5 Essentials of Price Action Trading

A fellow trader, TraderCisco (his Twitter handle), suggested I write a post on price action trading – also known as “tape reading”.

The term “tape reading” comes from the old ticker tape containing real-time stock prices that used to stream endlessly onto the floor of physical stock exchanges in the early days. This was before the electronic ticker that you now see everywhere from the one hanging above the Big Board’s floor, to television and the mighty NASDAQ market site in Times Square. Traders back in the day used to read this strip of paper streaming out of a ticker tape machine (as pictured in this post’s feature image on my blog’s homepage). Ticker tape now is used to throw around during big VIP parades in New York City along the Canyon of Heroes…dealing with the mess afterwards is a different story.

Obviously, the days of reading stock prices on a narrow piece of paper being spit out by a machine is over. But reading prices, tape reading, lives on in its modern form via Level II screens and/or charts. For the purpose of my post, I will focus on chart reading since true Level II doesn’t exist in the FX markets (FX is a decentralized market with no single order book) and FX is what I trade. Here are what I would consider the five essentials of tape reading with charts:…

Psychoanalyze This, Now Show Me the Money

I was emailing a friend on the topic of trading approaches and eventually described how I use charts. I’m a pure technical trader studying just price action – basically no technical indicators. This is something I touched on in an earlier post you can read here.

More importantly though, the basis for how I approach interpreting price action is rooted in psychology – the human psychology of the traders who collectively cause the price action.

When traders of a more fundamental school of thought scoff at the idea of being able to make trading decisions on charts alone, I’m put off by just how close-minded they are. For years we have seen traders successfully create wealth by just using charts or by relying heavily on charts as part of their overall trading plan. Clearly, there must be something to it. And just because these nay-sayers or doubters can’t get charts to work for them it doesn’t mean it doesn’t work.

Charts are nothing more, in my opinion, than psychology in-action and playing out in a graphical form on your screen. It shows the motives of the “players” – are they net buying or selling. At which price levels have they shown no interest in bidding up or offering out anymore. Or conversely, which price levels have they shown tremendous interest…

Behind the Closed Doors of FX Market Makers

Probably one of the best write-ups I’ve seen in a long time describing how retail FX market making works can be accessed here. The article was written by Javier Paz, President of Forex Datasource.

If you ever wondered how how retail FX market makers (like FXCM, GFT, Gain/Forex.com, etc.) make prices and fill trades, this article says it all. I’ve heard a lot of crap over the years from amateurs or those new to trading the FX market who have interesting stories about how market makers screwed their trades. Though it’s possible for a market maker (particularly of a Dealing Desk model – see article for explanation) to routinely “screw” their clients, it’s very unlikely to not possible with external execution (No-Dealing-Desk) models.

The sad truth behind who’s to blame behind so many, “I got screwed by XYZ market maker…

Trading News Events Without Losing Your Shirt

So how do veteran traders consistently make money when trading news events? They don’t.

A study was done by a good acquaintance of mine (a well-known FX market analyst who appears regularly on CNBC) to determine how often the market actually moves in the direction expected based on whether or not the news (financial data) turned out to be good or bad for the market. Interestingly, but not surprising, the market only moves as expected 50% of the time relative to the actual resulting news release. That means, that no matter how hard you try to analyze which way financial data releases (like the big NFP – Non-farm Payrolls) will push the market you will only have a coin-flip chance of being right. Are you willing to bet your hard-earned money on a coin-flip during some of the most dangerous moments in the market? I’d hope not.

Even though traders like myself don’t necessarily trade the news event, we will trade before a news event and hold positions through the event or be flat and not trade until several minutes after the event. So our job is not to…

90% Of You Are Doomed To Fail

If you could start you own business with $100,000 that would potentially give you exponential revenue return without having to necessarily work harder or longer hours wouldn’t that be great? Of course, a business opportunity like this would require you to learn the ropes about the industry and how to run a business. And unless you already have direct experience in the industry you’ll need to roll-up your sleeves and put quite a bit of work in at least in the early months to make sure you don’t make too many costly mistakes that might ruin the business. But you will be your own boss and have tremendous earnings potential providing for a very comfortable life if you can grow the business. I think a lot of people would jump at this opportunity if they had the money to try. Wouldn’t you?

What if I told you that in the United States the failure rate of those starting their own small business (any form – home-based, brick & mortar, online, etc.) is an alarming 90% within the first-year of starting? Yes, this is the same statistic cited for those who begin trading for the first time as well. Meaning, that the high failure rate of new traders has nothing to do with the financial markets or trading as an activity itself. It has everything to do with the kind of planning, execution and careful focused effort people put into running their own small business.

My guess is if you put up $100,000 to start your own business in the above example you’d be sure you put in every waking moment to learn-the-ropes and work incredibly hard to avoid making costly mistakes by putting in serious time to make sure you had the proper foundation for making the business a success. The problem is that most people who begin trading for the first time do not look at trading as a business and treat it as something more like a hobby or see it as “easy money”. You are trading against some of the best minds on the planet…the best that money can buy at all the top banks, brokerages and hedge funds. Would you step into the ring with a professional boxer and fight him after having read a few books on boxing and hitting a heavy bag for a few months? Most would laugh and say, “of course not…”

Warning: These Are Not Trading Strategies

This is some of the most inaccurate novice stuff I’ve ever seen in my trading life. It’s just plain wrong.

A trading strategy is a plan that dictates when and why you’d be getting into and out of a trade. A real strategy includes money management rules and based on the strategy you’ll be able to tell when it’s working and when it starts to break down.

The items noted in the outlandish post above are…

Trading – The Best Technical Indicator

I wasn’t entirely sure that I was going to be blogging about trading again in some way with my new blog. But since some of you have continued to email questions on FX trading (you’re all clearly obsessed) I guess I’ll go ahead and start a small segment on trading. Keeping in mind that I’m a pure technical (chartist) trader and that my views on trading will always be relative to how I trade the FX market.

Probably one of the most common questions that I get a lot is, “What indicators do you use?”. Let’s put this one to bed…