In Rule # 7 we will continue with more trade management concepts. In Rule # 6 we looked at the first concept; planning your return to be a multiple of your risk. The next concept is the rotational nature of the markets. Knowing when to participate and when it’s better to wait is a crucial element in the disciplined trader’s toolbox.

“Trade when your analysis, your system and your strategy say that you have a buy or sell to execute. If the market doesn’t have a clear direction, then wait on the sidelines until it does. Keep your mind on the market, but keep your money out of it.”   Lewis Borsellino

Challenge # 7 – What should I be looking for to take a position and why wait?

Lewis tells us the reason for trading futures is volatility! Volatility is a trader’s paradise, higher or lower doesn’t matter, its movement we crave. Traders last week, like most weeks, had to be nimble and willing to change their bias on a dime. The patience to wait for an opportunity to setup and then take decisive action when that opportunity is presented is a critical skill for a trader. Of course I wondered what sport required that combination of quiet observation followed by explosive action; that ability to quiet internal noise, to watch and feel for that precise moment to participate… so they can join in seamlessly.  Surfers sit on their boards watching, feeling the movement of the water… they feel the energy build, they count time between swells and at the right moment they launch and pace their paddling to catch the lip of the wave for the perfect position to ride the barrel. Late… and they miss the crest, early… and the wave can fold over them. My surfing research revealed the perfect description given by an obviously talented surfer talking about his experience. Listen to this ”technical” description of his performance. ***

Solution # 7 – Understand and identify market movement before entering a trade.

The same way the surfer smacks the lip… the trader needs to time his entry to ride the barrel or get pitted! How many times have you entered long on an uptrend day only to get stopped out? The market moves in patterns, specifically the 4 stage market process of accumulation, markup, distribution and decline… and it happens on all time frames. Whether it is the long time-frame seasonal tendency or the micro time-frame 610 tick chart, we can see that pattern constantly repeated. The disciplined trader uses these patterns of movement to his advantage.

Trading wave patterns can best be expressed as rotations that vary in intensity and duration at any given moment depending upon the participants. On a day-trading basis, traders use rotations to help them surf the trend or bracket balance.

Lewis tells you if you have a trade, execute. If not, wait. You can’t ride the barrel if there’s no wave action, you have to wait… yet be prepared for action. Let’s look at an example from a recent day when the market moved up 13.5 points after a MOM buy alert was given. Notice the up rotations, the down rotations and the point swings shown in the blue boxes. We can see the market moved from 1910 to 1923.50 but did so by auctioning back and forth, moving with greater intensity and duration on the upswings, the downswings shallow by comparison, illustrating a directional move. During the course of the day, as shown on the 3 minute chart, the market went through accumulation, markup, distribution and decline several times before reaching the destination, making it very easy to lose money going in the direction of the trend if your entries were not timed to be with the wave. If you jump in long at the high of the swing… you will… get pitted!

Resources – Registration for a free 5 day trial for Inside Edge software can be found here. This beautiful and extremely helpful software, in addition to the 6 different types of charts available from the profile to the footprint, allows you to do a look-back over a user specified period of time to determine average rotations by time-frame!

The surfer checks the weather channel before heading out the door so he knows if today’s weather is conducive to his kind of surfing. The trader checks the VIX for a measure of implied volatility.

Here’s a great info-graphic – Understanding Market Structure