Before I trot off on my vacation, I thought I’d share some Auction Profile charts on Crude Oil taken this morning along with my analysis at various points during the day.
First, I take my bias from longer term charts and, in the case of oil, I have a long bias from the daily chart so, if I were trading today (which, sadly, I wasn’t), I would have been actively looking for long trades.
Here’s the first chart with an explanation of how I use the Auction Profile chart elements to interpret the markets actions and construct a plan of action. Click on the chart to enlarge it for easier viewing.
This chart shows a current potential balance (the orange box). I have a long bias in oil from the daily chart so the bread-and-butter trade in this instance is to buy in the lower extreme of the balance with a target of the opposite extreme. In this example though, I would have stayed off the long trade. The reason is that there is a small balance within the balance (the small green box, which is actually blue but shows as green because of color mixing) that formed in the wee hours and this balance has broken to the downside. The target zone for a downside break of the small balance is below the breakout point of the larger unconfirmed balance and this gives me a short term short bias until that target zone, which starts at 102.55, is hit. If this happens, the larger, orange balance will disappear from the chart as it is unconfirmed and will not qualify as a true balance unless price moves up into the upper extreme above 103.12 before moving below its breakout point of 102.58.
The short bias would be invalidated by a move above the high breakout point of the small balance, so the short bias is valid unless price moves above 103.11.
So, no trade so far.
Here’s the next chart.
You can now see that another unconfirmed balance has appeared on the chart (the white box, which is actually orange but shows as white otherwise you wouldn’t see it). This appeared on the chart at the conclusion of the 7:30 bar. We now have a short bias from the break of the earlier balance, which is still in force. The breakout price of the new balance at 103.04 (stops are placed 1 tick beyond the line) is below the price that would invalidate the short term short bias, so we have a valid short trade opportunity. My Trading Plan, which is mine and belongs to me (Monty Python humor), requires a minimum reward-to-risk ratio of 3:1. The risk is to 1 tick above the green line above the balance at 103.04. The reward (1st target) is to 1 tick below the VAL of the balance at 102.74. This distance is 30 ticks, so my entry is 1/4 of that distance (7 ticks rounded down) below the stop, so the entry would have been taken at 102.97. Price actually reached a high of 103.00 so this order would have been filled. I move stops to break-even after price has moved 2R (14 ticks) so a break-even stop would be placed once 102.83 has been hit. You can see that on this chart, price has already moved below 102.83 so now the trade would be break-even at worst.
Now, a few things have happened.
First, the short trade achieved its first target of 102.74. The second target, usually about 1/4 to 1/3 of initial position, would be to 102.42, the start of the green target zone below the balance. You can see this was not reached so the final portion of the trade would have been stopped out at break-even as price rallied back quickly.
Second, price has taken out the upper limits of both the latest balance (which has now turned blue although it appears as green on the yellow background) and the earlier balance, negating the short bias from earlier.
Third, the big balance has now turned yellow, indicating that this is now a confirmed balance as price has exceeded the VAH at 103.12.
Fourth, our bias is now back to long in keeping with our earlier thoughts based on the daily chart. We would now be waiting to see if price comes back down below 102.79, the VAL of the yellow balance, for a potential long trade. We can use the breakout price of the blue balance at 102.63 to limit our risk on a long trade, so we can already have our entry in mind. The reward would be back above the VAH (103.13), the risk would be to 102.62, a distance of 51 ticks, so our entry would be at 102.74.
Fifth, at this time I would have been wishing that I had taken the long when price was in the lower extreme of the big balance! Oh well, who said trading was easy?
We are in luck. Price spiked down to trigger our entry at 102.74 as the low of the move down was 102.73. Moreover, price quickly rebounded to 102.96, allowing us to move stops to break-even. Easy game.
Now, we see that price has moved back down and stopped us out at break-even. I would not consider another long trade at that point even if I were flat and had not just been stopped out. The reason is that, having moved below the VAL to give us our entry, it then moved over 2/3 of the way to its target but was not strong enough to make it to the opposite extreme. From observation, I have noticed that this increases the possibility that the balance will break to the downside, so my Trading Plan disallows entry if this happens. The observant among you may notice that a similar thing happened on the 04:20 bar, which would have been sufficient reason to stay off the long trade in the first chart even absent the break of the small balance.
At this point, I would be a little peeved at having all that open profit evaporate and would now be expecting the market to shoot off higher now that it has successfully jettisoned the weak longs like me.
Bollocks! That’s trading.
Oh, what a genius I am! I knew the market was going to break down. Well, I didn’t know that, but now I’d be thankful that I stuck with my plan and wasn’t tempted to re-enter the long trade.
The market has broken below the balance, so it’s now turned blue. Thus, our bias once again shifts to the short side until the target zone of the balance (at 102.15) is hit or until the short bias is invalidated by a move above the balance.
Now, a new potential balance has shown up. Actually, I would have seen this one coming and moved to a 3 minute chart after the second low to get an earlier entry.
Here’s the 3 minute chart.
The blue balance would have first appeared as an orange balance at the conclusion of the 11:33 bar. This would have allowed time to figure out the entry and place the order. Entry based on the 3 minute chart would have been at 102.75 with a stop at 102.81 and first target at 102.54. You can see this was achieved. The second target would be the target zone of the large balance at 102.15, which was hit a short time after I took this screenshot. This is the type of trade that we look for. The trade had a risk of 6 ticks and took profits at 21 ticks and 60 ticks. That’s a 3.5:1 R:R on the first portion and a 10:1 R:R on the second portion of the trade.
The Dog’s Bollocks!
The purpose of this blog post is not to brag about what a great trader I am. I’m not, and anyway I didn’t trade today as I’m preparing for vacation and didn’t want to risk ending my month on a low note so I made bugger all.
I have a few points to make really.
First, i would like you to appreciate how the Auction Profile chart gives us a framework for interpreting the market’s actions so that we are never confused about our bias, what we expect the market to do next, and what would invalidate that assumption. Without this framework for understanding the market, the naked chart would be unintelligible to me and wouldn’t give me the confidence to place a trade. Of course, any model is only any good if its hypotheses manage to correctly account for the phenomena. I can’t tell you that this model of the market is correct, only that I have faith in it – and that’s sufficient to give me confidence. Try it yourself and you might come to agree with me.
Second, although I highlighted a profitable series of trades, there’s a less obvious benefit too – if you use the methodology in a logical and consistent manner, you won’t make the dumb, spur-of-the-moment trades that we are all prone to make if we don’t have a Trading Plan that keeps us out of trouble.
Third, apart form the Auction Profile chart elements – and I hope you can see how useful these are – there is nothing else on the chart: no volume bars, no moving averages, no profusion of indicators, etc. All you need is what’s on the chart and everything else would simply be a distraction and a source of confusion.
Well, I hope you learned something useful from this post. If so, or if not, please leave a comment. I probably won’t respond until I get back from vacation, but in the meantime, trade well.
Now, wouldn’t these charts look pretty on your wall? Is that a Mondrian?