t—“—Ce——CS chart crested by Dynan Trader (€) 1996-200——————————— Entry Patterns: How To Enter The Trade 203 70 50,750 50,230 0.650 00 50.287 Ret 1.272 weezer Bottom & Bullish Engulfing Pattern ‘Oa7m m ‘Chart created by Dynamic Trader (c) 1996-2001 B. There are two triggers on this 13-minute chart of EBAY. A. A Shark Attack Pattem labeled 1, 2, 3. Remember this is where price extends to 1.272 or 1.618 of swing 1:2. In fact, at the 1.272 extension of this pattern on the 13-minute chart, EBAY puts in a Tweezer Bottom and Bullish Engulfing Candlestick Pattern. The combination of these two triggers gives me the confidence to take a long trade. The completion of one or both of these patterns would serve as a legitimate trigger to take the long trade in EBAY.SUE EN 204 = Chapter 11 After seeing two great triggers develop on lower time frames, a long trade is en- tered and the stock trades up over 14 points in 13 trading sessions. Partial profits would have been taken between the .50 and .618 retracement of Swing C:D. Once those profits were booked, I would trail my stop up to at least breakeven. Then my final objective on the trade is up at the 1.272 to 1.618 extension of swing C:D. 56.770 Ret 1618 62281 Ret 1.272 Ss.544Ret 0.618 55.337 Ret 0.500 50.960 Ret 1.272 50:43 Ret 1:88 49.367 Ret 1618 333380 App ‘in00 8.415 Ep 0.618 50.224, 0.000 02 Bh Se'B 2 7 Oc we 2 N Chart created by Dynamic Trader (c) 1996-2001ed Entry Patterns: How To Enter The Trade 205 Below we have a 30-minute chart of AFFX. It was in the midst of a decent-size rally. However, it was also completing a Shark Attack Pattern on this time frame into a Resistance FibZone. With a trend to the upside in place, and a bearish reversal pat- tem unfolding, I wanted to wait for a trigger on a lower time frame to take me into a short trade. So, once again, I pull out the microscope and drill down into price ac- tivity on lower time frames around the area of pattern completion and around our FibZone. farrx30T [é-Nov-02 Wed 141 27.893 App 0818 27.752 Ret 1618 Bee Ret BRSRR LET’S DRILL DOWN TO A 13 MINUTE CHART AND LOOK AT THIS AREA OF PRICE ACTIVITY FOR A TRIGGER. i ow m (Chart created by Dynamic Trader (c) 1996-2001——— LS 206 Chapter 11 ‘Once AFFX went up into our FibZone, I pulled up a 13-minute chart and started looking for reasons to take a short trade. There was a combination of four candle- sticks on this time frame that caused me to pull the trigger. See below. ZiT 27 550_27.600_0.820 e924, 371850, 0.000 Banos Ber ¥ Doji _ 27.900 \ Hanging Man 27.800 | iy 27.700 27.600 ‘Two follow through bars l7.s00 ‘Gar ae Ba? B50 Chart created by Dynamic Trader (c) 1996-2001 After the candlesticks triggered us in, AFFX does not make a new high and it trades down over 6% the next day, or 1.75 points.—— Entry Patterns: How To Enter The Trade 207 TO REVIEW _ —— a = a or - 3. 27893 App 0.618 BSR 500 ! 7 po il : L 2 dare 2% 400, 1.750 Te e ow 7 "oF ‘Chart created by Dynamic Trader (c) 1996-2001 to * We found a possible pattern setup on a 30-minute chart * Drill down one or two time frames lower for a trigger. A trigger can be any of the candlesticks or other pattems we mentioned in this book. * Once the trigger/pattern completes on the lower time frame, enter the trade.aE SU 208 = Chapter 11 On June 19, 2002, LPNT is completing a Bearish Gartley TSP Pattern. If you are not interested in taking the simple trigger, which is entering on a trade below the previ- ous bar’s low after pattern completion, we were able to drill down to a 60- minute chart and identify some reversal candlestick patterns. | A \ wl “ * aea70 Y y iy © — res ep 0618 wy 41.625 Rot 1618 — 41101 Ret 0.766 20m 2000 1.000 f4o.000 lso.c00 2.000 7.000 ls.000CHAPTER 12 RISK MANAGEMENT: IDENTIFYING AND MANAGING THE KEY AREAS OF RISK CONTROLNow that I have taught you my best Fibonacci trading strategies, I want to do every- thing I can to help you get the most benefit from them, For each of the trading strategies I have taught you in this book, I have provided you with trade management techniques to keep potential losses under control. But strategy and money management are only two ingredients that are necessary for long-term success in trading the financial markets. No matter how well you understand the step-by-step process of applying these strategies and managing the trades, this knowledge will only benefit you if you have the discipline to execute the strategies properly. That is what most people have the greatest degree of difficulty with. WHY IS PROPER EXECUTION SO DIFFICULT? Thave seen many people come into this business who have been successful in other walks of life, like doctors, engineers, attorneys, etc. The success these people have achieved in their previous careers was largely attributed to their ability to perfect their skills. Unfortunately, they quickly discover that there is no method of trading that allows you to become 100% accurate or “perfect.” This simple fact drives peo- ple out of this business. When someone has a string of two or three losses, they feel defeated and either blame the losses on themselves or redirect that feeling of failure to the system being used. Once this happens, they start to second-guess their strategy or change the rules, Soon their losses pile up and the pain becomes so intolerable that they give up. I maintain that the weakness that people have is that they direct their innate desire for perfection to the wrong aspects of trading. * The common tendency is to focus on perfect performance in the form of a high percentage of winning to losing trades. Fortunately, I believe there is a way to turn that weakness into a strength. To become a successful trader, you can still aim for perfection. Here's how: * Rather than focusing on perfect outcomes for every trade, you must instead focus on perfect execution of every trade. That is, when you have a viable trading method, you must be completely committed ‘0 executing its prescribed steps together with trade management, perfectly. Only byLS 214 Chapter 12 repeating this process over and over again and never deviating from it, do you have a solid foundation for success This is not easy to do, at least initially. ‘The reason is that the process of trading tends to stir up deep emotions that seri- ously wreak havoc to one’s decision-making ability. This where psychology comes into play. In order to trade successfully, you must have a framework for executing each of the rules of your trading strategy that does not allow your emotions to impact the process. Controlling your emotions is a broad topic that I am not an expert on. But 1 know from first-hand experience that it is critical to executing each trade properly. In terms of learning how to control your emotions while trading, I'll leave that to the experts. T recommend you read Trading In The Zone by Mark Douglas. It is a requirement for anyone that I mentor in trading. The other book that I have found extremely valu- able in this area is The Tao Of Trading by Robert Koppel. Now, we have covered strategy, execution, money management and psychology. Restating these factors in a different way, the formula for success in trading is: Strategy + Execution + Money Management + Proper Psychology Trading Success I could write an entire book on the topic of this formula. But since that is not the main purpose of this book, I will instead give you the knowledge that I consider to be the starting point for trading success. CONTROLLING RISK EXPOSURE If you want to become a successful trader, the best starting point is to master your ability to control risk. With every strategy that I have taught you in this book, Ihave included money management rules. All of the examples I took you through, employ the use of stops and trailing stops. But managing individual trades is only one aspect of risk control. I have found that there are many other risk variables, and the more awareness and control that you have over them, the better your trading performance will be. Thave built a checklist to walk through every night as I prepare for the next trading day.rr Risk Management—Identify and Managing The Key Areas of Risk Control. 215 ctional Exposure: How many long trades and how many short trades do you have in Play right now? Are you overweighted in a certain direction based on the current position of the overall market? 2. Sector Exposure: Of the positions you have, is there any one sector in which you are overweighted? If you have three trades in your account and they are all long semiconductor stocks, you are not doing a good job of control- ling risk, 3. Position Size: Are you only risking a maximum of 2% to 3% of your equity in one trade? Be sure to think and plan this one through very carefully. 2% to 3% works for my account size. However, a different level of risk per trade may be more appropriate for you. 4. News Exposure: Are you avoiding being exposed to news (such as earnings announce- ments) that may have negative or unpredictable effects on any trade that you are in? 5. Pattern Exposure: Are you overexposed to one particular trading pattern? Let me explain this further. What happens a few times a year is that the entire market forms the same pattern. You look at the indices and, for example, they are forming a Bullish Gartley TSP pattern on a daily chart. Well, as I do my nightly homework, I find 30 stocks with Bullish Gartleys. How many do I take? My answer to this is one. In situations like this where the entire market is setting up with the same pattern, I trade a market proxy like the ETFs or index futures. Inexperienced traders would see these patterns as tons of opportunity and lots of profit potential, and consistently lose. The trader who consistently wins sees this as a major risk. The winning trader thinks, “What if this pattern fails and I'm long all these daily Bullish Gartley patterns?” The pattern can be a high per- centage trade, but if the market breaks down and the pattern fails on the index level, guess what? It is highly likely that all 30 of those other patterns fail as well. In reality that is only one failed pattern. Bottom line: Be smart in allocating among various types of patternsdeen EE 216 6. 7. Do not get me wrong here. The goal of trading is to attain high absolute posi Chapter 12 Time Frame Exposure: | get asked this question often as well, “What time frame do you trade in?” Well, the answer to that is monthly, weekly, daily, 60-minute, and 30-minute charts. Personally, I think it is extremely unhealthy to have all trades based on one time frame. Mix it up, and have longer term trades and shorter-term trades in the account. This is a great diversifier and personally it keeps me sharp and aware of what the markets are looking like on these different time frames. Analyzing multiple time frames of a security is like watching a story unfold or even watching a well-choreographed dance. These different time frames are interrelated and have an action/reaction relationship. Total Portfolio Risk: This is straight forward. If all your positions were stopped out today, how much of a hit would it be to your account? If your answer is more than 20%-25%, I would caution you to rethink the total portfolio risk exposure. Bad things happen to extremely talented traders. This is something you can control! turns annually (at least that’s my goal). To do this and attack it with intensity, you must first identify and manage risk. Once it is identified and boundaries are in place, be aggressive, take charge and expect to succeed. Iwill leave you with a few of my favorite “mental” quotes as they have significant meaning to our business of trading as well as life: 1 2 3. 6 “Your mind is a sacred enclosure into which nothing harmful can enter ex- cept by your permission.” ~ Ralph Waldo Emerson “The less I think, the better I will do.” - David Lansburgh , . Being in control of the mind means that literally anything that happens can be a source of joy . ..” - Mihaly Csikszentmihalyi exercise unrelenting discipline over your thought patterns. Cultivate only productive attitudes . .. You are the product of everything you put into your body and mind.” - I Ching “The greatest efforts . . . come when the mind is as still as a glass lake.” — Timothy Gallway “Let the market, not your ego, make the decisions.” - Ed ToppelRisk Management—Identfy and Managing The Key Areas of Risk Control 217 rositive emotional state leads to optimum trading performance.” ~ Robert Koppel And here are my favorite quotes from Mark Douglas: * “Trying to avoid something that is unavoidable will have disastrous ef- fects on your ability to trade successfully.” * “The best traders aren’t afraid.” * “Ninety-Five percent of the trading errors . . . stem from your attitudes about being wrong, losing money, missing out, and leaving money on the table,” +“... there are no limits to the market's behavior.” * “Market analysis * “Even though the outcome of each individual pattern is random, the outcome of a series of patterns is consistent (statistically reliable), This is a Paradox, but one that is easily resolved with a disciplined, organized, and consistent approach.” is not the path to consistent results.” * “Attitude produces better overall results than analysis or technique.” * “Losing and being wrong are inevitable realities of trading.” * “It does not do you any good to take the risk of putting on a trade if You are afraid of the consequences, because your fears will act on your Perception of information and your behavior in a way that will cause You to create the very experience you fear the most, the one you are try- ing to avoid.” * “Each trade is simply an edge with a probable outcome, and statistically independent of every other trade. If you believe otherwise, then I can see why you're afraid; but I can assure you that your fears are com. pletely unfounded.” * “One of your basic objectives as a trader is to perceive the opportunities available, not the threat of pain.” * “If you asked me to distill trading down to its simplest form, I would say that it is a pattern recognition numbers game. We use market analy- sis to identify the patterns, define risk, and determine when to take Profits. The trade either works or it doesn’t. In any case, we move on to the next trade. It’s that simple, but it’s certainly not easy. In fact, trading is probably the hardest thing you'll ever attempt to be successful at”el 218 Chapter 12 CLOSING THOUGHTS Thope you have enjoyed reading and learning about the many facets of trading with Fibonacci. It was my goal to give you an in-depth exposure to Fibonacci time and price analysis and to enable you to calculate Support and Resistance FibZones. With that base knowledge of creating FibZones, it was my goal to equip you with high-probability strategies using these FibZones. Finally, I wanted to stress the part of trading that doesn’t involve strategy. So much of trading success has nothing to do with strategy and all to do with money management and mental approach. Finally, I believe a trader can walk away with one or two of these strategies and when incorporated into “The Formula” for success, will achieve solid results. Thave officially passed on to you an “edge” in the market place. Now it’s up to you to decide what to do with it. Derrik Hobbs