Oct 142010

In A look back on my journey – Part 5 – Market Profile, I talked about Market Profile and how that can provide context for trading as markets go in and out of balance.   One thing I like to do is adjust my balance areas to make the balance and imbalance areas more visible.  Often balance areas overlap and when that happens I merge them into one bigger balance area.  And sometimes the market will break out and I’ll split the profile into two profiles, one for balanced and one for imbalanced.  I learned to do that from Balance Trader and he has a course on it if you’re interested.  I do not use his setups directly, but the way I trade is similar so I recommend the course.

So back to splitting and merging, here is what the current ES market profile looks:

You can see lots of overlapping activity from 10/8 to 10/12.  If we merge them together then we get a better picture of the balance area:

There are limitations with this.  Currently we have a balance area preceded by lower balance areas.  If the market drops down and starts balancing in a previous balance area, there is no way to merge just the overlapping areas.  If we do a merge then we’d end up with something like this from mid september:

There is some overlap between the lower & upper balance areas, meaning the market went up and came back down and then went up again.  So I can’t isolate those areas.  When that happens I just merge it all and it looks like above. That big area contains several weeks of data.

Now what would happen if we merged all the data into one big profile?  I tried it once and it’s very tedious & time-consuming.  But there is another approach.  I learned this from FuturesTrader71, it’s called a volume profile, and when the volume profile contains a lot of data he calls it a “composite volume profile”.

Here is what my current composite profile looks like for ES.  I’ve overlayed daily bars on the chart:

You can see that some prices have more volume than others.  Those with the most volume are similar to the VPOC of market profile.  This are marked with green lines and are called Composite High Volume Nodes (CHVN).  The prices with the least volume are similar to the “singles” of market profile and they’re marked with red and are called Composite Low Volume Nodes (LVN).  It’s the same concept as market profile except time has been removed from the equation and it’s pure volume.  Note: the daily bars overlaid on the chart do use time and that’s just to get dual use out of this chart, much like the market profile chart has a dual use by providing 30 minute bars.

The theory is that certain prices have been accepted in the past and are more likely to be accepted in the future.  And certain prices have been rejected in the past and are more likely to be rejected in the future.

Remember in Part 5 how I said when the market is balanced, I want to fade moves to the edge of the balance area?  The same idea applies with the volume profile.  I can fade a move to a LVN, expecting it to return to the HVN.  And as in market profile, sometimes the HVN can act as support or resistance.

So now we can understand my main trading chart chart:

When I was trading with cycles, I used 4 tick charts:  13500, 4500, 1500, & 500.  I’ve replaced all 4 of these charts with the chart above.  And removed the sinewaves.  Talk about simplification!

I annotated how yesterday’s high acted as support.  This is to show that basic S/R is still valuable in trading.  Then I annotated how the CLVN acted as resistance and resistance became support.  This is the most basic way to trade and after 3 years of trying to complicate things I’m realizing that simple is best.

Note: The volume profiles and the red & green lines update dynamically so it’s possible the lines were in different places during the day.  For example if a CLVN gets more volume the red line might move up or down a few ticks.  I don’t have an easy way to show how they looked real time so I’m annotating the chart as if they didn’t change.  So if you wonder why I went short there instead of some place else, that might explain it.  This is why I often take screenshots when I enter a trade, so I can see the chart exactly as it looked real time.

The red & green X’s mark my trade entries.  I traded ES poorly yesterday (-8 pts).  I’m still studying what happened but one mistake I made was that the market was imbalanced and I was fading it, anticipating a return into balance.  As I said, it’s not easy to know that realtime.   And when I did trade the long side, I was using very tight stops and got stopped out twice and missed some nice moves up.  I’m still practicing trading with tight stops (this is all on simulator) so this is a learning experience and a work in progress.  And I hate to admit it but I had one relapse where I “gave it more room” and then averaged down (issues from Part 2).  Wow, just admitting it just felt good.

So in summary, whether it be market profile or the volume profile, the same concepts apply:

  1. Lots of volume implies acceptance
  2. Very little volume implies rejection
  3. Price tends to rotate around areas of acceptance when balanced
  4. Price tends to move from one acceptance area to another, and during this move the market is imbalanced
  5. This move from balanced to imbalanced to balanced repeats again and again
  6. When balanced, fade moves to the edge of the balance area
  7. When imbalanced, don’t fade it, go with it
  8. Telling the difference in real time is very challenging

For more information on volume profiling, FuturesTrader71 is the expert and here are some resources:

  1. His blog is Simplicity in Trading
  2. He tweets his observations & sometimes his trades via Twitter
  3. He has a series of webinars, some free and some require a donation to his charity

Speaking of webinars, he is doing a free webinar today (October 14, 2010) on setting up charts for volume profiling.  If you’re reading this at a later date don’t worry it will be recorded and available with the others.  And James Dalton is doing a free webinar on market profile on October 19, 2010.  If you’re reading this at a later date, look for it in the SFO webinar archives.

Wow, this has been a long journey.  Now I can post my charts and we can speak the same language.  Which reminds me, one of my goals in writing this blog is to meet others who share the same beliefs and trade in similar ways.  So if you’re into this, contact me.  I’d love to set up a forum or a chat room or something.  I’m not an expert but I’m willing to share what I’ve learned so far.  We’re almost there, just a few items left on the journey, namely order flow, which I’ll attempt to cover next.

Continued in A look back on my journey – Part 7 – One year of profitability swing trading ES

  6 Responses to “A look back on my journey – Part 6 – Volume Profiling”

  1. What a great summary! Like a condensed FT71/ElectronicLocal/Cunparis manual. Keep up the good work – very appreciated!

  2. I believe Electronic Local is still in the indicator phase. 😉

  3. Hi Michael. I have enjoyed reading this. I have a similar problem in that I do not like to lose and will end up averaging down. The way you have gone about journalling your thoughts has given me a reason for doing the same. My style of trading is purely using a naked chart as I believe using indicators stops you seeing what is happening on the charts and also stop you learning price behaviour. But each to their own. Anyway, thank you for the time and effort you have put in to this as I know it has already started to help me.


  4. Michael,

    I like what you are doing here and I have similar goals. A forum of chat room would be great.
    I’ve a similar background, both in career and trading journey. I’ve peeked at Market Profile from time to time and have yet to jump on, perhaps because of the mountian that is required to climb. While I agree that it does appear to be more “pure” from a structural standpoint, I’m not entirley convinced that the results are any better. But, I’m paying attention to what you’re up to.

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