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LOOKING INSIDE THE FRACTAL
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Trading the fractals will guarantee that you will never be left out of any significant trend. This offers tremendous benefit because most of your trend following trading system profits will be made in trending markets. Trading only the initiating fractal can be consistently profitable. The downside, however, is that most traders give back a portion of their profits in bracketed or range-bound markets. We can improve on our profitability by going inside the fractal to get a better trade location. That also permits an earlier entry into any new trend.

The Profitunity Research Group spent three years of research going inside the fractal in an attempt to better understand the internal dynamics involved. We were able to break the code that indicates whether a change in trend is likely to be one that will start a new trend or one that will stay in the previous trading range.

Looking at Figure 8-8, we want to know whether there are any differences between points a and points b, c, and d that could give us trustworthy information telling us to buy before the breakout is obvious to other traders. Points a, b, c, and d are all fractals.

I suggest that you find a rubber band—a learning device for how to trade this technique.

Place the rubber band securely around your right thumb to represent the bottom of the thumb bar. It must be the right thumb, even if you are left-handed. Next, bend your ring finger and your little finger on the right hand down so that only your thumb, index finger, and middle finger are still outstretched, as in Figure 8-9.

We call this a "setup" for a possible fractal. To produce the full fractal, we must have two following bars with highs that are lower than the middle-finger high.

To place a thumb trade, you must have the three-bar setup. Each of these three bars must have a higher high and a higher low than the previous "finger"/bar (Figure 8-10). Inside bars

Using Fractals and Leverage

Rubber Band

Figure 8-9 Right hand with rubber band.

cannot count as fingers because they do not have both a higher high and a higher low. It may take more than a three-bar sequence to create this setup if you have inside bars. Remember, the only ones you count are those that have higher highs and higher lows than the previous finger.

The next criterion is that two of the three fingers/bars must be a squat or a green or any combination of squats and greens. In other words, two of the three bars must have increasing volume compared to the immediately previous bar.

Once you have this setup, you put in an order to sell one tick below the bottom of the thumb bar. What happens next?

If the market continues to move up and produces a higher thumb sell, you move your sell stop up (Figure 8-11).

If the market moves down and triggers your stop, you immediately place a stop and reverse to go long at the top of the middle finger, which is now a regular initiating up fractal signal. Your risk is from the bottom of the thumb bar (the placement of the rubber band) to the top of the middle finger (Figure 8-12).

This thumb trade technique will get you into the market at a much better trade location in a bracketed market. We call this area the "double duty dollar area" because we get a better trade location and we have less potential risk and more potential profit.

Figures 8-13 and 8-14 give a condensed description of the various forms of fractals, air bags (two-bar reversal), and thumb trades.

Figures 8-15 through 8-19 are some examples of trading simple fractals on a short time frame. Note that fractals can work equally well on longer-term time frames.

The chapter concludes with questions that will indicate your present understanding of Level Two, the Advanced Beginner in stock trading.

REVIEW QUESTIONS

•  How do you identify a fractal? List the essential charac
teristics that any fractal must contain.

•  Describe and locate the fractal start.

•  Describe and locate the fractal signal.

•  Describe and locate the fractal stop.

•  When do you call a broker to put in a fractal trade?

•  What is the purpose of the responsive fractal (thumb
trade)?

•  Describe how the thumb trade must be more "pristine"
than a regular fractal.

•  What is the primary purpose of trading the thumb
trade?

•  Describe the different exit strategies when trading in a
trend move versus trading in a bracketed (range-bound)
market.

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