A compass for intraday markets

By John Slazas
The key to success in any market is aligning your strategy with the market’s bias — bullish, bearish, or neutral. Identifying the market’s mood helps you pick the right techniques, direction, and position-sizing methods.

The following intraday strategy uses the opening range of the regular stock-market session to identify a static entry point with the goal of capturing the major move of the day.

After defining this entry point, the strategy selects different entry techniques — breakout, fade, and reversal — based on the market’s structural bias. The approach uses one-minute bars in the E-Mini Nasdaq 100 futures (NQ), but it can be used on different intraday time frames and markets.

Opening range defines entry price
The first step is to identify the market’s opening range (high-low) in the first minute of the regular trading session, which opens at 9:30 a.m. ET. The opening range’s high or low becomes the strategy’s potential entry point for the rest of the day.

Let’s create two alert levels above and below this range. To find the upper alert level, add one-half of the opening range to its high; to find the lower alert level, subtract one-half of the range from its low.  If price exceeds the upper threshold, the opening-range’s low then becomes an entry point, and vice-versa.

Figure 1 shows the market’s opening range along with its upper and lower alert levels. The questions are how should the strategy enter the market and in which direction?



Entry technique and direction
Figure 2 shows three ways to trade after price hits a specific price or inflection point: “fade” the move, follow a breakout, or wait for a reversal. A fade technique uses a limit or market-if-touched (MIT) order to immediately trade against price momentum. A breakout approach uses a stop or stop-limit order to enter in the direction of price momentum. And a reversal strategy waits for a false breakout, using a stop or stop-limit order to enter the market after price moves back above (below) the defined entry price or inflection point.


 
The entry price defines where the strategy enters the market. The entry technique defines how the strategy enters the market. But we still need to determine the strategy’s direction, which the market’s condition, or so-called market structure bias, can reveal.
 
If price first drops below the lower alert level, then the entry price equals the opening-range high. At this point, Figure 3 shows three different ways to trade — fade (sell short), reversal (sell short on false breakout), or breakout (buy). If the market is neutral, the strategy can take all three signals. But if the market has a bullish or bearish bias, the strategy needs to be more selective.



For example, if the market structure bias is positive, then the long breakout strategy trumps the short fade trade. Selling a reversal is a better way to short the market because this is basically a false breakout signal. However, this signal goes against the market’s bias, so if we take it, we should manage the position more aggressively and trade fewer shares or contracts.

For the complete article, see the September 2010 issue of Active Trader magazine. Click here to subscribe.



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