Day Trading Setup - Three Bar Reversal and Go
This article is going to discuss a very simple, yet powerful, day trading strategy that is used to capitalize off of the greed and fear from a group of novice traders. I refer to this setup as a "three bar reversal and go"; it can be described as a stock that has recently made new intraday highs and then abruptly stages a pullback in the form of three to five bars on light volume. I look for a reversal bar on the final bar of the pullback and use that as the trigger bar. Once the high of the trigger bar is penetrated, a long entry can be established.
Now, there are a few rules I use to identify the most powerful day trading setups. Firstly, you want to look at the volume on the pullback bars. They should be lighter than the preceding up bars. Second, the trigger bar should be a reversal bar that opens lower and closes near the high of the bar. You can see some common candlestick charting reversal patterns as a guide. Third, keep an eye on the "tape", or the time and sales window; you want to make sure that the breakout above the trigger bar has some conviction behind it. This day trading setup can be used on any time frame chart; however, I like to use it on five minute charts.
They psychology of this setup takes advantage of newbie's, or novice traders. First, breakout buyers will step in when they see fresh new highs being set for the trading session. These new buyers will immediately see the stock reverse on them and consider the breakout to be a false one. As the stock continues lower, these traders will become fearful and sell out for a loss, only to have more experienced traders step up and buy into that fear. More experienced traders, using the rules outlined above, will understand that the stock is still bullish and step in at the top of the trigger bar.
The setup is pretty easy to trade from a risk management perspective. I will stop this trade out below the low of the trigger bar. The reward to risk ratio on this trade is very much in your favor. Look for the previous highs of the day to exit at least half, if not all, of the position.