Trading plan: Trading Range day

Since most trading days are trading range days, its essential to have a plan to trade them well. Identifying a trading range day is a lot easier: If its not a trend day, it's very likely to be a trading range day. Rather than go with the default, I use a simpler heuristic. After the first two up and down moves (including any gaps), if you are back where you started from, its likely to be a trading range day. For example, today the first move up was the gap and the bull trend bar b1 and the second move down was b8. At this point, you are back where you started, so this is likely to be a trading range day with b1-b8 as the opening range.

   On a trading range day, the first few bars are likely to have a lot of overlaps and tails, preventing a clear signal bar. One way around this is to trade a smaller timeframe such as the 3m chart as shown here. The entries are mid-bar on the 5m chart and do not really make much sense but are much clearer on the 3m chart. Once the first hour or so is complete, you should no longer look at the 3m chart since the setups there are likely to be of lower probability of success.

Trading range days often have two legged moves in each direction followed by two legged moves in another without really moving too far from the range. Most swing entries are likely to fail and your breakeven stop is likely to be hit. So a valid plan is to take every two legged move and exit on the second push. For example, if you sold 3m b2 on the chart shown to the left, you would exit when the second push ended either on strength at the close of 3m b9 or when a bar ticks beyond a prior bar (above 3m b14).

However, I avoid trading this way, simply because I prefer larger moves. A viable plan is to buy near the low of the range and sell near the high of the range. Simply stated, trade the failed breakouts of the range and try to hold it till the other end of the range is tested. So for example, the 5m b32 gave a failed breakout of the HOD b1. The right approach is to short this and try to hold it till b9 low is tested.

To constrain yourself to truly taking trades only near the ends of the trading range, divide the opening range into three parts and mark out the central part. Take only buy signals below it and sell signals above it. Hold it till the price crosses to the other side (b27) or attempts to bounce back a second time (b50). Ignore all entries that would take place in the center. This should allow you to swing even on a trading range day and avoid most of the choppy entries. When a new lod or hod (b30) extends the range, adjust your box accordingly.

Using this system, you would have only taken the long above b17 and the shorts below b32 and b56. These also happen to be the best swingable trades today. Note that this may not work on TTR days, when the range of the day is 5 points or less. TTR days are best not traded at all, since any trade is low probability.

Just as you stop trading trends when the trend terminates into a trading range, you need to stop trading a range when it breaks into a trend. Take the first plausible pullback and ride the new trend and avoid trying to insist it to turn back into the trading range.

Along with the Trading plan: Trend days, you have 90% of the days covered. The remaining trends are hard trends, soft trends, Spike and channel and TTRs. Recognizing these and trading them correctly is the key to successful trading.

Trading plan: Trend day

Trading on trend days is relatively easy and trading only on trend days and sitting on the sidelines on the rest of the days is a viable trading plan. The only issue is that trend days occur infrequently (about 20% of trading days) but on sharp moves on the daily chart, trend days can occur a lot more.

The first step is to identify a trend day. Overall there are some common attributes but these do not automatically guarantee a trend day.

• A large gap (beyond the range of the prior day) and a large opening bar that widens the gap
• A large gap that fails to close in a 2 or 3 legged move
• A small gap that reverses the high, low or close of prior day
• A small gap that moves to ema and reverses
• First 3 or 4 bars make a trend move

In all the above, you can simply take the 1st pullback and swing for the rest of the day. The 1st reversal (b5 or b6) and the 1st pullback (b9) are often very poor bars so a conservative trader may simply wait for the first 2 legged pullback. On many days this means missing a large portion of the AM move but a 2L pb is far easier to enter.

The main thing to watch out for in a 2 legged pullback is the quality of the signal bar. Often the first signal bar is a trap. For example b24 was an outside bar and b33 was a doji. b47 had a tail on the entry side, was away from the ema and was strongly overlapped by prior bars. In such cases, you should simply wait for the next signal. You will know your entry is correct when your signal bar is strong (b37) and after it closes, the breakeven stop at your entry price will not be hit.

You should always be on the watch for possible trend terminations such as a double top, W (b75), TTR or a trendline break. After this point, there may be no more A2s.

Once you can trade trend days adding trading range days is easier. On the setup chart most setups are in trend moves. In trading ranges there are basically only breakouts and failed breakouts and those take a lot more experience to trade profitably. You can be a profitable trader without ever trading trading ranges if you are able to sit out on 80% days.

Large inside day

A small inside day would normally be a poor day but given today had a 40+ point range, riding a couple of swings can be fruitful. The trick on days such as these is to recognize a failed breakout and exit and possibly reverse off it.

The right move on the AM trade was to reverse long off the fBO on b20 and reverse short again off b60. The trouble with trading swings on trading range days is that a trader needs to develop flexibility regarding possible fBO. If I had correctly read b60 as a fBO signal, I would have reversed short instead of finding reasons to go long all the way down.

Risks and rewards of extreme volatility

As expected, today was also an extremely volatile day and I was forced to trade on a 20K volume chart. So a lot of the entries were mid-bar and may not make complete sense on the 5m chart. Rather than omit the non-standard and experimental trades, I have included them all here in the hope that it will be more educational than distracting.

Let me briefly discuss the non-standard trades today. The long on b1 was a possible 1Rev near ema and led to a 3 point loss. The G entry above b43 and 44 are not my standard trade but I expected a 2 legged move up to possibly a new high of the day. The G2 at b51 did not trigger on the 5m but triggered on the volume chart. The price action was so volatile that the short on b54 and b59 were simply mistakes caused by bars printing too fast. The BO at b76 was after assurance of low probability of pullback after taking out hod. Most of these trades looked reasonable on the volume chart and that's the flip side of using a chart that reduces your risk, it usually also reduces the probability of success. When the bars are printing quickly on the volume chart, its hard to look back at the 5m chart to verify before making entires.

The biggest mistake was flattening my long position from b64 near the low of b67 instead of letting it take me out at b/e. This made me miss out on 40 points of the move up.

Technically speaking, I could probably just ignore the fact that bars are the size of a weekly move and trade them just like any other bar with 18 point stops and have my normal success rate, but its very hard for me at this point and I'd rather take a few more small losses to get a defined smaller risk and a chance to swing for a big move.

Bear rallies

Often the strongest bullish moves occur as failed breakouts in strong bears. Moves such as b1-2, b14-21 and b60-70 look very strong but end up as failed breakouts.

b2 failed as a 1 bar bull move, b21 failed as an A2 and b71 failed as a gap bar. On a very wide range day such as this, its possible to swing a good distance even counter to the main trend. However, a swing with the main trend would have obviously fared much better.

When in a strong bear always watch out for a failed breakout. You an minimize your counter-trend position exposure by taking only 2 legged pullbacks. For example, b67 would be a 2 legged pullback after a possible reversal.

Other options on wide range days

On days when many bars are the size of a normal day, I look to other options than the five minute chart for trading. I have used 1 minute chart, 4500 tick chart and recently, 20K and 10K volume chart. The 1 minute chart has the advantage of a fixed time before the print of the next bar but often gives poor signals, especially reversal signals. Tick charts have lost some of their relevance since the exchanges changed how they reported tick data and are now similar to volume charts. Although I do not have sufficient experience with any of these, I prefer volume charts slightly over the other two because of fewer bad signals. Today's entries have been off 10K and 20K volume charts and the markers on the charts represent the canonical entries rather than actual entries. (To some extent this is true of every day).

The advantage of volume charts and tick charts is that you can adjust the count to whatever gives you a bar size that you deem acceptable risk. The disadvantage is that bars can print very quickly. During b5 today, some bars on the 4500t and 20K volume chart printed in under a minute, so you have very little time to act and the pressure may force errors.

The second option is to actually trade options on the underlying -- SPY in this case. Option positions do not move as quickly with the underlying as futures do and are best used for swinging positions over a few days, but on large days like today, they become very viable. I personally only trade options after the day has proven to be a large day and shows the signs of a strong reversal. If the close is strong (unlike today where it pulled back before closing) its often a good idea to carry it to the next day except on Fridays since the option loses 2 extra days of time value.

Day full of large bars

When bars are large, your risk is large and although in proportion to each other the bars may look reasonable, your monetary risk is larger per contract so you need to adapt by reducing size. The other thing you need to do is to only take trades where the risk of pullback is low.

A2 on trend days when correctly entered, tend to have low adverse movement (b49, b69). Even though b69 was 4.25 points, its adverse movement was only 1.25 points. Other low pullback setups are W1P and G2.

Its best to avoid setups with large pullback possibilities such as inside bar reversal (b29) and two bar reversals (b10,11).

Trending dojis

Trending dojis (b35-41, b61-66) are mini-trends. They are small trend moves on a smaller timeframe and a large trend bar on a larger timeframe. When you see trending dojis, the right thing to do is enter with the trend on a pullback bar.

Obviously, most traders did exactly that since the low of b43 and b68 were bought without hesitation for an excellent run each. If you are queasy about buying the close of a bear trend bar on limit, its perfectly fine to wait and see of the next bar is bullish and buy its close or above its high if its not too large.

Inside bar after breakout bar

After a breakout in a direction, there is usually an attempt by the traders in the opposite direction to make a stand. This could result in a reversal bar, an inside bar or a small bar depending on the strength of the traders trying to fade the breakout.

A reversal bar after breakout usually implies a failure of the breakout and the failure is a decent with-trend signal by itself but is enhanced by being near a barrier such as ema (b59) or near a trendline (b36) or being a breakout test and so on.

A trend bar, especially a small trend bar after a breakout (b18) represents success of the breakout and may be entered with-trend if the bar size is small enough to represent moderate risk (around 2 points for normal day).

An inside bar after a breakout (b39, b51,b74,b76) represents a pullback and a possible failure and can be bracketed to trade either way. If both the breakout bar and the inside bar are bearish, its generally a good idea to take the trade only with-trend. If the inside bar after a bear bar is the bullish, it can be bracketed.

Small bars

Small trend bars are very important signals and you should pay close attention to them. In a strong trend, a small trend bar is a with trend signal. These are often visible right after a breakout bar(b6 after b5 and b62 after b61), and should be always taken since the following bar is often a large bar (b7) or is followed by a large move (b63-67). Such small bars are safe to short at LOD or buy at HOD.

A small trend entry bar off a strong signal pattern indicate weakness (b10,b41) unless followed by more trend bars in which case its a sign of strength.

The first counter-trend bar in a channel can be entered with trend on its close if the close is strong (b39 close), since it will be viewed merely as a pullback.