Has the trend exhausted? Is there any more of the move left for me to get in? Or is this a reversal setup? These are all questions that run through the trader’s mind like locomotive on a tight schedule.
And there is one, single, solitary factor that makes all of these questions worthless expenditures of energy:
‘You will never be able to tell the future.’
While this may sound defeating, and it may even sound discouraging to some; this is simply the truth. No human being can forecast the future.
But, our inherent job as a trader is to speculate on those potential outcomes. So, we have to use analysis in an effort to try to forecast future price movements to try to get the probabilities in our favor as much as we possibly can.
In this article, we’re going to look at how price action can show indecision in a variety of formations; and then we’ll go on to show you how these situations can be traded.
What is the Most Important Price Action Formation?
The most important formation that traders can find is an allusion of indecision. There are a lot of different formations that can signal indecision. The easiest and probably most well-known indecision formation is the doji, as we looked at in the article, Candlestick Confessions – The Doji:
The Doji has a skinny candle body, with wicks on either side
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The logic behind the indecision shown in the market during the formation of a doji may seem simple: While this candle was forming, traders moved prices higher, and they moved prices lower; but in the end – price ended up very close to where it started.
But what if price didn’t end up so close to where it started?
Well, that’s indecision too – and that’s a candlestick formation that can be used by the trader.
The Spinning Top is like a Doji, but with a wider candle body:
Created with Marketscope/Trading Station
This shows indecision, just like the doji with the exception that prices put in more significant movement during that candle period.
But also related to indecision candlesticks are various flavors of Dojis:
The Long-Legged Doji has a skinny body with long wicks on either side of the candlestick body:
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The Gravestone Doji has a skinny candle body at the bottom of a long wick
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The Dragonfly Doji has a skinny candle body at the top of a long wick
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Why are these formations so important?
The very sign of indecision signals the potential for opportunity to the trader, and this is why these formations are the most important price action inflections you can find.
But these formations absolutely cannot be traded in a vaccum. Meaning, there isn’t necessarily a trade there just because a long-legged doji just printed. Rather, these indecision candlestick and formations need to be taken with context.
Traders can utilize price action to find trends, as we looked at in The Introduction to Price Action. And once the trend is found, traders can look at the chart with a bias in that direction.
Trend Diagnostics as performed with Price Action
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The trend is important because this is the most current bias in the market. That bias may be because of a fundamental catalyst, like a Central Bank Announcement; or it could be a technical event, but whatever the reason, the goal is the same: To take advantage of any prevailing biases that may exist in the market.
Once the trend is found, it is time to get to work.
How to Trade Price Action Indecision
While a doji, or spinning top can be great signals of indecision, they can also be very lousy timing indicators. So, once again, please do not enter a position SOLELY because an indecision candlestick printed on the chart.
Rather, look for the direction of the trend, and look to trade only in that direction. If the trend is up, and a doji prints, that means that we may be in the initial stages of a retracement. That retracement may last for one hour, one day, or one month – but this will often bring multiple indecision candlesticks on the shorter time frame.
Multiple Indecision Candlesticks may form during congested periods in the market
Created with Marketscope/Trading Station
Once the congestion or retracement has been seen, this can offer the trader support and/or resistance points so that the stop can be placed properly, as outlined in How to Identify Positive Risk-Reward Ratios with Price Action.
From there, the trader can look for advantageous risk-reward ratios so that when the congestion breaks, and if the trend resumes, wins can bring in far more pips than the trader risks when getting into the position.
— Written by James Stanley
