WEEKLY SPOTLIGHT

Pat Barham

Power Trading - Overcoming Market Intimidation

By Pat Barham, TradeTheSystem.com


Trading.  What an interesting subject.   Almost everything is traded and at some time in your life you most likely have traded something. Even at early ages, did you ever trade your peanut butter and jelly sandwich for a ham sandwich in grade school?   How about your time for a new TV.   A product you made for money.  Your money for something that you live in, drive, sleep on, or eat.  It’s all trading.

The difference is what you are attempting to accomplish with your trading.  Often times the item that we are trading has a set price you can purchase the item for without an attempt to obtain a better price.  You have an idea what you are willing to pay to become the owner of an item or a price that you are willing to accept if you are the seller of the item.  Trading, we all do it at some time in our life. 

So what makes trading financial instruments different?  Why do so many peoples turn tail and run when someone mentions that they trade commodities or stocks?   Could it be because of the lack of understanding?   In most cases, that is exactly why people react the way they do when discussing trading.  For many the first question out of their mouth is, “Isn’t that risky”?  To answer that question, I often ask a question back to them; “Name me something that doesn’t have risk associated with it”?  We insure many of our possessions with insurance to do what?  Eliminate risk.  The risk is controlled by the amount of risk that you are willing to assume.  The insurance company is controlling their risk with the cost of premium.  Both sides have risk and to formalize the risk it is finalized with a contract.   Very similar to stock, options and futures in the financial markets.

If you trade in the financial market you also take on risk to achieve a desired result.  It is a little more complicated than going down to the local farmer’s market and haggling for a basket of apples. In an auction market, price is changing constantly.  What is driving price change?  Supply and demand, weather, political unrest, media driven assumptions from someone that has never traded a financial instrument in their life. 

How would you feel if the next time you went grocery shopping, the butcher was in the back holding up a T-Bone steak with an auctioneer standing next to him shouting out the price that those in the crowd were willing to pay for the steak?  Would you feel intimidated?  You would if that was your first time to purchase steak in an auction environment. 

So, what would be the solution to overcoming the intimidation?  Would it be education, experience, boldness or becoming a student of the market?  How would you determine when to shop for your auction market steak?  When is the market the most active?  What day of the week would be most advantageous to purchase T-Bone steak?  Hopefully all of the above would be a factor when you are trading not only for the steak but for anything.  That holds true for the financial markets.  In the next few pages we will explain a trading method that use every day in our live trading room.  A method that has helped many traders achieve their desired results in their quest to become full time profitable traders.  We call it Power Trading.

TTS POWER TRADING

Let’s start with a probing question.  Do you have a “go-to” systematic approach for entries and exits in the market?  What do you use to gain the upper hand when it comes to trading? Do you have a fighting chance to make a profit in your next trade in the equity, option or commodity market, in Apple or Cattle, Facebook or Gold, the E-Mini Dow or Treasury Bonds?  It makes no difference what you trade.  You need a go to approach as much as a baseball pitcher needs a go to pitch, a power pitch when the game is on the line.

I have been trading financial markets for over 30 years, and I am in a constant education mode to learn more about the markets.  A day-to-day exploration for a way to improve my trading and help me develop a well-defined idea of what direction a futures contract or stock will move or where the next trend change will take place.  I call this my POWER TRADE, a trade that I can go to every day and have an edge in my daily trading, an edge that will provide a better than average opportunity to reach my first profit target and reduce or eliminate any further risk of loss.  Does it work every time?  No.  In thirty plus years of trading I have never, nor do I expect to see an indicator that will work without fail but I do have confidence that my POWER TRADE setup will position me with an entry and provide staying power through market fluctuations.   This is where the POWER LINE INDICATOR, my go to indicator, helps me gain that winning edge. 

TTS POWER LINES

Over the last 10 to 12 years I have been working with an indicator that has improved my entries and exits in the markets I trade.  I use it as my so called power pitch.  We have named it the TTS Power Line.   Good entries in a trades are required if you expect to take consistent daily profits out of the market and the key word is consistent.  You have to develop a consistency if you expect to progress as a profitable trader.  The Power Line is one of the best employees I have in my trading business.  I treat indicators as employees.  If they are productive they stay, if they are not productive they get the ax.  Fired!

So, what is the TTS Power Line?

MARCH E-MINI DOW (YM) WITH TTS POWER LINES

The TTS Power Line is a dynamic channel in which price travels.  Its slope and width constantly change and provide visual targets for price flow throughout the day.  The channel has an upper and lower extreme along with a center line that price will tend to travel.  During time of extreme volume and/or volatility price will move to either the upper or lower extreme or beyond and signal opportunities for entries or exits in the market.   Relatively flat Power Lines is often an indication that prices have obtained balance in an auction market and as long as volume is not producing an extreme, price is likely to remain range bound.  A simple trade would be to buy the lower Power Line extreme and sell the upper Power Line extreme.  When do you stop buying or selling the extreme?  A simplified answer is when it stops working.  Remember nothing works 100% of the time. As you see in the chart above the 60-minute chart of the e-mini Dow is perfect example each extreme.  

If the Power Line is sloping up, take only long positions buying near or outside the bottom Power Line and exiting near the upper Power Line.  If the Power Line sloping down, take only short positions near or outside the upper Power Line and exit near the lower Power Line.                                                                                                 

The Power Line indicator will work on all time frames and tick charts.  I even use them on Point and Figure Charts. 

1 Minute April 2016 Gold - Upward Sloping Power Line

Next, we will go into more detail about the TTS Power Indicators we have with our companion indicator the TTS Power Band and how we use statistics in trading.

Importance of Statistics in Power Trading

Although it does not take a rocket scientist to make a living as a trader, it sure does help to use the probabilities and some basic statistical principles to give your trades a better chance at consistently profitable entries. Knowing when the market is a little overbought or oversold is not enough. In order to really take advantage of price inefficiencies traders must take their analysis to the next level. This next level consists of understanding normal price distributions and standard deviations.

In statistics, the standard deviation (SD, also represented by the Greek letter sigma σ or s) is a measure that is used to quantify the amount of variation or dispersion of a set of data values. -Wikipedia

 

First, let's take a look at what a normal price distribution looks like.

The image above is referred to as a bell curve or normal distribution curve. The moves from one end to the other along are broken into standard deviations. Each SD has its own probabilities associated with how often price reaches these levels. A 1SD is considered normal and +- 1SD  contains more than 65% of all price moves. However, once the market trades at or above 2SD at  any given time, an interesting situation presents itself.

Another concept called mean reversion  becomes more likely than a continuation of the move. Mean reversion in simple terms just means coming back to the normal (or average) price.

Mean Reversion - A theory suggesting that prices and returns eventually move back toward the mean or average. This mean or average can be the historical average of the price or return or another relevant average such as the growth in the economy  or the average return of an industry. – Investopedia

Some people would refer to this as "coming back to reality" when a person's mind starts to wander or daydream. No matter what you call it or how you choose to understand the concept, traders look at the situation as an opportunity to profit. The professional trader tends to seek out opportunities that paralyzes amateur or beginnings traders. So the euphoria or panic that leads to these statistically significant moves outside 2 SD provide great advantages to those who have studied how price acts outside these levels.

Now that we have introduced some basic concepts and more importantly outlined why a basic understanding of statistics can help traders develop and edge. Let's layout the game plan which puts the theory to practical use in your trading plan.

TTS Power Bands

Another key concept to successful trading has to do with the mindset a trader approaches the market with each trading session. The term “trader psychology” is a catch all term that covers a broad spectrum of behaviors. I will only attempt to touch on this subject in terms of fixing a couple key problems traders face. A majority of our new client issues fall into 3 broad categories.

1. Unsure of exactly when to enter a trade
2. Not knowing when to take profits (or stop themselves out of a losing trade) 
3. Knowing when to avoid the markets all together (Flat IS a position)

We have built upon the indicators available to help traders with these problems. One of these tools, the TTS Power Bands helps with the psychological part of the trading plan.

Being able to view the statistical levels we referenced earlier on a chart and understand where these levels were from an historical perspective, provides the trader with a way to reduce fear and greed. But more importantly, the historical view of these levels allows a trader to look back and determine exactly how to act when the markets trade above or below these levels in the future.

Having a plan that has been put together based on historical probabilities and research keeps the trader from making emotional decisions based on how much that trader is currently making or losing on a particular trade. One of my mentors used to say to me "You never get smarter after entering a trade". This advice is never more important than when we are in a trade contemplating moving a stop or adding to a losing position.

They say a picture is worth a thousand words. So look at the figure below and we can put all the above theory on trader psychology into an actual real life chart.

Take a look at how price acts when approaching key statistical levels. The first point of interest shows price approaching and exceeding -2 standard deviations (4) but not quite getting to -3 SD (5) The prepared trader understands that between these two levels an opportunity to enter the market with a long position has a greater chance of success than going short at these levels.

Notice how a few bars go by and the market reverses and heads back to the mean line (3). The same situation occurs when the market rallies to the upside. Once between +2SD (2) and +3SD (1) the move runs out of momentum, thus providing an edge for the trader to short the market for an anticipated move back to the mean (C).

This is just one example of how seeing these statistical levels can assist a trader in developing a trading plan. This visual representation is extremely important when a trader is building a belief in their setup. Having this information will allow the trader to take their analysis to the next level and zero in on low risk entries at inflection points other traders are panicking and making irrational decisions based on fear.

The next time you trade think about the quality of your entry and the setup you are using to enter the trade.  Is the quality of your entry helping you produce consistent profits or is the quality of your entry keeping you in a constant state of frustration?   Come join us and trade with Power.

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ABOUT THE AUTHOR

Pat Barham

Pat Barham has been actively trading futures and equities for over 30 years. Through the years of trading, Pat has seen much change in the markets. From paper chart books that he filled in by hand every day to computers that do it all for you. From slow hand written order entry systems and even slower fill reporting, to electronic entries and fills in a split second.

He has also had the opportunity to trade almost every futures contract and learned many years ago that to react to something is seldom good, but to respond is preferable. In trading, the responders are the ones that have the longevity in the markets!