ebook forex - top dog foundations course 1 by randiwibowo6

VIEWS: 76 PAGES: 53

									    By Dr. Barry Burns

1
FOUNDATIONS TRADING COURSE 1: TREND TRADING

Dr. Barry Burns
Copyright 2006
Wealthstyles LP

IMPORTANT-READ CAREFULLY:

Reproduction, translation, or distribution in any form or by any means, or storage in a data base or retrieval system, of any
part of this work beyond that permitted by Section 107 or 108 of the 1976 United States Copyright Act without the
permission of the copyright holder is unlawful. Requests for permission or further information should be directed to:

Wealthstyles LP
1534 N. Moorpark Rd, #222
Thousand Oaks, CA 91360-5129
(805) 491-3541

This publication is sold with the understanding that neither the publisher or author are engaged in rendering legal,
accounting, investment or other professional services. Trading and investing involves substantial risk. Financial loss, even
above the amount invested, is possible and common. Seek the services of a competent professional person before
investing or trading with money.

By accepting this trading course you agree that use of the information of this course is entirely at your own risk. Neither
the author nor the publisher is a registered investment advisor or a broker dealer. You understand and acknowledge that
there is a very high degree of risk involved in trading options, futures and securities. Past results of any individual trader
are not indicative of future returns by that trader, and are not indicative of future returns which may be realized by you.
Neither the author nor publisher assume responsibility or liability for your trading and investment results. This course is
provided for informational and educational purposes only and should not be construed as investment advice. The author
and/or publisher may hold positions in the stocks, futures or industries discussed here. You should not rely solely on this
Information in making any investment. The information in this course should only be used as a starting point for doing
additional independent research in order to allow you to form your own opinion regarding investments and trading
strategies.

It should not be assumed that the information in this manual will result in you being a profitable trader or that it will not
result in losses. Past results are not necessarily indicative of future results. You should never trade with money you
cannot afford to lose.

The information in this product is for educational purposes only and in no way a solicitation of any order to buy or sell. The
author and publisher assume no responsibility for your trading results. There is an extremely high risk in trading.

This course is sold "AS IS," without any implied or express warranty as to its performance or to the results that may be
obtained by using the information.

Factual statements in this course are made as of the date the course was created and are subject to change without
notice.

HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN INHERENT LIMITATIONS. UNLIKE AN
ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING. ALSO,
SINCE THE TRADES HAVE NOT ACTUALLY BEEN EXECUTED, THE RESULTS MAY HAVE UNDER- OR OVER-
COMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY.
SIMULATED TRADING PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED
WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS
LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN.




                                                                2
TABLE OF CONTENTS
What Moves the Market                           4

The 3 Energies                                  7

Cycles                                          15

Multi-Chart Confirmation (2 ½ Trading Styles)   32

Money Management                                41

Appendix                                        44

      Trading Plan Summary                      45

      Frequently Asked Questions                46

      Top Dog Trading Free Resources            50

      Posters                                   51




                                           3
WHAT MOVES THE MARKETS?


Making money in the markets using technical analysis is deceptively difficult. We are attempting to
find clues that will indicate where the market is going in the future so we can get in now and ride it
to the expected destination in the future.

To develop a strategy that will help us determine where the market will be in the future, we need to
first ask: “What moves the markets?”

The answer is simple:

·           People move the market — LOTS of people!

The irony is that even though the masses move the market, approximately 5% of the people make
95% of the money! So market moves are the basis of mass psychology, but the masses lose and
the minority wins. In fact, though the masses move the market, they move it in such a way as to
hurt themselves—to hurt the most people in the worst way possible!

There is no “devil” behind the system causing this to happen. There are two factors that cause this
inequity of redistribution.

The first is simply a natural law of distribution since the market is a zero sum game (minus
commissions, fees, etc.).

The other involves the psychological laws we learn to function with as individuals in the everyday
world, but which are counter-intuitive to the laws of the market.

Most people think they are the exception to the rule, and that they will be among the 5% that make
money. Isn’t that a funny statement? The MAJORITY of people truly feel they are in the MINORITY!

In fact a survey taken recently (not about trading) found that the majority of the people interviewed
did not feel they were exceptional, but the majority did feel they were above average. So well over
50% of the population believes they are in the top 50% of the population. That, as George W. Bush
would say, is “fuzzy math!”

But that simply illustrates the truth of the human mind.

You reading this manual probably feel the same way. Except that you feel you really ARE not one
of the masses … you really CAN avoid the “herd mentality!”

Of course, since MOST people think that about themselves, you are actually like MOST people and
not different after all!

That’s not an insult. There is nothing wrong with thinking like most people. It simply means you’re
human and participate in normal, human thought patterns. However this should serve as an
awakening, and it’s the first step to successful trading. The first step is a humbling of oneself.

Most traders spend years trying to find a tool, an indicator, a chart pattern, a numeric sequence, or
SOMETHING that will make them different from the crowds. But they search in vain because they
are searching outside of themselves and that’s not where the answer lies.


                                                     4
It’s true that eventually you will have to be different than the crowds to make money (since the
majority mathematically can NEVER make money). How you will be different will ultimately be due
to a change in YOU, and it will manifest itself in self-discipline, control, and belief management.

The irony is that when you come to accept that there is nothing special about you that will allow you
to succeed where the masses fail, THEN you actually do become different from the masses!

If you’re new to trading, you won’t be able to fully understand this discussion of trading psychology,
but one day you will!

Now let’s talk about charts and technical analysis.

The movement of the market is the movement of mass psychology. So the “nature” of the markets
is HUMAN NATURE! Therefore:

·           Technical Analysis is the Math of Mass Psychology

Charts are maps of collective human behavior (not to be confused with collective human thought).
Let’s pause at this for a moment. Here is a chart of pure price action. This is what IS in the market
without anything added, just pure price movement:




                                                      5
Study that chart and tell me what it means. Most importantly, tell me where the next 10 bars are
going to plot on the chart!

It is almost like a Rorschach inkblot test where the subject projects his or her personality into the
inkblot. The inkblots/charts are ambiguous, structure-less entities, which are to be given a clear
structure by the interpreter.

This is often how technical analysis functions with the masses.




                                                     6
THE 3 ENERGIES

Our interest in the markets is not primarily to interpret charts to gain insight into ourselves (although
the market will do an excellent job of that anyway!). We have a business objective: to avoid
projecting our own thoughts and ideas onto the chart, and rather analyze them objectively to help
us develop probability scenarios as to where it will go in the future.

To say the markets are LIKE people is inaccurate. Markets ARE people. Charts don’t merely map
people’s thoughts, beliefs, hopes or fears. They are the most honest reflection of human beings
because they map our actual behavior. Nothing gets plotted on a chart because someone thinks
something, holds an opinion, or has a fear. Lines, dots and bars are only plotted when action is
taken and people put their money down.

People are goal-oriented beings. We have goals to make friends, get educated, find mates, start
careers, and be achievers at home, work, sports, etc. This innate goal-orientation is reflected in
charts as TRENDS. When people don’t have goals, they wonder aimless through life and feel
unsatisfied because it’s part of the nature in us—the drive to evolve.

While we’re pursuing a goal, however, there are ups and downs. Sometimes we are moving forward
and other times we feel we are moving backward. This is such a universal human experience that it
has developed into the saying “three steps forward and two steps back.” This dynamic is reflected
in charts as OSCILLATIONS. Even the track star that is sprinting toward the finish line has the
oscillation of his or her own breathing while blitzing toward the finish line.

Other times in life we feel that we are just “standing still.” This can be caused by several factors.
Sometimes we feel uncertain and need to gather more information before we feel confident
choosing a direction and moving ahead. Other times we’ve been pursuing a goal so intensely that
we’re just tired and need a rest. This human trait is reflected in the markets as consolidation. During
these periods, the market is experiencing uncertainty and looking for more information: profit
reports, economic numbers or other news.

Because the market is human, it cannot run at full throttle forever. So the typical market cycle is to
trend and then consolidate, trend and then consolidate, over and over. This is the natural rhythm of
human beings: we work and then we sleep; we breathe in and breathe out; we work and then we
relax; we do business through the week and then take it easy on the weekends.

Also, reflecting our own nature, the market doesn’t follow these oscillations in perfectly measured
cycles. Sometimes we work all day, then skip sleep and work all night too! Likewise, the market has
some trends that don’t end when they are “supposed to.”

On the other hand, sometimes people take long breaks from work. And similarly, the market has
been known to go into prolonged periods of consolidation.

Still, as any cycle analyst can tell you, there are limits to the boundaries of these cycles in the
markets, and there are boundaries to these swings in human behavior also. If we work too much,
we have to rest even longer than we normally do, and if we take too much time off we get “antsy”
and look forward to setting new goals and reestablishing a sense of accomplishment. In the end,
the human being, and therefore also the markets, have an inherent equilibrium that needs to be
maintained for health. Though we constantly stretch that equilibrium to one extreme or the other,
nature always pulls us back toward the balancing point—a point which is never a stopping point in
any live being, whether a human being or a market “being.”


                                                      7
The market as a living, breathing human entity is not an analogy. It is a fact. But let’s look at an
analogy to help us as we begin to look at how we can take a chart that looks like a Rorschach
inkblot test and turn it into something more objective that will help us develop probabilities of future
movement.

Imagine sitting at home in front of your television watching a bus driving down the city streets. The
bus is packed with people (the masses) yelling at the driver trying to tell him which way to go next.
Your job is to predict where the bus is going and type your predictions into a computer a block
before the bus gets there.

Not an easy task!

Is it an impossible task? Almost! But there are some things that could make it easier. Some events
could put the odds on your side … even if just for a moment.

If the bus is speeding down the street at 65 miles per hour, the odds are against it being able to
stop on a dime in the next block. Yes, again it’s possible, but not without needing new tires after the
abrupt halt. It’s pretty safe to say that it would be an exception to the rule and not the driver’s
intention to stop that soon.

Another scenario could be if the driver was stopped at a traffic light in the right lane and has his
right turn signal blinking. This would be a reasonable indicator that the bus is about to turn right, so
you could type into your computer that the bus will turn right here and go at least to the next cross
street.

Of course the bus driver could just go straight anyway (we’ve all been behind some drivers who
have had their turn signals on for blocks without turning), but the odds are with you that when a
person activates their turn signal they will probably turn in the direction of that signal.

Finally, if the driver is crossing an intersection and you can see up ahead that the traffic light at the
next intersection is yellow and about to turn red. You could type into your computer that the bus will
stop at the next light. Will you be correct? The driver could speed right though the red light without
stopping, and that does happen occasionally. But the odds are with you that the bus will stop at the
next light. Even a police car with siren blaring will slow down at red lights.

The most reliable “signals” in the market are these exact same ones.

We look for “speeding” when the market is moving so fast that the sheer momentum would make it
difficult for the market to do anything but keep going to give us TREND and DIRECTION.

We look for “turn signals” which have proven in the past to give us TRIGGERS for the market
changing direction.

We look for “red lights” where the market will most likely stop or at least pause to provide ENTRY
and EXIT levels (support and resistance).

These are the 3 ENERGIES we’ll study in this course:
   1. TREND (primary direction or destination)
   2. CYCLES (temporary turning points)
   3. SUPPORT/RESISTANCE (traffic lights)


                                                      8
What we must avoid is trying to guess if that bus is going to turn or stop when there are no turn
signals, no stoplights, and it is just cruising along slowly. That is a time when it could do anything.
The key to success is to be patient and wait until there are clear, high-probability situations before
we make any commitments.

The fact that the bus driver and the mass of people trying to influence him are all humans as I am,
doesn’t really give me much advantage in somehow knowing what that collective group of people
like me will do block by city block. Likewise, it is nearly impossible to predict how the masses will
influence the direction of the market.

Let’s use this analogy to give you an overview of what you’ll learn in this manual. It is helpful to
have the “big picture” before you move on to learn the details.

We will design a “map” of the markets to give us such signals and improve our probabilities. Our
charts are the maps. We begin with the raw data as seen in the chart below:




                                                      9
Then we add MOVING AVERAGES to show TREND (a “speeding market”). The red line is the 50
Simple Moving Average (SMA). The direction of the slope of the 50 SMA is used to determine trend
existence and direction.




                                                10
The black line is the 15 Exponential Moving Average (EMA). The level of 15 EMA is used to
measure when a retrace is deep enough but not too deep in the trend for the trend to continue.




                                                  11
The next step is to add an OSCILLATOR. This measures the “respiration” of the market, the
swings, the breath, and the ups and downs of the market within the direction of the main trend (or
when the market is consolidating). We’ll use them as the “turning signals” to enter the market in the
direction of the trend after they finish retracing against the trend and then hook back in the direction
of the trend.




                                                     12
Finally, we’ll add SUPPORT/RESISTANCE areas. They will serve as “red lights” telling us where
the market is likely to stop moving and therefore function as profit targets.




Common levels of Support/Resistance are:
     15 EMA
     50 SMA
     100 SMA
     200 SMA
     Previous Cycle High/Low
     Floor Trader Pivots
     Fibonacci Levels


Of the 3 energies discussed, the most important is the trend.

The reason for this is found in the very essence of the market itself—it is the result of the behavior
of the masses.

Even though you are one of the masses simply because you, by nature, have the same thought
habits as most people, there is encouraging news:

There are times when the masses do make money!


                                                    13
The masses make money during TRENDS. That is when making money is “easy,” and why
everyone was a stock expert during the amazing bull market that ended in early 2000. A lot of
people made money during that time because we were in a long trend up, and all you had to do
was buy, buy, buy. Grandmothers, plumbers, housewives, students, financial advisors, cab drivers
… nearly everyone was making money!

But most of those people lost everything they made, and some of them lost more than they made,
after the market reached it’s top in early 2000.

As the famous saying goes: “The trend is your friend … until the end.”

Here’s the secret to making money in the markets: The masses make money in the middle of a
trend, but they lose all the money they made during that time (and often much more) at the
beginning and end of trends.

So how do we use this information?

We develop a strategy to participate in the middle of trends, avoid the beginning and
end of trends, and stay out of non-trending markets entirely.

Although there are other profitable trading strategies, trend trading is often the easiest and safest
for most people to trade.




                                                    14
CYCLES

The price pattern of the basic trend retrace trade is simple:

LONGS:

1. The 50 SMA is angling up
2. Price retraces and holds the 15 EMA as support.

SHORTS:

1. The 50 SMA is angling down
2. Price retraces and holds the 15 EMA as resistance.

There is another important rule. As mentioned above, the easiest place to make money in the
market is in the middle of a trend. Therefore we don’t want to get in too early or too late.

Waiting for the 50 MA to angle up or down helps us avoid getting in too early. The 50 MA is a
lagging indicator, but that is exactly what you want for trend trading because it gets you in only after
a trend has been confirmed, and helps you avoid the problem of getting in too early.

The average trend has 5 legs, or “waves.” This is an average, and therefore some trends will have
more and some will have less. Not being able to predict the future, we play the odds and trade the
average, again, allowing us to participate in the middle of a trend.

This means that we will only trade the first and second retraces of the trend. We define a retrace as
a move back to the area of the 15 EMA.

An up trend is officially defined as a Higher High and a Higher Low. Therefore we count legs each
time the market retraces to the 15 EMA and subsequently makes a Higher High as long as the 50
SMA continues angling up. The video will give you many examples of this.

First let’s look at some examples with just the moving averages and price bars so you become
familiar with the chart pattern before we look at the indicators.




                                                     15
16
A retrace to the 15 EMA is helpful, but not the most accurate way to determine whether a retrace in
the trend will end for a safe entry back in the direction of the trend.

Support/Resistance levels, whether Moving Averages, or other levels, are only traffic lights, but
don’t tell us what the color of the traffic light is!

In other words, they’re warnings, but in order to determine whether support or resistance is going to
hold, we need a tool that measures the ENERGY at those levels. That will show us whether the
market is planning to stop and hold a certain level or not … and whether the light is green, yellow or
red.

The tool we’ll use is the slow stochastic, and we’ll employ it as a Cycle Indicator. We will use this to
actually determine the TIMING of when we want to enter trades instead of a simple retrace to the
15 EMA.

The Stochastic is a oscillator. If you look at the patterns it forms, you’ll see that they look like sine
waves. That’s why we use it to help us find “Waves” or Cycles in the market.

Below is the same chart, but with the stochastic added. In order for us to take a long trade in an up
trend, the Cycle Indicator (Stochastic) must retrace at least to 50 before the down cycle is in the
zone to be completed. Therefore, we actually would not have taken either of the trades listed in the
chart above, and we wouldn’t have had to pass on the last retrace to the 15 EMA.


                                                      17
Using the Stochastic as a Cycle Indicator gives us a clearer picture of the rhythm of the ups and
downs of the market. This is the breathe, the inhale and exhale of the market and gives us an idea
when a retrace in a trend is coming to an end so we can enter back in the direction of the trend.

Throughout the history of trading, exhaustive attempts have been made to find a method for
determining the beginning and ending of cycles. There are endless “proprietary indicators” that
have been created with amazingly sophisticated mathematical formulas. Like everything in trading,
none of the “solutions” are perfect. And like most things in trading, the simple solution is often as
good as, if not better, than the complicated one.

After spending thousands of dollars on very ingenious indicators, I’ve come back to one that is
available on every charting platform: the Slow Stochastic.

In the mathematics of probability, a stochastic process is a random function. It can be applied to
either a region of space (a random field) or a time interval. It is a process that is non-deterministic
and thus aligned with the “random walk” theory of the markets.




                                                     18
The Stochastic indicator was developed by George C. Lane in the late 1950s. It shows the location
of the current close in relation to the high/low range over a set number of periods. It’s comprised of
2 lines: %K and %D.

The formula is as follows:

%K: 100 X ( (Close – Lowest Low(n)) / ((Highest High(n)) - (Lowest Low(n))))
%D: 3 period moving average of %K
n = number of periods used in the calculation.

The parameters we’ll use for the Stochastic Indicator are as follows:
      %K: 5
      %K smoothing: 2
      %D: 3 or 4 (I recommend you start with “4,” but when you add the indicator from the next
      course – the Momentum Indicator – then you change %D to 3).

You don’t need to understand the formula, but it is helpful to understand the idea behind the
formula: As bars close near their highs, there is momentum to the upside. As bars close off their
highs, momentum is decreasing. For this reason, you may see price continue to move up (the bars
making Higher Highs) but the Stochastic Indicator moving down.

The indicator you see plotted above is only the %D part of the Slow Stochastic. It is slower, but
more accurate than %K.

The Stochastic Indicator is therefore perfectly suited to help us find tops and bottoms of cycles
because it’s plotting the increasing and decreasing of momentum.

We wait as the market moves down in an uptrend, and the Stochastic Indicator moves down. But
when the Stochastic Indicator begins to move back up, it’s indicating that the downward momentum
is shifting back to the upside and therefore a bottom is likely.

This works well WITH THE TREND, but not as well against the trend. This is because the trend is a
primary dominant long-term energy, much stronger than the Stochastic Indicator, which only
measures very short-term momentum.

For this reason, the Stochastic Indicator is not good for finding trend reversal trades. For that you
need a more powerful and longer-term momentum indicator (covered in the next course).

Using the Stochastic Indicator to find Cycle tops and bottoms in a trend, the natural question
follows: “How do you know when the indicator has reached the bottom?

The simple answer (to be followed by a more elegant, and accurate answer soon) is that we wait for
the indicator to hook back in the direction of our trade. Then our trigger will be to enter 1 tick (the
smallest increment your trading vehicle trades) above the High of the bar that created the hook (for
a Long) or 1 tick below the Low of the bar that created the hook (for a short).




                                                    19
20
Nothing is perfect, and there are several challenges in working with the Stochastic Indicator.

The Stochastic is a bounded indicator. Mathematically it can only go from 0 to 100. Therefore you
will find that it stays at the top of the range or at the bottom of the range during powerful trends.

Note that this generally occurs against the trend. Therefore if you only take Stochastic signals in the
direction of the trend, it will minimize (though not eliminate) this problem on your entries.




                                                    21
In addition, just because the Stochastic Indicator becomes overbought or oversold and then hooks
back in the direction of the trend, there is no assurance that it really is the High/Low of the retrace.

But by waiting for entry until price breaks the high/low of the bar that created the hook, we eliminate
some of those false signals.




                                                     22
Trading is not as easy as buying Stochastic Lows and Selling Stochastic Highs. But by applying all
of our rules, we put the odds on our side. There is no “sure thing” in trading so the best we can do is
to trade with the probabilities and then manage our money like an expert.

Looks simple: Buy Cycle Lows and Short Cycle Highs with the trend. The reality is that things are a
bit messier than that, but our rules will guide us through the messiness.

Let’s take a look at a typical “messy” scenario, and see how our simple rules guide us through
working with a noisy market with imperfect indicators.




                                                    23
The above pattern is a KEY one for this trading methodology. It provides a higher probability that
we are making a Cycle Low than if you just had a single hook up in the oversold territory.

A single hook in the overbought/oversold territory is not a high probability trade. The more hooks
you have, the more likely that market is putting in a Cycle High/Low.

But what makes the above pattern especially powerful is the divergence between the indicator and
price. Price made a Lower Low, but the indicator made a Higher Low.

Since the Stochastic Indicator measures short-term momentum, this is revealing that even though
price is lower, the momentum to the downside is weak and therefore, a Low is likely to be put in
place here.

Remember, this only works well in finding retrace tops and bottoms with the trend … NOT in finding
tops/bottoms for a reversal against the trend.




                                                   24
25
So far we’ve only been using half of the Stochastic Indicator. We’ve been using %D and not %K.
That’s because it’s more reliable in showing the Cycles. You’re welcome to use only %D, but if you
can train your eye to handle a little more complication, I’ll show you how to add another layer of
sophistication that will give you more, and sometimes earlier, signals.

There’s a well-known tradeoff in trading that occurs across the board with all indicators:
        The price for accuracy is slowness.
        The price for speed, is inaccuracy (low reliability).

In the case of the Stochastic Indicator:

       %D is slower, but more accurate than %K.
       %K is faster, but less accurate than %D.

Accuracy is good, but slow isn’t. However, if we use %K, then we won’t have accuracy because it is
a very choppy indicator. When it catches the top/bottom, it often does it to the bar, but trading every
hook will result in too many losses.




                                                    26
Below is a chart with %D plotted in blue:




                                            27
Below is the same chart with %K plotted in black:




                                                    28
And here are the two overlaid on the same subgraph:




You can see how %D is smoother than %K.

I would caution you against trading with %K alone. Though it can be done, it is very choppy and can
lead to many bad entries.

You can trade using %D alone, but you can add more sophistication to your technical analysis
when you use the two together.

Here’s how:

The divergence pattern (with the trend) we learned above is very powerful and a high probability
pattern. The problem is that it doesn’t occur on %D very often.

But %K, with all of its choppiness, produces many more of these divergence signals.

The key is to ignore all of the choppy hooks on %K, and only trade hooks on %K when %D is in
place for a potential Cycle High/Low and you get a divergence between price and %K with the
trend.



                                                  29
The “divergence” we look for may not always be a dramatic one. In fact, price could be making a
small double top or bottom (or close to it), but the indicator makes a clear Higher Low or Lower
High. We accept that as a trigger because it is signaling the same thing as a strong divergence – a
shift in momentum.




                                                  30
31
MULTI-CHART CONFIRMATION

These navigation tools will help us create a meaningful map for high probability trading. Not only
that, but we will use several different time frames. This is consistent with our map analogy. You
need a “big picture map” to plan your entire trip (the freeways or expressways) but you need a
smaller map that includes the details of every side street to plan how to get to the freeway and how
to get off and navigate to the exact address of your destination.

Never trade one chart by itself. The odds of success are not worthy of risking your precious capital.
The probabilities of success are greatly enhanced when you use multiple charts that align to
confirm the same trade.

Swing traders use a ratio between the 2 charts of approximately 4.5 to 1 because this is the ratio
between a daily and weekly chart, and between a weekly and monthly chart.

Some traders may prefer to go down to as low as 3 to 1, or as high as 5 to 1. If you’re a day trader
you may want to do some experimentation to see what ratio works best with the market(s) you trade
and what fits your trading style. Personally I use a 3 to 1 ratio. This is the best ratio I’ve found using
the indicators in our methodology.

Different trading styles fit different trading personalities. Novice (losing) traders often say, “Just give
me your trading rules and I’ll do exactly what you do.”

Anyone who says that tips their hand to a professional that they are a losing trader.

Rule 1 in trading is: “Know thyself.”

You cannot necessarily trade someone else’s methodology. You need to customize it to fit your
personality.

Some traders like to only take 1 or 2 “sweet-spot” trades a day (if they’re day traders) or a month (if
they’re swing traders) or a year (if they’re investors). These people want a high win/loss ratio, and
have the patience of Job in waiting for it. They don’t need “action,” and they would make excellent
chess players!

Other traders couldn’t keep their attention on the markets if they only got one trade a
day/week/year. They would make lousy chess players (but maybe good video game players!). If
their plan called for waiting for that one perfect trade, they would miss it, because when it came
they would have been distracted after the long period of time with nothing to do.

So you have a choice to make, and there are serious ramifications that come with that choice.

Either you want:

       Fewer, better trades.
       More, worse trades.

If you’re like most people, you’ll say, “I want more, better trades!”

Forget it. The market isn’t that generous. The market demands sacrifice. For every benefit, you
must sacrifice something. Fortunately, the market allows you some choices.


                                                      32
If you want a higher probability trade and a good risk/reward ratio, you must wait and wait and wait
and be patient … because they don’t’ occur very often. Most of the time the market is moving
indecisively, noisily, and is NOT trending. Most of the time, the market is in “random walk” mode.

If you want more trades to satisfy your psychology need for action and to keep your attention on the
market so you don’t miss the few good trades that surface periodically, then you must suffer more
losses and also a lower risk/reward ratio. However, if you’re quick to lock in profits, you can stay in
the game balancing winners and losers until the big winner comes along.

To accommodate the different personalities, I’m going to give you 2 ½ styles to choose from using
this methodology. The styles differ only in how they use multiple time frames.

These 3 trading styles are:

   1. Scalping
   2. Aggressive Cherry-Picking
   3. Conservative Cherry-Picking




                                                    33
TRADING STYLE 1: Scalping.

This style using only 2 time frames: the Short-term (ST) and the Medium-Term (MT).

You look for setups (the trend continuation pattern) on the ST chart, and look to confirm it based on
the direction of the cycle on the MT chart.

Because you’re looking for a trend retrace on the ST chart, you’ll get many more of these setups
than if you waited for it on the MT chart. More trades per day helps you stay focused on the market
so you don’t miss the big trade when it occurs.

Most of your trades will be small wins and small losses. Your goal is to keep them balanced so they
offset each other evenly until a big winner comes along.

THE TRIGGERS:

The trigger we look for on the short-term chart is the Stochastic retracing to the extreme and
hooking back in the direction of the trend.

In the scalping strategy you must be trading in the direction of the trend on the ST chart.

In the cherry picking strategy you have to be trading in the direction of the trend on the MT chart,
but your trigger on the ST chart does not have to be in the direction of the trend.

The best triggers will have one or both of the following:

   1. %D hooking along with %K in the direction of your trade
   2. A divergence between price and Stochastics (%K and/or %D).




                                                    34
SCALPING EXAMPLE:




As you can see in the above example, the primary “confirmation” we’re looking for on the MT chart
is the angle of the %D because the %K is too choppy.

This is especially the case in an example like the one above where %K is making its first hook down
and %D is moving up at a sharp angle.

However, if %D were moving up, but %K was making a second or third hook down, and making it
with a Lower High (divergence), then we would use that as a filter to NOT enter long, since that is
one of our signals of a Cycle Top.

This trade still does not represent the “perfect” scenario because there isn’t a mini-divergence on
the stochastic on the shorter time frame (chart on the right). Notice that the next cycle low DOES
have the mini-divergence and would therefore be a higher probability trade as long as %D on the
higher time frame were still angling up at the time of entry.




                                                  35
36
TRADING STYLE 2: Aggressive Cherry Picking.

This style uses only 2 time frames (the ST and MT) to enter a trade (can use a 3rd to look for exits).

You look for setups (the trend continuation pattern) on the MT chart, but look for a Cycle High/Low
on the ST to align at the same time as the Cycle High/Low on the MT chart.

Because you’re looking for a trend retrace on the MT chart, you won’t get as many of these setups
as you would if trading trend retraces on the ST chart.

The advantage, however, is that by only taking trades when there is a Cycle High/Low on both the
ST and MT at the same time, there is a higher probability that you have a significant Cycle
High/Low.

You still take the trigger on the ST chart (as you do in the scalping style) but your reward is defined
on the MT chart. Therefore your risk/reward is better than if your risk and reward were both defined
on the same time frame.

This is how we implement the cardinal trading rule of cutting our losses short and letting our
winners run.

Finding the setup on the MT chart has a tremendous advantage in that when the trade works, you
are able to stay in it longer because it is a trend on a longer-term time frame. Finding a pin point
entry on the ST chart allows you to enter a trade before the slower MT chart triggers, therefore
allowing you to enter closer to your initial exit and trade with very tight stops. This gives you the
best risk/reward scenario.




                                                    37
CHERRY PICKING (AGGRESSIVE) EXAMPLE:


In the example on this page, the chart on the left is the MT chart (450 tick) and the one on the right
is the ST chart (100 tick) – NOTE: This is not the ideal ratio between the charts. The ideal ratio
would be 300 tick and 100 tick charts.

The MT chart is our primary chart and we are ONLY looking for setups on it. This should give you 2-
3 trades per day, which is plenty!

The trend continuation SETUP we want to see on the MT chart is:
   1. Trend (angle of 50 SMA).
   2. %K retrace < 20 or > 80 and %D retrace < 50 or > 50.

Then we look for FILTERS on the MT chart to stay OUT of the trade:
   1. Number of retraces in the trend
   2. Too large a move on the first wave of the trend
   3. Parabolic retrace.

Finally, we look for a TRIGGER on the ST chart:
        %K below 20 for an up trend (above 80 for a down trend) and %D below/above 50.
        A hook on both %K and %D (preferably a divergence on %K)
    Enter 1 tick beyond the bar that created the hook after that bar closes. You can put in a buy
    stop to go long, and a short stop to go short. Let the market come and fill you.




                                                   38
TRADING STYLE 2 ½: Conservative Cherry Picking.

This style is the same as Aggressive Cherry Picking, with one exception: You use a third time frame
(a long-term “LT” chart” and only take setups on the MT chart that align with the Cycle direction of
the LT chart.

Using this filter will keep you out of some winning trades, but it will also filter out some losing trades.

This is in alignment with another trading principle:

    Requiring confirmation from multiple signals can improve accuracy to a certain point, but after
    that point, requiring too much confirmation produces diminishing returns.

Examples of exactly how to enter and exit using all 3 of these styles are in the videos that
accompany this manual.



CHERRY PICKING (CONSERVATIVE) EXAMPLE:


In the example on the following page, the chart on the left is the LT chart (2025 tick), the one in the
middle is the MT chart (450 tick) and the one on the right is the ST chart (100 tick).

The MT chart is our primary chart and we are ONLY looking for setups on it.

The trend continuation SETUP we want to see on the MT chart is:
   3. Trend (angle of 50 SMA).
   4. %K retrace < 20 or > 80 and %D retrace < 50 or > 50.

Then we look for FILTERS on the MT chart to stay OUT of the trade:
   4. Number of retraces in the trend
   5. Too large a move on the first wave of the trend
   6. Parabolic retrace.

We look for a TRIGGER on the ST chart:
       %K below 20 for an up trend (above 80 for a down trend) and %D below/above 50.
       A hook on both %K and %D (preferably a divergence on %K)
Enter 1 tick beyond the bar that created the hook after that bar closes. You can put in a buy stop to
go long, and a short stop to go short. Let the market come and fill you.

Before we take the trigger, we look for CONFIRMATION on LT chart to get INTO the trade:
       Oscillator (at least %K, but also %D is better) angling back up




                                                       39
Once you have a setup and entry triggered on your LT chart, you can look for a trigger to actually
take a position based on your ST chart.




                                                   40
MONEY MANAGEMENT

Disciplined money management is not optional for successful trading. If you don’t employ stellar
discipline in managing your money, it’s only a matter of time before you lose your money.

Our money management rules are simple. It is up to you to stick to them religiously.

First, you should not be trading more contracts than your account size would dictate. Your broker’s
margin rules may not be the best guide as some brokers are very liberal in this area.

Trading one contract is much more difficult than trading with the flexibility that multiple contracts
give you. Multiple contract trading allows you to take some profits quickly and therefore quickly
reduce your risk in the trade. This also allows you to increase your win/loss ratio that is
psychologically critical and will in turn reinforce your ability to stick to your rules.

The general rule is to take off ½ of your position when the Cycle Indicator reaches the other end of
the range and reaches a minor support/resistance level. This will often be the previous swing H/L,
but can be a MA, trend line, or horizontal line.

The previous swing is usually the most immediate S/R and the first roadblock to a profitable trade.
We take some money off the table BEFORE price reaches the next S/R by 2-3 ticks.

The second half of your position needs to ride the trend as long as possible. This is where you are
looking for your real profits and is the actual reason you entered the trade. Use a trailing stop such
as:

1. 3 bar trailing stop (in a down trend you would exit when the market breaks the high of the bar 3
   bars ago). This is the tightest trailing stop and should be used when you feel you’re near the
   end of a trend.
2. Hook against you of %D on the next higher time frame. This will keep you in to long trends for
   most of the ride.
3. Break of the most recent swing High/Low. This is good to use early in a trend, but I recommend
   you start using a tighter stop after the first 2 retraces in a trend.

If you’re trading more than one financial instrument, you should put the same amount of money at
risk on each trade, rather than trading the same number of contracts/shares.

Just as each trade has its money management rules, so too you need money management rules for
each day, week, month quarter and year. This means just as each trade has a stop loss, also each
day, week, month, quarter and year must have a stop loss as well.

    Here’s an example (though not necessarily suggesting you adopt these exact
    numbers):

    My trading account size is $20,000.

    I will trade 2 contracts with a maximum risk of 10 ticks per trade ($100/.5% of acct.)
    with the ST chart as my setup chart




                                                   41
      My maximum risk per day will be 2% of account ($400)
      My maximum risk per week will be 4% of account ($800)
      My maximum risk per month will be 8% of account ($1,600)
      My maximum risk per year will be 30% of account ($6,000)
      When my account reaches $30,000 I will begin trading 3 contracts
      When my account reaches $40,000 I will begin trading 4 contracts.
      When my account reaches $50,000 I will switch to trading 2 contracts on the
      Russell 2000 futures.

As my account grows, I will begin trading the Euro, Yen, and finally the 30 Year Bond
in an attempt to reduce the effect of commissions on my profits. But I will never
increase my “maximum risk” percentages as listed above.

That covers stop losses. But just as each trade has a trailing stop, so too should each
day, week, month and year.

Example:

      If I’m up $500 in one day, I won’t let my profits for the day drop below $300.
      If I’m up $1,500 in one week, I won’t let my profits for the week drop below
      $800.
      If I’m up $5,000 in one month, I won’t let my profits for the month droop
      below $3,000.

And just as each trade has targets, so should each day, week, month and year.

Example:

      If I’m up $1,000 in one day, I stop trading for the rest of the day.
      If I’m up $2,500 in one week, I stop trading for the rest of the week.
      If I’m up $5,000 in one month, I stop trading for the rest of the month.

I know to many traders this may seem illogical. The only reason you feel that way is
because you are overly optimistic! But I can assure you that this approach has very
solid experience behind it.

Again the numbers will vary depending on the market your trading, the leverage
you’re using and your risk tolerance. To decide the numbers for you, begin with what
you’re willing to risk per day and go from there. Err on the side of being
conservative. I recommend no more than 1% per trade and 3% per day as the very,
very maximum for experienced, successful traders with an aggressive risk tolerance.
Everyone else, especially those who haven’t had consistent success yet, should start
with lower numbers.




                                          42
Keeping your trading logs and seeing what are average and extreme winning and
losing days over 3 months of day trading will help you decide what numbers are
appropriate.

These money management techniques are CRITICALLY IMPORTANT aspects to your
success in trading. Without this, you will likely FAIL! Can I state it any more clearly?




                                           43
APPENDIX:




    44
                TRADING PLAN (one page summary of entire methodology)

PREPARING FOR THE DAY
     Turn off phone ringer and get cell phone ready. ACCOUNT #: _____________; Broker phone number: ______
     Make note of economic news (http://online.barrons.com/public/page/barrons_econoday.html)
     Review Long-Term Charts
     Check settings in execution platform; Draw S/R on charts; do relaxation exercises.
     Review 7 Deadly Sins List, The Method and your Weekly Trading Log Summary


7 Deadly Sins:
1.   Not exiting 1st position soon enough. Keep EXIT #1 to keep losses small. PRIORITY ONE!
2.   Missing Trades. Take ALL trades today. Need to take all trades for statistics of the methodology to work and
         you don’t want to miss the ONE big winner today. Look to stop and reverse at end of every trade
3.   Trading Kamikazes Can’t time them. Get stopped out 2-3 times before they work.
4.   Trading Flat Markets. When the 50 MA is flat or market is going above/below the 50 MA … stay out!
5.   Overtrading. Forget trades that worked if don’t meet setup. Never try to make up for losses, missed trades, or
         trade from boredom. I WILL LOSE LOTS OF MONEY if veer from my method at all Profits come from
         CONSISTENT AND PERSISTENT action. Keep max money loss per day stop.
6.   Micromanaging trades. Don’t get out unless it hits a stop. Don’t be afraid of setups in opposite direction that
         haven’t yet triggered. Let trades run since that is where my weekly profits are. Weekly income is made from
         a couple of big trades per week, so must take EVERY trade and trade min of 4 contracts and use LT trails .
7.   Not Focused like OLYMPIC ATHLETE. Stay in ZONE! Don’t let mind wander or be lazy. Don’t trade if you’re tired.
         No emotion. NO FEAR. Most trades are small winners/losers. Don’t care what happens today. When OUT:
         constantly analyze & look ahead for next potential setup & then watch for it. When IN: quick on the draw to protect
         self & not let things turn against me. If not in state, don’t trade! IMPLEMENT THE RULES AND LET WHAT
         HAPPENS HAPPEN


THE METHOD

1. 50 MA angling up/down and %K < 20/>80 on the setup chart.                  (setup)

2. REASONS TO STAY OUT on setup chart (filters)
        3rd trend retracement in trend or extended move
        A huge impulse move in direction of trend before the retrace
        Vertical retracement: take the second trigger
        KAMIKAZE: HH/LL Reversal Pattern
        Right before economic news.
        The 50 MA is flat.

3. CONFIRMATION on LT chart (confirmation)
        %D and/or %K angling in direction of the trade. Look for %K topping/bottoming patterns.

4. ENTER on the ST chart: (triggers)
        Topping/bottoming pattern on %K and/or hook on %D and %K. Look for mini-divergence.

5. EXIT (money management):
          Exit 1 = Before first S/R (take off at FIRST impulse or stop at 1:1 R/R
          Exit 2 = Exit at second S/R on ST chart (close to 2:1 risk/reward).
          Exit 3 = Trail on other side of last swing H/L until LT chart's Cycle Indicator (%D hook, or %K
          reversing pattern) begins to reverse. Then exit on a reversal of the ST chart’s Cycle Indicator (1 tick
          beyond the bar that creates the hook).




                                                                  45
                      FREQUENTLY ASKED QUESTIONS:

HOW DO I DECIDE IF I SHOULD USE THE SCALPING, AGGRESSIVE CHERRY PICKING, OR
THE AGGRESSIVE CHERRY PICKING STYLE?

No one can tell you that except yourself. All 3 come with advantages and disadvantages. Try all 3
approaches and see which one fits your personality the best.

Trading, like life, comes with problems. We don’t get to choose whether or not we have problems,
but we do get to choose our problems … at least to some degree. Only after actually trading all 3
approaches will you be able to determine which one fits your personality the best.

It’s normally a good idea to stick with one approach rather than mixing and matching them.



WHAT TIME FRAMES ARE THE BEST TO TRADE?

If you’re a swing trader or investor, simply use Daily, Weekly and Monthly Charts. If you have
sophisticated charting software, you can experiment with 1 day, 3 day and 9 day or other
combinations.

If you’re a day trader you can use minute charts, tick charts or volume charts.

       Minute charts form a bar over so many minutes and then start another bar.
       Tick charts form a bar over so many trades and then start another bar.
       Volume charts form a bar over so many contracts/shares traded and then start another bar.

Like most things, there is no magic to which of these 3 types of charts you use, nor is there any
magic to the intervals you choose. Each choice will have its plusses and minuses.

       Minute charts tend to form better candlestick patterns than tick or volume charts for those
       who like to use candle formations. However the length of the bar at turning points can get
       rather wide, thus increasing the risk of the trade since our stop is measured by the length of
       the bars.
       Tick charts tend to smooth charts, create more symmetrical sine-wave type price patterns,
       and create more narrow range bars so that your risk on each trade is generally smaller.
       However since each bar is a different length of time, triggers can be missed if the market
       speeds up and a lot of trades begin going through. Also candlestick patterns are not as
       prevalent as in minute charts.
       Volume charts are the smoothest of all. They tend to have the same advantages and
       disadvantages of tick charts, but being so smooth, they don’t show extremes very well.

The interval you use for your charts is also a personal matter and has nothing to do with this
methodology. Each time interval has advantages and disadvantages, and you’ll likely want to use
different intervals for different markets.



                                                   46
       My favorite market for day trading is the Russell 2000. It has good volume and volatility. I
       generally use 200 tick, 600 tick and 1800 tick charts for it.
       For markets with less daily volume, I use a lower tick amount per bar.
       For markets with more daily volume, I use a higher tick amount per bar.
       For minute charts I generally use 2 minute, 6 minute and 18 minute. Another good
       combination is: 3 minute, 9 minute and 27 minute.

Again, there are advantages and disadvantages that you must weigh by trading for yourself and see
which intervals best fit your personality:

       The faster the charts (shorter intervals such as 1 minute, 100 tick), the more “noise” you’ll
       have to wrestle with. Therefore more of your setups will not be “meaningful” as they will
       simply be the result of amateur day traders throwing in small trades and then exiting those
       small trades again, not providing any follow through on the chart structure. However, you will
       get more trades per day and your stops can be small because of the narrow range bars
       created on a short-term time frame.
       The slower the charts (longer intervals such as 6 minute and 300 tick), the less noise there
       will be in the structure and the more likely professional, big money, commitments are
       involved and will be holding for a follow-through. However, because of the wider range bars,
       your stop will need to be placed farther away from your entry than on a shorter-term chart.



WHY DON’T YOU TALK ABOUT CANDLESTICK PATTERNS, FIBONACCI LEVELS, GANN,
TRIANGLES, OR (FILL IN THE BLANK HERE: ______________)?

There’s only so much that can be covered in this first course. Other courses of mine cover the
topics of:

       Reading Price (including candlesticks and multiple chart patterns beyond trend continuation
       trades)
       Market Geometry (including Fibonacci levels)
       Momentum
       How to trade reversals and consolidation breakouts
       Special day trading techniques
       Special swing trading and investment techniques
       Applying additional indicators
       How to read volume
       How to more accurately define trend

All of these things are too much for one course. I’ve found it more effective to take students through
these topics one step at a time. The method you have in this course can be traded without the
information in the other courses however.



I’M A SWING TRADER AND INVESTOR. HOW CAN I SCAN FOR STOCKS THAT HAVE THE
TECHNICAL SETUP WE’RE LOOKING FOR IN THIS METHODOLOGY?

I don’t ever give investment or trading advice or provide stock picks. However, in my video
newsletter I do consistently show stocks that are in the technical setup as an example of the


                                                   47
technical analysis I teach. Subscribing to the newsletter is the best way to have access to those
screens.



WHAT’S THE BEST WAY TO LEARN TO TRADE THIS METHODOLOGY SUCCESSFULLY?

Study the manual and videos thoroughly. You’re welcome to email me and ask questions as well.

Subscribe to the video newsletter so you can see the nuances utilized in real-life, real-time
situations in the current market environment over time. Repetition is the key.

Paper trade the method SUCCESSFULLY for at least 3 months before placing any real money in
the market.

It’s best to use electronic tools, rather than actual paper to “paper trade.” This way you get the feel
for the speed at which the charts move, how fast you’d have to place orders, and you lock in your
orders with a record, so you can’t change your mind as to whether you’re taking a trade or not.

To speed up the learning process, use a charting platform that allows you to replay charts like a
VCR so you aren’t limited to trading during real market hours. It must be a program that allows you
to replay multiple time frames concurrently.

Email me for recommendations on an excellent (and free) electronic paper trading program as well
as a charting program that lets you replay multiple time frame charts concurrently like a VCR.

One of the most important aspects to successful trading is to keep things as simple as possible.
The more indicators and setups and markets you are looking at, the more confusing it will be. This
results in either hesitation when entering trades, or missing good trades.

We use a small number of indicators because we only need ONE for each part of our methodology:
TREND: Moving Averages
SETUP: Oscillator

This small number of indicators and setups will give you a tool chest filled with everything you need
to trade all market conditions, yet keep trading simple enough so you don’t …

   1. Hesitate to enter trades because you’re looking for too many indicators to align.
   2. Miss good trades because you were looking at “other things.”

To help prevent these problems, I also encourage you to begin by only trading one market: the
Nasdaq 100 e-mini. Trying to watch more than one market at a time leads to complication, and,
again, therefore hesitation and missed opportunities.

I recommend the Nasdaq simply because it has nice intraday swings and is only $5 per contract so
is the most affordable way for beginners to keep their losses minimal while learning. I prefer it to the
DOW e-mini simply because at the time of this writing the DOW is still trading on the e-cbot and I
prefer trading on the Globex.

In the same spirit of simplicity, we only need a small number of setups because there are only three
basic market conditions:


                                                    48
TRENDING: We’ll use a retrace to the Moving Averages.
REVERSAL: We’ll look for Higher Lows or Lower Highs in relation to the Oscillator
CONSOLIDATING: The market consolidates MOST of the time, and there are 2 price dynamics to
consolidation: Breakout of consolidation and channeling within consolidation.

This course only addresses our trend trading setup. Markets only trend approximately 15%-20% of
the time, so it’s helpful to be able to trade during other market conditions, which is described in my
other courses.




                                                   49
TOP DOG TRADING FREE RESOURCES:


Keep up with all the free training articles, videos and blogs available from Top Dog Trading:

    Blog: http://www.topdogtrading.com/
    YouTube Videos: http://www.youtube.com/profile?user=TopDogTrading
    MySpace: http://www.myspace.com/topdogtrading
    Squidoo for day traders: http://www.squidoo.com/topdogdaytrading
    Squidoo for swing traders: http://www.squidoo.com/swingtrader/
    Live Video: http://www.livevideo.com/TopDogTrading
    Trading Articles I've Written: http://www.topdogtrading.com/Articles.html
    Free 5-Day Course: http://www.topdogtrading.com/stock_and_forex_trading.html




                                                   50
                                      POSTERS

The following pages contain some posters that I personally have hanging by my monitors. They
remind me of the most important trading principles.




                                              51
52
53

								
To top