There are 3 basic types of entry setups that traders often use.
They are the Breakout, the Pullback, the Counter-Trend.
The important thing to realize is that you can attain identical Win/Loss Ratios on each of these OVER THE SERIES so one form of Entry is not necessarily better than the other – they are just different styles of entry based on repeating price movement patterns.
One type of setup can perform excellent on one day and poorly on another due to changes in market conditions. Breakout Entries can and do fail and get stopped out. Pullback Entries do fail and get stopped out. Counter Trend Entries do fail and get stopped out.
Let’s examine this further.
In a Breakout attempt the buyers or sellers attempt to bust price out of a level of congestion that it has been trapped in and if there is enough participation in the breakout we can see a direction price move begin, but there is not enough participation to overcome the opposition and the Breakout Fails, price can fail back into the range. We have a FAILED BREAKOUT which can lead to a stop out.
If we take a look at the Pullback setup where price typically pulls back to a level of support and is expected to bounce and continue in the original direction it was moving, we in fact will see and experience that sometimes price does NOT bounce as expected and keeps on PULLING BACK against our new entry to hit a full stop.
Likewise a Counter Trend Entry where we are attempting to play a natural Reversion to the Mean on a temporarily overextended price – we can get caught up in a run-away price move (Short Squeeze or Watershed Sell-off) and there is NO reversion going to happen any time soon, resulting in a full stop out against our position. (See Below)
The question often arises, WHICH SETUP IS BETTER TO TRADE? – Breakouts, Pullback or Counter Trend Trades?
The answer is one is not better than the other. They are different styles of entering the market and we can arrive at EQUAL failure rates for each of the 3 over the series. The important thing to keep in mind is that each type of setup lines up with different types of market conditions so one day may be conducive to breakouts and pullbacks but not counter trend entries. On other days Counter Trend entries may give the best bang for the buck.
The market can also shift behavior mid session.
We can debate Advantages and Disadvantages for each. For instance, pullback entries tend to look like they get you in earlier and many times they do, but most of these entries are taken AFTER a price move has been rejected and TURNED BACK from a certain level and has moved back into its own supply areas. You are basically engaging the market back in enemy territory and you are betting that the strength that caused the original move is going to COME BACK and cause price to bounce in your favor again.
With Breakout entries it may appear that we are getting in late, but instead we are WAITING for price to have the strength to ESCAPE OUT of the “Supply Area” it is trapped in first BEFORE placing our entries. We are betting on the participants who broke us out to CONTINUE in that direction.
In a Counter Trend entry we are going against the main momentum and betting on the fact that price very often overextends itself into unsustainable levels or runs in to barriers that will deflect it back to a balance area, i.e. a Reversion to the Mean.
Many times we see that Counter Trend Trades work great in sideways markets with lots of overhead resistance, but will have a high failure rate in Strongly Trending Directional market. Likewise, Pullback Entries can work great in smoothly trending markets that are zig-zagging following an upward angled support line, but can trap you in areas congestion if the momentum suddenly drops out of the market or you can miss entry opportunities altogether in a high-octane – super trending market that simply Refuses to Pullback during a hot run.
As I mentioned, Momentum Breakout Entries can appear to get you in late sometimes and lure you into a trade right before price fizzles, however momentum signals TEND TO CATCH ALL STRONGLY TRENDING DIRECTIONAL MOVES as we are playing horizontal boundaries and price ALWAYS has to cross the next boundary to continue in motion. So Breakout Entries are IDEAL for playing the TREND.
As a systematic Trader you should stay FOCUSED ONLY ON THE SIGNALS AND SETUPS OF THE STRATEGY YOU ARE TRADING and don’t worry about the missed opportunities from other setups. As I mention below, you don’t have to TRADE MORE to make more money, – ONLY INCREASE your position sizes over time on the trades you do take.
Moving Up To The Big Leagues
One of the secrets to make bigger money in E-mini Day Trading is getting yourself to a state of being consistently profitable using small positions sizes and then simply increasing your position sizes gradually over time. You don’t have to Trade More, you don’t have to incorporate fancier strategies, you don’t have to continue to integrate more complex indicators into the trading equation. Start small, build consistency sticking to a straightforward strategy that works, then slowly increase the number of contracts you trade.
Understanding The Concept Of Daily Max Drawdown
It is important that each trader have a specific Max Drawdown or Cutoff Limit. The Daily Max Drawdown Limit prevents overtrading in bad market conditions which can lead to catastrophic losses. If you think about it, we create max drawdown limits for each individual trade we take by using Stop-Losses orders. You can this of the your Max Drawdown Limit as a STOP LOSS for the Entire Trading Day. You can get stopped out on an individual trade and you can get stopped out from trading further for a given day. Just like stop loss placement, each individual trader will need to determine their personal Max Drawdown Limits. One methodology is to execute a minimum of 3 Trades per day (Win, Lose or Draw) and adhere to my “3 Strikes Your Out” Rule.