So often I’ll see students making some very basic mistakes with supply and demand zone strategies.
Usually it’s because they’ve combined methods from various sources and ended up with a confused mess of charts.
In this article we’re going to explore those basic mistakes and how to correct them.
No Fast Move – No Zone!
One of the most common mistakes I see is drawing a zone where there has been no fast move.
A Supply or Demand zone has to start with a fast move. A fast move indicates there was an imbalance in the market and an urgency for the market to go up or down.
In this 1 hour chart of the dollar index (replicated from a student), the zones have been drawn incorrectly. Can you spot what’s wrong?
Even though the lower zone did cause a reaction when the market came back, the initial move away from the zone was not fast.
The upper zone is a bit better, there was an initial pump, but then the market settled into a channeled move. There are some other reasons why we wouldn’t trade this zone too, but we’ll look at those later.
For now, just compare the zones I have drawn on the chart below in yellow vs. the student’s zones in orange. The market moved away from the yellow zones very quickly – this is exactly what we want to see.
You’ll notice that I’ve also added a failed zone. Another common “new trader” fallacy is wanting to be right all the time!
Rectangles drawn on a solitary 15 min chart just won’t cut it!
If you want to be a successful trader, I’m sorry to say that drawing rectangles indiscriminately on a 5 or 15 minute chart just isn’t going to cut it! That’s another common mistake I see all the time.
You need an understanding of when those rectangles become important, when they should be avoided and how to place them into the overall context of the market.
That’s a whole new subject about bias, flow and market structure (which I go into in my course), but for now I’m going to give you a few pointers.
Let’s take a look at that chart again, there’s a few things to notice:
- The market spiked a prior high to take out the stops and immediately reversed. That’s the first sign the market may be turning.
- It then broke down below a key resistance level with an impulse candle and subsequently started trading a new range. The strength of the impulse move through that level and subsequent trading below is another clue that market structure has turned to the down side. Note, the impulse move left a supply zone behind it.
- The market returns to supply, which would have been a good short setup.
- Another key level of multiple lows is broken, leaving further supply behind it. Again, a decent trading setup to short on the return.
With all this in mind, you get a feel for the market flow being short and definitely do not want to trade against it.
Now let’s look at a higher timeframe chart – the 4 hour.
We can see the reason the market spiked and rejected where it did. There is a 4 hour zone just above where the market spiked which is in confluence with a Price Pivot Zone. This adds to our short bias on the 1 hour timeframe.
The key takeaway is always to look at the higher timeframes – they will often give a reason why something happened on the lower timeframes.
Look for “wick backs”
Finally, something that can easily be missed on a chart.
The market will often “wick back” immediately to test a zone. When that occurs, drill down to a lower timeframe. You may find the zone has already been tested or the move away from the zone was too slow and hence not as strong as you first thought.
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