Each month, EWI's Futures Junctures Service editor Jeffrey Kennedy gives subscribers actionable trading lessons in the "Trader's Classroom" section of Monthly Futures Junctures.
Below is an excerpt from the new November Monthly Futures Junctures where Jeffrey illustrates how you can spot a bar pattern trade setup and use it to your advantage.
Finding the one thing that works – Gap Reversal
Years ago, I went through what I call the "discovery phase" of my career when I constantly came up with observations about price action and market timing, including some that were extremely esoteric. My discovery phase came to an abrupt end when a good friend gave me this piece of advice: "All you need is one thing that works."
You don't need a dozen technical indicators when you truly know how to use one good one.
In this month's Trader's Classroom, I would like to share with you the one thing that works for me: a bar pattern trade setup called a Gap Reversal.
How Do You Apply It?
Whenever I showed that same friend a new technical indicator that I thought was brilliant, he would often say, "That's nice, but can you make money with it?" I now use this advice as an acid test for all my work. No matter how cool, insightful or brilliant I think something might be, if I can't trade it, I won't use it.
Before we look at a few price charts to see how gap reversals work, let’s go over how to spot one. A price gap forms when the trading range of a price bar is either above or below the trading range of the previous price bar, the result of which is a horizontal space between the two price bars. To close the price gap, prices must trade back above or below the prior price bar’s close. A Gap Reversal occurs when prices attempt to close the gap but clearly fail.
Chart 1 illustrates an example of a bearish gap reversal. Notice that the price bar labeled 2 on the price chart of Deutsche Bank Power Shares Agriculture Fund (Ticker Symbol: DBA) opened well below the low of price bar 1 and that these two trading ranges do not overlap. Next, notice that prices gap up the following day in price bar 3 but that the close is well below the open of the day. This is the attempt to close the price gap that clearly fails.
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(The latest Monthly Futures Junctures was published Friday, November 18)
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