Okay, so we’re looking at a price chart … should we buy or sell? … where is the price headed? How far will it run?
While plenty of people may try to tell you differently, the reality is that no one knows. Prices will do what prices do – go up and down, while investors erratically try to predict them.
But there ARE some things that we DO know. And if we employ these facts, we can swing the chances of being right in our favour.
What we know is that there are key price levels that act as magnets for prices.
Here I’ll show you how to locate these magnets … why they pull price in … and how to use this knowledge to win trades.
We often think of key price levels as areas on our charts that prices will ‘bounce’ from. And we avoid putting our stop levels too close to them, in case they get knocked out.
Because these levels are littered with buy and sell orders, while the areas around them are relatively free from these market orders … key levels draw in prices to them.
But the same magnetism that gets out stops hit at these levels, can be harnessed to get our profit targets hit instead.
1. Round numbers
Here’s an example from the German DAX this week, where the price was butting up to the 11,200 round number.
This kind of consolidation around key levels is common, and many traders see it as an annoyance, giving them false breakouts above the level, or just an irritation on their way to greater profit targets.
But another way to view these consolidations are that we can repeatedly scalp small profits – entering a buy trade each time the price moves within a few points of the level, and taking profits each time the price hits the key level.
With the price bouncing around a tight range like this, it can be easy pickings, with tight profit targets, and tight stops.
2. Pivot Points
If you’re not familiar with pivot points, they are daily levels that can be drawn on your chart, based on the previous day’s high, low and close prices. They usually take the form of a central pivot point, plus two resistance levels above it, and two support levels below it.
Daily pivot points will look something like this …
This chart shows the central pivot, and first support and resistance levels (S1 and R1) on Wall St earlier this week.
Note the magnetic pulling power of the central pivot point for much of the day. When the price does break free of it, it goes on to form another consolidation pattern around the next pivot level.
Again, these consolidation patterns offer up another opportunity to catch small, but reliable profits, with tight risk-control as we buy just below the pivot point level, or sell just above it – always taking profits on the key level.
One of the great things about pivot points is that every day, we get a fresh set of these powerful magnets fixed onto our charts (while round numbers, and other key levels don’t come along so often).
3. S&R levels
The exact same method works at any key support or resistance level. The beauty of the round-number and pivot-point magnets is that they can be drawn on your charts for you. Support and resistance levels – you need to sniff around for yourself.
Of course, it’s easy to look at a chart after the event and see all these great bounces, and to wish that we’d entered trades at just the right moment (we’re all great at hindsight trading!)
Any of the charts I’ve shown above are littered with instances where the market didn’t actually touch the key level … but instead pulled away from it (through where we’d be likely to have a stop). So, the reality of making this kind of trading work comes down to careful risk-reward profiles, and serious discipline about costs.
Here’s what I mean …
Where the market is flipping about like this, we need to carefully balance the win rate on our trades with the risk-reward profile (i.e. how many points profit we’re going for, versus where we position our stop level). Going for a 1:1 RRR would mean that we’d need to be confident we’re getting it right more than 50% of the time. A tighter stop means that we can afford to be wrong more often, while a wider stop level will improve our chances of success – but one loss could take several wins to make up for. The sweet spot for this will depend a lot on the volatility of the instrument you’re trading.
Whether you want to call this scalping or not is up for debate.
You may be collecting just a handful of points, or you may be looking for 20 pips or more in these kinds of moves. It’ll depend on the market and timeframes you’re looking at. However, the smaller the number of pips you’re going for – the higher your trading costs become. If you’re going for 5 pips, and paying out 1 pip in spread costs – it’s going to be incredibly difficult to make this kind of strategy profitable. You’ve already given up 20% of any profits before you’ve won (or lost) a trade.
The trick with applying this is to bear in mind what this IS, and what this IS NOT.
For the magnets to work – the price needs to be close enough to them. This means that we can’t go for huge gains. But it also means that if the price pulls back, we can cut losses very quickly.
The magnets work best when there aren’t other powerful forces at work in the market – like market announcements, or strong trends driving prices straight through key levels.
These ‘price magnets’ are not sure thing that will always pull the price in every time. But they DO exert a strong hold over price action, and that’s more than many trading indicators can lay claim to.
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