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PRICE ACTION ^NEW^



Price action is a method of analysis of the basic price movements to generate trade entry and exit signals that is considered reliable while not requiring the use of indicators. It is a form of technical analysis, as it ignores the fundamental factors of a security and looks primarily at the security's price history. However, this method is different from other forms of technical analysis, as it focuses on the relation of the security's current price to its price history, which consists of all price movements, as opposed to values derived from the price history.




PRICE ACTION


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At its most simplistic, it attempts to describe the human thought processes invoked by experienced, non-disciplinary traders as they observe and trade their markets.[1][2][3][4] Price action is simply how prices change - the action of price. It is most noticeable in markets with high liquidity and price volatility, but anything that is traded freely (in price) in a market will per se demonstrate price action.


Price action trading can be considered a part of the technical analysis, but it is highly complex compared to most forms of technical analysis, and it incorporates the behavioural analysis of market participants as a crowd from evidence displayed in price action - a type of analysis whose academic coverage isn't focused in any one area, rather is widely described and commented on in the literature on trading, speculation, gambling and competition generally, and therefore, requires a separate article. It includes a large part of the methodology employed by floor traders[5] and tape readers.[6] It can also optionally include analysis of volume and level 2 quotes.


A price action trader typically observes the relative size, shape, position, growth (when watching the current real-time price) and volume (optionally) of bars on an OHLC bar or candlestick chart (although simple line charts also work), starting as simple as a single bar, most often combined with chart formations found in broader technical analysis such as moving averages, trend lines and trading ranges.[7][8] The use of price action analysis for financial speculation doesn't exclude the simultaneous use of other techniques of analysis, although many minimalist price action traders choose to rely completely on the behavioural interpretation of price action to build a trading strategy.


Various authors who write about price action, e.g. Brooks,[8] Duddella,[9] assign names to many common price action chart bar formations and behavioural patterns they observe, which introduces a discrepancy in naming of similar chart formations between many authors, or definition of two different formations of the same name. Some patterns can often only be described subjectively, and a textbook pattern formation may occur in reality with great variations.


There is no evidence that these explanations are correct even if the price action trader who makes such statements is profitable and appears to be correct.[10] Since the disappearance of most pit-based financial exchanges, the financial markets have become anonymous, buyers do not meet sellers, and so the feasibility of verifying any proposed explanation for the other market participants' actions during the occurrence of a particular price action pattern is exceedingly small. Also, price action analysis can be subject to survivorship bias for failed traders do not gain visibility. Hence, for these reasons, the explanations should only be viewed as subjective rationalisations and may quite possibly be wrong, but at any point in time they offer the only available logical analysis with which the price action trader can work.


The implementation of price action analysis is difficult, requiring the gaining of experience under live market conditions and prior knowledge of "market states." There is every reason to assume that the percentage of price action speculators who fail, give up or lose their trading capital will be similar to the percentage failure rate across all fields of speculation. It is commonly thought to be 90%, although analysis of data from US forex brokers' regulatory disclosures since 2010 puts the figure for failed accounts at around 75% and suggests this is typical.[11]


Some skeptical authors[12] dismiss the financial success of individuals using technical analysis such as price action and state that the occurrence of individuals who appear to be able to profit in the markets can be attributed solely to the Survivorship bias.


A price action trader's analysis may start with classical price action technical analysis, e.g. Edwards and Magee patterns including trend lines, break-outs and pullbacks,[13] which are broken down further and supplemented with extra bar-by-bar analysis, sometimes including volume. This observed price action gives the trader clues about the current and likely future behaviour of other market participants. The trader can explain why a particular pattern is predictive, in terms of bulls (buyers in the market), bears (sellers), the crowd mentality of other traders, change in volume and other factors. A good knowledge of the market's make-up is required.


Price action patterns occur with every bar and the trader watches for multiple patterns to coincide or occur in a particular order, creating a set-up that results in a signal to enter or exit. Individual traders can have widely varying preferences for the type of setup that they concentrate on in their trading.


Al Brooks, a price action trading author, is capable of naming price action formations and provide a rational explanation for the observed market movement for every single bar on a bar chart, regularly publishing such charts with descriptions and explanations covering 50 or 100 bars. He admits that his explanations may be wrong, but states that his explanations allow the trader to build a mental scenario around the current 'price action' as it unfolds.[8]


The price action trader will use setups to determine entries and exits for positions. Each setup has its optimal entry point. Some traders also use price action signals to exit, simply entering at one setup and then exiting the whole position on the appearance of a negative setup. Alternatively, the trader might simply exit instead at a profit target of a specific cash amount or at a predetermined level of loss. This style of exit is often based on the previous support and resistance levels of the chart. A more experienced trader will have their own well-defined entry and exit criteria, built from experience.[8]


An experienced price action trader are adept at spotting multiple bars, patterns, formations and setups during real-time market observation. However, a chart can be interpreted in multiple different ways, which may lead to discrepancy of interpretations between two traders, despite using the same method of analysis.


Most price action authors state that a simple setup on its own is rarely enough to signal a trade. There should be strength in the direction of the trade that a trader is thinking of taking and at least two reasons to enter the trade.[8] When the trader finds that the price action signals are strong enough, the trader tend to continue to wait for the appropriate entry point or exit point.


[8]Brooks recommends price action trader to place the initial stop order 1 tick below the climax price of the adverse direction and if the market moves as expected, moves the stop order up to one tick below the entry bar, and once the entry bar has closed and with further favourable movement, will seek to move the stop order up further to the same level as the entry, i.e. break-even.


A price action trader generally sets great store in human fallibility and the tendency for traders in the market to behave as a crowd.[1] For instance, a trader who is bullish about a certain stock might observe that this stock is moving in a range from $20 to $30, but that trader expects the stock to rise to at least $50. Many other traders would simply buy the stock, but then every time that it fell to the low of its trading range, would become disheartened and lose faith in their prediction and sell. A price action trader would wait until the stock hit $31.


The above example is one by Livermore from the 1940s.[1] In a modern-day market, the price action trader would first be alerted to the stock once the price has broken out to $31, but knowing the counter-intuitiveness of the market and having picked up other signals from the price action, would expect the stock to pull-back from there and would only buy when the pull-back finished and the stock moved up again.[14]


Support, Resistance, and Fibonacci levels are all important areas where human behavior may affect price action. Brooks claim that these levels, along with other price history levels (such as swing highs and lows, gap high or low, the 20-bar exponential moving average value), serve as magnets that attract the price.


An observation of many price action traders and authors is that the market often revisits price levels where it reversed or consolidated. If the market reverses at a certain level, then on returning to that level, which is referred to as a magnet, the trader expects the market to either carry on past the reversal point or to reverse again. The trader takes no action until the market has done one or the other. Many traders only consider price movements when trading diverges or trend changes. Most traders will not trade unless there is a signal to show high probability of a reversal, because they want to see the close of a major reversal, but this is very rare. The objective of this technique is to gain a probabilistic edge that should let the trader earn in the long run. [15]


The concept of a trend is one of the primary concepts in technical analysis. A trend is either up or down and for the complete neophyte observing a market, an upwards trend can be described simply as a period of time over which the price has moved up. An upwards trend is also known as a bull trend, or a rally. A bear trend or downwards trend or sell-off (or crash) is where the market moves downwards. The definition is as simple as the analysis is varied and complex. The assumption is of serial correlation, i.e. once in a trend, the market is likely to continue in that direction.[17] 041b061a72


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