Learn What is PULLBACK and WHY It is Important For TRADING

26 Jul

In the today's post, we will discuss the essential element of price action trading - a pullback.

There are two types of a price action leg of a move: impulse leg and pullback.

• Impulse leg is a strong bullish/bearish movement that determines the market sentiment and trend.
  
• A pullback is the movement WITHIN the impulse.
  

The impulse leg has the level of its high and the level of its low.

If the impulse leg is bearish, a pullback initiates from its low and should complete strictly BELOW its high.

If the impulse leg is bullish, a pullback movement starts from its high and should end ABOVE its low.



Simply put, a pullback is a correctional movement within the impulse.

It occurs when the market becomes overbought/oversold after a strong movement in a bullish/bearish trend.



Here is the example of pullback on EURJPY pair.

The market is trading in a strong bullish trend. After a completion of each bullish impulse, the market retraces and completes the correctional movements strictly within the ranges of the impulses.

Here are 3 main reasons why pullbacks are important:

1. Trend confirmation

If the price keeps forming pullbacks after bullish impulses, it confirms that the market is in a bullish bearish trend.

While, a formation of pullbacks after bearish legs confirms that the market is trading in a downtrend.



Here is the example how bearish impulses and pullbacks confirm a healthy bearish trend on WTI Crude Oil.

2. Entry points

Pullbacks provide safe entry points for perfect trend-following opportunities.

Traders can look for pullbacks to key support/resistances, trend lines, moving averages or Fibonacci levels, etc. for shorting/buying the market.



Take a look how a simple rising trend line could be applied for trend-following trading on EURNZD.

3. Risk management

By waiting for a pullback, traders can get better reward to risk ratio for their trades as they can set tighter stop loss and bigger take profit.



Take a look at these 2 trades on Bitcoin. On the left, a trader took a trade immediately after a breakout, while on the right, one opened a trade on a pullback.

Patience gave a pullback trader much better reward to risk ratio with the same target and take profit level as a breakout trader.

Pullback is a temporary correction that often occurs after a significant movement. Remember that pullbacks do not guarantee the trend continuation and can easily turn into reversal moves. However, a combination of pullback and other technical tools and techniques can provide great trading opportunities.

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30 Jul

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