When Does a Trade Idea Become Invalid?

05/07/2010 12:01 am EST

Focus: STRATEGIES

Whenever I post a trade, I usually include a list of conditions that could invalidate the trade. These conditions invalidate the trade because they each would suggest that the reason for the trade is no longer present. This short list of conditions that would invalidate the trade isn't a substitute for experience, and it isn’t always perfect. However, this list is the best way for us to quickly and easily explain what invalidates a trade.

I have heard from some customers that they have had trouble determining when a trade is invalidated, or they occasionally enter a trade that was clearly invalidated. Today, we will go over some simple steps to take that will decrease the odds of entering a clearly invalidated trade. The best way to accomplish this is by setting price alarms at key levels before the trade's entry. Your trading software can likely send alarms to your e-mail or your cell phone, so you do not need to be near your computer to be aware of an alarm being hit.

The first alarm set helps reduce the odds of entering a trade that has long bars. I typically put an alarm two-thirds of the way from point C to point D. I usually do not enter the trade into the platform until that alarm goes off. Usually, if the trade makes it to that alarm without long bars, there will not be long bars in the trade. I put this alarm on right after I initially draw the pattern.

The second alarm should be set just before the entry. We often write something to the effect of "If the pair comes within eight pips of reaching our entry, does not enter, and reaches T1 before entering, the trade is invalid." In this case, we would put the alarm eight pips before the trade entry. If the second alarm is hit, we then place an alarm at T1. That way, if T1 is hit before the trade enters, we know the trade is invalidated and we can cancel the order.

The third alarm is also set right after we initially draw the pattern. We typically warn something like "The trade is invalid if it falls below 0.8554 before reaching our entry." We simply put an alarm at that level so we know the trade is dead if that alarm goes off.

Once placing alarms becomes a habit, it takes less than a minute to place all three of the initial alarms, and it makes it much easier to track which trades become invalidated. While using these invalidation rules isn't 100% perfect, they usually get the job done and will greatly increase the odds of success when followed.

By Bradley W. Gareiss of GFTForex.com

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