Trading Ranges (Mean Reversion)

 

Do not guess when a range is formed. Trade on confirmed ranges only. Range is confirmed after > 75% retracement

What is a confirmed range? One where the previous trend has already clearly ended.

On trends you allow Leg 1 to happen and you only jump in to trade Leg 2 and/or Leg 3

Ranges are similar. You DON'T guess the range low or high, but rather wait for them to form with confirmation using a few techniques.

> 75% retracement of last trend leg

Why 75%? Because trends shouldn't pull back 75%. 

A typical trend leg will pull back no further than the 61.8% level (a common fib level). 

Since the market cannot trend and range at the same time or on the same timeframe, an invalid trend is likely to form a range. 

So, once you see a 75% retracement, you can begin to form a range. From here you can draw a range low, range high and create your levels/ zones. 

But you DON'T enter trades yet. You need further confirmation to have a high probability range. 

75% retracement doesn't mean it is DEFINITELY a range. It's just a sign that the previous trend is losing momentum, making a range more likely.

The 75% top is the new range high. Remove the initial range high.

First, a note about marking levels. Should you use the wicks or only candle closes? I personally use the full candle including wicks when marking range levels, because the 75% retracement and false breakouts/ sweeps often occur on these wicks. Once you spot a 75% retracement, here are your levels to mark: 1. Range High 2. Range Low 3. Discount Zone (0-0.25) 4. Premium Zone (0.75-1)

Entry, Stop Loss, Profit Targets

Execution is everything. The best way to ensure great execution is to have clear rules and never break them. 

Here are your rules: 

ENTRY 

1. Confirm a false breakout. 

2A. Enter immediately on confirmation if price is in Discount Zone (Long) or Premium Zone (Short). OR 

2B. If price isn't in the zone on the confirmation candle, set an order to enter when it reaches the zone. If price doesn't reach the zone, no trade. 

STOP LOSS 

Ranges offer great clear invalidation levels: 

1A. Below range low or above range high. 

OR 

1B. Below/ above the wick of your confirmed false breakout. Pick ONE of these. Use it every time in your test system. Do not chop and change between both. 

TAKE PROFIT 

Ranges are much easier than trends for TP as well. 

1. Range Low/ High Liquidity Target is the opposite side of the range. 

OR 

2. Discount/ Premium Zone Target is the 0.25 or 0.75 level. Pick ONE of these. Use it every time in your test system. Do not chop and change between both.