Last updated on May 18th, 2020
You have heard about high probability trading setups and you probably wonder if they really exist. Often times that term is used by marketers that say their trading strategies are high probability hoping to hook the novice trader with those words.
Let’s define what that probability means:
I think the term “high probability trading setups” is misleading because it implies that whatever setup that is being referred to does not just have a probable outcome, but the outcome is close to certain.
There is nothing certain in trading.
When we talk about a trading edge, and the edges in the market are quite small, we are still talking about a random distribution of wins and losses throughout the use of the trading technique.
In trading though, I think being exact in your thoughts is very important. Take support and resistance as an example. When price is coming down to a certain level that has rejected price in the past, we don’t know if price will hold. Using the term “potential” support is more exact and reminds you that certainty does not exist.
Do High Probability Trading Setups Even Exist?
If I was forced to use that term in relation to trading, there is only a few place that I would refer to for a high probability trading event.
There are many good trading entry setups out there, but few of them stipulate where or when to use them. Sure, some of them might use another trading indicator as a filter but that’s not always enough to consistently increase the probability of a setup.
If you can identify where a market has the most directional potential energy, you will find something close to a high probability trading setups.
Obviously in order to take advantage of any move in the market, you must have a trading system that has a positive expectancy. In order to understand the potential of your trading setup, there are basic trading performance metrics that are required to adequately assess your back tested trade plan, trading system and track your progress as you trade it.
Potential Directional Energy Can Drive Your Trades
The markets have a varying degree of potential to make a concerted move in a single direction depending on a variety of factors.
Think about this for a moment. If a trader believes there is a good chance for a directional move from a particular price, they may decide to take a trade if they get a setup and see what they need to in order to be convinced that the opportunity is a good one.
If many traders believe in an opportunity, the chances that their combined action will precipitate the expected move, are far greater.
Of course, directional moves can start from anywhere. However, they tend to start from key prices and times.
For example, consider a market that’s been in a trading range for the last week or so. It’s currently trading towards the upper end of the range and there’s no particular reason, such as news or economic data that’s just been released, to believe that there’s an imminent change.
At the high of the range, there’s the maximum potential for price movement possible, without the need for the balanced ranging behavior to change.
In this scenario, it’s quite likely that there will be many traders who are persuaded by the location and the fact that there’s not been a change in the context which created the recent range, to take the opportunity.
This doesn’t mean they are right. But if they are, they should get a nice move for them and if they’re not, they don’t have to risk too many ticks in order to find out.
If you take trades when a market is poised like this, you’re maximizing the probability of your particular trading technique.
Let’s take a look at some examples of where and when a market might have a decent amount of potential directional energy.
1. Look At The Primary Trading Session Open For Trading Setups
For many markets, the primary session open is naturally a time when there’s a good chance to see a decent move. This is because participants are at their most active at this time. You can easily see this in a volume or range heat map such as this one for crude oil futures contracts.
In particular, if a market is opening some distance from the where the majority of the prior session’s trading activity executed, either the market is going to correct and retrace back to this zone or there’s a reason why it’s moving away and the move could continue.
Just make sure that your futures trading rules take into account the trading activity that can occur at these times.
2. Session and Range Gaps Make For High Probability Trades
In the same way, a market that has gapped away from the closing price, ideally beyond the high or low of the prior session, is showing that either it’s moving strongly in that direction and is likely to continue or traders have got ahead of themselves and will need to cover their positions as the market retraces the gap.
In general, gaps are most prominent when charting the primary market session. They also tend to be the most important. Once a gap starts to close, it often closes or at least pushes a significant way. A failed test into the gap and new extreme on the opposite side for the day, often leads to a gap continuation.
Here’s a chart with two examples in the ES – one gap close, one gap continuation.
3. Strong Impulse Moves Can Lead To Another For A Possible Trading Setup
When you get a strong move in a market, there’s often at least a secondary attempt in the same direction, following the pullback. Recognizing this, a trader can look for a setup that could be classified as a high probability trading setup by virtue of the momentum in the market, to take advantage, once the pullback starts to roll over.
The caveat to this is that you need to understand what a big move is for the time frame that you personally trade. A 20 tick move might be huge on a 233 tick chart for some products, but if you’re trading a 610 tick chart, it might be the norm. Do the stats work in Excel so you know what’s abnormal.
4. High Probability Trading Setups With Balanced Or Ranging Markets
Balanced or ranging markets, have at least two reliable places where something is bound to happen at. These are the extremes of the balance. This can mean the high and low of the range or like in the FTSE example below, the pattern which defines the balance.
These are where either the market decides it wants to remain in balance – in which case there’s plenty of room to trade back in to or it decides to break out of the recent balance and explore different prices. In both cases, there’s plenty of scope for a large, directional move.
The point to recognize with balances is that they are far more reliable in their action when they are based on a longer time frame. I tend to like looking for balance over several days at least to find places where a big move could happen from and I classify those as high probability trading setups. The FTSE example here has a 2 month balance.
You shouldn’t expect that a strategy will work in every location and every moment in time, even if it has got a high win rate. By targeting trades that occur when a market has a high level directional potential energy, like some of the examples discussed here, and staying out of the noise, you’re adding a reason for other traders to get behind you and you’re targeting high probability trading setups.
Combining a good entry setup and technique with good location, can give your strategy the best chance of generating winning trades for you. Are these high probability trading setups at these locations? I think it is as close to that as you will ever get.