FAQ- Terminology & Setups

Frequently Asked Questions-revised

What is a Bull/Bear Flag?

These patterns are taken directly from classical charting (Schabacker, Edwards & Magee, etc.) Flags are a continuation pattern in a trending market. They are found on all time frames, all markets, and offer one of the better risk reward ratios for trade setups. A flag formation should be preceded by a “pole” or initial momentum move in the direction of the trend. The ensuing consolidation tends to be relatively shallow. Continuation patterns are much shorter than reversal patterns. The longer a “flag” goes sideways, the greater the odds that it will turn into a reversal pattern as opposed to leading to a new leg in the direction of the trend. Be careful looking for flags after the market has tested the top of a  trading range or vice versa.

What is a “Grail” Trade?

The “Holy Grail” trade was originally described in the Street Smarts book. The setup occurs when the market’s trend has been strong enough to cause a 14-period ADX to rise above 30. When the price then retraces back to the 20-period EMA, odds favor a retest of the most recently formed high or low.

What is an “Anti” Setup?

The Anti looks like a small bull or bear flag pattern that occurs either in the middle of a trading range or just after a market has reversed from a sustained trend move. Classic bull or bear flags are continuation patterns that can only occur in a market that has a well-defined trend. Sometimes an Anti will look like the middle retracement of an A-B-C pattern. Thus, we are able to get a measured move objective that is based off the prior swing. The Anti MUST be preceded by a short-term IMPULSE move. Buy Antis are more frequent than Sell Anti setups. The long trades will have the best odds of success if the prior up leg is GREATER than the previous down leg. Oscillator pattern recognition based on either the 3/10 oscillator or a 7-period %K, 16-period /%D combination of stochastics can also be used to identify this setup.

What is Momentum Pinball?

Momentum Pinball was originally introduced in the Street Smarts book as setup to indicate a Buy Day or a Sell Short Day ala George Douglas Taylor. Taylor looked to go short after 1-2 days of rally, and cover and go long after 1-2 days of decline. The pinball indicator is calculated by using a 3-period RSI of the daily net change. The “Street Smarts” book contains a complete and detailed description of this trade.  Long trades are only taken when the price is above the 20 period EMA and vice versa for short trades.

(Momentum Pinball, Anti, Holy Grail, 80/20 and 90/10 bars, and 2-period ROC signals are some of my ORIGINAL concepts. It is repeatedly brought to my attention that there are individuals on the internet offering newsletters and courses based on my original copy-write protected materials. Please note that I do not have any affiliation or association with these entities.)

What is an “Oops” Trade?

“Oops” is an expression originally coined by Larry Williams. The setup occurs when the opening price gaps outside the previous day’s range. A buy (or sell) stop is placed just inside the previous day’s range in case the market then closes the gap, indicating a reversal. The trade is best treated as a scalp trade and exited before the close. This pattern has no long-term forecasting value.

What are the main indicators you use on your charts?

We use the same indicators on all markets, all time frames. We use a 20-period EMA (exponential moving average) and a price oscillator. The oscillator that we use is the difference between a 3 and 10 period simple moving average, with a 16-period simple moving average of the 3/10. We also use Keltner Channels based on a 2.5 ATR centered around the 20-period EMA. Keep in mind that indicators are just a crutch to tell you what is already there on bar charts. A stochastic or other directional oscillator can be used as well.

What is the “Breakout Mode”?

We use a “breakout” mode strategy when the market has had some form of range contraction. A trend day, or large range expansion day, often follows periods of range contraction, or small average daily ranges. When we are in breakout mode, we use strategies to enter in the direction the market is moving, instead of waiting for a reaction in the price. One of the key factors of breakout mode is to keep an open mind that the market can break out in either direction.

How do you measure market breadth, put call ratio, and volume?

Market breadth is monitored by looking at the number of advancing issues minus the number of declining issues on the NYSE. Put/Call data is provided by the individual exchanges. We look at the equity only put call ratios, in addition to the index put call volume ratios We look at the volume on the NYSE and compare it to readings made at the same time on previous days.

What time frames do you look at?

Our initial nightly analysis is always done off the daily and weekly time frames. During the trading day, we use 15, 30, 60, 120 and 240-minute charts. For the SP futures, 5-minute charts are also helpful. I tend to watch the “last price.” Often, the last price is slightly ahead of the update on the bar chart.  It is also easier for me to monitor multiple markets and market internals simultaneously when looking at a quote board instead of charts.

Please define TICK and VIX.

TICK: This is the net change of all NYSE stocks on an uptick minus all NYSE stocks on a downtick. Plus or minus 1200 tends to be an extreme reading.  in a trending market environment extreme in the ticks can be used as a momentum indicator indicating further price movement to come in the direction of the trend.  However, when the market is in consolidation mode, after it has already had a big move, ticks will mark the ends of the short term swings up and down.
VIX: This is the Volatility Index that is based on the implied volatility of the at the money puts and calls

Most real time data feeds transmit these indicators. Ticks are not an exchange transmitted piece of data so the actual tick reading can vary from one charting platform to another. However, different data feeds may use different symbols. If you have any questions regarding symbol code, please contact your data vendor directly.

What is a “Z” Day?

A “Z day” is a consolidation day that often follows a trend day. The morning period is characterized by a testing back and forth in the price action. We use a different set of trade strategies on these days than we do on other days.   One of our favorite trades is the Bollinger band trade.  See Bollinger band explanation in the FAQ

What is an NR7 day?

An NR7 is a day in which the today’s daily range (today’s high price minus low price) is narrower than the previous six days. The significance of this pattern is that it represents a marked decline in price volatility. Range expansion and an increase in price volatility tend to follow an NR7 day. An NR4 day is similar to an NR7 day except that it represents a day in which the range is the narrower than the previous three days.

Toby Crabel originally presented the concepts of NR4, NR7, WR7 etc., in his Market Analytics Letter written in the 1980’s. We give credit to him for initiating research in this area. His original articles were published in the magazine, Technical Analysis of Stocks and Commodities.

What is a WR7 day?

A WR7 is a day in which the today’s daily range (today’s high price minus low price) is wider than the range of the previous 6 days. The significance of this pattern is that it represents an expansion in price volatility. A trader can often buy or sell a test of the WR7 day’s high or low, on the following day for a scalp trade.

What is the 2-period ROC?

The 2 period Rate-of-Change is today’s close minus the close two days ago. For example, to get Friday’s 2-period ROC, you would subtract Wednesday’s close from Friday’s close. The 2-period ROC is useful in highlighting a two to three-day trading cycle as explained in the Taylor Trading Technique. Raw momentum is the only derivative of price that we have found to offer statistically significant results in our quantitative research. Our results with this indicator have proven to be durable and robust across all markets.

What is Average True Range (ATR)?

The Average True Range (“ATR”) was introduced by Welles Wilder in his book, New Concepts in Technical Trading Systems. ATR is a measure of volatility, and it is a component of the ADX indicator. ATR is calculated by finding the greatest value of:

  1. The distance from today’s high to today’s low.
    2. The distance from yesterday’s close to today’s high.
    3. The distance from yesterday’s close to today’s low.

The main difference between ATR and the plain ‘daily range’ is that ATR takes into account gaps.

What is a divergence?

A divergence occurs when a momentum indicator or other instrument fails to confirm a move in the price action of the market under observation. For instance, if the SP futures makes a new low in price, but the 3/10 oscillator fails to make a new momentum low, then the SP is said to be diverging from the oscillator. Likewise, if the SP futures make a new low that is not confirmed by new lows in a related market or index (for example the SP versus the Dow Industrials, or the SP versus the TICK), this is also considered a form of divergence. Divergences are useful in that they warn of a loss of momentum and often precede a reversal in price.

What are Keltner Channels?

Keltner Channels are a form of trading bands plotted directly on top of a price chart, as opposed to beneath the price chart as in the case of an oscillator or volume. The bands are based on an ATR function centered around a moving average. We use a value of 2.5 ATRs added to and subtracted from a 20-period exponential moving average to create our bands.

What is the difference between Keltner Channels and Bollinger Bands?

Bollinger Bands are based on a standard deviation function. Very often, you will see times where the market is moving HIGHER but the lower Bollinger band is declining. This does not happen with Keltner channels. Though both are based on a volatility functions, Keltner Channels will maintain a more constant width than Bollinger Bands and thus we find them more pleasing to our eye. We also have had much better success in using range functions in our quantitative modeling as opposed to standard deviation functions, especially when creating short-term timing systems.

Bollinger Band trades

we use 2 standard deviation bands centered around a 20-period moving average to make trades on the day following a trend day.  we do these trades in the morning session only.  the concept behind this is that a push to the upper or lower band will setup a countertrend trade.  the objective is a push back to the moving average.  no stops were used in our testing, we just used an exit of whenever the trade hit the moving average or end of day in the worse possible scenario.

What is A-B-C?

A-B-C is a term borrowed from Elliot Wave terminology that denotes a three-wave corrective pattern that is often found in the middle of a trend. Waves A, B and C are often of the same magnitude in both price and time, and the pattern tends to have the appearance of a zigzag.

What are the parameters for the 3/10 oscillator?

To construct this oscillator, first subtract a 10-period simple moving average from a 3-period simple moving average. We often refer to this as the “fast line.” Next, create a 16-period simple moving average of the “fast line” – we refer to this line as the “slow line.” It is also useful to plot a horizontal line at the zero value. We plot all three lines together on our charts beneath the price.  For some indicators, such as the 3/10 oscillator, we provide subscribers with downloadable TradeStation code files.

What is an EMA?

When we refer to the EMA, we will always be referring to a 20-period exponential moving average. This line can be thought of as a proxy for a “regression to the mean” in a trending market. It has little value in a trading range market. Unlike a simple moving average, which takes the average price of the last ‘X’ periods, the EMA method takes a weighted average of the most recent price and the average price from the bar before.

What size stops do you use?

In general, we use an initial stop of 5 points in the SP futures unless specified otherwise. For scalp trades in the SPs, we use a 3-point stop. In the domestic futures markets, we use a fixed $500 stop per contract unless specified otherwise. If there is an unusual expansion in volatility, we will use wider stops and lower our leverage. Stops should be tightened up as a market moves off in your favor.

In stocks, we recommend using stops to limit losses to no more than 2% of your working capital.

Stops can vary with the market volatility.  We try to limit initial risk to a maximum of $500 per contract.  In some futures markets when the range is greater, this can be higher and often with the Eminis, a stop of 4 points can be reasonable.

How do you enter positions?

In determining whether to use market, limit or resting stop orders to pull us into a trade, we assess the liquidity conditions and the type of market environment (i.e., trending, choppy, etc.) Each trader must ultimately find their OWN style that works best for them over time.

What are the BO levels on your trade sheet?

These are the parameters for a proprietary volatility breakout system that we trade during certain periods. A buy is triggered on a break above the upper number and short is triggered on break below the lower number.

What is a “Pivot Point”?

This can be a previous swing high or low, or visible chart point such as the high or low of a gap area. Globex highs and lows, along with the previous day’s high and low are all forms of “Pivot Points.” We do not use Fibonacci numbers or arbitrary calculations. We are interested in levels that ALL market participants are aware of, as would be the case with a key high or low.

What are the Red Green Red patterns on the bar charts that you post?

This color rule is based off an average true range function added or subtracted from the previous swing high or low. It is a variation of the parabolic stop and reverse formula published by Welles Wilder in his book, New Concepts in Technical Trading Systems. We find that it provides useful pattern recognition in highlighting the short-term swings on a bar chart.

General Trading Related Questions

Tick Charts vs. Time Interval

on most software applications a 5000 tick chart of the SPs would be equivalent to a 5 minute chart.  and a 16000 tick chart is similar to a 15 min time frame.  We prefer to use these type of tick charts in the early morning session since they adjust the globex trading relative to the activity level.  Day session only charts on a 5 min interval can have large gaps on the opening, making indicators relatively useless for the first hour. However,  5 min charts on a 24 hours basis tend to be distorted.

What is “relative strength” and “relative weakness” that we talk about?

Simply put, a stock or sector that exhibits relative strength is performing better than a related index, such as the SP500 or Nasdaq. Relative weakness would be a sector or stock that is under-performing a benchmark index. With commodities, the relative strength leader is the one that is performing the best on the day. The early morning relative strength leaders usually continue to perform the best throughout the day.

How do you watch so many markets?

The majority of the time, we watch a quote board which gives us last price instead of watching charts on each individual market. This way we can monitor numerous price levels in addition to various market indexes and market internals. If we want to look at the charts on a particular market, we pull up a screen that has the 30, 60 and 120-minute time frames. The SP’s and occasionally the bonds are usually the only markets where we will look at charts on a shorter time frame. Positions in most other markets are entered with the intent of carrying a winning position over night.

Why do you look at so many stocks?

Stocks that are market leaders can often turn before the stock index futures do. This is particularly true of the high beta ‘momentum’ stocks. Monitoring individual sectors and relative strength can add valuable information regarding the overall technical condition of the market. We limit our database to only the top 250 trading stocks.

I want to join your service. What do I have to know about the stock market?

Though prior knowledge and experience are not strictly required, it is important that you understand that trading involves risk. Our online trading service is educational in nature and will be of best value to you if you can monitor the markets real time.

I still have another job. Can I trade part time?

Yes. You decide on the pace of your learning. You might start out part-time and decide later on whether this could be the start of a new career for you. Remember that the time and energy you put into learning will pay off down the road. However, we have yet to come across a trader able to consistently support themselves by trading part time. Ultimately trading is a full-time job, and many people new to the business are often surprised by the long hours professional traders devote to their study of the markets.

How many trades do we make each day?

There is no normal day, and the number of trades varies with the volatility of the stocks and futures contracts that we are trading. However, we find it better to be patient and wait for a few well thought out high probability trade setups, than to settle for marginal trades. We find that when traders start overtrading, they get sloppy and make mistakes.

How long does it take to learn to trade successfully?

In our experience, the average length of time it takes for a person to be able to trade with the consistency and confidence necessary to make a decent living is 3-5 years minimum. Some people are never able to do this, as they are unable to master the mental side of the game. A few people have been able to find their niche quickly and show consistent profitability after just 6 months. This is the exception though.

What are the most important things a day trader needs to succeed?