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Old 12-27-2007, 09:28 AM   #1

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[MP] Trading with Market Profile

Due to the highly successful VSA thread, I would like to also start a thread dedicated entirely for Market Profile that covers definitions, market structures, mp concepts, trade locations, pattern recognition, and more.

Market profile is perhaps used by only a small percentage of traders with very little educational material available for free compared to other technical analysis methodologies. So let's get this thread started!

Recommended Readings
  1. Mind Over Markets: Power Trading with Market Generated Information by James F. Dalton
  2. Steidlmayer on Markets: Trading with Market Profile by Peter J. Steidlmayer
  3. Markets in Profile: Profiting from the Auction Process by James F. Dalton

Things To Keep In Mind

The concepts and terminalogy covered in this thread may require you to have a basic understanding of market profile. There is a free pdf file available from the CBOT which you can download here that brushes this topic but I highly recommend to read the 3 books listed above.

Important terms:
  • Initial Balance (first 60min range)
  • Value High or VAH
  • Value Low or VAL
  • POC, VPOC
  • One-time auction
  • Extremes/Rejection

Day Types: Profile Pattern Recognition

1. Nontrend Day:

A nontrend day occurs when there is no conviction by the longer term market participants. Day traders are the only ones providing liquidity with volume being light and range being small. Lack of confidece expressed by the longer term traders causes markets to be contained within the initial balance (first hour range) as an extension of price is less likely. Traders with a view longer then the day trader see no opportunity/advantage at these price levels.

Below are a few examples of a nontrend day.





2. Trend Days (2 types):

Trend Day

A trend day occurs when there is a high level of cofidence expressed throughout the day. Larger time frame market participants must be active in order for any trend day to occur. The market is in full one-time control. One-time control refers to an auction process of continously higher lows/higher highs or lower lows/lower highs. Each 30minute price action will auction higher/lower than the previous 30minute price action. This should continue until the close.

A strong trend day will usually leave the opening price near or at the high/low for the day. Below are a few examples of a trend day.





Double Distribution Trend Day

A double distribution trend day occurs when trading is light during the day followed by a sudden expansion of the initial balance by the longer term market participants later in the session. This one-time activity usually occurs into the afternoon session. This sudden change can be caused through fundamentals, news, economic reports, or just plain supply or demand.

Below are a few examples of a double distribution trend day.





3. Neutral Day

A neutral day occurs when longer term market participants express opposite views amongst each other. In other words, range extension may occur both above and below the initial balance with minimal price change for the day. Both sellers and buyers are present in a neutral day. Because the longer time frame participants do not agree on the same price they trade mainly with the locals or the middleman. In other words, sellers exist above value as they find price to be too expensive while buyers exist below value as they find price attractive. This profile resembles a complete market in balance as all short term and long term traders are involved.

Below are a few examples of a neutral day.



4. Normal Day

A normal day occurs when there is a small participation by the longer time frame traders expanding the initial balance by approximately half the range of the IB. So if the initial balance was 60 Dow pts, an extension would be 30pts above or below the initial balance.

Normal days have a tendency for active action at the opening hours followed by dull two-sided trading for the remainder of the day. A normal day may also have a wide initial balance indicating a strong conviction by the longer term time frame traders at the open followed by no follow through. The result will lead to price action contained within the initial balance.

Below are a few examples of a normal day.





5. Normal Variation Day

A normal variation day occurs when the other time frame market participant steps into early in the day to upset the initial balance. The range extension is usually double the initial balance. So if the initial balance was 40 Dow points, the range extension would be roughly 80 pts above or below the IB.

The extension causes value area to move higher/lower and is followed by two-sided price action for the rest of the day. Below are a few examples of a normal variation day.



To Be Continued...
Attached Thumbnails
[MP] Trading with Market Profile-nontrend-day-market-profile-chart.jpg   [MP] Trading with Market Profile-trend-day-candlestick-chart.jpg   [MP] Trading with Market Profile-trend-day-market-profile-chart.jpg   [MP] Trading with Market Profile-double-distribution-trend-day-candlestick-chart.jpg   [MP] Trading with Market Profile-double-distribution-trend-day-market-profile  

[MP] Trading with Market Profile-neutral-day-market-profile-chart.jpg   [MP] Trading with Market Profile-normal-day-maket-profile-chart-1.jpg   [MP] Trading with Market Profile-normal-day-maket-profile-chart-2.jpg   [MP] Trading with Market Profile-normal-variation-day-market-profile-chart.jpg  
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Last edited by Soultrader; 12-27-2007 at 01:12 PM.
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Old 12-27-2007, 10:53 AM   #2

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Market Profile Terminalogy

Market Profile Concepts

Initial Balance - Initial balanace refers to the first 60minutes of trading. This time zone is possibly the most important time period as it offers clues to what sort of market one can expect.

A and B period in the chart below shows the initial balance. This term willl continue to come up in the following posts so make sure to learn this key terminology.



Value Area - A market profile chart plots price as a bell curve. This bell curve is then divided into the first, second, and third standard deviation. The first deviation of this bell curve includes the 68% of the total volume, the second deviation includes 29% of the total volume, and the third deviation includes approximately 3% of total volume. See chart below:



The first standard deviation or roughly 68%-70% of the area where most market action took place is the value area.

Point of Control or POC - Point of control is the price level in with the most TPO's. In other words, it is the level in which the markets spent the most time trading.



TPO or Time Price Opportunity - TPO simply refers to each alphabet plotted. Each letter reprents a 30 min time period. One can count the number of TPO's above and below the POC to determine buying vs selling control for the day.



Extremes and Tails - Tails and extremes occur as price is swiftly rejected leaving a vertical line of single print TPO's. Tails are key levels in which price may have a tendency to act as support and resistance.



Range Extension - Any extension beyond the initial balance.

Attached Thumbnails
[MP] Trading with Market Profile-initial-balance-explanation-chart.jpg   [MP] Trading with Market Profile-bell-curve-explanation.jpg   [MP] Trading with Market Profile-poc-explanation.jpg   [MP] Trading with Market Profile-tpo-count-explanation.jpg   [MP] Trading with Market Profile-single-print-tails-explanation.jpg  

[MP] Trading with Market Profile-range-extension.jpg  

Last edited by Soultrader; 12-27-2007 at 01:06 PM.
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Old 12-27-2007, 12:12 PM   #3

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Live Charts and Examples

Here is an example chart from 12/28/07 for further explanation.

First chart shows a regular 30min market profile with A period starting at 9:30am EST. Second chart is the same chart but broken down into TPO segments.





One of the safest ways to trade with market profile is to wait until the Initial Balance has developed. The first 2 periods offers the biggest clues to what type of market we are likely to develop.

One of the things to watch for weakness on a price chart would be lower highs. With a market profile chart, the same concept can be seen when a time period is unable to break above the high of the previous 30minute session. Chart 2 illustrates this with the combination of market internals using the $TICK. Hence, in my opinion learning to use market internals as well as other technical tools is extremely powerful when trading with a market profile chart. This combination offers an edge.

Chart 3 shows how "C period" high also met resistance from the past 2 session lows and 12/22 high.



Any short trades from C period high down to 13550 would of offered great opportunities. Why not play the break of the initial balance? I personally do not play breakouts of the IB. I prefer to wait for a retracement back towards a high of a earlier TPO segment. For example, in the same day if one missed a trading opportunity to the short side a second setups occurs at E and F period.



Price can not reverse until one-timing auction is cut off. So best to trade with the trend until this happens.
Attached Thumbnails
[MP] Trading with Market Profile-dec.-28-2007-chart-1.jpg   [MP] Trading with Market Profile-dec.-28-2007-chart-2.jpg   [MP] Trading with Market Profile-c-period-resistance.jpg   [MP] Trading with Market Profile-e-f-period-dec.-28-2007.jpg  

Last edited by Soultrader; 12-27-2007 at 01:35 PM.
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Old 12-27-2007, 02:01 PM   #4

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Insights to Value Area

One of the most important element with market profile is the value area. It is important to ask questions like:
  • Are we likely to trade above/below value today? If so, why? If not, why?
  • Can we expect price to remain in the previous days value area or range?
  • Which way is the market trying to auction? Is it doing a good job getting there?
  • Is the price break above/below the initial balance valid? Are we likely to see longer term participants step in to sustain this breakout move? Why or why not?
  • Are we seeing two sided market action?
  • Are we likely to see price pushed back into the initial balance?
  • Was the move above/below the initial balance a rejection pattern?
  • Which way are the markets likely to test first?
  • What does the opening price action tell me?

The point here is that the markets need good activity to move away from the previous day value and to trade away from the initial balance. If there is nothing that hints out any range extension, you can expect price to return to value. This is the most important concept of market profile in my opinion. Understanding this simple concept will help find good trade locations built around this concept.

For example on Dec. 27, 2007 former Prime Minister Benazir Bhutto of Pakistan was assassinated. The futures market reacted negatively on this news causing price to decline premarket.



My first reaction was that the Asian markets may gap down and open lower because of political unstability and chaos in the Asian region. This may impact the US markets as well due to the tight correlation. Next, I asked are we likely to create value placement lower compared to the past two sessions? I had a fundamental reason for lower value placement. Now I needed technical evidence to place any short trades.



Thus I am holding a bias first but with confirmation through price action and trade location through market profile.

The Slip

The slip is what I like to call when price breaks out of the initial balance just to be rejected. In other words, the initial reaction to push price out of the initial balance or value area was wrong. Now we are likely to rotate in the opposite direction. The slip is so common that this is one of the reasons I do not trade momentum IB breakout plays.

To be a good market profile trader, I think one needs to have keen intuition on these slips. Are you seeing buying interest above the initial balance? Are you sensing diminishing demand and weakness? Fading these breakouts takes courage but is one of the most profitable setups one can take. If you short above value, you are simply responding to expensive prices relative to the previous day value. If you are buying below value, you are responding to cheap prices relative to the previous day value. This is responsive activity.

Initiative activity on the other hand is buying above the previous day value area or selling below the previous day value area. The reason you would be buying above value is because you sense a shift in market balance and higher value placement. Vice versa for selling below value.

The most important thing to remember is: Is the market you trade a responsive or initiative type market?

To be continued...
Attached Thumbnails
[MP] Trading with Market Profile-market-reaction-news.jpg   [MP] Trading with Market Profile-technical-confirmation.jpg  
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Old 12-27-2007, 03:38 PM   #5
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Re: [MP] Trading with Market Profile

I am very excited about this thread. I am about to enter into a MP "educational phase".

Would you adivse reading the books in the order you listed them above?
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Old 12-27-2007, 03:47 PM   #6

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Re: [MP] Trading with Market Profile

Quote:
Originally Posted by 404 »
I am very excited about this thread. I am about to enter into a MP "educational phase".

Would you adivse reading the books in the order you listed them above?
Yes, I would recommend to read in that order. Mind over Markets is the easiest to understand of the three. Steildmayer will help you add further insights.
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Old 12-27-2007, 05:30 PM   #7

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Re: [MP] Trading with Market Profile

Wow. Very nice stuff Soul thank you.
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Old 12-27-2007, 09:09 PM   #8
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Re: [MP] Trading with Market Profile

thanks again soultrader!
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