Magnetic Price Points is the first of a two-part article on stats-based price biases. Check out Repellant Price Points for part two!
Sometimes we have ideas about market activity and get the urge to test them statistically.
Examples may be: trying to find out if a simple candlestick pattern gives any predictive power of the distance price will travel. A market-profiler might test if the location of the open gives a price point as a potential target.
Let’s start with an example:
It’s 7am and market opens with a 10-tick gap, I might know that there is a 75% chance of the gap filling on that same day.
This is what I would call a magnetic price point. You know what the price you’re aiming for is (yesterday’s close), and you’re ready to go. It sounds great: get in the market towards the gap fill and make some profit!
But that’s not really how it works in practice.
Price may not fill the gap for many hours, potentially moving heavily against us between now and then.
Refinement of the initial idea needs to come in.
Two solutions exist as far as I’m concerned. Finding out how far on average price moves against you (the MAE of the trade idea). Using the gap fill as a bias, in order to improve probabilities of regular setups.
If you find out how far it will go against you, great. You can now work out stop-loss placement, entering in a rudimentary fashion, with a target of your gap fill.
Due to platform or data constraints, time, or reward-risk not being acceptable, this isn’t always possible…
Onto solution number 2: entering our usual bread and butter trades, using the gap fill as a directional cue. Using regular stops/targets, taking directional influence from our 75% chance of the gap filling today.
If you keep a journal, (I believe you should), you may find that trading towards a specific price point improves your win rate by 10%. Fantastic!
You may also find that it keeps you out of trades, perhaps ones which set up to be traded in the opposite direction. You’ve just kept yourself out of a loser by knowing where price is very likely to gravitate towards today.
If you’ve ever had a suspicion about any magnetic price points in your trading, do the stats, find out where they are, and you have a really simple way to potentially increase your bottom line.