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One of the most difficult challenges for traders is finding entries and exits. Its an important question that needs to be answered and can determine if you are;

1. getting in at the correct location
2. can have your risk defined and as minimal as possible
3. have a clear location to take profit
4. and know how to protect the position

If any of these are challenging for you, then you will want to learn how to use pivot points.

Created by floor traders decades ago, they were used as a method to mark key levels of support and resistance. It started out with the daily pivot but morphed into other pivot levels the institutions are watching constantly on a daily basis. If I told you about 70-80% of all 1hr candles will touch a pivot level from the London open to the London close and sometimes even the NY close, would you pay attention to them? I’d hope so because price action’s constant contact with them suggests their potency as something that has to be respected.

Before we go into examples of them on the charts, we will go over their basic construction.

All the pivots start with the composition of the DP or Daily Pivot. The DP is calculated by adding yesterday’s high, low and close, then dividing them all by 3. The formula looks like this:

DP = (H + L + C) /3

If you think about it, some of the most important pieces of data from a price action perspective are yesterday’s high, low and close. The high and low mark the extremes of price for that day (or how far the market was willing to go) and the close measures the acceptance of price at a particular level, along with how much strength in the buying or selling there was (determined by the closes’ position to the high or low).

The remaining pivots are calculated by various multiples of the DP. The formulas are below:

s1 = DP - (H - DP);//S1
s2 = DP - (H - L); //S2
s3 = L - (H - L); //S3

r1 = DP + (DP - L); //R1
r2 = DP + (H - L); //R2
r3 = H + (H - L); //R3

To briefly define them, the S1, S2 and S3 are what we call support pivots (S = Support) and the R1, R2 and R3 are what we call resistance pivots (R = Resistance).

The S1 Pivot is the closest of the support pivots and the R1 the closest of the resistance pivots. The farther we go out (S2, S3, R2, R3) the further the pivots are from the DP.

A chart below will show what they are and how they relate to price.

In this chart we are looking at the USDJPY on the 4hr time frame. The red lines are Resistance pivots and the blue lines are Support pivots. The yellow lines are Mid-Pivots and are simply the halfway point between any two pivots.

So how do Pivots help you with Entries and Exits?
Simple. The institutions regard pivots as one of the most important things for placing intraday entries and exits. Price actions response to them confirms this but in regards to any other indicator out there, nothing has more contact with price action than pivot points (except a really short moving average which has little meaning to price at that point).

There are actually statistics out there which show how price will make contact with pivots 70-80% of the time (on hourly chart).

Lets take a look at the GBPUSD on the 30m chart below.

The grey line represents the London open (today Feb. 11th, 2010). We can see from the recent top why price today got rejected up around 1.5650/60 because of the last top there and price’s rejection at this level.

But what about the bottom? The previous bottom was 1.5573 which the two candles to the left had touched but today, price went another 15pips past them. Why did the two candles today go past them and why did the market reject or react so sharply to those levels?

Also, after bouncing off the bottom, price climbed to 1.5610 where two wicks to the topside formed and caused a small rejection. What was there to reject price in the past?
This exact same rejection level became a support level once price had broken it.

Take a look at the chart below and you will have the answer why.

As you can see, price went past the previous support level and touched the S1 (Support 1 Pivot). Treated it as support for two candles, then rejected off of it.

Where did it go to?
The M2 Pivot (Mid2 Pivot) and rejected twice off there. Once price broke this level, it then came back to do what? Treat the Mid-2 Pivot as support.

These types of reactions/responses from the market occur all the time on an intraday basis. They give the trader a much more precise level to enter the market for intraday trading while also giving us ideas for precise exits.

If you would like to learn how to use them for precise entries and exits for your intraday trading, learn what the % chance price will break any given pivot on any given day, learn what the % chance price will touch the next pivot after breaking one pivot, or how to spot key reversal and breakout strategies using pivots, then check out the Price Action and Pivot Point Course.

We have gone over one method to use the 20ema for getting into trends after they have materialized and gotten underway. In this article, we will talk about another common setup trends often form giving us as traders another method to get into trends.

The EMA Failure – With Trend Setup

As mentioned before, trends will often oscillate and provide minor pullbacks before resuming another leg of the trend. These moves can pullback to the 20ema, touch it and then continue trending. Another method is the EMA failure, where the trend will pullback to the 20ema, break it briefly, and then resume the trend. We will talk about this method and gives some examples.

It stands to reason the institutions are watching how price action responds to these moving average touches because the market so often responds to them in such a clear and undeniable fashion. If a moving average has acted as support (or resistance) during a trend, then when it breaks it, the market should or could reverse. However, more often than not, the institutions will often use this as an opportunity to get back in the trend. It is often the case after breaking counter-trend the 20EMA, it will shortly after slam back above (or below) it to resume the trend. Lets look at a few examples and talk about some common characteristics when this happens.

AUDUSD 4hr Chart

Moving in a solid consistent downtrend, the pair has had several touches off the 20ema treating it as resistance and a trend continuation signal. However, look at the middle of the chart where it breaks it for 2.5candles. Usually when something is treated as resistance and gets broken, the buyers come in thinking the trend is over or reversing. However, the market never did this as the price action after it barely gained ground only to slam back below the 20EMA and start another run. It did this a total of three times with the behavioural pattern the same each time.

GBPUSD 4hr Chart

Already in a strong downtrend, the pair pong’d off the 20ema once and sold off for another 28hrs straight, dropping 300pips in the process. However, take a look at what happened when it actually broke the 20ema for the first time and closed above it.

After closing above it, some traders might have gone long and quickly gotten trapped in this move after the pair on the following candle formed an outside reversal candle and then sold off 350pips in the next 48hrs. Not all EMA breaks are created equal and its important to realize when they are the real deal and when they are with-trend setups.

2 Key Points

The market will often exhibit two key characteristics when the 20ema break is a failure or a with-trend setup.

1. Time – the market spends a short period of time (3-4candles max) above the 20ema on the other side of the trend before breaking back above (or below) it in the direction of the original trend. This is the market showing with time that trend is still alive and about to start another leg
   
2. Reversal Slam – after breaking above the 20ema counter-trend, the market comes back with a vigor slamming back below (or above) the 20ema with trend to show their renewed energy to continue the trend. The strong price action move is confirmation with a lot of money from the institutions the trend is going to resume and this move is often highlighted with a reversal pattern of sorts as in the case below (outside bar)

   When you have the combination of the Time and Reversal Slam together on a counter trend 20ema break, it gives us traders a with-trend setup that is usually low risk and high reward but more importantly, a way to trade trends after missing the initial move.

   To learn more advanced price action setups, check out the Price Action and Pivot Point Course.

One of the amazing things about the Ichimoku Cloud is the actual Cloud or ‘Kumo’ which is something unique wherein nothing like it was created before and nothing sense has come after. The Ichimoku Cloud or Kumo is designed to represent support or resistance but in a different form the western world has seen – to view support and resistance as evolving or dynamic and not static like pivot lines, Fibonacci lines, support lines or trend lines.

To the creator (Goichi Hosada), support and resistance was evolving and really based upon previous price action. Particularly, the highs and lows of previous price action was of great concern to Hosada (along with the opens and closes) which showed levels of rejection where the market would not accept price. The previous highs and lows would also give traders the range where the market was accepting price.

So the real question is ‘how’ does the Ichimoku Cloud or Kumo represent support and resistance? The answer lies in the construction of the Cloud or Kumo.

Kumo Composition

There are two main lines of the Kumo which are referred to as Senkou Span A and Senkou Span B.  For the purposes of efficiency, we will refer to them as Span A and Span B.  The space or value in between these two lines is what forms the Kumo.

Span A is formed by taking the Tenkan Line and adding it to the Kijun Line (white and red lines respectively from chart above), then dividing that value by 2 and plotting it 26 periods ahead.  The formula is;

(Tenkan Line + Kijun Line) / 2 placed 26 periods ahead

Span B is formed by taking the highest high (over the last 52 periods), adding to it the lowest low (over the last 52 periods), dividing that by 2 and plotting that 26 time periods ahead.  The formula is;

(Highest High + Lowest Low for the last 52 periods) / 2 and plotted 26 time periods ahead.

Now, before we fully get into the construction of the Kumo, we have to talk about what the Tenkan and Kijun lines are which help to form the ever changing Senkou Span A.

The Tenkan Line or Tenkan Sen (Sen means line in Japanese) is known as the conversion line or turning line is similar to a 9SMA but actually is quite different.  Remember a SMA (simple moving average) will smooth out all the data and make it equal but the Tenkan Line will take the highest high and lowest low over the last 9 periods.  The explanation for this is Hosada felt price action and its extremes were more important than smoothing any data because price action represented where buyers/sellers entered and directed the market, thus being more important than averaging or smoothing the data out.  As you can see by the chart below, the Tenkan Line is quite different than a 9SMA.  Because the TL (Tenkan Line) uses price instead of an averaging or the closing prices, it mirrors price better and is more representative of it.  You can see this when the TL flattens in small portions to move with price and its moments of ranging.

The Kijun Line (or Kijun Sen) is known as the datum line, standard line or trend line designed to indicate the overall trend for the instrument or pair.  The formula behind it is the same as the Tenkan line using price action and the highest high + lowest low with the only change being in the periods as it does it over the last 26 periods.

Why 26 periods?  The answer to that is a matter of history.  When the Ichimoku was first created, the Japanese markets were open 6 days a week on Saturdays.  If the markets are open 6 days a week, this generally results in 26 trading days for the month - hence 26 periods for the Kijun.  In essence, what it was meant to be was a measure of the highest high + lowest low for the last month of price action.  If the Kijun has been climbing - it means price has been gaining ground for the last month.  If it is flat, then it will be the midpoint of the range of price for the last month of price action (or representative of the price equilibrium).

Now that we have uncovered the composition of the Tenkan and the Kijun lines, lets talk about how they form the Senkou Span A.

Going back to its construction:

Span A is formed by taking the Tenkan Line and adding it to the Kijun Line (white and red lines respectively from chart above), then dividing that value by 2 and plotting it 26 periods ahead.  The formula is;

(Tenkan Line + Kijun Line) / 2 placed 26 periods ahead

So the Tenkan line (which is the momentum line) and the Kijun line (which is the trend line) that are based upon price action are moving. Their valued added together, divided by 2 and sent 26periods ahead is what forms the Senkou Span A or Span A. So the first portion of the Ichimoku Cloud or Kumo is based upon evolving price action lines which are half momentum, half trend monitoring. When you put these two together, you get the Span A which is always changing based upon the acceleration or deceleration of price based upon how they effect the Tenkan/Kijun lines (and in turn, the Senkou Span A).

The second line is the Senkou Span B which is a little different. Its based solely upon price action, particularly the last 52 candles of whatever time period you are on. If you are working with a daily chart, we are talking about the last 52 days, for a 1hr chart, the last 52 hours of price action. After taking the high and low for the last 52 candle range, it takes their values, divides them in half, and shoots them 26 time periods ahead.

The shading in between is called the Cloud or Kumo.

Why 26 periods?

The answer to that is a question of history. Originally, when the Ichimoku Cloud was built, Hosada was mostly using it off of daily charts. The Japanese were trading 6 days a week so 26 days would represent a full month of trading. Hence 26 time periods to see where future support and resistance would be one month out.

This is where we can use the Ichimoku Cloud for reversals.

If the Ichimoku Cloud or Kumo represents support and resistance, then the thicker the Cloud, the thicker the S/R it offers. If price is below the Kumo, it will act as resistance, if price is above the Kumo, it will act as support. The Cloud can take many forms and shapes (virtually infinite) which is what makes it tricky but thick Kumo’s often will reject price and the longer the time frame (4hr, Daily, Weekly), the more powerful the Kumo will act as support or resistance.

Take a look at some examples below.

USDJPY 4hr Charts

Notice how the pair rejects off the really thick Cloud but when it reverses is where the Cloud was the weakest or most thin.

USDCAD 4HR Charts

Taking a look at another example, the USDCAD after its initial fall, rejected off a really thick Kumo twice telling us a reversal was less likely. However the Kumo starts to thin out giving us a window to break through the Kumo and likely reversal point.

So the key tactic in both is to look for thinner Cloud formations which offer a window or glimpse into an upcoming reversal. Remember the Kumo is sent 26time periods ahead so you have plenty of warning when the window is opening. If you are in the current trend, the window in the Kumo could be a warning to take some profits or if you are looking for a reversal, then the Cloud offers you a good location and method to time a reversal which is one of the hardest things to do in trading.

Another clue hidden in the Cloud can be the flipping of the Senkou Span A and B which can indicate a reversal but do not always. The other main point is price does not always reject off a thick Kumo so its important to watch price action as well but the Ichimoku Cloud is excellent at spotting and timing reversals.

To learn more about the Ichimoku Cloud, or proprietary quantitative based strategies on the Ichimoku Cloud, check out the Advanced Ichimoku Course.

Using the Ichimoku Cloud to discover Reversals

One of the amazing things about the Ichimoku Cloud is the actual Cloud or ‘Kumo’ which is something unique wherein nothing like it was created before and nothing sense has come after. The Ichimoku Cloud or Kumo is designed to represent support or resistance but in a different form the western world has seen – to view support and resistance as evolving or dynamic and not static like pivot lines, Fibonacci lines, support lines or trend lines.

To the creator (Goichi Hosada), support and resistance was evolving and really based upon previous price action. Particularly, the highs and lows of previous price action was of great concern to Hosada (along with the opens and closes) which showed levels of rejection where the market would not accept price. The previous highs and lows would also give traders the range where the market was accepting price.

So the real question is ‘how’ does the Ichimoku Cloud or Kumo represent support and resistance? The answer lies in the construction of the Cloud or Kumo.

Kumo Composition

There are two main lines of the Kumo which are referred to as Senkou Span A and Senkou Span B.  For the purposes of efficiency, we will refer to them as Span A and Span B.  The space or value in between these two lines is what forms the Kumo.

Span A is formed by taking the Tenkan Line and adding it to the Kijun Line (white and red lines respectively from chart above), then dividing that value by 2 and plotting it 26 periods ahead.  The formula is;

(Tenkan Line + Kijun Line) / 2 placed 26 periods ahead

Span B is formed by taking the highest high (over the last 52 periods), adding to it the lowest low (over the last 52 periods), dividing that by 2 and plotting that 26 time periods ahead.  The formula is;

(Highest High + Lowest Low for the last 52 periods) / 2 and plotted 26 time periods ahead.

Now, before we fully get into the construction of the Kumo, we have to talk about what the Tenkan and Kijun lines are which help to form the ever changing Senkou Span A.

The Tenkan Line or Tenkan Sen (Sen means line in Japanese) is known as the conversion line or turning line is similar to a 9SMA but actually is quite different.  Remember a SMA (simple moving average) will smooth out all the data and make it equal but the Tenkan Line will take the highest high and lowest low over the last 9 periods.  The explanation for this is Hosada felt price action and its extremes were more important than smoothing any data because price action represented where buyers/sellers entered and directed the market, thus being more important than averaging or smoothing the data out.  As you can see by the chart below, the Tenkan Line is quite different than a 9SMA.  Because the TL (Tenkan Line) uses price instead of an averaging or the closing prices, it mirrors price better and is more representative of it.  You can see this when the TL flattens in small portions to move with price and its moments of ranging.

The Kijun Line (or Kijun Sen) is known as the datum line, standard line or trend line designed to indicate the overall trend for the instrument or pair.  The formula behind it is the same as the Tenkan line using price action and the highest high + lowest low with the only change being in the periods as it does it over the last 26 periods.

Why 26 periods?
The answer to that is a matter of history.  When the Ichimoku was first created, the Japanese markets were open 6 days a week on Saturdays.  If the markets are open 6 days a week, this generally results in 26 trading days for the month - hence 26 periods for the Kijun.  In essence, what it was meant to be was a measure of the highest high + lowest low for the last month of price action.  If the Kijun has been climbing - it means price has been gaining ground for the last month.  If it is flat, then it will be the midpoint of the range of price for the last month of price action (or representative of the price equilibrium).

Now that we have uncovered the composition of the Tenkan and the Kijun lines, lets talk about how they form the Senkou Span A.

Going back to its construction:

Span A is formed by taking the Tenkan Line and adding it to the Kijun Line (white and red lines respectively from chart above), then dividing that value by 2 and plotting it 26 periods ahead.  The formula is;

(Tenkan Line + Kijun Line) / 2 placed 26 periods ahead

So the Tenkan line (which is the momentum line) and the Kijun line (which is the trend line) that are based upon price action are moving. Their valued added together, divided by 2 and sent 26periods ahead is what forms the Senkou Span A or Span A. So the first portion of the Ichimoku Cloud or Kumo is based upon evolving price action lines which are half momentum, half trend monitoring. When you put these two together, you get the Span A which is always changing based upon the acceleration or deceleration of price based upon how they effect the Tenkan/Kijun lines (and in turn, the Senkou Span A).

The second line is the Senkou Span B which is a little different. Its based solely upon price action, particularly the last 52 candles of whatever time period you are on. If you are working with a daily chart, we are talking about the last 52 days, for a 1hr chart, the last 52 hours of price action. After taking the high and low for the last 52 candle range, it takes their values, divides them in half, and shoots them 26 time periods ahead.

The shading in between is called the Cloud or Kumo.

If the Ichimoku Cloud or Kumo represents support and resistance, then the thicker the Cloud, the thicker the S/R it offers. If price is below the Kumo, it will act as resistance, if price is above the Kumo, it will act as support. The Cloud can take many forms and shapes (virtually infinite) which is what makes it tricky but thick Kumo’s often will reject price and the longer the time frame (4hr, Daily, Weekly), the more powerful the Kumo will act as support or resistance.

Take a look at some examples below.

USDJPY 4hr Charts
Notice how the pair rejects off the really thick Cloud but when it reverses is where the Cloud was the weakest or most thin.

USDCAD 4HR Charts
Taking a look at another example, the USDCAD after its initial fall, rejected off a really thick Kumo twice telling us a reversal was less likely. However the Kumo starts to thin out giving us a window to break through the Kumo and likely reversal point.

So the key tactic in both is to look for thinner Cloud formations which offer a window or glimpse into an upcoming reversal. Remember the Kumo is sent 26time periods ahead so you have plenty of warning when the window is opening. If you are in the current trend, the window in the Kumo could be a warning to take some profits or if you are looking for a reversal, then the Cloud offers you a good location and method to time a reversal which is one of the hardest things to do in trading.

Another clue hidden in the Cloud can be the flipping of the Senkou Span A and B which can indicate a reversal but do not always. The other main point is price does not always reject off a thick Kumo so its important to watch price action as well but the Ichimoku Cloud is excellent at spotting and timing reversals.

To learn more about the Ichimoku Cloud, or proprietary quantitative based strategies on the Ichimoku Cloud, check out the Advanced Ichimoku Course.

Traditionally, the Ichimoku Cloud is known for its ability to pick up trends and keep traders in them until they are over. It should be noted that any system or method which is good at finding trends is also good at finding reversals because if you are finding the times/locations when trends are ending, then you are finding consequently a reversal.

There are several components inside the Ichimoku Cloud which give it a unique capacity to find trends, establish if we are in a trend, which direction and when it is over. One of them is the Kumo or Cloud which is one of the most unique technical indicators out there.

Kumo Composition

There are two main lines of the Kumo which are referred to as Senkou Span A and Senkou Span B.  For the purposes of efficiency, we will refer to them as Span A and Span B.  The space or value in between these two lines is what forms the Kumo.

Span A is formed by taking the Tenkan Line and adding it to the Kijun Line (white and red lines respectively from chart above), then dividing that value by 2 and plotting it 26 periods ahead.  The formula is;

(Tenkan Line + Kijun Line) / 2 placed 26 periods ahead

Span B is formed by taking the highest high (over the last 52 periods), adding to it the lowest low (over the last 52 periods), dividing that by 2 and plotting that 26 time periods ahead.  The formula is;

(Highest High + Lowest Low for the last 52 periods) / 2 and plotted 26 time periods ahead.

What is it used for?

The most important way to look at the Kumo is as support and resistance - meaning if it is thick, then the support/resistance (depending upon where price is in relationship to the cloud) is strong.  If price is above the Kumo, we are in a general uptrend or would want to look for more buying opportunities.  If price is below the cloud, it is below resistance (the Kumo) and we want to be searching for more shorts than longs.  The longer price stays below/above the cloud, the stronger the trend we are in and the more support/resistance the Kumo will offer.

These are generic ways to look at it but effective. What is important to note is in trends, price will stay on one side of the Kumo. The farther price is from it, the stronger the trend and more volatile it is. Thus, the Kumo can be a very effective tool for option traders as well as trend/momentum traders.

How can we use it for Reversals?

Because the Kumo will often hold price on one side of it, when price breaks it, such a move can often signal a reversal. There are various factors which will increase the likelihood of a reversal such as:

• Thickness of the kumo when broken
• How long price has been on one side of it
• How far price has moved before touching/piercing the kumo
• What time frame you are working on Etc.

These are all critical when assessing whether a Kumo break is signifying a reversal or not.

A few examples

Take a look a the AUDUSD below. It was below the Kumo for a long period of time and had a massive fall. Then after a couple of attempts on the daily chart, broke above the Kumo. Now remember the Kumo represents support and resistance so the pair breaking above it, then coming back to the Kumo to treat it as support was a great role-reversal play. After retouching the Kumo, it went on a 3000 pip run!

Another example is on the AUDJPY on the daily chart which was on a smooth consistent uptrend. Look what happened when it broke the kumo. It took a few days, but then after attempting to break back above, treated the Kumo as resistance, and the pair then fell over 1300 pips in a few months.

Final Notes

The Kumo Break method is one of the key systems used by Ichimoku traders for spotting key reversals, qualifying them and giving traders a unique opportunity to either take profits or reverse positions. Its great for timing trends, reversals and trading key reversals when they are in play. Because of its unique ability to measure support and resistance, the Ichimoku Cloud and its Kumo construction offer the trader some unique trade opportunities.

It should be noted there are other key elements needed to trade the Kumo Breaks with precision. We have analyzed Kumo breaks on Forex, Futures, Commodities and Indices over the last 10 years and with our proprietary indicators and analytical programs, are able to give precise measurements for how far and long a Kumo break should travel which gives you a precision edge when trading them.

To learn more about our proprietary Ichimoku systems, visit our Advanced Ichimoku Course where you will get access to 10 years of proprietary quantitative data on how to trade Ichimoku Clouds.

This is by far the most popular of the trading methods in the Ichimoku Cloud’s arsenal.
It is simple, elegant and great at picking up trends and trend reversals. If you like trading trends or momentum trading, the Tenkan/Kijun cross is a great method to use.

What are they?

The Tenkan Line or Tenkan Sen (Sen means line in Japanese) is known as the conversion line or turning line is similar to a 9SMA but actually is quite different.  Remember a SMA (simple moving average) will smooth out all the data and make it equal but the Tenkan Line will take the highest high and lowest low over the last 9 periods.  The explanation for this is Hosada felt price action and its extremes were more important than smoothing any data because price action represented where buyers/sellers entered and directed the market, thus being more important than averaging or smoothing the data out.  As you can see by the chart below, the Tenkan Line is quite different than a 9SMA.  Because the TL (Tenkan Line) uses price instead of an averaging or the closing prices, it mirrors price better and is more representative of it.  You can see this when the TL flattens in small portions to move with price and its moments of ranging.

Akin to all moving averages, the angle of the Tenkan line is very important as the sharper the angle, the stronger the trend while the flatter the Tenkan, the flatter or lesser the momentum of the move is.  However, it is important to not use the Tenkan line as a gauge of the trend but more so the momentum of the move.  However, it can act as the first line of defense in a trend and a breaking of it in the opposite direction of the move can often be a sign of the defenses weakening.

The Kijun Line (or Kijun Sen) is known as the datum line, standard line or trend line designed to indicate the overall trend for the instrument or pair.  The formula behind it is the same as the Tenkan line using price action and the highest high + lowest low with the only change being in the periods as it does it over the last 26 periods.

Why 26 periods?  The answer to that is a matter of history.  When the Ichimoku was first created, the Japanese markets were open 6 days a week on Saturdays.  If the markets are open 6 days a week, this generally results in 26 trading days for the month - hence 26 periods for the Kijun.  In essence, what it was meant to be was a measure of the highest high + lowest low for the last month of price action.  If the Kijun has been climbing - it means price has been gaining ground for the last month.  If it is flat, then it will be the midpoint of the range of price for the last month of price action (or representative of the price equilibrium).

Also like the Tenkan Line, the angle of the Kijun is reflective of the overall trend in place.  Price breaking the Kijun after being in an up/down trend often has serious consequences for that trend and can many times lead to a reversal of sorts.  Ultimately because it uses a longer period to measure price action, its a more stable method for determining the direction of the trend than the Tenkan Line.  Because of price to respect this line during a strong trend, it can potentially be used as a stop loss for traders already in the correct direction of the trend.  Hence, when price breaks or closes below it by a significant amount, the trend is often over.

Applications for the Tenkan and Kijun

The most common usage of the Tenkan and Kijun are the ‘cross’ or what we call the TKx (Tenkan-Kijun Cross).  Similar to how a MACD uses a cross of its two lines, the Ichimoku Cloud does the same.  It is interesting to note that the Ichimoku uses the same periods as the MACD, however it was created over a decade earlier.

One of the main signals for Ichimoku traders, the TKx can often indicate when a trend is about to begin by forming a cross (upward cross = possible upward trend while downward cross = possible down trend).  A generic upward cross can be used as a bullish signal (or exit for people already short) and a generic downward cross can be used as a generic bearish signal (and vice versa for current bulls).  However, notice we used the term ‘generic’ meaning there is more to the cross.

Hosada was able to give a further definition to the cross based upon its position to the Kumo or cloud.  If the cross was below the Kumo, then it was considered a ‘weak’ signal since the cross was below the Kumo or below resistance.  A medium signal was when a cross happened inside the Kumo as it was occurring within the field of support/resistance.  A strong signal was when the bullish cross happened above the Kumo as it was happening after clearing resistance.  The opposite is true for bearish signals whereby a weak signal is a cross above the Kumo, while a medium signal is inside the Kumo and a strong signal below the Kumo.  One important reminder to all this is to make sure you reference the Chikou Span to see how current price is in relationship to previous price action.

Exhibit A

Take a look at how the USD/INX gave 3 strong downward crosses with each move selling off nicely and never penetrating the Kumo highlighting the downtrend.

In another example, the AUDUSD gives a nice upward cross in an already established uptrend. First it entered the Kumo but had a very shallow penetration leading to a strong upmove over 1300pips from the Tenkan/Kijun cross.

Closing
There are many important factors to consider when trading the Tenkan/Kijun cross such as time frame, kumo shape/configuration, previous moves-series of crosses, angle/shape of the cross, etc.

We have proprietary quantitative data on all pairs for the last 10 years to give you an edge when trading the Tenkan/Kijun cross. To get access to this data, or learn how to trade the Ichimoku on an advanced level, check out the Advanced Ichimoku Course

When trading price action or using price action triggers such as Pbars, Inside Bars, Shaved Bars, etc. it is important to always wait for the bar/candle to close more than anything else. Many people have challenges trading any system because the signals are forming in real time and not necessarily when the candle closes so you have moving elements to the candle, trigger and price action which are still in play.

Continue Reading “Trading the Open and Close of the Candle”

Wicks are an interesting phenomenon in price action formations and are virtually a part of every candle. Wicks can form on the top, bottom or both sides of a candle and represent the highs and lows of the price action for that candle on that time period.

What is important to remember about learning to read price action and wicks is that the wicks themselves are ‘rejection’ areas where the market simply rejected the prices of the wick.

It is important to note we are talking about the closes of candles and the wicks that form after because until a candle closes, it could be anything. However, once it closes, its final and its stamp is permanent.

When we have a wick that is large, that wick is clearly communicating to us for that time period (time compression for the candle) where the market was not accepting price.
If the prices were accepted, then price would remain there for a decent amount of time and close there. However, the fact that price does not close there means the market is rejecting that price value for that time.

If we are talking about 5min charts, then the market has rejected that price level via the wick for only 5minutes which is not that significant. However, when we start to look at 4hr or daily charts, this is significant. If you think about it, day traders are only witnessing two 4hr candles in a day, max three so for price to have a long wick on a 4hr chart is very significant as any day trader will take notice of the 4hr rejection as being a long period of time for price to be rejected – hence they will really have to think about trading against such a price action formation. Minimally, we suggesting looking at nothing less than the 2hr chart for significant wicks.

Taking a look at the example below, notice how every time the GBPUSD reversed, it did so with a very large wick and almost at the same price level? This was telling us the market simply did not accept prices at these levels with sellers aggressively entering the market quickly causing the pair to drop fast and not even close at those levels. The most notable one was the last wick with the wick being over 2/3 of the entire candles price range suggesting there was competition to sell the pair that high.

If the long wick is on a daily chart, day traders from all three sessions will have to take note of it and really be confident about their trade to go against the wick which is where the market rejected price for that entire day. If you are a day trader, you are only looking to be in a trade for a matter of hours and likely targeting an amount of pips less than the daily range for that pair (or at least you should be).

With that being said, they are also likely either targeting the price action within the days range or a breakout. However, what price levels are they watching if trading breakouts?

The highs and lows of the days candle which includes the wicks. And if the wicks represent a rejection zone, any day trades will have to be outside of it, thus making the chances of trades being placed inside the region of the wick less likely.

It should be noted when analyzing price action that the markets will usually make a second attempt to breach a price level before it gives up. Thus, if someone is going to reverse a pair, using the tail end of the wick offers the trader good risk/reward opportunities.

To learn how to find and trade these price action strategies, check out our ProForex Course which teaches you simple, rule-based proprietary price action strategies based upon 10+ years of quantitative data and analysis.

A somewhat common but important price action behavior, and Inside Bar is a candle that is completely inside the previous candles high and low. This is not just referring to the body, but the wicks as well being inside the previous candles price action. Why are inside bars important and how can they lead to trading opportunities?

Continue Reading “What is an Inside Bar?”

Introduction
Still growing amongst the Western and European traders, the Ichimoku Cloud (or Ichimoku Kinko Hyo = One Glance Balance Cloud Chart) was originally developed pre-WWII by a man named Goichi Hosada.  Because of the war, his research was halted and then later finished in 1968 whereby he published a 1,000 page, 4 volume body of work releasing the Ichimoku Cloud to the world under the pen-name Ichimoku Sanjin.

Originally built for the Japanese stock markets, the indicator has made its way out of the land of the Eastern sun and into the trading world at large, being applied and used widely in the Commodities, Futures, Options and Forex markets.   Part of its success is its ability to find trends and reversals well before they begin.

The Indicator

The Ichimoku Cloud has several components which give it a lot of versatility and uses.  The most unique aspect of the indicator is its ‘Kumo’ or cloud which offers a unique perspective of support and resistance.  Most western methods look at support and resistance in a linear fashion or as straight lines in the sand (e.g. Fibonacci, Pivots, Channel Lines, Trend Lines).  However the Kumo or cloud is an ever evolving object which was designed to represent support and resistance based upon price action.  Generally, when you are in a strong upward trend, the support is strong as the price levels below have been accepted.  The same goes for a strong downtrend and having more layers of resistance.  Below are two examples of up and downtrends - showing how the Kumo was quite thick in nature.

The most important way to look at the Kumo is as support and resistance - meaning if it is thick, then the support/resistance (depending upon where price is in relationship to the cloud) is strong.  If price is above the Kumo, we are in a general uptrend or would want to look for more buying opportunities.  If price is below the cloud, it is below resistance (the Kumo) and we want to be searching for more shorts than longs.  The longer price stays below/above the cloud, the stronger the trend we are in and the more support/resistance the Kumo will offer.

Kumo Composition

There are two main lines of the Kumo which are referred to as Senkou Span A and Senkou Span B.  For the purposes of efficiency, we will refer to them as Span A and Span B.  The space or value in between these two lines is what forms the Kumo.

Span A is formed by taking the Tenkan Line and adding it to the Kijun Line (white and red lines respectively from chart above), then dividing that value by 2 and plotting it 26 periods ahead.  The formula is;

(Tenkan Line + Kijun Line) / 2 placed 26 periods ahead

Span B is formed by taking the highest high (over the last 52 periods), adding to it the lowest low (over the last 52 periods), dividing that by 2 and plotting that 26 time periods ahead.  The formula is;

(Highest High + Lowest Low for the last 52 periods) / 2 and plotted 26 time periods ahead.

We will talk about some important points regarding the construction of the Kumo later.

Other Ichimoku Components

(Tenkan, Kijun and Chikou Span Lines)

The Tenkan Line or Tenkan Sen (Sen means line in Japanese) is known as the conversion line or turning line is similar to a 9SMA but actually is quite different.  Remember a SMA (simple moving average) will smooth out all the data and make it equal but the Tenkan Line will take the highest high and lowest low over the last 9 periods.  The explanation for this is Hosada felt price action and its extremes were more important than smoothing any data because price action represented where buyers/sellers entered and directed the market, thus being more important than averaging or smoothing the data out.  As you can see by the chart below, the Tenkan Line is quite different than a 9SMA.  Because the TL (Tenkan Line) uses price instead of an averaging or the closing prices, it mirrors price better and is more representative of it.  You can see this when the TL flattens in small portions to move with price and its moments of ranging.

Akin to all moving averages, the angle of the Tenkan line is very important as the sharper the angle, the stronger the trend while the flatter the Tenkan, the flatter or lesser the momentum of the move is.  However, it is important to not use the Tenkan line as a gauge of the trend but more so the momentum of the move.  However, it can act as the first line of defense in a trend and a breaking of it in the opposite direction of the move can often be a sign of the defenses weakening.

The Kijun Line (or Kijun Sen) is known as the datum line, standard line or trend line designed to indicate the overall trend for the instrument or pair.  The formula behind it is the same as the Tenkan line using price action and the highest high + lowest low with the only change being in the periods as it does it over the last 26 periods.

Why 26 periods?  The answer to that is a matter of history.  When the Ichimoku was first created, the Japanese markets were open 6 days a week on Saturdays.  If the markets are open 6 days a week, this generally results in 26 trading days for the month - hence 26 periods for the Kijun.  In essence, what it was meant to be was a measure of the highest high + lowest low for the last month of price action.  If the Kijun has been climbing - it means price has been gaining ground for the last month.  If it is flat, then it will be the midpoint of the range of price for the last month of price action (or representative of the price equilibrium).

Also like the Tenkan Line, the angle of the Kijun is reflective of the overall trend in place.  Price breaking the Kijun after being in an up/down trend often has serious consequences for that trend and can many times lead to a reversal of sorts.  Ultimately because it uses a longer period to measure price action, its a more stable method for determining the direction of the trend than the Tenkan Line.  Because of price to respect this line during a strong trend, it can potentially be used as a stop loss for traders already in the correct direction of the trend.  Hence, when price breaks or closes below it by a significant amount, the trend is often over.

The Chikou Span or lagging line is created by taking the current closing price for the instrument and shifted 26 time periods back, hence why it is a lagging line.  This is a strange concept and not something usually seen in technical indicators which makes the Ichimoku Cloud even more unique.  The purpose is simply to gain perspective in regards to how the current price action is in relationship to previous price action.

The main application for giving perspective to the trader is how does the Chikou Span relate to price 26 periods ago.  If the Chikou Span is lower than price 26 periods ago, then there is resistance for the current upmove or pressure which could force price down into a bearish move.  However if the Chikou Span is above price from 26 periods ago, then it would mean there is little or no resistance ahead since price is in the process of making new highs and there is no recent price above it - thus paving the way for a strong trend.

Applications for the Tenkan and Kijun

The most common usage of the Tenkan and Kijun are the ‘cross’ or what we call the TKx (Tenkan-Kijun Cross).  Similar to how a MACD uses a cross of its two lines, the Ichimoku Cloud does the same.  It is interesting to note that the Ichimoku uses the same periods as the MACD, however it was created over a decade earlier.

One of the main signals for Ichimoku traders, the TKx can often indicate when a trend is about to begin by forming a cross (upward cross = possible upward trend while downward cross = possible down trend).  A generic upward cross can be used as a bullish signal (or exit for people already short) and a generic downward cross can be used as a generic bearish signal (and vice versa for current bulls).  However, notice we used the term ‘generic’ meaning there is more to the cross.

Hosada was able to give a further definition to the cross based upon its position to the Kumo or cloud.  If the cross was below the Kumo, then it was considered a ‘weak’ signal since the cross was below the Kumo or below resistance.  A medium signal was when a cross happened inside the Kumo as it was occurring within the field of support/resistance.  A strong signal was when the bullish cross happened above the Kumo as it was happening after clearing resistance.  The opposite is true for bearish signals whereby a weak signal is a cross above the Kumo, while a medium signal is inside the Kumo and a strong signal below the Kumo.  One important reminder to all this is to make sure you reference the Chikou Span to see how current price is in relationship to previous price action.

The nature of the cross usually indicates the overall strength or potential for the move but it should be noted strong trends have developed from weak crosses.  It is always also important you reference the construction of the Kumo when trading the typical TKx signals.

Some Important Final Notes on the Kumo

As we talked about before, the Kumo is designed to represent support and resistance but it has a host of implications in doing such.  To review, the thicker the Kumo, the stronger the support/resistance it will offer.  Price will often reject off of the Kumo only to resume the current trend as depicted below by a few examples.

What this also means is if the Kumo is exceptionally thin, in a ranging market it likely means the range will continue as their is neither enough support or resistance to hold a single direction for the pair.  What it also means is if we are in a current trend and price is approaching a thin Kumo, the chances increase for a trend reversal since the support/resistance offered by the Kumo is not significant.  This is why Kumo analysis is important as it can often lead to reversals and inform us in the future of pending trend changes.

Also, there is a common formation in the Kumo called the ‘flat top or bottom’.  This refers to when the Span B becomes flat.  Remember the Span B is composed of the last 52 candles absolute highest high and lowest low - thus referring to price action over the last 52 periods.  If Span B is flat, the only way it can do that is if price has not extended to make any new significant highs or lows.  This means we are in a range and the tendency of a range is to move towards equilibrium or towards the center of the range - also known as the value area for price.  The end result is during a ranging environment, the Span B is the virtual 50% fibonacci retracement level for that range and is the ever changing 50% fib level for a trending environment, dividing the last 52 candles into two halves, the upper and lower half.

What does this mean for traders?  If price is inside the Kumo, it will have a tendency to gravitate towards the flat top/bottom.  If price is above it, the tendency of price will be to gravitate towards the flat top/bottom, often using it as a springboard for a rejection off of it.

Lastly, one of the most important things about the Kumo is what happens when price breaks it.  If we have been in a strong trend for sometime and price then breaks the Kumo, it usually represents a trend change and the likelihood of a large move about to begin in the direction of the break as you can see by the examples below.

It is because the Kumo is always changing shape that it can represent a much better perspective of support and resistance.  It is essentially based upon price action and changing shape based upon previous price moves.  This makes it a little more sensitive and representational to price unlike static forms of support and resistance (fibonacci retracement levels, pivots, trend lines, etc) which do not move at all once they are in place.  It is its unique construction which allows the Kumo to be both Static and Dynamic in giving support/resistance levels to the trader.

In Closing

This is just the beginning of the Ichimoku Cloud and designed to give the trader an introduction to the key elements around such a fascinating indicator and method for trading the markets.  The Ichimoku Cloud has the ability to detect trends, reversals, support/resistance levels, trend strength/weakness and momentum for a pair.  It is due to its ability to be used in multiple environments, along with its unique perspective upon price and support/resistance levels that Institutional and retail traders have gravitated towards using this method.

Chris Capre is the current Fund Manager for White Knight Investments . He specializes in the technical aspects of trading particularly using Ichimoku, Momentum, Bollinger Band, Pivot and Price Action models to trade the markets. He is considered to be at the cutting edge of Technical Analysis and is well regarded for his Ichimoku Analysis, along with building trading systems and Risk Reduction in trading applications. For more information about his services or his company, visit http://2ndskiesforex.com