Taking Quick Profits Versus Boxing in Profits: "Bread and Butter" or "Bread Crumbs?" (Part 3)

11/12/2008 9:44 am EST

Focus: STRATEGIES

Timothy Morge

President, MarketGeometry.com

As the last bar closed, I took a very close and careful look at this formation and at its interaction with the up-sloping blue Median Line set. I immediately saw that the last bar had tried to break and close below the blue up-sloping lower Median Line parallel. But price closed well above the lower Median Line parallel, with great upside separation. This is a sign of strength—a sign that there are buyers below the market.

As I looked to the left of this formation, I noted that price had already tested this blue up-sloping line and failed to break and close below it. Finally, looking just a little further to the left, I noted that the low I used as my Pivot C tested the multiple lows just above 1.4070, but was unable to break below them, and in fact, closed with great up side separation above these multiple lows. Now I looked at the entire formation and saw three failed attempts to break below areas of support. And note that each failed attempt to break support was at a higher and higher level. This formation is not talked about much these days, with the advent of all the pretty computer generated indicators, but when I was first learning to trade, it was called “Three Drives to the Bottom.” And generally, if the three drives to the bottom had higher and higher lows, price tended to move higher after the third drive lower.

Take a look at what I now had in mind:

chart

I was unwilling to get long when price broke out to new highs because there was no high-probability trade set up that I recognized, and there was no acceptable stop loss. But this formation was quite familiar to me, and I had this in mind:

  1. I wanted to buy a retest of the blue up-sloping lower Median Line at 1.4160
  2. My initial stop loss would be five pips below the prior swing low that had tested the lower Median Line parallel, at 1.4092.
  3. My profit target was a test of the upper Median Line parallel, at 1.4636
What made me think price would make it past the Median Line if it turned higher from here and make it up to the upper Median Line parallel? If the market retested the lower Median Line and allowed me to get long, there were two possibilities: 1) I’d either get stopped out very quickly, because I would be wrong about the three higher lows and the great upside separation at each test being a sign that there were good buyers below the market; or 2) The market would go significantly higher, because the long positions had all been liquidated at this point. Only the market knows where it is going, and the market is always right. Let’s see what the market did next:

chart

Price did indeed come down and retest the blue up-sloping lower Median Line, getting me long at 1.4160 in the process. And look where the retest bar closed: On its highs, and with great upside separation—another sign of strength. So far, so good!

More in Part 4 tomorrow…

I wish you all good trading!

Best,

Timothy Morge

timmorge@gmail.com
www.medianline.com
www.marketgeometry.com

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