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Trading Rules for the 2S4H Forex System.

Phase 1
Phase 1 involves waiting for just two indicators. Stochastics 5,3,3 and 30,3,3 to go either oversold or overbought together on the 4 hourly chart. See the examples on the chart below. The higher of the two stochastics is 5,3,3 and the lower 30,3,3. The blue arrows indicate where both have reached an oversold or overbought condition together. Until we see this, we do not proceed to the next phase. Another thing you might notice in the chart below, is that on some occasions, the upper stochastics is not in fact in the overbought area, but is diverging to price. Because the lower stochastics is in the overbought area, and the upper stochastics had previously been overbought, then we can use the divergence as a phase 1 trigger. Below is a 4 hour chart of the USD/CAD currency pair. As you can see, phase 1 triggers occur quite frequently, but these by no way mean an instant entry. Task: Go through all of your favourite currency pairs and on the 4 hour charts, place arrows or mark points where you see phase 1 triggers.

A note: Phase 1 triggers only require that the leading %K line be in the overbought/oversold zones. The %D line is irrelevant.

Phase 2
Phase 2 is a confirmation phase. This will depend on your level of aggression as to whether or not you feel you want to use this phase, but it's still important to at least read through. What we are looking to confirm is whether we have support on the bigger time frames for our view. Another words, if phase 1 triggers an overbought condition, are we near a major resistance level to add weight to our view. There are a couple of ways to find major resistance or support levels. The first is to look for them in price. Quite simply, look back over a 4 hour or daily chart and look for levels of support or resistance that are near our current price action. Below is an example taken off the daily of the AUD/USD pair. I want you to look at all the levels of support and resistance I have drawn in and tell me what you see. If you noticed that all the lines seemed to be relatively equal in distance apart, well done! There is a reason for this. Institutions that trade large amounts on behalf of clients use horizontal lines of support and resistance to do their trading. When they see price nearing a level, they determine their view and then place their orders around the level in question and leave it. If their order is triggered, they will leave it until it reaches (hopefully) their desired target which will happen to be the next level of support or resistance. If price does indeed reach the next level, they will then reassess and make the next move. Another words these levels of support and resistance are the domain of the institutional trader, and as such are a useful tool for the small trader. Task: Go through all of your currency pairs and on the 4 hour and daily charts, mark levels of support and resistance.

The second way is to use fibonacci retracements. If there was a nice run up or down prior to the current price action, and the top or bottom you are looking to find may be a retracement of this run, then using fibonacci can help. Most charting software comes with fibonacci retracement tools, and it's a matter of plotting the retracement on your chart. There are a couple of examples below. Example 1 to the left is a simple run up from the bottom to the top, and the retracements are clearly marked as 38.2, 50, 61.8 and 78.6%. As you can clearly see by the oval tool, price retraced off of the 78.6% retracment point. The example to the right sees a nice run down, and then price retraces at the 38.2% level, consolidates at the 50% level, and retraces again at the 78.6% level. On their own I don't rely on fibonacci because using one indicator on it's own is fraught with danger, but you should make a habit of drawing fibonacci retracements whenever you see an impulsive move that starts to correct.

Task: Go through all your currency pairs and find moves that look impulsive (not choppy) and draw fibonacci retracements, to see how often they are respected by price.

What we want is a confluence of events, and therefore we want to see phase 1 trigger, and then have some confirmation that there is some major support or resistance in the form of either institutional support and resistance and/or fibonacci retracements. Take a look below and see how on several occasions we had a confluence of events. There are four circles I have drawn in. On each of these occasions we have had a phase 1 trigger, price at an institutional level, and also at a fibonacci retracement of the major impulsive move that you can see starts from the bottom left of the chart and ends where you can see 143.63.

I also want you to take a look at the number of times phase 1 triggered during the impulsive move up to 143.63. What do you notice? I see that phase 1 triggered 5 times yet on only two of those occasions did price make any sort of decent move the other way - see below. This is one of the major weaknesses of an oscillator such as stochastics. Why? Because when price is in a trending or impulsive move, stochastics can remain in the overbought or oversold zone for a lot of that move. For the moment however I do not want you to concern yourself with this. Task: Now go through all those 4 hour charts you have been working on and find confluent events, involving phase 1 triggers, institutional areas and fibonacci levels.

A final note: It's impossible to pick tops or bottoms, but there is way to judge what price may be doing right now in relation to it's energy. As I stated below, if price is in a strong trending move, stochastics can fool you by staying in the overbought/oversold zone for quite some time. If you wanted to enter trades based purely on stochastics reaching these zones you're going to find yourself stopped out an awful lot. Take another look at the diagram above and tell mewhat you notice, if anything about the impulsive move up from the bottom left hand corner to the 143.63 point. Can you see that it looks as if there are three legs? If you can't see that, look at the diagram below. This is the same impulsive move in the chart above but with the three legs drawn in. Leg 1 being A to B, leg 2 being C to D and leg 3 being E to F. Impulsive moves, which are basically trending moves, often move in 3 leg structures. Now I'm not going to go into a whole thing about this, and there's plenty of information out there on Elliot wave theory and so on, but it's something you should look out for. Now for an even more powerful insight. Can you tell me the definition of an uptrend? The definition of an uptrend in most text books is 'higher highs with higher lows', right? Well I have since learnt that this is not entirely correct. In fact it's only half correct. An uptrend is indeed higher highs with higher lows but without any overlap.

Another words, when price made the second higher high on the chart here at D, it then made a higher low at E, but that higher low did not cross below the first high at B. Can you see that? Price has not overlapped the previous low, meaning we are in a definite impulsive trending move or uptrend. But if you look at recent price action and you see higher highs and higher lows but with overlap, then it's more than likely a corrective move, such as a retracement of an impulsive move, or a trading range.

There is an example below of a corrective move that is not an uptrend (diagram 2), although it still makes higher highs and higher lows. If I was an options trader (where time is my enemy) the distance between A and B is vitally important. Diagram 1 obviously offers the trader a better return than diagram 2, yet in most text books, both diagrams are classed as an uptrend. Anyway, you need to keep these things in mind when looking for phase 1 triggers. If you see an impulsive move like diagram 1 and you have a phase 1 triggering, know that price is trending and that you may have to wait, maybe for 3 legs to occur, or a definite trend line break, which will be explained later.

For this system, the best places for trading are in the blue zone (see below). At the end of an impulsive move that has 3 legs, at the end of a retracement, which should have an overlapping look to it, trading ranges and also topping formations such as double tops and bottoms etc. Task: Your charts are probably looking quite messy by now. Go through them one more time and seek out impulsive trending moves, retracements with overlapping price moves, and large trading ranges, and see how often the phase 1 triggers result in a decent move when price is trending and when it is not.

Phase 3
You now have your phase 1 trigger and your phase 2 confirmation. Phase 3 will determine the plan you need to draw up in order to trade. Of the factors involved, your own personal character is an important one. If you are aggressive then you will be using a different plan to someone who is conservative. Here is a table that will explain in simple terms the pro's and con's for each.

Aggressive More entries Stopped out more often Bigger potential profit per trade Of course you may decide you are in between. That's perfectly okay.

Conservative Less Entries Stopped out less often Smaller potential profit per trade

There are several indicators we use to look for the turn in price in the phase 3 section. As previously stated in the trading plan, they are: Trend lines Stochastics Candlestick Patterns Chart Patterns Bollinger Bands

To start out, let's look at what a conservative trader will need to see in order to enter a trade. Once we have phase 1 and phase 2 complete, we should notice that price has been in some sort of move in one way or the other. I'm not talking about the big impulsive trending moves, what I'm talking about is that in order for stochastics to be reading an extreme oversold condition, price must have been falling. If price has been falling, then it stands to reason that we should be able to draw some sort of trend line that represents a line of resistance. If on the other hand stochastics is overbought, then price must have been moving up and we should be able to draw some sort of trend line that represents support. Take a look at the diagram below and notice that we have a very simple trade on offer.

When the phase 1 first triggered, my first action would have been to draw a trend line. In this case it was a simple resistance line hugging the highs made as price declined (the steeper one). But when it comes to entering I would have gone down to the hourly. Below is the hourly chart of the chart above. The trend line is exactly in the same place as the one on the 4 hour. What I then do is look for some form of confirmation. The fact that the stochastics (remember on the lower charts we use 14,3,3) is in oversold is enough, but it did also offer divergence, as can be seen from the yellow lines. We wait for price to break the trend line and we go long.

What constitutes a trend line break? What I would suggest is two closes above the trend line. If price does break violently, I will use a previous low (on this chart, it would be the low you can see at the start of the yellow line), and if there isn't one of these available, I will use an average range of the last 10 price bars. So if the average range of the last 10 price bars happened to be 8 pips, then I would use that. Now, if you don't think the trade feels right, then don't trade it. There will be plenty more.

Task: Go through all your charts again, and where you found phase 1 triggers, move down to your 60 minute charts, see if stochastics is confirming, and see if you could have drawn in trend lines that would have represented support or resistance, and once broken, offered at least 15-25 pips, after two closes. (I haven't

mentioned phase 2 confirmations because you may choose not to use phase 2 confirmations, but if you do then find trades that have both). Once you've done this, record your research and answer these questions. Note: Looking for 15-25 pips may depend on the currency pair. For example, the AUD/USD pair does not move like the GBP/USD pair and so you may want to only look for 15 pips with the AUD/USD pair, and 20 (or even 25) with the more volatile pairs such as the GBP/USD and the USD/CHF.

1. 2. 3. 4. 5. 6. 7.

How many phase 1 triggers (and phase 2 confirmations if you are using them), offered an easy to draw trendline that once broken, offered at least 15-25 pips after two closes? How many of these had stochastics confirming? How many trend line breaks saw price move in such a way that would not have allowed you to wait for two closes? (Another words, after price broke the trend line, price moved in the desired direction at least 15-25 pips without even closing on the hourly chart) Could you have used a previous low/high for these quick moves and if so, would these have resulted in at least 15-25 pips after the previous low/high was broken? Could you have used the average range of the last 10 price bars and used that as an entry, and if so, how many offered at least 15-25 pips after that 10 bar range was broken? After a trend line break, how many times did price re-test the trend line? (An example below - The chart on the left is the 4 hour and the chart on the ri ght is the 1 hourly. Notice on the hourly that after price broke and we had two closes above, price advanced about 20 pips and then returned to almost touch the trend line) How many of these trades offered 15-25 pips before price re-tested?

What you now have to do is work with your research and determine how you want to plan your trades. For example, if you find that 30% of all trend line breaks broke out violently, then you may decide to just leave them alone, and just work with the other 70% of trend line breaks. For conservative traders, I would suggest only dealing with the trades that don't break out violently, but the whole purpose of asking the questions above is so that you can gauge what your personality will enable you to handle. As far as this system goes with phase 3 planning for conservative traders, you should have the information you need in order to determine what set ups you will trade. Look for a phase 1 trigger, a phase 2 confirmation, and a phase 3 set up. That is a suitable trendline, with stochastics confirming, and then wait for price to close twice above or below, depending on which direction you're trading on the hourly. What changes you make to your phase 3 trade set up will be determined by your own personality and the results of your research. The more aggressive type phase 3 set ups, involve candlestick patterns, chart patterns and bollinger bands. Candlestick Patterns also known as reversal candlestick patterns. On the left we have what is called a hammer. The bears push price down and the bulls then push price back up. The colour of the small body part (green in this example) is irrelevant, but what is important is that the leg (or handle) is at least twice as long as the body part. There is also more s trength in longer hammers, and hammers on longer time frames. If we were looking to go short then an upside down hammer, is just that, an upside down version of the hammer in our example. On the diagram on the right, we have what is called railway tracks. Just like the hammer, the bears push price down, and then the bulls retaliate. With railway tracks, the size of the two price bars are usually fairly equal, and once again, longer railway tracks and those found on longer time frames have more strength.

An aggressive trader would enter at the close of one of these candlesticks and would look for them on the hourly or even the 15 minute, and a less aggressive trader would like to see a trend line break on the 15 minute chart, or some confirmation such as stochastics.

Chart Patterns - The ones we'll be looking at are called 123's, or double tops and bottoms. Put simply if it was a bearish 123, it would also be called a double top, where price advances to form a high (1 point), retraces to form a low (2 point), advances again to a level similar to the previous high (3 point) and then breaks through the low (the white line represented by the 2 point). A bullish 123 would be called a double bottom and would be the exact opposite of the example here. To enter, wait for price to break the 2 point and enter straight away, or you could wait for a close of the price bar to confirm. You can look for these on the 5, 15 and 60 minute charts. As with candlestick patterns, there is more strength in 123's on the longer time frames, however the majority of 123's you'll probably find on the 15 and 5 minute charts. You may also want to have some confirmation such as stochastics on the next higher time frame, so if the 123 forms on the 5 minute, look for extreme stochastics on the 15.

Bollinger Bands - Probably the best setting for bollinger bands is 20 with two standard deviations, and a 20 simple moving average. One of the best ways to utilize bollinger bands is when you see price break outside one of the bands and then fall back in. You can see here in our example on the left that price did indeed break out of the band and then back in. The bollinger bands are handy to use when you aren't getting any candlestick or chart patterns forming. Of cours e you may even want to use the bolllinger bands as another confirming tool for candlestick and chart patterns. If you see price break out of and back into the bollinger bands on more than one time frame, it will add even more strength.

With all of these more aggressive set ups, it will come down to what you're most comfortable with. You can use them on their own or as combinations, but they are more aggressive and therefore can fail more. The upside to this argument is of course risk to reward. When entering a trade based on a candlestick or chart pattern, or bollinger break, your stop should be placed on the other side of the event that got you in. So if you find a hammer and it closes at 1.2000, it's low is 1.9985, and you place your stop 5 pips below the low, which would be 19980, then you are risking 20 pips plus spread. If all you ever did was trade one lot, then your strike rate only needs to be 50% to break even. But what if you traded two lots, took your first lot's profit at 15-25 pips and allow ed your second lot to run, it would only take one of these runs to net you 100 pips, and you are way in front. You could afford to have several losses before you eat away all of that initial profit. So that is the upside to aggressive trading, however some people can't handle having more losing trades than winning trades, and so it really does come down to your tolerance level. You'll only know once you start trading, and I'd suggest paper trading first.

Phase 4

Phase 4 is your exit plan. If you are using a more aggressive approach, then place your stop 5 pips away from the event that got you in. Take your first lot's profit at 15-25 pips, depending on the currency pair, and then move your stop to your entry point, which would be break even. Allow price to move in your direction and only move your stop when price retraces. For example, let's say you go long, you've banked your first lot of 20 pips, you move your stop to break even, then price advances 60 pips and then retraces 20 pips, forms a low on the 60 minute and then proceeds to move higher again. Place your stop, 5 pips below the low that was formed. Stick to this exit plan and don't deviate. You should never exit your second position because you feel like it, or because you're thinking of the money. You should always let the market take you out. The exception to this would be if you were going away on holidays or something and you felt you would like to be out of the market because you won't have access to the internet. Take a look at the chart below for an example. If you're using the more conservative approach, which is to wait for large trend line breaks, then you have to know how often price retests the trend line after breaking it. This is where your previous research comes in. If it's only a small number of times, then you can use the same approach as above, but if it's quite often, say 50% of the time, then you may need to use a different approach. It will come down to how far price will have to move back if it is to retest the trend line. If the trend line you have drawn in is quite steep, then the distance price has to travel to retest would be quite large, but at the same time, I think you'll find with your research that the steeper the trend line, the less often price retests. The answers to these questions will take time and practise. Paper trade with the simple exit rules explained above, and as you progress, look to move your stop only after price has retested. Even if price doesn't retest, you'll still be in front, and you can simply move your stop to the next retracement on the 60 minute. A 60 minute chart (the same chart as our first example at the top of the page).

My rules for a high or low to form are quite simple. A low has not formed unless the high of the last price bar is higher than the previous three bars. So you are looking at four bars in total. I'll repeat it. A low has not formed unless the last price bar's high is higher than the three bars previous, and this does NOT include inside bars, I do not count inside bars. A high has not formed unless the low of the last price bar is lower than the three bars previous, and I do NOT include inside bars. You can see from my example above I have only moved my stop up when the lows have formed according to my rule. The final stage of phase 4 is to record your trade, with screen shots of your charts, entries and exits, and a list of questions and answers such as those below. Be thorough, take your time as these journals will help you immensely in the long run.

Trading Journal - (this is just an example) Date/Time Currency Pair Type of Set Up Direction 1st Reason 2nd Reason 3rd Reason Trade Plan Long Phase 1 on 4 hourly, shorter stochastics also diverging Phase 2 on Daily, long term support, coincides with 61.8% fibonacci retracement Stochastics, oversold on hourly, a big long hammer forms on 15 minute Because the hammer formed on the 15, I am going to wait for a trend line break on the 15min which May 15th 2006, 8:30am London time EUR/USD Aggressive, Hammer forms at the end of a run down

I have formed by joining recent highs. I will wait for two closes above the trend line on the 15. If price takes off more than 20 pips before closing twice, I will wait for some sort of pullback towards trendline to enter, otherwise I will pass on the trade. If I do manage to get in, I will set stop 5 pips below low of hammer. Entry Price Date/Time Stop Loss Size of Trade Price Target 1 Price Target 2 Risk Exit 1 1.2067 May 15th 2006, 9:02am London time 1.2047 10 lots 1.2087 - 5 lots Allow to run. If 1.2087 is reached I will move my stop to 1.2067 and then move stops under lows

200 pips - 20 pips per lot 1.2087

Date/Time Reason Exit 2

May 15th, 9:45am London time Price target met

1.2154 May 16th, 6:02am London time Stopped out at adjusted stop 5 lots of 20 pips less spread= 85, 5 lots of 87 pips less spread= 420 pips. Total 515 pips 200:515 = 1:2.575 Phase 1 and Phase 2 were very straight forward, and when the hammer appeared on the 15, I

Date/Time Reason Profit/Loss

Risk to Reward

Feelings Towards Trade

would have preferred to see a hammer on the hourly also, but instead I decided to wait for a trend line break as it was quite an easy trend line to draw in. Once the trend line was broken price only advance 8 pips before closing twice so it was an easy entry. I am happy that the amount of time to reach my first target was short as it enabled me to move my and turn off my computer for the night. I am grateful for the trade.

What Did I Learn

This time I learned that it seems to be a good time to look for aggressive trades after the London

open. I will explore this idea more

Did I Follow My Golden Rules

Yes I Did!

Conclusion You may have noticed early on that this is not a straight system where by I tell you exactly what to do in order to find trades and then trade them. 95% of traders fail and th is number is no different for the people who pay for trading courses and those who don't, and the reason is because too many people just assume that trading is easy. Another assumption is that as soon as someone shows them a few rules, it's all plain sailing from there. This is just not true. One day, a sales man was trying to sell me a trading seminar over the phone. It was a day long seminar of a method that had a 70% success rate. When he told me this I got quite irate. I said to him "I don't want to learn another system. I have spent thousands of dollars on systems, all claiming to have 70% or better success rate and yet most have them have not worked for me, or I was unable to adapt them to my personality. They work for other's but not for me. I want to be taught how to be a trader!" This took the fellow quite by surprise. He stuttered and stammered and finally told me he didn't know what to say other than, no one had ever done this course and asked for their money back. I've heard that before! In the end, I went to this seminar, and I was glad in a way, because what I took away from it was what I wanted, and that was this one comment the teacher made "Those Who Succeed In Trading, Don't Think About The Money, They Just Trade The Process." No one had ever told me this before, yet it's how all successful traders think. I think one of the problems is that a lot of teachers think it's their system that made them a success, but it's their mindset, they just haven't realized it. It's impossible to teach someone something if you are unaware of what it is you are good at. I will say, there was a lot of technical stuff I took away from that seminar as well, and without giving it away, you have been taught some of it, but the psychological part was by far more important. The above statement really rings true when you see people do really well paper trading, and then as soon as they go live, they fall apart. It's simple, they went from trading a process, to thinking about the money. I urge you to start from the start, take your time, and do plenty of research, not only on the system you plan to trade but on yourself! I wish you the best and, Happy Trading Dean Whittingham
The information contained here on this web site, in any email or on any video does not containspecific recommendations to buy or sell at particular prices or times, nor should any of the examples presented be deemed as such. There is a risk of loss in trading futures and futures options, stocks and stocks options, forex, CFD's and any other financial product and you should carefully consider your financial position before making any trades. The reference to statistical probabilities does not pertain to profitability, but rather to the direction of the market. The size and the duration of the markets move, as well as entry and exit prices ultimately determines success or failure in a trade and is in no way represented in these statistics. This is not, nor is it intended to be, a complete study of technical analysis and should not be deemed as such.

(c) A Traders Universe 2006