How the 3-Bar Rule Can Help You Deal With Failed Setups
Our Trading the Pristine Method® Home Study Course teaches traders a unique approach to trading candlestick price patterns.
What make it unique?
It is 100% objective and systematic, and eliminates all guesswork from the buying and selling process.
We teach identifiable patterns that stocks trade in, and then show the exact strategies of what to do in each stage of a stock's movement, including how to enter, manage, and exit the trade.
That said, not all trades work.
No pattern makes money 100% of the time, and the failures must be watched for 3 reasons:
1) To see and capitalize on a “new opportunity” when a pattern fails but immediately sets up again
2) To know how best to manage a position before it fails by evaluating the charts objectively.
3) To help you in disaster management mode in the event you are in a position that has failed.
One Failed Pattern we teach is the Three Bar Rule.
Whether that means to exit the trade or enter as new opportunity depends on the overall pattern and market environment).
Let's assume you entered a stock with a perfect “quality” price pattern that suggested an immediate move up with bullish market internals.
It could have been a T3 Buy Setup (T3BS), a Climactic Buy Setup (CBS), or a T3 Breakout (T3BO), timed with the futures at the 10 a.m. reversal period.
The T3 Three Bar Rule states: If the setup is not doing as suggested within three (3) bars, either exit or reduce the position.
That begs an important question, “How does one know when the setup is not doing as suggested?”
Note that this must be used only in the time frame being used.
Some traders will incorrectly bail on a daily setup because the intraday pattern is not moving.
They should be using the daily chart to judge the setup.
Here are a few questions to ask in considering whether to close a trade early before the stop is triggered:
1. Did the trade violate every single reason for entry? Did it take out major intraday pivot lows? Is it a healthy consolidation that might actually be an opportunity to add to your position?
2. Assess the situation from the standpoint as if you were not in the trade, based on your training. What would you tell a friend about the technical setup? Is the pattern's “quality” decreasing? For example, are the intraday charts getting very volatile, with overlapping bars, No Follow Through (NFT) to bullish/bearish bars; Breakout Bar Failures (BBF), shakeouts, etc.?
3. How far has the stock already moved? Is the current stop and reward-risk still adequate?
4. Are multiple time frames in alignment?
5. Are market conditions (broader market, sector analysis, and market internals) favorable for the trade direction?
6. Did the stock move with the sector and market internals, or is it lagging, showing relative weakness?
7. What time of day is it? Is it a low volume doldrums summer day with everything going sideways, or is your position underperforming?
8. Is the position distracting you from other trade opportunities?
You must overcome the temptation to act prior to gaining information needed out of fear of missing the trade.
Selling out of fear that the market will move against you must be fought.
You must have the patience and discipline to logically apply the setup.
Always have at least two scenarios when entering trades, no matter how bullish or bearish.
This will keep you open to other possibilities.
Remember, anything can and will happen at times.