Trading Closed Candles
By Gordon Philips, Director of Trading and Research
Institute of Higher Earning
It is well understood by professional traders that psychological factors, in
particular the emotions of fear, greed (and let's not forget pride),
probably account for over 90% of trading performance. This truism has been
so thoroughly covered in the trading literature -- in fact, pounded into the
ground like a tent peg -- that we will refrain from hammering away at it
further here.
Human beings being all too, well, human, it would appear virtually
impossible to totally remove all psychological and emotional factors from
the trading experience. However, surprisingly, there is in fact a way that
this can be accomplished, and to a considerable degree.
Not surprisingly, the procedure involves a mechanical approach to overcoming
that which is diametrically opposed to the mechanical, namely the
psychological. But it can be done, even if it involves tricking your
reptilian hind brain into compliance, as we shall soon see.
To date, no computer trading program to this writer's knowledge has yet
replaced the pattern recognition abilities and other trading insights that
are capable of being produced by the human mind, although I have no doubt
that that day will arrive.
Likewise, no computer program yet devised can consistently beat a world
class chess champion although that day is surely coming as computing
machines increasingly appropriate to themselves the human ability to learn
from mistake and experience.
If and when the day arrives that computers can trade in the Forex and other
spot markets better than their human creators, the entire nature of Forex
trading will change, into what we cannot know.
In the meantime, we are relegated to having to deal with the many minds in
our head that author Robert Ornstein describes in his classic book The
Evolution Of Consciousness as 'simpletons.'
Ornstein theorizes that these simpletons compete at various times for our
attention, and that the simpleton holding the stage at the moment is the one
which we identify as 'me.'
One of these simpletons is the primitive reptilian hind brain called the
amygdala which processes responses to threats in the environment such as a
trade that has begun to swerve in the wrong direction and triggers the
natural, and automatic response of the autonomic nervous system which
alerts: DANGER WILL ROBNINSON! ...FEAR! ... PANIC! ... ANGER! ...RUN! ...
ATTACK!(?)
These are powerful messages and we ignore them at our peril. They come in
handy when a car approaching in the opposite lane jumps the center line (or
if a married male, your mother-in-law threatens to visit).
One sure way to evoke the 'fight or flight' response and stimulate every
ancient mechanism in your hind brain is to sit and watch the currency market
wiggle, jiggle, twitch and vibrate in real-time.
You may say to yourself (and to others) that you are trading on the
15-minute chart. But as you sit and view live market action during the
interim between the candle that just closed and the one currently being
drawn, your reptilian brain kicks in and tells you to DO SOMETHING!
"Attack the attacker! Run away! But don't just sit there. Are you crazy?
Things are going badly and your survival, indeed your very existence, are at
stake! Adjust the trade, move your stop, tighten your limit, put on a hedge,
rush to see what another currency pair is doing, BUT DO SOMETHING, AND DO IT
NOW!"
These are powerful emotions to subdue, and you've got millions of years of
knuckle-dragging ancestors lurking in ancient areas of your brain urging you
to protect the survival genes they bequeathed to you.
One very effective way to subdue your hairy Forex trading simpleton is to
trick it into seeing slices of reality, one slice at a time. We've all seen
time lapse photography of a flower opening in the morning sun. Sped up,
individual photographs reveal a ballet of motion. What we need to do is to
reverse that; to turn the motion picture back into a slide show!
The answer for Forex traders (and traders of other markets) is simply to
trade on 'closed candles.' A closed candle is one that has just completed
being drawn. Think of it as a snapshot in time.
Think of the cold logic behind this. Trading well involves a highly refined
degree of pattern recognition. Stop for a moment and let that sink in.
Pattern recognition: the ability to recognize patterns. But what patterns?
Imagine this mental exercise. You are to be seated in a comfortable chair in
a windowless room containing nothing but a digital display. No wristwatch
will be allowed, and there will be no clock or other time cues in the room.
The digital display in front of you will show the current bid price of the
GBP/USD currency pair. Each time the bid price changes by a single tick, the
display will change to reflect the new price. You will watch the display for
60 minutes at which time the contest will end and you will be asked five
simple questions. Answer all five questions correctly and you will be
awarded one million dollars. Get a single question wrong and you will
receive nothing.
The door is closed and you are left alone. A buzzer sounds. Begin! Good
luck!
You stare intently at the display. From one moment to the next the price
changes. Up a tick. Down a tick. Up a tick. Down a tick. Up two ticks. Down
one tick. Nothing for an entire minute. Then down two ticks. Then up three.
Down one, then another, then another, then up one, then nothing for a few
seconds. This goes on for a solid hour and which point the experiment is
terminated (at this point you probably wish you were, too) and you are
interviewed.
1. State the trend in 15-minute increments.
2. State whether the 5-minute candlestick at the end of 15 minutes closes
above or below the close of the candle that completes at the end of 20
minutes.
3. State which 10-minute candle makes the highest high.
4. State which 1 minute candle makes the lowest low.
5. State whether the overall price pattern indicates an uptrend, a downtrend
or a sideways market?
Do we have a new millionaire? Probably not.
And that is why we have software that paints a trail of little pictograms on
our trading screens, one snapshot at a time. It is the general form and
structure of the snapshot that we learn to recognize and interpret, not live
price action itself.
This is an important realization to internalize, because it is easy as a
trader to be deceived that we are recognizing and making decisions on live
price action. But as we have seen in the laboratory experiment, it is the
rare person who could do that.
Trading software creates patterns by printing symbols on our trading
screens. One such symbol is the Japanese Candlestick which we prefer. Each
candlestick represents the price action that occurred (notice the past
tense) during its brief lifetime.
When we look at a stream of candlesticks spread across our screens to the
left, we are seeing a trail of price action that has been "chunked" into
measured increments. We are not seeing the history of live, continuous price
action, We are seeing the equivalent of snapshots, not continuous motion.
And therein lies the secret to subduing our trading simpleton. We trade on
closed candles. This means making 100% of our decisions at the end of the
time frame we are monitoring.
If we are basing our trading decisions on the 1-hour chart, we come back
each hour to see what the market has done in the interim. We do not peek in
the meantime. At the close of a 1-hour candle we make a decision to put on a
trade, adjust an open position or close a trade. Then we GO AWAY for 60
minutes. 'Going away' might mean simply minimizing our trading charts so we
can't see them. Extreme cases could include facing the screen away from us,
draping the screen with a towel, or like Elvis, actually leaving the
building. Whatever it takes.
When we return 60 minutes later we are presented with another iteration in
the set of iterations we have trained our trading simpleton to recognize: a
closed 1-hour candlestick. Instead of flitting back and forth between
different time frames, desperately seeking wisdom, we leave the crime scene
entirely, thereby placing a blindfold on our simpleton. What it cannot see
it cannot fear or react to.
This method of trading on closed candles has caused a dramatic improvement
in the trading of many of our students and we recommend it most highly.
