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Backtesting Trading Strategies with Software is the WORST Way to Create a Trading System!

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how to backtest trading strategies
Backtesting Trading Strategies

Welcome to this video on backtesting trading strategies. The irony is that using trading backtesting software may be the absolute worst way to design trading strategies.

Learning how to backtest a trading strategy using excel, MT4 or another software program seems like a good idea at first. But it’s not. This video and article will walk you through the logic of exactly why, and what to do instead.

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BACKTESTING TRADING STRATEGIES

Welcome to this video on backtesting trading strategies I share with you my experience with backtesting which I have done for well I did do for many many years. I don’t do it anymore and I’m going to share with you why. I have very sophisticated software very high powered computer system and I was trained in how to do this I’d find a few strategies that were viable historically.

Then what you do typically is you understand that’s curve fitting. So then you take the successful strategies and you apply them to data that is separate from the data used historically that’s called out of sample forward testing. So most of them when I took them and use them on out of sample data they failed the night. Ninety five percent of them. So then that last 5 percent which is very hard to find.

TRADING BACKTESTING SOFTWARE

I would then start treating real live markets in current time and none of them were successful over the long period of time someone worked for a little while and then ultimately fail. So why is that. I started to wonder because I spend a lot of time on that and I was very disappointed. So I started thinking about it. I realized you know there are some real problems with the whole idea of backtesting. Here’s the first one.

You’ve seen this legal statement everywhere. Go ahead and fill in it just in your mind just fill in the the end of the sentence. Past performance is no guarantee of what you know the end of this. Most people do. We see it everywhere in websites and on documents that people send to us brokerage firm software whatever. Past performance is no guarantee of future results. This is why trading backtesting software isn’t reliable for futures profits.

HOW TO BACKTEST TRADING STRATEGIES IN MT4

So we’ve seen it everywhere. You knew that. That’s a problem. If that’s a legal statement that all these companies put on their documentation that means that that’s a very significant issue and it is in fact that many studies have been done on this Couple of a moment or in 2014 a Wall Street Journal study found that only about 14 percent of Five-Star funds retained their reading 10 years later.

Past performance was not indicative of future results. In 2013 a Vanguard study reported that the one stars and now we’re looking at the other end The Wall Street Journal analyze the Five-Star at Vanguard study the one stars and they had the actual greatest excess returns what they call when compare it against a benchmark. So wow. What the heck’s going on. Yes I hate the opposite of what you would expect especially when most people make decisions on funds to buy based on their past performance. If this is true, then learning how to backtest trading strategies in mt4 may be futile.

HOW TO BACKTEST A TRADING STRATEGY USING EXCEL

Well to me what that indicates is there’s probably a reversion to the mean. We all know that very very few people ever outperform just the benchmark the S&P 500. And so therefore if it does outperform for a while it reverts back to the mean if it underperforms for awhile revert back to the mean. So that’s one huge problem.

Another one is that markets change over time. Back when I started trading which is decades and decades and decades ago I’d have to call my broker on a rotary phone of all things my kids don’t even know who the rotary phone is anymore. They see it in a museum. But yeah we didn’t I mean we had a black and white TV. So learning how to backtest a trading strategy using excel may not be applicable to today’s markets when using long-term historical data.

BACKTESTING TRADING STRATEGIES FREE

We certainly didn’t have computers. And so there’s no direct access. You know there were no low commissions commissions or high cost me 50 bucks to get in 50 bucks to get out decimalization wasn’t around. There was no mobile devices didn’t even have a computer. Bottom line was trading was slow slow and expensive and therefore chart patterns trended more today. People use all this technology to get in and out of the market real fast. That creates choppier chart patterns.

The patterns today are different than they were back then. Now that’s on the retail side. Now on the professional side you’ve got Elgood trading high frequency trading. It got dark pools. So the speed of what’s going on here in the retail around the professional sites even faster. And so again you get different type of chart patterns than you did in the past so. Add to that, the fact that many traders want to use backtesting trading strategies that are free and well, you get what you pay for!

FREE BACKTESTING

Okay that’s great. Now that all begs the question of all day what do we do. So the first thing to acknowledge is are no certainties in the market. Part of that reason we do free backtesting is we’re looking for some certainty as to what’s going to work in the future. And so acknowledge that there’s always risk in the market. You know back in the days of Jesse Livermore they used to call it speculation. I still prefer the term speculation to trading because it reminds me that there’s always risk in the market.

Here’s how I trade here the principles I use two things. Number one market logic and mathematical logic. So what do I mean by these. Well let’s take emerging market logic first. So I’m referring to the market profile model where the market is seen as an auction place and in an auction place you’re beating on memorabilia and so forth art whatever it might be and that that item that’s going to sell for whatever someone is willing to pay for it.

BEST WAY TO BACKTEST TRADING STRATEGIES

And that’s how the markets work too. We’ve got this global auction place essentially. But the logic of the markets not always logical. Sometimes people pay more than many people would think that a piece of art is worth because they have sentimental connection with that. And the same thing happens in the financial markets. So and we see that with bubbles. We’ve seen it in the real estate bubble recently. Before that we saw in the technology bubble before we even start with tulips. If you go back farther and of tulips of all beings and of course this is what Alan Greenspan referred to is as irrational exuberance.

The market logic is the logic of well logic in quotes of people and psychological studies have shown that people generally. Even though we don’t admit it to ourselves we generally make decisions based on emotion and justify them with logic. And so the market logic is not individual psychology but mass psychology that plays a major role in how markets move. Thus, there may be no best way to backtest trading strategies.

FREE BACKTESTING SOFTWARE

The second part of the larger equation that is the mathematical and got to include this too. Because over half of the shares in the New York Stock Exchange aren’t traded by human beings Well I should say they aren’t. The decisions the trading decisions are made by computer models and some of these don’t really affect you in your trading and you certainly can’t compete against them.

You and I cannot compete against these. You’re not going to get free backtesting software or a forex robot on the Internet for $19 that it is going to compete with Goldman Sachs or Merrill or Bank of America. So here’s what I do. I combine these two types of logic. And the bottom line is that mathematically measuring what the market participants are doing now. So again remember it’s market participants globally and I’m taking a treat now.

I need to know what’s going on in the market right at the second entering the trade. Now what happened you know six months ago 12 months ago 40 years ago I trade in the present bar by bar and manage my risk and then I use indicators to objectively and mathematically measure the money flow in and out of the market. Now that’s what we’re looking for the money.

GET MY FREE MARKET ENTRY TIMING INDICATOR

BTW, if you’re interested in the indicator that I use personally for very precise entries and exits. I’m happy to share that with you. Just send me an email at Barry@TopDogTrading.com, and I’ll show you how to get access to that indicator.

What did you think of this tutorial on backtesting trading strategies? Enter your answer in the COMMENTS section at the bottom of this page.

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FREE GIFT!

Also I’m giving away one of my favorite backtesting trading strategies that works in trading the markets. Just fill out the yellow form at the top of the sidebar on the right. Once you do that, I’ll personally send you an email with first video.

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Elliott Wave Theory Analysis – the New Rules! Video Revelation

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Elliott-Wave-Theory-Analysis
Elliott-Wave-Theory-Analysis

Welcome to this video on Elliott Wave Theory analysis versus objective trend trading indicators. I traded Elliott Wave rules for a while a couple of years so I’m definitely not here to trash the Elliott Wave principle.

My opinion on it is that it started out with the observation on how markets tend to move seeing repetitive cycles of three impulse moves in or five impulse moves and then three corrective waves. Then using it as an indicator of future price predictions.

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ELLIOTT WAVE THEORY ANALYSIS

The market is a wild animal is like a tiger. It’s not like a purse puppy that you can tame. So the markets are going to do what they’re going to do and they don’t always follow the same patterns as the rules in Elliott Wave theory analysis.

Therefore the way that I count waves is very mathematical. Certainly there’s been people who have attempted to create objective measurements for Elliott Wave charts and I’ve seen them but still the way that I do this is the way that I prefer it. After experiencing many different types of approaches so here it is in basic number one when we define trend.

ELLIOTT WAVE RULES

For example you could have a higher high and higher low and some people define this is a trend that is not a trend that is not a trend. That is simply a complex retrace in an overall downtrend in the extended general direction of this market would be down in this case before the trend is down. So we need a time when we’re going to use a trend trading indicator. We need something that measures the long term move of the market and there is many good choices.

ELLIOTT WAVE PRINCIPLES

I just use a moving average the 50 period simple moving average, which is different than how Elliott Wave theory basics are calculated. It fits the definition of the term trend. It’s also a very commonly used moving average perhaps the most commonly moving average that there is and therefore there’s a self-fulfilling prophecy to it based on mass psychology.

This is similar to what’s taught in Elliott Wave theory books. We’ll get our little ABC patterns here. As the market puts in cycles now this down here is my cycle indicator. When you’re measuring cycles there’s two different things there’s cycles and there’s waves. So this indicator measures cycles but you have to measure cycles before you can measure waves.

ELLIOTT WAVE CHARTS

The other way the wave 3 has a lower low than wave one. And since this does not therefore it is a cycle a wave low. That’s the difference between this and Elliott Wave theory analysis. So every wave is a cycle but not every cycle is a wave. So waves define counting how.

This is why waves are so important in trends. It counts how far you are along in that trend. So I’m sure you’ve heard the term. The trend is your friend until the end. That’s instructing us on is to know how early or late you are in a trend you only want to trade early in the new trend because the leader of the trend goes it’s not your friend anymore because your enemy actually.

ELLIOTT WAVE THEORY BASICS

That’s when we start looking for reversal trades. The trend is your friend. All right now we have trend reversal trades you could have gotten in before this on a trend reversal trade etc.. But these are very very reliable. So let’s define where does Wave 3 come in. Now here’s another thing that people will tell you that I disagree with and it goes back to the higher high higher low higher high higher low thing.

OK higher highs are an oversimplification. So it’s not necessarily important. For example in fact it can be deceiving it can be a bearish pattern. So here we have lower lows. The way I just have to define a wave three is we take this and we’ll look at. Let me bring up my drawing a line here. I’ll take that low straight across in an order for this to be a wave 3.

ELLIOTT WAVE THEORY PREDICTIONS

Here we have this is the start of where we could start a week three. It ends up putting in its low here. Notice the cycle indicator stays down below the mid-range of the indicator this whole time. That’s something to understand about cycle cycles or not even they expand and the contract and sometimes they actually disappear.

If you’ve heard understood or studied cycle theory or Elliott Wave theory analysis in detail then you understand what I’m talking about. Again now here we put in a wave five now counting waves this way of your average of count is if we have five. But let me show you something else so we get a higher high here. Mainlines just a little bit off there but you get the idea. So we get a little higher high here. But where does it close it closes and opens and closes below the high of we have one, therefore we call it a failed three.

ELLIOTT WAVE INDICATOR

And that’s called a rejection of value in market profile theory. Saying that the prices went up here but it didn’t close up there. It’s really not bullish yet. In fact the market rejected these higher prices. Now that’s just temporary. Can turn around in fact it did turn around here. And another thing to look at is the range of the bars all these range all these bars here a very narrow range.

You’ve got a cycle indicator that’s mathematical. You’ve got a rules based on price structure that’s mathematical and everybody gets the exact same way of count. So this can actually be programmed into software and look at that we put in a field name and we’re put in a real line.

It just doesn’t in my opinion make much sense to try to impose or reduce a big trend down to five waves and then expand a little trends into five waves and really those two trends are very different things. Why not number them for what they are either long trends or short trends. And to put numbers on them so that we can identify whether we’re really in a new trend late in an old trend and make it all very objective so that we’re all seeing the same thing and there’s really no guesswork to it at all.

GET MY FREE MARKET ENTRY TIMING INDICATOR

BTW, if you’re interested in the indicator that I use personally for very precise entries and exits. I’m happy to share that with you. Just send me an email at Barry@TopDogTrading.com, and I’ll show you how to get access to that indicator.

What did you think of this tutorial on Elliott Wave theory analysis? Enter your answer in the COMMENTS section at the bottom of this page.

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Also I’m giving away one of my favorite Elliott Wave theory analysis that works in trading the markets. Just fill out the yellow form at the top of the sidebar on the right. Once you do that, I’ll personally send you an email with first video.

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Forex Trade Strategy That Works in Today’s Markets

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Forex trade strategy that works
Forex trade strategy that works

Welcome to this trading tutorial on a Forex Trade strategy that works so well that I trade this every time it sets up to this day. I’ve been trading this for years and this darned thing just continues to work. See the 10 minute video below for the full tutorial.

Here is the most successful forex trading strategy I’ve found. By the way this also works on stocks as many as futures. Pretty much anything you can chart. Let’s introduce a couple of general concepts to set up the trade, why it works and the logic behind it.

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FOREX TRADE STRATEGY THAT WORKS

It’s generally accepted and I will be the first to acknowledge that there are many variations within this but generally acknowledged in the trading community that there are two types of dynamics in the market:

  1. Trend trading.
  2. Reversion to the mean trading.

Within trend trading we can include such things as low volatility breakouts that are starting a new trend trend reversals or a type of trend trade even though there were versal trade.

Reversion to the mean trades are among the best Forex trade strategy that works because they aren’t quite as well spread throughout the trading community and that’s what this one is. This is a reversion to the mean tape trade and I like these kind of trades they’re not typically as big of a reward to risk ratio but the win loss ratio on that can be very very high.

THE BEST FOREX STRATEGY EVER

If you like scalping, this may be the best Forex strategy ever. It can be a great way of making some money while you’re waiting for trends to set up. Some people say that the market’s only trend 20 percent of the time.

This green line here is the 50 simple moving average. And it’s very important that with this type of trading you use the simple moving average and not an exponential moving average or any type of moving average. That’s one thing that kind of blows people’s minds especially beginners they think well wait a minute I don’t want the slower moving average or I want a faster one because the faster moving average will follow trend and price action more closely.

SIMPLE FOREX TRADING STRATEGIES

So counter-intuitive to a lot of people. Most people think you need something complicated to be successful at trading Forex. But most profitable traders I know actually use very simple Forex trading strategies.

I always use a combination of a lagging and leading indicator and that’s part of my strategy. I use the two in combination together. The 50 SMA we use as our intermediate to trend indication. Prices above the 50  period simple moving average.That’s the kind of thing we expect in a trend.

FOREX STRATEGIES THAT ACTUALLY WORK

It’ll wiggle a little bit but basically going sideways price action goes sideways. This is one type of cycle in the market by the way. Most people think of cycles of being low high low low and that is one type of cycle that’s the oscillation type of cycle. But there are actually many types of cycles. And one of them is the trending and non trending cycles. Markets go three times were the trend. And then they go through times where they are not trending. So that’s some other type of cycle. Right. So that’s fine then. We continue to go out. Let me show you a reversion to the mean type of example.

So now we get back into a trending market with SMA going up. Prices going up higher or highest higher lows. All that great. That’s what we expect. Come back down now. Here is what we’re looking at. This is a reversion to the mean type of pattern so now all we have is wait a minute the 50 SMA I mean here’s the basic structure it’s a price structure type of trade in.

This is one of the forex strategies that actually work.

FOREX TRADING STRATEGIES FOR BEGINNERS

We had a few extra details to it but here’s the general structure of it. I love this trade for its simplicity, which also makes it one of the best Forex trading strategies for beginners.

Now we get something different instead of praise continuing to go up as the 50 period simple moving average is going up. We actually have price go down below the 50 period simple moving average for the first time and it goes down pretty hard. So it’s below the 50 period simple moving average. But guess what? The the 50 period simple moving average does not move down. It continues moving up and that’s the structure that is the key structure to this Forex trade strategy that works.

MOST SUCCESSFUL FOREX TRADING STRATEGY

So this is a basically what’s happening here is a high volatility move to the downside in a short period of time. So we could create a rectangle with that that’s what we normally do. But this is the structure as you see. This is not the norm. But it is perhaps  the most successful Forex trading strategy that I’ve come across.

FOREX STRATEGIES RESOURCES

One of the Forex strategies resources you’ll likely want to use is a scanner, and you can scan for these trades pretty easily. Just set up a scan that says you know price bars whether you want the open high open low close all that stuff. The entire bar has to be well below the 50 period simple moving average.

Then you just put into the scan prices below the 50 amain and the 50 SMA is angling up. In other words know the close of today is greater than the close of one day ago two days ago three days ago something like that to have the angle of the 50 period simple moving average angling up.

FOREX STRATEGIES REVEALED

Whatever scanner you use can help you find these Forex trading strategies revealed in their results.

These trades set up a lot or all the time but frankly most of the best trades in the world are the ones that don’t set up that often. They’re a bit of an anomaly and these seem counter-intuitive. And that’s ironically what makes them actually work. Because a lot of people aren’t going to trade that they don’t get it. They don’t understand the philosophy the mathematics behind it and the traits that most people take are the ones that don’t work. They’re professionals and understand you know an anomaly like this is something that gives you an opportunity that most retailers are now going to take.

GET MY FREE MARKET ENTRY TIMING INDICATOR

BTW, if you’re interested in the indicator that I use personally for very precise entries and exits. I’m happy to share that with you. Just send me an email at Barry@TopDogTrading.com, and I’ll show you how to get access to that indicator.

What did you think of this tutorial on Forex trade strategy that works? Enter your answer in the COMMENTS section at the bottom of this page.

PLEASE PAY IT FORWARD BY SHARING THIS VIDEO & ARTICLE ON FACEBOOK OR TWITTER by clicking one of the social media share buttons.

FREE GIFT!

Also I’m giving away one of my favorite Forex trade strategy that works in trading the markets. Just fill out the yellow form at the top of the sidebar on the right. Once you do that, I’ll personally send you an email with first video.

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Keltner Channel Trading Strategy Video Tutorial

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Keltner Channel Trading Strategy
Keltner Channel Trading Strategy

Welcome to this tutorial on Keltner Channel Trading Strategy and the keltner channel breakout system Bollinger Band and the Squeeze. See the 10 minute video below for the full tutorial.

We’re going to do a little comparison between these two types of envelopes. They are called envelopes because the lines envelope above and below the midline and the midline in this case. We’re going to use as the 20 period moving average which is right here.

So right now I have it as you can see the Keltner Channel on here. We’re looking at a Disney daily chart. And one of the big differences between the Keltner Channels. The Bollinger Bands are the Keltner Channels for mt4 and other charting platforms use an average true range to set the channel distance.

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VIDEO TRANSCRIPTION

So these are the channels here, and then we’ve got a 20 period moving average here in the middle. And by the way that is a 20 period exponential moving average. That’s typically what’s used for Keltner Channels.

Now Bollinger bands, they are calculated differently instead of using an average true range so when people use this as a trend indicator. Primarily what they are looking for is for it to show an impulse move here, strength to the upside, hit the upper Keltner Channel. Now see here it did not and but here it does so that shows a strong impulse move to the upside. Then we are looking for it to not to come back and retrace and it hit the bottom channel in order to maintain strength to the upside.

KELTNER CHANNEL TRADING STRATEGY

And that philosophy in general, I agree with. Big part of my trading is looking for the direction of that dominant energy in the market and this would be one way of doing it. So that works very well here in this particular situation. Let’s look at another one.

So as you see here, we had been in a downtrend and then we come back, we reverse, we hit the upper Keltner Channel. The market does continue up and up and up, and then it comes back down, and well let’s move the screen forward here. You can see and so in this case, actually we’ll just go ahead and move it all the way forward. And you know it looks pretty great for a keltner channel breakout system.

It does come down and hit the lower Keltner Channel and does not come back and reach the upper one, and continues with a nice downtrend. So that’s the basic use of it, the basic way of reading it. And it works pretty well if you got a market that is having a rather low volatility trend, and Disney tends to move that way.  However not all markets do. So let me show you some other examples. I’ll just, I’ll show you one more.

SCALPING WITH KELTNER CHANNEL

Now I’ve brought up GLD, so just as a different example. This one we hit the lower line. Now we go back up, hit the lower one here. And so that would indicate an impulse move to the downside but then we have one that hits to the upside which is what we don’t want in order to start a downtrend. But then it really goes down.

By the way other thing to notice is look how far price bars get below the line in the keltner channel trading strategy. So it doesn’t, if you get a high volatility market or particular time at any market, it’s not going to contain price action very well, Bollinger bands do a better job of that. One way around this however in some softwares, some software programs, you can do multiple multipliers. Well that’s good, multiple multipliers.

KELTNER CHANNEL MT4, EXCEL AND OTHER SOFTWARE

You could do, instead of just having one offset multiplier here, you could do 2, you could do 3, and that will help. A lot of people actually do that, and that’s good then you’ll have 2 bands above the mid-range, and 2 bands below the mid-range. So that’s one way to real help to answer that problem. But again you see that we go down here, well below and then we come back up well above and then we go back well below.

And so this is one of the problems and one of the reasons that I said I don’t like using this as a trend indicator is because it’s typically based on 20 periods. 20 period exponential moving average. And 20 bars is not enough to have a trend in my opinion. But word trend means in the Webster’s Dictionary, ‘The Extended General Direction of something.’ So trend by definition is a long term move, not a short term move. I think 20 period is too short of a term to measure trend. I like to go with 50. And obviously there’s really different opinions about it, that’s no problem, but that’s my opinion. And so down and down and down we go.

KELTNER CHANNEL BOLLINGER BAND AND THE SQUEEZE

I am in the Bollinger bands now. They are the red envelopes here and here. And you’ll see I am using essentially the same settings. Even though the equation is different, so I am using the same settings essentially that I did for keltner channel trading strategy. Again the equation is different, so that’s why obviously they are different.

One thing you’ll notice right away is that the Bollinger Bands, the red lines are able to capture more or contain more price action than the Keltner Channel. The Bollinger Bands they will expand and contract more. That’s because they are not based on average true range, they are based on the standard deviation which varies, so they measure volatility much better in my opinion.  Use them more for volatility than I use them for trend, again we are using a 20 period moving average, so I wouldn’t use it for trend. But for volatility I think it is very good.

Also couple of another thing that I like about the Bollinger bands is that not only do they contain price action or more price actions, so for example here, you just get three bars above the Keltner Channel, but here is the signal that I use a lot where you get a real body outside of the Bollinger band, and to me that shows extreme move.

KELTNER CHANNEL PARAMETERS

A very very unusual high volatility move that is generally unsustainable. So the keltner channel trading strategy doesn’t show you that because you get so many bars above and below it all the time. And but you don’t get as many bars above and below the Bollinger bands, and so it’s an usual activity and when it is, it’s usually measuring exhaustion. And that’s very valuable information, very valuable.

So as we come down here for example, we see that yes we are hitting the bottom here. The 2 levels are pretty even, but as volatility increases, the Bollinger bands start to move apart. That’s a, that’s a signal of increased volatility.

Something that the Keltner Channel doesn’t give you. Then when we get down to here, then this is very important, notice that all these bars here, all those bars are below the Keltner Channel but only these couple of bars here are below the Bollinger band. When I see that, then I say, oh okay Bollinger band captures the vast majority of price action and because now we have gone down so far that we’ve broken below that.

KELTNER CHANNEL TRADING STRATEGY CONCLUSION

I think we are coming to the end of that move. And that is a great signal that works a lot, and there you go. So it comes back up and that is the end of that down move, end of that trend, if you want to measure trend that way.

BTW, if you’re interested in the indicator that I use personally for very precise entries and exits. I’m happy to share that with you. Just send me an email at Barry@TopDogTrading.com, and I’ll show you how to get access to that indicator.

What did you think of this tutorial on keltner channel trading strategy bollinger band and the squeeze? Enter your answer in the COMMENTS section at the bottom of this page.

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FREE GIFT!

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