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Number of messages : 371
Points : 1718
Date of Entry : 2015-06-28
Year : 32

Secrets of trapped traders

on Sat Nov 05, 2016 8:37 pm
One of the biggest issues that intraday traders have to deal with these days is high tech trading that is driven by lightning fast execution and analysis capabilities that are driven by computers that typically reside at the exchange and that can see and respond to order flow at a level 99% of all traders could not compete with. Often these algorithms are written by high level mathematics graduates from top institutions and these guys really know how to find and exploit an edge in the market in fast time frames.

Often trading activities like this have high volume and trading activity from big money players, algorithmic traders and high frequency traders. Today I am going to show you solid and proven techniques for exploiting where these traders and other traders get on the wrong side of the market that can help you to effectively trade at a discount due to mispricing associated with these kinds of trading activities.

These mispricing of other traders is a very valuable thing for you to know and understand. In my many years of trading in a live trading environment, I have learned that keeping track of complicated order flow computations can be mentally harrowing for traders. In addition to this, and in order to make best benefit, you need to be able to execute at a level you are not likely able to compete with. Further still, these traders often pay next to nothing in commission and have very large amounts of capital to allocate to these trading operations.

So, the question becomes how does a regular retail trader find a tradable edge in such an environment? The answer is fairly simple but the details of it are what makes all the difference, so take a journey with me into a world that can

  •  benefit in the market with a solid edge
  •  that can be executed
  •  that a trader can mentally handle and
  •  benefit from in the moment.

This kind of trading is fun and profitable and bypasses trying to be something that you are not; a trading Bot. First and foremost, you want to trade in a market that has consistent potential for gain. This is so important, I cannot stress enough this single decision that many traders often don't really even think about. For this, my first choice will be crude oil futures (though it works in any reasonably volatile market). Why crude oil? Because it moves over a 85 ticks per day ($850 per contract) in general for the day session and has a 10 tick execution structure.

This makes the cost of getting into a trade quite low because the bid/ask spread in this market is $10 where many other markets are $12.50, $31.25 or more. This is crucial to managing costs while still having a large potential for return. Back to that $850 range mentioned above. As of this writing, in each of the last 21 days (approximately a month of trading days), only 3 days did not meet this level of range. This means 81% of the time you move $850. Often it is much larger, but lately, and/or as of this writing, it happens to be a bit low.

This kind of analysis is super simple and can be done on a chart by eye with a range indicator applied in just a few minutes. Another interesting characteristic of this market is something that we call "Stretch". This term was originally coined by renowned trader, Toby Crabel. It is simply how far the market tends to move off the open before the low or high of the day is formed and it goes the $850 we described above in the other direction. This is also like asking the question, "at what point do I know the low or high of the day is in place." If I know the high or low is in, then I can trade for the remainder for the expected range with 81% probability and that is a very valuable thing indeed!

Let's take a closer look. Let's say we are able to fire our trade at $200 off that low or high. Well, if $850 is the minimum expected then that leaves $650 of potential. This happens on many days and, in fact on many days it is much more. Now, you may have noticed at this point we started talking about bots and high level math grads and super fast computers at the exchange etc. But here we are using the same kind of intelligent logic these high level math guys are using, but we are putting it into a scale WE can actually use and benefit from.

And, that is a very nice thing! ? Now that we have a good idea as to the playing field, and a good idea of how the game is played, now what we want to do is figure out a way we can exploit that in such a way that we can be relaxed (not in a state of mental overload), and entirely aware of what the market is trying to do within reasonable limits when we take a trade. In fact, with what I am about to show you, those bot guys just might be on the other (wrong) side of the trade you are taking.

Why? Because I am going to show you another secret; that of exploiting places on your chart where traders are trapped on the wrong side of the market and where you can benefit from that in the general direction of that $850 / 81% expansion!

In order to do that, we are going to look at the Trapped Trader Oscillator that we use in the Oil Trading Room every day. We have turned this level of analysis into an art form there and many traders are learning to do the same every day. So, here I will show you a couple patterns and charts so you can see how this works in a way you can certainly benefit from every day if you put your mind to it!

Pattern #1: Exploiting the morning "Trade Away"

In the chart below, I have each 30 minute period of the day labeled A, B, C etc. One trade we can look for that was described above is trading away from the test of the range that ends up being the low or high of the day on most days. This often, but does not always occur, somewhere around the completion of the AB periods. This occurs after the market has established the "Stretch" for the day (remember above?).
Now, on this particular day (see below), the market traded through A and B period and then what typically happens is you retrace into the original run up and then the Smart Trapped Trader Oscillator helps us to find the traders who got on the wrong side. We know there is good potential here for range expansion. So, let's take a look!

Before continuing further, let's cover a simple rule that will make this even clearer: When price is higher and the Trapped Trader Oscillator drops below prior lows, then there are trapped traders are on the wrong side if the market reverses. When this occurs, they are forced out of the market going the wrong way. This tends to propel price action in the direction of your trade. We always trigger into the trade on the background color change on the chart.

So to buy, that is where the pattern exists on the Smart Trapped Trader Oscillator and you get a green price bar and a green background color change, or a red background and a red price bar to sell. Knowing this, let's take an even closer look with a textbook example. Let's take another look at the chart above and the relationship between the Trapped Trader Oscillator and the price action. During the first hour of the day (AB periods) the market had a high and low of 45.53 and 45.15 respectively.

This is a 38 tick range or $380. The market then retraced back into the same low from earlier in B period forming a double bottom (about 7:01 AM). At the same time, the Trapped Trader Oscillator went below the last three prior lows, making it the lowest value of the day.

At this point, the price was 45.27 which is only 12 ticks off the low of the day. If we are expecting 85 ticks minimum with an 81% probability that we discussed above, then we would have 85 minus 12 ticks of potential, or 73 ticks ($730 of potential) with a better than 80% probability. The range promptly expanded up to the C period high or, about 60 ticks from the entry arrow marked on the chart for about $600 in total potential per contract in about 12 minutes.

This set-up doesn't happen exactly this way every day because there are themes and variations of this movement that fall into this general category of trade. We also have other simple statistics that support the trade. 

This general theme of knowing 
a) the range, 
b) the probability and 
c) where the traders are trapped creates ongoing potential throughout the day. We have not expired our entire expected range yet (remember it is 85 ticks?), especially if we get a nice retracement here. 

So, let's take a look at the next alternation:

The next alternation going higher, occurred after the market traded down 25 ticks off the high in period C. At this point, it retraced to 45.72 which was about 60 ticks off the low. If we are expecting a minimum of 85 ticks, then 25 more are expected. In this case, you weigh out as a trader if you want to take the trade based on the risk you are assuming (often we can trade these with about 10-15 ticks of risk on average or less).

So, you take the trade at the arrow, and ride it up into the 85 tick level in D period. Period E was the high of the day and a new trend downward was established following that. So far we have covered two Smart Trapped Trader Oscillator patterns. Now I want to show you a third before telling you where you can learn more about this kind of bot free trading. This next pattern involves a traditional divergence pattern near a high or low that is then followed by the Smart Trapped Trader Oscillator taking out the right hand side of the divergence. That would look like this to sell (see the red down arrow):

So what we have here is the H period high formed a downward pattern on the Smart Trapped Trader Oscillator (note the high of H period is lower as marked by the first slanting magenta line). Then, once you get that pattern, look for the trap. The trap occurs when the Smart Trapped Trader Oscillator goes above the right shoulder of the first pattern. The logic of the trade is as follows: The market was weak at the H high BUT, some guys got all excited and bought too much at J high.

This ended up being the high of the day. The market traded down another 50 ticks ($500 of potential) into the low area on the right side of the chart. Trading with the Smart Trapped Trader Oscillator can be very rewarding and there are other patterns that can be learned and exploited.
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