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REVERSAL MAGIC
Understanding the Language of the Markets

Part 2

Written By Michael J. Parsons

All Rights Reserved
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SOME ADDITIONAL TRADING RULES

As powerful as REVERSAL MAGIC is, there are some common sense decisions that
each trader needs to use to be effective. To help you on your way to develop your own
skill and style of trading, I have included some of these common sense trading pointers.

1 - If a strong trend is in effect and a REVERSAL MAGIC point only pauses the market,
likely the strong trend will continue in the same direction after the pause.

2 - If the market changes direction just before a REVERSAL MAGIC point without any
forward gaps on your triangle, then the reversal is only temporary and the REVERSAL
MAGIC point will cause the trend to resume the previous direction.

3 - If a REVERSAL MAGIC point is accompanied by a reversal pattern, then you have

confirmation of an actual reversal. While this seems rather obvious, many traders in the
heat of the market action will second guess themselves regarding whether a reversal is
actually taking place or not, causing them to lose their trading opportunity. If it is at a
REVERSAL MAGIC point with a reversal pattern, then it is a reversal.

4 - A market that doesn't reverse at a REVERSAL MAGIC point will normally not
reverse any earlier than the next REVERSAL MAGIC point. This means that if you do
not have a confirming pattern, the REVERSAL MAGIC point indicates a change in
momentum such as a pause, gap or acceleration.

5 - Just because you do not see a REVERSAL MAGIC point doesn't necessarily mean
there isn't one. A chart far ahead of its actual occurrence or what is really a larger time
frame points to some REVERSAL MAGIC points. Until you develop your skill, you will
find that occasionally you will miss a REVERSAL MAGIC point and it will catch you
off guard. As you improve, this won't be so much a problem. The rule to protect you is
very simple: if the market does not behave the way you expect, then get out until it starts
to behave.

6 - Don't chase a market. If you miss a trading opportunity, wait for another and don't
force one that you are really too late for. There are always new trading opportunities
arising. Let the market come to you, not the other way around.

7 - Don't trade with distractions or with negative thoughts. There are always Gurus and
nobodies that will tell you all the reasons your trading methods won't work. “Seeing is
believing and believing is seeing”. As you start to use this technique you will be amazed
by how effective it is. But that doesn't mean someone or something can't cause doubt or
fear to become a problem in your trading. If you don't allow negative thoughts to affect
your trading, then you will keep negative things from happening in your trading.
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TRADING THE DOMINANT TIME FRAME
Every market has a dominant time frame. Dominant time frames are defined as a time
frame that a large portion of traders are watching and basing their trading decisions on.
The reality is that there is often several dominate time frames per each market. However,
the time frame that you prefer to trade will have one of these dominate time frames close
to it that will affect your success in using any method of trading.

Take the S&P for example. Floor traders may be using 1 minute, while electronic traders
may be using 10 or 5 minute. Then there are swing traders that are using 3 days to 2
weeks and then there are the mutual fund managers that use a 20-day moving average to
base their decisions on.

Take a look at the moves in the S&P in any given day. Many times around noon the
pattern is totally different from the rest of the day because many of the floor traders are
out to lunch. In the morning, the first hour or two often has a definite trend that is
matched in total price movement by the afternoon trend. But there is a distinct difference.
The afternoon trend is often twice as fast. This is an indication that the dominant time
frame has changed hands.

Understanding that these dominant time frames exist and focusing on them is another key
to improving your timing. In fact, you will find that any indicator that you use will be
improved if you base them on the dominant time frames. So how do you determine the
dominant time frame?

REVERSAL MAGIC provides one of the best indicators that you can use for determining
the dominant time frame. The time frame where REVERSAL MAGIC shows up as the
most reliable for determining reversals (not just changes in momentum) and flows the
best will be the dominant time frame.

The advantage of knowing the dominant time frame is that you have a picture of the pulse
of the market. The more you watch the moves of the majority, the more you begin to be
able to read their actions and anticipate their moves.

For example, when you see a new high or low and a reversal point that coincides with it,
you know that the stops are being hit and a panic will then in sue and send the market
crashing the opposite direction. This is a great profit opportunity when you know what’s
happening and why.

When it comes to REVERSAL MAGIC, utilizing the dominant time frame will add
greatly to your success. Of course, you can use any time frame you wish, but monitoring
the dominate time frame opens your eyes to details of the market action that you would
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normally not have noticed before and add greatly to your success. It is well worth the
little extra effort to monitor the dominant time frame.
DEALING WITH GAPS
When I explained gaps in an earlier section, I knew that it was necessary but would be
confusing. This was one area that I have been asked more about than any other. So in
attempt to simplify this area, here is some additional information on gaps.

A gap is an important cycle reference point. To explain the reason for this assumption,
lets look at the two most common reasons for gaps.

A gap can be a reversal of the direction of a cycle. The cycle may have been bearish and
switch its movement to bullish, or of course, vice versa. This is the frequent situation
with common and breakaway gaps.

A gap can also occur because two or more cycles converge. This secondary reason may
sound much like the first reason, but there is a distinct difference between the two aside
from the fact that in this situation we are dealing with more than one cycle. Let me
explain a detail about the waves or cycles in the market that may not be obvious.

When I refer to cycles in the market, you probably understand that to mean the up and
down movement caused by a wave like pattern that goes from bullish to bearish to bullish
and back to bearish. In many cases, this view is correct, but not always. In many cases a
cycle or wave may only add or take away from the markets price action, but not do both.

This is the situation with the waves created by something as a negative report. For
example: Have a report come out that Brazil has had a huge freeze in June and that most
of the coffee beans have been damaged and what kind of waves do you think it will
create in the coffee market? It most definitely will add to the price of the market. If the
report is found to be only a false rumor, then the market will return to its previous area. It
may even fail to fall back to where it previously was. The wave (or shockwave depending
on how you view it) in this instance will not cause of the price to drop below its normal
levels. It is a one-sided bullish wave.

Additionally, not only can a wave be one-sided, but also to make it even more complex, it
can be both bullish and bearish and yet bias toward one direction or the other. Another
words, I can have a wave that may take the market up 20 points, but when it returns to its
original level, it drops the price a mere 2 points below that level. In such a case the wave
is very much biased in a bullish direction, but still will cause some movement in the
opposite direction.

Is it any wonder that those that specialize in cycle analysis using advanced computer
systems still have such a hard time deciphering the market.
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So, how is this information important to your trading?

While solely observing waves or cycles fails to answer where the price will be at any
given time, it does show when the market will be taking action. Because there are so
many waves that can be in motion at one time, gaps offer a key point of reference that
proves invaluable in timing this action. It provides a central point of a wave or waves that
are strong enough to have a substantial impact in the market. Using the gaps as a basis for
drawing REVERSAL MAGIC triangles provides a key reference point for your analysis
of the market.

I am frequently asked about when a gap is counted and when it is not. Earlier in my book
in so many words I stated that if gaps have been affecting timing of REVERSAL MAGIC
points, then you use them to offset your timing and if they haven't been, you just ignore
them. Evidently, many felt that wasn't clear enough and was too vague.

The reason that it appears vague at first is because when I try to put rules to this, I have to
answer the reasons why this is necessary and there are so many that it would take an
entire book just to explain this one area alone.

As I stated earlier in the manual, you have to see if the gaps have been affecting the
timing before applying the rule of adjusting the timing at the REVERSAL MAGIC point.
If gaps have not been affecting the timing, then you can ignore counting gaps to offset
timing. An example of why this is true is back months. (Contract months that are further
back in a particular commodity or market) Back months still try to keep up with
movements of the current contract and therefore can have many gaps form in them.

Because these gaps only form due to the low amount of participants in that contract, then
they are really meaningless when it comes to determining new triangles and offsetting
timing. I always use and trade the most recent contracts because to me the volume of
participants makes it easier to get in and out of a contract anyway. If you like to trade
those back months, still watch the action on a continuous chart or on a front month to get
a better feel for what is really happening in that commodity or market. So regarding back
months, do these gaps have any reference to cycles? No, they exist only because they are
trying to keep pace with the current month so just ignore them unless they show up in the
front months.

Another example is during the last week in December when most traders have taken the
week off. If it gaps, again it is doing so with lower than normal participation and may
simply be because of it trying to keep up with the movement that traders are used to.

Another frequent cause of gaps to consider is when a major event occurs. For example,
when Mr. Greenspan is announcing the latest economic and interest rate standing. The
financial markets are in an upheaval for an hour or so and many times bounces from
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extreme highs to lows and back to highs until it finally settles down and decides on a
direction to take.
I call this the “dropping a stone in the lake” effect. Just as when you drop a large stone in
a lake and it immediately responds with a large splash but quickly quiets down to a
rhythm of waves, so the market responds to major events in this way.

In the process, you can have a number of gaps, but the large “splash” can fool you
regarding the actual rhythm of the waves or cycles in the market. That is why sometimes
just immediately following a major event you will have REVERSAL MAGIC points
showing up in the middle of waves rather than at the reversal points. This phenomenon
quickly disappears, but is something to be aware of. It is as if the market was waiting for
time to catch up with the price movement. It is this reason that I personally tend to avoid
trading major announcement days.

I could still list another dozen or so of situations where gaps have no impact on the
timing of your REVERSAL MAGIC points.

The real problem comes in when gaps caused by cycles or waves do affect timing. That is
when it is important to understand when and why this occurs and how to handle them.
Aside from the obvious rule of “if the gaps have been affecting timing, then you count
them”, there are some other factors or rules that can help. When you are dealing with a
contract with enough volume so that gaps are not a normal occurrence, then the gaps are
most likely caused by the cycles and need to be counted and exploited. This means that
you would use the gap openings to draw REVERSAL MAGIC triangles as well as count
them to offset your timing that the REVERSAL MAGIC points indicated timing. An
example of such a market would be the current front month contracts of the S&P,
Nasdaq, Coffee, Soybeans, as well as the rest of the major commodities.

Another phenomenon that you have to know how to adapt to is when you have multiple
gaps. If you have several gaps lined up together because of limit moves in a market, here
is what I do.

When there are multiple gaps that occur one after another during runaway gap situations,
trend lines are best reserved for the beginning and end of the series of gaps. In such cases,
multiple gaps can be viewed as one singular gap. The logic behind this is because all
trading has really stopped while the market is making this move and it often becomes
redundant to draw multiple trend lines. That is not to say that they will not point to a
REVERSAL MAGIC point, but often they only point to changes in momentum that will
not normally affect your trading and trying to track all of them can be overly confusing.
If there are several runaway gaps with no trading activity, I will use the beginning, the
end (when it first has some real trading activity), and the center point of all the gaps.
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MULTIPLE POINTS
It is not uncommon for you to have multiple points that will stick up at the same high or
low with which trend lines can be drawn off. These multiple points mean you will have a
totally different REVERSAL MAGIC point depending on which high or low you use.

So which ones do you use?

Anytime you see a high or low of any type, there is an opportunity to draw a distinct
triangle. But which high or low you use is important. Let's look at the possibilities and
how to handle them.

When you find that a point is a two-tick reversal pattern and has two possible points to
draw a line off of, then what has happen is a phenomenon where two cycles running
together are just slightly out of phase. Often, when this occurs, you will also find that the
corresponding trend line point has a similar dual point. In such cases, there are two trend
lines that can be drawn (two separate cycles) and it is treated similarly to gaps.

There is an important detail that you need to take in consideration when drawing your
trend lines. If both trend line points have dual highs/lows, then use the first high/low on
the points to draw a trend line and then use the second high/low to draw a separate line.
Do not cross the two because they are separate cycles. As you would with any other line,
where both of these lines reach the horizontal line then a REVERSAL MAGIC point is
indicated.

If only one trend line point has a dual high/low, then draw your two lines with both
intersecting with the singular trend line point. As a word of caution, sometimes this
occurs because a cycle has ended completely and so you may see the REVERSAL
MAGIC point correspond with only one line or find that it centers between the two lines
because the former cycle has thrown off timing.
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USING MULTIPLE TIME FRAMES

An important key to refining your trading for better entries and exits is found in the use
of multiple time frames. Whether trading the trend, swing trading, short term trading, or
day trading, all can benefit from using a variety of time frames.

When a REVERSAL MAGIC point arrives, it can either be a reversal or a change in

momentum. This difference depends on the strength of the cycle that is involved. How do
you gauge the strength of a cycle? The answer lies in how great of a time frame that the
cycle is running in.

If you locate a REVERSAL MAGIC point on a 10 minute time frame, but can't find
anything that matches it on a daily chart, then you know that it is not going to be a major
top or bottom and that it will probably not last for more than a day. In fact, on a daily
chart the reversal might even go unnoticed even though on the 10-minute level it may
have had a major impact on the day's range.

In contrast, if you were dealing with a REVERSAL MAGIC point that shows up on a
weekly chart, a corresponding daily reversal would prove to be exceptionally strong.

So by looking at where REVERSAL MAGIC points show up in different time frames,

you can improve your entries and exits.

Put into practical terms, if I note that a daily chart contains a REVERSAL MAGIC point,
by looking at the 60-minute and then the 10-minute time frames I am able to determined
when that reversal would have its high/low for the day.

Putting this in perspective, it means that if I am trading the S&P and I see that it is due
for a REVERSAL MAGIC point that day, by using a smaller time frame I can even
narrow this down to the high/low of the day and ride that reversal on the daily chart for
all its worth.

Imagine how satisfying it would be to sell as the S&P begins the day dropping 10 points
and then turn around and buy as it reaches its reversal, riding it back up to where it
started, making you another 10 points. That’s 20 points in one day, or translated into a
dollar amount, for each contract that’s $5,000.00. A 10-point range in the S&P is not
uncommon. Can you handle $5,000.00 per contract 2 or 3 times a week? That’s well over
a half a million a year! All with part time work.
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Figure 1

Note how the market has

several swings as it drops in a
downtrend. Too many swings
mean too many REVERSAL
MAGIC points and can cause
confusion.

Better to have a smoother flow

and fewer swings, which in
turn leads for more accurate
interpretation of the charts

Figure 2 Figure 3

In both charts (Figures 2 & 3), there are fewer swings and the reversals can be more
easily determined. While there are swings, the whipsawed effect is drastically reduced.
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CHANGES IN MOMENTUM

One of the biggest concerns about using this method that you will have involves changes
in momentum. When a REVERSAL MAGIC point arrives and you trade thinking the
market will reverse direction, it is a bit disconcerting to say the least when it turns out to
be just a pause and it resumes in the direction against your trade.

Here are some points that will help to keep you on the right side of the trade.

1 - Look at the momentum of the price movement. A very sharp movement signals a
market to use caution in when considering a reversal.

2 - If it has broken support, it generally carries with it a considerable amount of strength

in its movement. So be aware of where your support and resistance lines are.

3 - If the REVERSAL MAGIC point only pauses the market, then expect a continuation
of that market. A true reversal will show itself very quickly in the price bar patterns.

4 - One of the most dependable indicators is what is occurring in time frames above what
you see the REVERSAL MAGIC point in. If a strong trend is in place that can be
observed in time frames that are higher and yet, no REVERSAL MAGIC point is
indicated, then there is reason for caution. A coinciding REVERSAL MAGIC point in a
higher time frame is a good sign that a reversal will definitely take place.

5 - As a rule, it is always best to see what the bar pattern is at the REVERSAL MAGIC
point. A reversal bar pattern is what you are looking for. Early on in the manual these
reversal bar patterns were discussed. If you currently were unsure how to identify them, it
would be wise to go back and review them and practice finding them on charts.
Confirmation in the pattern at the REVERSAL MAGIC point is an important key to
determine the action that will be taken.
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MULTIPLE GAPS

When there are multiple gaps that occur one after another during runaway gap situations,
trend lines are best reserved for the beginning and end of the series of gaps. In such cases,
multiple gaps can be viewed as one singular gap. The logic behind this is because all
trading has really stopped while the market is making this move and it often becomes
redundant to draw multiple trend lines. That is not to say that they will not point to a
REVERSAL MAGIC point, but often they only point to changes in momentum that will
not normally affect your trading and trying to track all of them can be overly confusing.
If there are several runaway gaps with no trading activity, I will use the beginning, the
end (when it first has some real trading activity), and the center point of the gaps.

As I stated in the manual, you have to see if the gaps have been affecting the timing
before applying the rule of adjusting the timing at the REVERSAL MAGIC point. If gaps
have not been affecting the timing, then you can ignore counting gaps to offset timing.
An example of why this is true is back months. (Contract months that are further back in
a particular commodity or market) Back months still try to keep up with movements of
the current contract and therefore can have many gaps form in them.

Because these gaps only form due to the low amount of participants in that contract, then
they are really meaningless when it comes to determining new triangles and offsetting
timing. I always use and trade the most recent contracts because to me the volume of
participants makes it easier to get in and out of a contract anyway. If you like to trade
those back months, still watch the action on a continuous chart or on a front month to get
a better feel for what is really happening in that commodity or market.
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WHEN TIMING IS OFF

This may surprise you, but there are times when REVERSAL MAGIC timing is off. Of
course, you know that gaps can cause this and know how to adjust accordingly. But this
is not the only time or reason timing will be off with REVERSAL MAGIC.

There are two rare times that timing may be off in a market.

1 - Because of the shear speed and distance of a recent move, the timing is off as if the
price is waiting for time to catch up with it. For a short period, timing of REVERSAL
MAGIC points may correspond with the halfway point on the cycles. Another words,
rather than the actual reversals, REVERSAL MAGIC pointed to where the wave was
halfway in route either up or down. Fortunately, this is a rare occurrence, but it
emphasizes the point that if the REVERSAL MAGIC points don't make sense to get out
of a market until it does.

2 - When most of the current cycles stall at a center point. Center points are points where
a number of cycles coincide into a neutral point. The market seems to stall and seems to
be seriously undecided in what it wants to do. Their characteristics include that they often
follow a trend by a partial move in the opposite direction, abnormally low volatility and a
tight trading range. They leave an awkward confusing move in the market that looks out
of place. Following a center point a market will usually exhibit extreme violent swings or
a severe fast moving trend. These are distinctly different from balance points that will be
discussed later.

Both of these scenarios are rare, but they do occur. There is little you can do but to wait
these periods out. Fortunately, they are brief and the market quickly resumes its normal
mode of operation. The simple rule is, "when in doubt, get out!" Wait until the market
makes sense again before you reenter.

WHEN THE TRADE GOES THE WRONG WAY

Because REVERSAL MAGIC is a time-based method, there are times when you will
find yourself on the wrong side of the market. Actually, any type of trading method will
occasionally do this that has a robust return. For example, you may enter thinking that the
market is reversing direction only find that it was only a change in momentum.

What do you do then?

If you find yourself on the wrong side of a trade, then simply get out of that trade!

If you know that it was simply an error in judgment and you feel confident that the
market has some distance to go in its current direction, then just change gears and enter
the trade in the opposite direction. Don't wait and hope that it will turn around. Better it is
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to take a 2 point loss when you are short a market and to immediately reenter long and
gain 4 points then to allow you mistake to mount up to a 6 point loss.

If, on the other hand, you unsure what the market is doing and are confused, then again,
get out of that trade! Better to take a 2-point loss with no gain then to allow it to mount
up to a 6-point loss.

To put it bluntly, (if you will excuse the repetition) if the trade is going against you or it
is not doing what you expect - GET OUT OF THAT TRADE!!!

I hope I got the point across, because this is a very important rule that means survival
when trading the markets.

Too often we allow fear to prevent ourselves from taking a loss and greed to prevent us
from taking a profit. There are many places that emotion is appropriate, but trading the
markets is not one of them. Remember to keep your emotions in check and don't allow it
to prevent from doing what you mind knows needs to be done. This is no place for an
ego, pride, indecision, self-doubt, fear, procrastination, or any other emotions that will
keep you from reacting promptly and with good judgment. Your judgments don’t all have
to be right, but you do need to make them right when it’s clear that you are wrong.

As you can see, there are a lot of psychological aspects to trading. This is the one area
that no teacher can really teach. There is certainly nothing wrong with emotions, but there
is a time and place for everything and trading is one of those times and places that
emotions simply do not belong. Therefore, to be successful, we have to control them.

The problem is that we, as humans, are addicted to our emotional responses. Like anyone
that is addicted to anything whether it is smoking, drinking, drugs, etc., as soon as we are
away from it we start to crave the next time we can experience it. What is the very thing
that a smoker first thinks about when he finishes his cigarette? His very next cigarette.

Emotion is the very same way. Even those who appear to be in full control of their
emotions still have this addiction to deal with. Perhaps, like me, you know of several
individuals that normally seem to be totally without emotion, but as soon as they get
behind the wheel of an automobile their emotion begins to show itself very vividly in the
way they respond to other drivers.
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PAUSES IN THE MARKET

Pauses are an interesting phenomenon in the market. They are almost the markets way of
catching its breath. Like it has just run a marathon and needs to stop before taking its next
step. They are very common in the market and at the same time have a very common
outcome that can represent a great profit opportunity.

Here is an interesting fact regarding pauses. When you find a pause in the market
following a trend, a very high percentage result in a continued trend that will often travel
the same distance as the first part of the trend. What this means is that you not only know
the likely direction of the next move, but even how far it will go and where to exit.

Now before you get too excited about this pattern, you must realize that a market
sometimes reverses following a pause. But there are some set rules that can make this an
excellent opportunity for trading in whatever direction it decides to go.

If you have ever heard of Ross's J-Hook, Wolfe waves, Turtle Soup Plus, the Gartlet
pattern, or a host of other special patterns, then you are delving in patterns that traders
have discovered that relate most often to the pause or, more frequently known by the
term, consolidation. Each of these patterns has a set interpretation and is based on a
common human reaction that occurs at a pause in the market. Another words, they take
advantage of the crowd by creating a trap for traders that are trying to second-guess the
next market move.

There is an important difference here from trend or momentum trading. When you are
trading based on a trend, most people recognize which is the right side of the market to be
on. Look at what happens during a trend. Lets say that a bullish trend starts and the
market breaks an important line of resistance. Suddenly, everyone wants to be part of the
action and greed takes over. Traders rush to get in, but because so many want the same
thing the price rapidly accelerates and traders must settle for higher prices. As soon as the
last person who got excited buys into the market there are no more buyers and the trend
ends or pauses. The reality is that the majority end up entering at the end of the trend and
ultimately lose money.

Does it mean that the trend is over? No, not necessarily, but enough buyers have to sell to
open the market up for that trend to have a chance to start again. Obviously, there has to
be a buyer for each seller, but what I am referring to here is that there has to be enough
available buyers subject to the emotions of fear and greed to start a bullish trend again.
Fund managers and hedge players often are not even trading with their own money, so
there is no emotional baggage to what is used in their trading like it exists with individual
traders who may have their entire life's savings on the line.
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Now, lets consider the state of mind of traders during the pause in the market. Here the
majority has no idea as to where the next trend will go. But the majority of traders here
are hoping to catch the next trend early. At the same time there are traders that are
already in the market that are now fearful that they will lose their accumulated profits, but
too greedy to get out of the market for fear of missing out on more money.

So what happens? As the market whipsaws back and forth, traders bounce in and out of
the market out of their fear and greed and lose money.

Why traders do this when they have no clue as to what is happening is a mystery, but it
happens time after time. It may simply be that they have no patience and in their minds
they have to be trading something. Whatever the case may be, this is something that you
can benefit from. It is what the patterns that I mentioned earlier are all about.

While I am not going to go into the specifics of all these patterns, I think it will be of
benefit to get an idea of how the market plays with the minds of traders during these
times. Lets take the example of a J-Hook. As its name implies, it is shaped like a J or
fishing hook, which is appropriate because it tends to hook the public into a trap that
leads to their loss. There are a couple of versions of this pattern, but all have the same
basic elements. Lets look at an example.

FIGURE 4

Most Traders would be fooled by this

pullback.

Such traps are commonplace in trading and to

be successful you must be aware of the
possibility of this price action occurring.
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In the Figure 4 we see how the market rises and then pauses. It starts to drift downward
as if it has decided to go a new direction, but then stops short and resumes upward, in this
case by gapping. It is at its pause and its false drop that many enter the market on the
wrong side and are trapped. Now at the point that it resumes its upward trend there is a
flurry of traders trying to exit their shorts and go long as fear of losses and greed for
profits take over. This gives the trend its momentum and usually carries it the same
distance that its first move made because the amount of traders is close to the same.

No doubt you have found this scenario very frustrating yourself. Yet, it is a very
beneficial scenario financially if you know how to handle it. So how do you play out the
pause in the market? The first key to success in this is to put aside your emotions and
remember that what the market really wants to do here is fool you into a sucker play.
Even so, there are certain things that the market does that reveal what its true intent is and
there are strategies that you can implement to protect yourself.

One of the most simple is to use REVERSAL MAGIC and trend lines together. Every
time a trend develops, a trend line can be drawn that represents either resistance in a
down trend or support in an up trend. When you reach a REVERSAL MAGIC point and
the market breaks the trend line, but fails to fall lower or hesitates, you have a situation
that you know to beware.

A true reversal will show signs of reversing and heading in the opposite direction very
quickly. A pause may stop the market, but is generally either doesn't move in the opposite
direction or drifts toward the opposite direction very slowly compared to the movement
of the trend that you just saw. So by comparing when it breaks the trend line and how
fast, slow or non-existent the movement is, gives you a sign of how likely a reversal will
take place.

Another factor to watch for is for REVERSAL MAGIC points. Generally, you will see
another REVERSAL MAGIC point quickly following the one that points to the pause.
Remember that REVERSAL MAGIC points indicate when a change in the cycle of wave
is to occur. What this means is if you start to reverse and you have another REVERSAL
MAGIC point that comes right away, and then you are most likely reversing and heading
back into your original direction. If you are in a pause, a REVERSAL MAGIC point will
point to the breakout of the pause, in whatever direction it decides to go.

In the preceding chart, there were REVERSAL MAGIC points that indicated both the
reversals exactly and you would have known that the pullback was short lived. Oddly
enough, when a pause happens, in many cases the REVERSAL MAGIC point will
actually line up with the reversal that sends the market back in the direction of the trend.
So when you see a pause, check to see where the REVERSAL MAGIC point is in
relation to the reversal. If the reversal is early, be suspicious because it might very likely
be only a pause in the current trend.
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As I said earlier, a pause has a high percentage that continues in the same direction. But
don't automatically assume that it will, because there are enough that go in the opposite
direction that will hurt you if you just play the market with one bias.

Here is the way that I play pauses. Lets say the market has just gone through a bullish
move and stops at a REVERSAL MAGIC point. Based on what the market has been
doing, I may have even assumed that this was going to be an actual reversal. So I may
have exited my position and went short. Now I have a short position, but it goes nowhere.
What do I do?

The first thing that I would do is check where the next REVERSAL MAGIC point is. I
want to know the likely time frame that I am working with before it resumes in some
direction. If it appears to be a pause, I will exit my short position, even if it means a small
loss. That way I can relax and not worry about the possibility of losing more money.

Now, I still know that it is possible for the market to go in either direction, but there is a
difference in my mindset. I know that it is very likely going to continue the trend. I
measure the previous move and figure the likely price target. (Remember, the trend will
likely travel as far as it did in the previous trend) I then set an entry point just above the
price level of the pause so that as soon as it breaks out of the pause, I am in. In the case of
going the opposite way, I am cautious and want to see it begin to move before entering.
This is because this situation lends itself to traps. I will also monitor where the
REVERSAL MAGIC points are and if one is very closely following its breakout, it warns
of a possible trap. (Only if it was clear that it was a true reversal and there were no
REVERSAL MAGIC points near, then I would just immediately go short)

Admittedly, this tends to allow you to miss a move in the opposite direction when a pause
occurs, but doing so helps to prevent the more frequent losses that would accumulate if
you blindly entered the market. However, there is a rule that is very important to note that
I use when making a decision as w\to whether a market will have a pause or not. ALL
TRENDS, NO MATTER HOW SMALL, HAVE SOME TYPE OF PAUSE. What
this means is that if you have not seen any kind of pause within a trend, even a small
trend, then expect one before a reversal will occur.

So to summarize, a true reversal will show signs almost immediately at the REVERSAL
MAGIC point. When a pause occurs that does not show a clear reversal, exit out of your
trades and set an order to enter just outside the range of the pause in the same direction as
the market had been going. Calculate your price target for you exit if it should continue in
the direction of the previous trend.

Monitor REVERSAL MAGIC points for momentum changes and enter in the opposite
direction of the previous trend ONLY when it demonstrates a definite trend and
REVERSAL MAGIC points don't bring an immediate sustained reversal.
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INVERTED TRIANGLES
As you observe the market unfold, many times you will see highs and lows develop that
are obviously waves or cycles, but find that the last low or high exceeds the first low or
high. If you were to attempt to draw a trend line, you would find that it travels away from
the horizontal line, not closer to it. Does this mean that you can’t use this wave to
calculate a REVERSAL MAGIC point?

Actually you can. It takes a few extra steps, but this wave will still coincide with a
REVERSAL MAGIC point as any other normal triangle that you draw. There are two
ways to accomplish this.

The first way is utilizing draw by angle features. Some charting programs like Metastock
and Trade Station allow you to draw by angle. Another words, you are able to determine
the actual angle of the line that you draw. You would draw the angle connecting the two
highs/lows as normal, even though the trend line goes in the opposite direction of the
horizontal line.

Since angles are based on 360 degrees, by taking the angle that you have drawn (lets say
it is 350 degrees), we can subtract that from 360 degrees and come up with the difference
(In this case 10 degrees). You can then draw a new line and set it with the difference (10
degrees). Start this line from the LAST POINT on the triangle and where it meets up with
the horizontal line, PRESTO! You have a REVERSAL MAGIC point.

FIGURE 5
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The second way is by using calculations. For most, this will be the easiest to do.

The mathematical calculation remains the same as it is, except that you have to simply
change the order of the date/time of the two highs/lows.

Looking at the chart example, here you have the first low on 2/16/96. The second low
occurs on 3/4/96. Whether using a spreadsheet or doing the calculation by hand, simply
switch those dates or times. As a result, the first low is switched to the date of 3/4/96 and
the second low to the date of 2/16/96. Leave the price levels as they are and change the
date only. The end result is that it indicates a REVERSAL MAGIC point on the date of
5/17/96, just before a nice one-day move up.

Inverted triangles are an important indicator of the waves or cycles within the market.
Just because a wave may not cooperate by making the triangles easy to draw and interpret
doesn’t mean that you have to settle for less accuracy. Add inverted triangles to your
arsenal of tools and always be aware of the next REVERSAL MAGIC point!
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CROUCHING TIGER, HIDDEN DRAGON

In some of the examples of triangles there are some without any clear highs or lows. I am
sure that you have noticed this and you have wondered what has been the basis for
drawing these triangles.

Obviously, I see something at these points that warrant these triangles. But to understand
what I am seeing requires you to take a leap in your understanding of the markets. That is
what this section is all about. Dealing with opening the eye to the intricate and subtle
language of the charts. Taking this next step is an important aspect of your trading career.
Unfortunately, it is something that no one can truly teach, but it has to be "discovered" by
the individual trader. It really comes from repeatedly reviewing the charts flow and
patterns, and by practice. In many ways it is like the hidden pictures that are lost in a
repeating design, where you have to continually stare and concentrate until the hidden
picture jumps out at you before you can see it.

It is my hope that I can help you to "discover" this important concept. With it you can go
further than you ever thought possible in understanding what the charts are really saying
to you. It will also go a long ways with important concepts that I have yet to cover later
on.

That is not to say that these concepts are complicated. No, they are still simple. There is
just a threshold that must be met and surpassed before you really can start to make perfect
sense of this language.

Even though it has nothing to do with the movie of the same name, I thought it was
appropriate to call this section Crouching Tiger, Hidden Dragon. A tiger has a reputation
for crouching and blending into the surrounding elements in order to surprise its victim.
Dragons (even if they are mythical) were generally believed to live in caves and would
terrorize people during the night and then disappear during day.

The image that both of these leaves you with is one of a very dangerous creature that
utilizes the element of surprise. They strike terror in the hearts of people everywhere.

The subtle REVERSAL MAGIC points that are hidden from view no doubt strike terror
in the heart of any trader attempting to understand this method, because the market
changes direction without you anticipating it. But like the creatures that were mentioned,
there are always ways to conquer them. Like the knight that hunted down the dragon, we
too can come off as champions.
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In India, where man-eating tigers are still a real problem, workers that have to venture
near forests or heavy bush have a unique way of dealing with tigers. Tigers like to attack
while their prey is inattentive and not looking in their direction. So what resourceful
Indian workers do is to wear a mask on the back of their heads so it appears that they
literally have eyes in the back of their heads. By doing so, they fool lurking tigers into
thinking that they are being watched all the time. This simple trick has drastically
reduced attacks by "crouching tigers".

While we don't need eyes in the back of our heads, to see more of these hidden beasts
requires that we do look at the market much differently than most do and sometimes in
what appears to be in a backwards fashion.

In practical terms, what this means is that we have to look beyond the trend and at what is
hidden in the caves and crevices of market movement. In standard technical analysis, we
are taught that we must look at the trend and for certain patterns or designs that appear in
the price action. But to truly advance in our analysis of the market, we have to also see
the subtle flow of these trends and patterns.

Remember that the market has waves that run through it much like an ocean. These
waves pass through and interact with each other all the time. When two waves meet, the
reaction is often with a momentarily and slight change in the height of the wave. Since
charts only show a 2-D rendering of what is really 3D, our flat view of the market often
hides the true nature of these waves and what we see most often are interactions that
appear but as changes in momentum and not as changes in direction. Therefore, we are
oblivious to the true natural flow of the market.

The reality is that when a wave intersects with another in the market, what may only be
visible is acceleration and nothing more. Does the fact that a trend only changes its
momentum mean that there were no new waves that are intersecting with it? Of course
not! To change the momentum of a trend in effect requires the interaction of another
wave. So therefore, interaction of waves that may have a subtle effect, but it still shows
up with discernable characteristics in the changes of momentum.

Even though these waves may be small, because they are separate waves it is still
important to us to know when they will affect future changes in the market. While many
times they have only small impacts in the market, they often can come at critical times.
And yes, at times they can still be part of larger waves or combine with others to have a
much more substantial impact in the market.

As we take a look at a few examples, note the markets subtle differences that make the
use of these points valid.
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FIGURE 6

Again, A long bar after two

short bars shows a change in
momentum marking an added
wave and corresponding to a
reversal. This change is very subtle. The last bar
down before a pause marks a reversal
After a big move, the pause
indicates the end of a wave
and marks a reversal

A sudden long bar signals

change of momentum and The horizontal line can also
be taken from the change in
that the trend resumes
momentum. Here we do that
to mark confirmation to a
reversal.

In Figure 6, many of these subtle triangles result in reverses. However, in the majority of
cases this will not be so due to the fact that they are mostly made up by weak waves. It
shows up as such here repeatedly because this market is currently in a narrow trading
range. It doesn’t take much in this scenario to have a big impact.

Realistically, the few examples listed here could never do this area justice. But real
ability comes from practice and not example charts. Please don't make it harder than it
has to be. The fact is that triangles made from these points generally have a weak effect
on the market, usually creating pauses or slight variations in trends.

Of course, there are exceptions to this rule, but in most cases you will not have to get
overly worried about missing them. Their value is when you have a questionable trade
and need to know when the next REVERSAL MAGIC point is. An example of this is
when you have a trend reverse and you need to see if it is just a pull back in the market or
if the market has really reversed trend.
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As far as finding these hidden waves in the market, the simple rule is that if it looks like a
change in a cycle or wave, then it is. There really is no great mystery or mystical art
involved. Hidden waves have their characteristics that make them stand out. Once you
get use to looking for them, they become as easy to find as highs or lows on charts.

As a word of caution, don't go overboard with looking for and finding these waves. You
don't need every minute wave figured out to be successful in this methodology. If you are
short and the market reverses on you, don't worry that this happened or that you have
missed a REVERSAL MAGIC point. Just figure out the next REVERSAL MAGIC point
and determine if it is close enough to indicate that the market is just in a pullback where
you would want to stay short or if it is really a change in trend direction. The speed of the
market movement and the time to the next REVERSAL MAGIC point can give you that
answer.

That way you are never surprised or a victim of any Crouching Tiger or Hidden Dragon.
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OPPOSING POINT LAST

Earlier, I explained that the opposing point always comes in-between the lows/highs. In
the majority of cases, this is always so. But in Figure 7 you will notice that the first
triangle has the low coming AFTER the two highs. I put it in there because there are
exceptions where the opposing point comes after, rather than between the two points.

As a rule, the opposing point always comes between the two points with this one
exception that I never explained.

Here is the basic idea with this exception in your triangles. All points must come from
one trend. The opposing point must be taken from the end of that trend and a new distinct
trend must be evident. Remember that this is an exception and it is not to be used in
regular triangles without these conditions. The good part about these types of triangles is
that I have never seen any that required an adjustment based on gaps, so you can take it
as it is.

You particularly find this works very well with steep trends and using the high or low at
the end of the trend as the opposing point coming after the other two.

FIGURE 7

Notice how this point is taken

from a triangle that has the
horizontal point LAST.
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TRADING ENTRY AND EXIT RULES

Entry and exit can be one of the most formidable tasks in trading. There are so many
psychological factors that come into play in this issue. This is one of the chief causes for
a trading plan to work so successfully for some and fail so miserably for others. If you
wait too long, even if you are right about the market you still can end up with a loss
because of slippage. If you are too soon, draw down becomes a real problem and can
knock you out of the market long before you see it go your way.

Dealing with entries and exits becomes first of all a psychological issue. If you have
doubts about your trading method, your doubts will prove true when you trade. That is
why I strongly encourage you to paper trade this method until you are comfortable and
gain some confidence in it as a viable trading method.

What I have found is that some in a rush to use this method jumped into the markets head
long while still drawing lines wrong or without knowing how to interpret REVERSAL
MAGIC points properly and were frustrated with the results and gave up. The individual
traders that took the time to really understand it are the ones that have had the most
success. This is of course not surprising. Anything worth learning is worth learning well.
Practice will give you confidence as well as skill in these methods
Before entering a trade, have a plan. What I mean by that is to make sure you have
already defined what conditions (not just price) that you will enter and exit. It’s not
enough to say that a trade looks good. You should have defined rules in mind.

For example, if you are looking to go long in a particular market, what will make the
conditions right? Will a certain price? What if that price is reached with very low
participation in that market? Price is far from the only consideration in going long in a
market and if that is all you are using you are bound to take many losses.

Another issue is what type of order are you going to put in? Will it be a market order, a
stop order, or even an option order?

What are the conditions that you will exit on? What if it goes against you, what
conditions will use to determine that? What if it goes your way, at what point will you
take profits?

These, and much more, are issues that you should resolve BEFORE you enter a trade.
Having a plan of set rules and sticking to them will prevent emotion from becoming an
issue and reduce stress related to trading. Instead of making decisions by the seat of your
pants, you will actually be letting the market decide the best course to take in your
trading. After all, the market is always right. You will never win an argument with the
market.
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The other benefit of generating a trading plan is that it also becomes a trading journal.
The advantage of a journal is that you can go back over your trades when the emotion of
it all has died down and analyze why a trade was right or why a trade went wrong. Often
times the mind can deceive us into thinking that we see something in the markets simply
because we want it to be there, when in reality it isn't, or worse, when the market is doing
the opposite. Fear and doubt can have a similar effect, causing us to miss a trading
opportunity. A journal allows you to go back and analyze your trading activity and to
understand what your strengths and weaknesses are so that you can improve and profit
more.

So let's take a look of an example of this planning by looking at what I do. Using a
worksheet as outlined here will help you to plan your trade and organize your thoughts so
that your trading performance can be at its best.

What are some of the "conditions" that you can set parameters for? Before actually filling
out a trading plan, lets look at some factors that I look at. As we look at these, remember
that you can duplicate these methods or use your own. It doesn't matter as long as you
know what those rules are enough to write out your trading plan and are able to stick to
them.

First, I consider the conditions of the market that I am planning to trade. How much
activity, volatility, and potential does this market have? What that means is if I am
considering the S&P, the activity is high so I can easily day trade this market. Wheat
would be a different story. Generally, the wheat market has slower moves that tend to
trend well. This market would be ideal to position trade, which is keeping an open
position for even up to weeks at a time. Wheat has the advantage of a lot less worry and
time, but return is smaller and slower.

Markets like coffee, cocoa, the meats and lumber are much more volatile and are great
swing trading markets. Of course, markets are in constant change, so you have to make
such decisions based on current conditions. Even the S&P can be a dead market at times
with little profit potential
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KEEPING TRIANGLES FROM BOXING YOU IN
I find it fun to draw REVERSAL MAGIC triangles. It is amazing to see how it will pick
up even the smallest of changes in the market, some that are even very subtle to the eye.
Of course, you can always get too much of a good thing and this is true even with
REVERSAL MAGIC. Unlike other tools that monitor the markets and either give no
signal or false signals; REVERSAL MAGIC often does just the opposite and at times
results in too many signals that catch every little change that occurs. But as traders, we
don't always need to monitor every little change, just the changes we want to trade.

The question that exists with this issue is that every trader looks for different degrees of
change. For example, if I like to swing trade, I am interested in all the major changes
every couple of days. But a day trader would find such changes too broad, while a
position trader would see this as just too narrow. So one trader’s interpretation of the
right amount of REVERSAL MAGIC points is wrong for another.

Does that mean that we have to settle for the ultimate number of REVERSAL MAGIC
points? No, it just means that you have to use your own discretion in determining how
many you want to monitor.

What this means is that if you day trade you have to ask yourself how you want to use
REVERSAL MAGIC? For example, would you like REVERSAL MAGIC to indicate
just the high and low of the day? Or do you want to pick off all the major swings that
occur on the one-minute chart?

Now, this choice being an issue may come as a surprise to some. It is obvious that by
writing about this that I am aware that some feel that they are finding too many signals
and are having a problem with that fact when it comes to their trading. But in reality, this
should not be a problem at all, because the reduction of their signals is very easy to do.

When I first set up a web site to offer further help to traders using REVERSAL MAGIC,
I was surprised to receive an email from one-day trader that traded on the one-minute
time frame. He stated that, "he had put his REVERSAL MAGIC manual on the shelf with
all the rest of his money down the drain books". He felt that REVERSAL MAGIC wasn't
any use to him because it had too many signals. Maybe, like this trader, you have run into
a similar frustration. If you have, you will be relieved to know that there really is a simple
solution.

Before I explain the solution to this issue, let me explain why it exists in the first place.
The underlining reasons for this are much more than just an issue of dominant time
frames. If, like our disappointed trader, we look at the one-minute time frame and
triangulate every wave, what would we see? Every change that is visible on the one-
minute time frame, whether it is just a change in momentum or an actual reversal. That is
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because every change showing on a time frame, no matter how small, will have a wave
triangle indicating it on that time frame.
Now, if we wanted to eliminate all the triangles that point to the small insignificant
changes on a time frame, then all we have to do is eliminate the smaller triangles. But
how do we do that? The simplest and easiest way of doing this is by utilizing a higher
time frame to find the key time ranges of the larger REVERSAL MAGIC points. This in
essence acts as a filter. Once the REVERSAL MAGIC points are determined on a higher
time frame, we can once again return to our lower time frame to narrow the time range
down to the exact tick we want.

The reason this works is because on a higher time frame small pauses appear as just a
normal tick. Therefore, a higher time frame will not show the same triangles that point to
these pauses.

What this means is that a trader that uses the one minute time frame would want to use
the ten minute, five minute, or two minute time frame first. Then, this trader would take
the ranges that indicated a REVERSAL MAGIC point and use the one-minute to
determine the final entry and exit time.
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FIGURE 8

Another example:

FIGURE 9
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FIGURE 10

Another issue that affects their potential power of REVERSAL MAGIC points is the
placement of the triangle points within the market action. In some markets, triangles that
are based on the extreme highs and lows will have the greatest impact. In other cases, it
will be the triangles that are based on Balance points that tend to be the ones that flip and
reverse the direction of the market.

Regarding Balance points, while they appear to be subtle with little meaning, they often
hold the entire balance of the market within their grasp. The concept of Balance points is
in my view one of the most important aspects in understanding the language of the
markets.

While Balance points cannot be covered in detail here, some of the characteristics are
shown in the next couple of charts.
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FIGURE 11

FIGURE 12

As you can see, filtering is just a matter of the perspective that you take of the market. In
one case, its the time frame that you use and in the other, the originating points of the
triangles.
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But, now that brings us back to the questions that I asked in the beginning. How do you
want to use REVERSAL MAGIC? You see, you may monitor the one-minute time frame
and yet only really want to trade from the high of the day to the low of the day. In such a
case, you would have to monitor the sixty-minute, the daily and even a weekly time
frame to filter out all the small signals. But if you want to catch every swing of a couple
of points, then your filtering would require much lower time frames. Just because we
watch a certain time frame doesn't mean that we trade it. So what do you really want to
trade?

Along these same lines, we are drawn back to another point made in the beginning. We
all have to use our own discretion in determining how we want to monitor REVERSAL
MAGIC points. To do that requires that we analyze what we really want to trade and
experiment with various time frames to find which ones meet our needs the best. This is a
fairly simple process. All you have to do is determine which time frame eliminates your
pauses, but still points to the time range that the reversals are that you want to trade. Once
this is done, you can use lower time frames to narrow the time ranges down to the point
you want to trade. Any REVERSAL MAGIC point outside of these time ranges in lower
time frames you will want to ignore. In fact, you would not even want to bother drawing
them.

But adjusting time frames as a filter still requires an active use of discretion. You see the
smaller the triangle, the smaller the wave. A small wave that would only cause a pause in
a strong trend may cause a reversal in a trading range. So again, what do you want to
trade? If you are changing the environment that you are trading, then obviously you have
to change what you are using as a filter.

The process that I have just described is what I do all the time to improve my entries and
exits. It is not hard to master and it really makes REVERSAL MAGIC easier because you
can ignore a lot of triangles that you would have spent the time and effort drawing if you
had been just monitoring one time frame.

The simple rule to this method of filtering is to use common sense. If I am trying to catch
every reversal on a trading range in the one-minute time frame, then I don't need to
bother with monitoring larger time frames. I want to know every REVERSAL MAGIC
point that will appear, because any change during these times has a major impact.

If I just want to catch the full length of a trend in the one-minute time frame, then I will
need to track higher time frames to keep myself from exiting on every minor pause that
shows up, because many smaller waves will only slow the market temporarily.

So what do you want to trade? Once you determine this, it is a simple matter of
determining how many signals you need to have from REVERSAL MAGIC. These
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signals are under your control. If you like to trade using daily charts, don't assume that
the daily time frame is the best to draw your REVERSAL MAGIC triangles from.
It all depends on the market conditions and what you want to trade. If the market is in a
tight trading range and you want to trade it, then you need REVERSAL MAGIC to
generate all of its signals. If you are a position trader, only interested in long trends and
not worried about exiting on pullbacks, then obviously your signals from a daily chart
will be too many and you need to filter them with a higher time frame.

Rather than allowing triangles to box you in, you can box in the triangles and make them
work harder for you by simply filtering out the ones you don't need. It is all in your
control and up to you!

FILLING IN THE GAPS ON GAPS

I hate not knowing how something works. Ever since I was a young lad, I was one of the
types that had to take things apart just to see how it worked. Of course, it was always
easier to take something apart than it was to put it back together again and sometimes
afterwards things wouldn't work the same again.

Years ago, I worked with robots that would follow a wire buried under the concrete floor,
among other functions. The wire guidance system, as it was called, would automatically
control the steering as it wandered across a factory or warehouse. A great invention, but
unfortunately it required frequent adjustment. What made it worse is that to make those
adjustments you were required to connect a "black box" that put out several readings.
Depending on each reading, you would adjust four potentiometers. (They were controls
on a circuit board that you adjusted by means of a small screwdriver)

This “black box” and its readings weren't very helpful. It was a matter of, "if your reading
was this, then you divided the reading in two and compared it with the next reading that
you also divided by two, etc. and you adjusted until it reached that middle setting of each
reading". (The formula is still confusing to me even now after all these years) Every time
you made an adjustment, you had to go back and do the whole process all over again. It
normally took “recalculating” a dozen times or more before it was right. Obviously, it
was a very slow and frustrating process.

One day when I got tired of playing around with this adjustment game and decided that I
would just see what each of the adjustments affected. Once I realized how each adjusting
screw affected the performance of the robot, it was a simple matter of watching how it
responded to the wire embedded in the floor and making the proper adjustment (which
was usually just one quick adjustment). From then on, it became a simple thing for me to
do these adjustments for myself and I came to view the "black box" as a big waste of
time.
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The obvious lesson here is that when something is presented in a black box fashion it
usually makes the task a lot more difficult than it really needs to be. When we understand
the why, we usually have the mental capacity to accomplish tasks much faster and better.
That is one of the reasons that I have a disdain for "Trading Systems" that just give you
buy and sell signals. When the signals fail, you are left with more damage than a
monetary loss. You are left with doubt and a huge loss of confidence. A lesson that I
learned a long time ago is that nothing beats the human intuition for solving an issue that
is out of the ordinary.

That brings us to the issue of the gaps. The gap issue has left many with confusion
because it appears to be complex. However, this is really not the case. It is just that I
didn't explain it well enough. When I originally explained how to handle gaps, I did
exactly what I learned a long time ago never to do. "If you have Gaps on this side you
add and on that side you subtract and on both you equal out and I will see you in Dublin
by morning". (That was a joke in case you didn’t know and I now have you very
confused). It wasn't really that bad, but from the response that I have heard, it might as
well have been.

Why is this issue of gaps so confusing? Because Why is never answered. If there is no
answer to why then it just doesn't make much sense. There is no way (even though I use
the image of a seesaw) to visually get this straight in one's mind. The balance aspect, or
in other words, the adjustment made depending on where the gaps are located within the
triangle, are like a "black box" and this has left many frustrated because what was
happening was not well understood.

So, in an effort to simplify this issue, I am going to try filling in the gaps on gaps.

The first point that I feel I need to address is a very simple one. When should you count
gaps in the first place? In the majority of markets you will find that it is not necessary. I
frequently find markets such as corn, soybeans and even gold with gaps that do not
influence or affect the timing of REVERSAL MAGIC points in any way. The reason for
this has to do with the lack of volume of trading and the balance between price and time.

In other markets such as the S & P 500, Nasdaq, and DOW, the volume is so huge and
price advances ahead of time so often that frequently gaps play an important role in
correctly timing REVERSAL MAGIC points. (Note: It is when price gets ahead of timing
that gaps become an issue. It is impossible to cover the details of this here and will be
something that will have to be discussed at a later date)

The second issue will take a little longer. Understanding why and how gaps affect the
timing or REVERSAL MAGIC points.
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To understand this issue of gaps, it helps to understand how a wave radiates through a
market. Even though you are drawing a triangle based on three points in the market, the
wave that you are deriving your triangle from actually extends much further than these
three points. This should be obvious because you already know that the intersecting point
of your triangle is where the wave affects the market. This REVERSAL MAGIC point is
in fact the very same wave that you derived your three points from. It is not a new or
different wave.

Stop and think, what are the characteristics of a wave? When we see a wave approaching
a beach, we see how the water rises to a crest and falls or collapses on itself as it reaches
the shore. Why does it just normally just crest as it approaches the shore (aside from
exceptions like high winds) and not when it is still out to sea?

The reason is that without the right conditions, a shallowing shoreline that forces the
wave to the surface, it remains under the surface. Like an iceberg, much of a wave or
motion sits below the surface where it is just out of view. Its movement is not hindered
because it has the benefit of remaining in its natural element. As long as it is not forced to
the surface where resistance will become a factor it has enough force to travel for
extensively long distances.

But what happens when a wave approaches the shore. The lack of room below the surface
squeezes the wave and forces much of it above the surface. This is not its natural element
and it becomes too great of a mass for the force to support, so it crests and then collapses
on itself. Following this, waves create a force under the surface that takes it back out to
sea. Referred as an undertow or undercurrent, this force can also be quite strong, but out
of view.

So, we now know that there are two states that a wave can be in. Above the surface where
it is visible and expending its energy and below the surface where it is invisible, where it
can move considerable distances.

Translating this to the markets and price action, when you find the highs and lows that
you draw a triangle from, you are dealing with the visible part of a wave that has been
forced to the surface by its impending impact on the market, or as our analogy illustrates,
the crest of the wave. So each time you see the three points, its as if you are looking at a
wave that is cresting just before it comes crashing down on the beach right at the
REVERSAL MAGIC point. This imagery can be a great value in understanding why the
waves in the market behave as they do.
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If you have ever been out in a boat in rough seas, then you probably know all too well
how a wave behaves out in the sea. There is a slight rise in the surface of the water that is
quite noticeable, but is nothing compared to what is below the surface. The majority of
the force remains below and out of sight until it is forced up into a cresting wave. This
fact is one of the reasons why it is difficult to forecast the strength of some REVERSAL
MAGIC points.

So what this means is that any wave that you triangulate, whether you can see it or not, at
minimum starts at the beginning of your triangle and is still there until it finally reaches
the intersecting point. (It does of course continue after this, but we presently don't have to
worry about the undercurrent in the market).

As you can imagine, a wave has a beginning and continues until it loses its strength and
dissipates. Regarding the market, what this means is that unless you are directly at the
Impact Point*, this wave has a past and will normally extend back at least the same
distance as the entire length of the triangle. In fact, if you look at the way an inverse
triangle is calculated, you can do the same with the current three points and determined
where the last "showing" of the wave coincided. (By the way, although made complex by
the inclusion of volatility, there is a way to determine how strong of an impact a wave
will have on the market by using it's preceding REVERSAL MAGIC point)

*Impact Point: - The point in the market that a wave is created. Like a stone dropped
into a lake, a large splash occurs, followed almost immediately by the waves taking on a
more natural and predictable rhythm. The Federal Reserve with a rate change
announcement is an example of this occurrence in the market. This causes very volatile
swings that are at extremes for market conditions that will very quickly return to a more
reasonable and normal market movement. (Note: there are waves that are also generated
by multiple small impact points that are unnoticeable, much like wind can cause waves
on open water)

Since these waves extend quite far in both directions, does that mean that we have to
worry about the gaps in this entire range?

No. Since we do our calculation based on the visual part of our wave, this is the only time
we have to worry about it. When the triangle points arrive any prior “gaps” that may have
existed in the market are already compensated for because we are measuring based on the
points that are here and now.

But what do we consider the visual part of the wave that we can see and how do we
identify it?
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Since we have already established that we know that any wave at a minimum flows from
our first point, up to and including our intersection point, then this is the area we need to
focus in on. What this means then is that we count the gaps that occur from our first point
and up to the REVERSAL MAGIC point. Any gaps that occur during this phase will
affect timing in some way or another.

Still, how do you interpret the gaps action on your timing and why? It is very simple once
you have a clear view of what is the wave in view. So let’s remove the black box by
dissecting a wave.

Going back to our illustration of a wave, when we see the appearance of our first through
third points, our wave has surfaced. A wave that is approaching the shore rises up and
remains in view until it finally collapses on itself at the beach, its termination point. If a
breaker is built to protect a beach (a breaker is a wall that extends straight out from shore
to control the impact of waves that pound the shoreline), it will slow the wave as it
crosses it. It is designed to affect the wave by prematurely forcing the wave up to the
surface. Once it passes this breaker, the drop under the surface "rolls" the wave and slows
it down.

On the other hand, if there is a seawall (a wall built parallel with shore to protect the
shore from erosion. The waves are stopped dead when they impact this wall), it is
designed to remove all forward momentum by eliminating the surface area and this will
speed the wave's collapse.

Once our wave rises, it continues on the surface until it reaches its termination point.
Gaps, in turn, act like barriers that either slow our waves (like breakers) or speed up their
collapse (like seawalls).

All we have to do is know how these gaps will affect the wave based on where they are.
To do that is a simple matter of determining whether we have a breaker or a seawall.

But before we get to this, we want to make sure that we have removed the black box
regarding a wave. The point learned so far is that any gaps found from the first point of
our triangle to the intersecting point (REVERSAL MAGIC point) can impact the timing
of our wave. This is our zone that we have to be concerned with, from when it first
appears, until it finally hits and impacts the market.

So, how do we determine if a gap is a breaker or a seawall? The answer lies with what
state the wave is in. For example, one of the reasons that we don't have to worry about a
gap that occurs while the wave is below the surface is because any gaps during this state
simply slow the wave down and will in reality affect the timing of our first point.
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Therefore, when our first point of our triangle shows, it has already compensated for
previous gaps. However, once the first triangle point occurs, any that follow it would not
be compensated for, so we have to do it manually ourselves.

When the first point arrives we still have two thirds of our wave below the surface. It is
just starting to rise at this point. Points two and three are still submerged. Since the
majority is still below the surface, a gap that occurs here will only slow our wave down
from completing it’s surfacing. It cannot speed up its collapse because there is not
enough above the surface to even begin to start collapsing.

What this means is that any gaps that occur between the first point and the second point
of our triangle will only slow the occurrence of our intersecting point. So for each gap
that occurs here, you will have to add a tick to your timing to match the actual
REVERSAL MAGIC point.

For example, if we were looking at a daily chart and there were two gaps that occurred
between point one and point two of our triangle, then we would have to add two days to
the intersecting point indicated by our triangle, meaning that it take two days more to
actually get to the REVERSAL MAGIC point.

Now, what happens when we past this point and enter into the zone between points two
and point three of our triangle? Here our wave is halfway to the surface and halfway
below. It is in the middle of changing its state and becoming a full-blown wave with its
characteristic crashing into shore. Because the wave has an equal amount below and
above the surface, a gap here doesn't speed or slow down its progress. (This is not a
perfect description to what really happens. There is actually a "Balance point" within the
range between point two and point three. Before this point, there is a slowing of the wave
and after this point a speeding up of the wave. However, for our purposes gaps in this
area can be ignored because they do affect the market to the same degree as outside this
zone. For example, a gap before the "Balance point" in this zone will slow the market
approximately half a tick.)

So, for the most part, gaps between point two and point three of your triangle can be
ignored. This is a neutral area and will not normally impact your timing in a large way.
(The exception would be if there are multiple triangles in this zone set closer to point two
or point three and to calculate this would require understanding Balance points.)

Next come the gaps that occur following point three. Here the wave has fully crest and is
poised for collapse at our intersecting point. Any that occur in this zone will speed up the
collapse of our wave.
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What this means is that any gaps that occur after point three of our triangle will speed the
occurrence of our intersecting point. So for each gap that occurs here, you will have to
subtract a tick to your timing to match the actual REVERSAL MAGIC point.

How far do you count the gaps? The answer to this requires another explanation. Even
though we focus on three points, there are actually four that occur with each wave. Point
one through point two starts the wave, point two to point three balances the wave, point
three to point four completes the wave and point four to the REVERSAL MAGIC point
brings it all full circle and can actually be counted as a five point

Point four, you say? I know the addition of a fourth point really throws a monkey wrench
into things. Before you say, "I give up!” let me reassure you that it isn't that complex.
And I know, it’s easy for me to say that, but you will too shortly.

Just look at a triangle for a moment. In the case of a triangle with two highs (A bearish
triangle), you have a high as your first point, then a low as your second point, and another
high as your third point. Where is your fourth point? At the very next low point you come
to. It is this point that completes a wave. In many cases, this fourth point is very easy to
identify, and sometimes, this fourth point can be very subtle.

How does this fourth point affect your timing? From your third to your fourth point any
gap that occurs will require that you subtract a tick to adjust for it. After this fourth point,
we have a similar situation develop, as is the case when dealing with the second to third
points. The impact, while it exists is limited. This is because the wave at this point has
already crested and has begun to collapse. So while a gap can still speed up this collapse,
its change to the momentum of the collapse is very limited.

Again, as with the range between points two and three, I usually view it as having only a
half tick impact and unless there are multiple gaps, as not having enough of an impact to
worry about. This is even truer with this range than points two and three because the
impact is reduced more and more as it draws closer to the REVERSAL MAGIC point.

So, lets sum up how gaps affect your timing. The rules are as follows:

1 - Point One through Point Two - Add a tick per gap

2 - Point Two though Point Three - Balance range, ignore gaps unless multiple

3 - Point three though Point Four - Subtract a tick per gap

4 - Point Four though REVERSAL MAGIC Point - Ignore gaps unless multiple
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If for any reason you are confused by the rule following point four or what is the point
four, just simply treat the entire range from point three to the REVERSAL MAGIC point
just the same as the rules for following point three. (Subtract a tick per gap).

In which case, the rules you will go by are:

1 - Point One through Point Two - Add a tick per gap

2 - Point Two though Point Three - Balance range, ignore gaps unless multiple

3 - Point Three though REVERSAL MAGIC Point - Subtract a tick per gap

Why would I say that this is all right after just explaining the difference that point four
makes? Because each tick in this range does advance the timing to some degree and
while it is not the most accurate method, it is preferred over missing the count of a gap
that actually falls between points three and four.

We have just covered a lot of ground regarding gaps and as you can tell from some of the
things that I mentioned such as balance points, there are still some things that I have not
gone into detail about. The important thing is that you walk away with a better
understanding of the forces at work during a wave formation. However, even with the
explanations that I have just covered, I know some will still be confused. So let me give
you a simple picture that in time will allow you to later put all the pieces together that we
today have discussed.

1 - You are concerned with the gaps that follow a point, not before.

2 - Your opposing point, whether the high between two lows or a low between two highs,
is a center point that balances the triangle. So any following your opposing point you
don't have to worry about. This is the point that your horizontal line is drawn from.

3 - It is the two points that are equal (Both highs or both lows) that have the gaps that you
need to count. These are the points that you diagonal line is drawn from.

4 - Gaps after the first point, add. Gaps after the third point, subtract. Or to put it another
way, add first and subtract last. As a way to help you remember the order is that in the
alphabet A (for add) is before S (for subtract).

Hopefully this will help clear up a lot of confusion regarding gaps. Just to clarify our first
issue of when to worry about gaps and when not to, if you are dealing with a market that
is heavily traded (something more than milk and eggs) and gaps show up in the price
charts infrequently (another words, not every other tick is a gap) then count the gap and
adjust the timing.
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Watch the two points that you have located and see when the market reacts. If the market
reacts at your original REVERSAL MAGIC point then you will not have to worry about
gaps at the present time. The first time you find a discrepancy in your timing, no matter
how small, check to see if gaps have become an issue. You will quickly get a feel for
what markets you need to adjust for gaps and which you do not.

I hope that I have filled in the gaps on gaps. I am sure that it will take a while before they
are entirely filled in. Just take your time and review this every once in a while and in time
you will be reading gaps like an old pro. Hey, if I can figure it out in the first place than I
know that you can too!

The more you play with the adjustments, the easier it is to understand and the less of that
black box will exist in your mind. At some point in time you will not only have filled in
the gaps, but will have leaped over them and may even be teaching me a thing or two
about them. I would welcome that. After all, I hate black boxes.
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COMPARE DATES

What will happen when price reaches a REVERSAL MAGIC point? If I could answer
one question, it would be this one. If we knew for certain the exact move the market
would take, then we would rule the markets!

Realistically, every REVERSAL MAGIC point will be different and it is rather

unreasonable to expect to know the answer to an exacting degree. But suppose for one
minute that you could know in advance what was about to happen? As great as
REVERSAL MAGIC already is, being able to do this would indeed make you feel it that
you ruled the markets, wouldn't you agree?

Believe it or not (And I hope you do), there really is a way!

Since REVERSAL MAGIC points are waves that are flowing throughout the market,
then logic dictates that they should show up repetitively until they weaken and dissipate.
The issue then should be one of simply locating when they do show up and comparing
them to their corresponding REVERSAL MAGIC points.

That sounds great doesn't it? Just take a REVERSAL MAGIC point and compare prior
occurrences of the same wave. Realistically, that doesn't mean that these prior
occurrences will be exactly the same as our REVERSAL MAGIC point. In fact odds are
that it won't. Why? Because a wave can be either intensifying or weakening as time goes
by. (Which would be normal for a wave to do) Also, a wave that intersects at one point
and adds or subtracts from the strength may not occur at another point. So obviously, the
impact at different points will often be different in some way. But there are certain
aspects that do give you a strong indication of what really will happen.

But before we get into the details of this, let's first see how to determine a compare date
or tick.

Compare dates (I like the sound of this rather than compare ticks even though you can
use this means with any time frame) are determined based on the same triangle that you
draw to determine your REVERSAL MAGIC point. The difference is that you measure
back in the charts rather than foreword. In many ways it is like an inverse triangle, but
instead of figuring for the purposes of determining upcoming REVERSAL MAGIC
points you use it to look at a past wave point.

As you might already suspect, we are simply taking our calculation of what we would
add to determine the REVERSAL MAGIC point and subtracting it to determine the
compare date. But there is a little glitch in doing this. You see, we can't just subtract from
the same location that we would add to.
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FIGURE 13

As you may have already noticed in this example, I subtracted the days from the
opposing point (In this case a low) even though I would add actually to the last point of
the triangle to determine the REVERSAL MAGIC point. The same amount, but
measured from totally different points.

So why am I subtracting from a different point than I would add to?

Originally, I had spent many hours writing about all the details of the reasons why, but it
kept getting longer and longer. When I made one final review at the explanation that I
had written, it struck me that it had become an overkill that was challenging an
encyclopedia series.

Basically, it just boils down to the fact that there is an inverse in the wave that has to be
dealt with and counting from this point solves this inverse issue.

Now that we have covered how to determine compare dates, what can we expect?
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As I mentioned earlier, there will be similarities. For example, if the market reversed,
then it is likely that the REVERSAL MAGIC point will be a reversal as well. If the
market was only a pause, then it is likely that it will only be a pause this time. If the
market had a bigger move that day then its previous days, then the RM will likely have a
bigger move than its previous days. Another words, what happens in pattern at the
compare date in relation to the days around it will most likely be the pattern that the RM
will have.

While this sounds great (and of course it is), the RM will still most likely be different
from the compare date. How so? The volatility will not be the same. This means that if
the compare date was a large move, the RM may only be a small move and of course
vice versa.

Fortunately, volatility is something that you can see and can work to you advantage. For
example, suppose the compare date had a fairly good move compared to the days around
it. As the RM approaches, you see volatility pick up with much larger movements in the
market. Since the compare date has a larger than normal movement, you can expect the
RM to do the same as well, with the added advantage of higher volatility. This means a
great move that can give you even greater profits than it’s predecessor.

FIGURE 14
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Although you have to take in consideration the volatility difference, obviously the little
extra work needed to determine compare dates are well worth it. Of course, there will
always be exceptions because new waves can change the rules by changing the current
market conditions, but having the extra insight that compare dates give you can make a
huge difference in your trading success. A picture is worth a thousand words and the
picture that compare dates gives you is worth a thousand dollars many times over.

So, if you are wondering what will happen at a REVERSAL MAGIC point, compare it to
the compare date!

Putting it all together

Trading successfully is a challenge that many just will never rise to. It requires great
methods, skill, patience, timing, mental and emotional control, good money management
techniques and desire.

As important as method and technique is, it is far from the only thing required to be
successful. If you do not have patience and know how to use timing, then you will find
yourself in the market at the wrong time and face losses. If you do not have control of
your emotions, then they will be the source of your trading decisions. Emotional trading
is almost always wrong and costly. I could go on, but I think you get the point.
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One area that can contribute to your success and help you improve with each trading
decision that you make is a trading plan and journal. What that means is simply putting in
writing your reasons for making a trade and the thought process that went into it. If you
take this step, you are less likely to make a decision by emotion because you have to
justify it logically. Further, it enables you go back and review your decisions and see why
your good decisions were right and your bad decisions were wrong.

So my friend, we have come full circle. What I have imparted has been the result of many
years of hard work and research. Maybe because I worked so hard for all of this, I know
the true value of what I have. But you have found it by reading this book. Will you see it
as it really is? Or like many other books that you have read, simply forget about it when
something new comes along.

REVERSAL MAGIC, BALANCE MAGIC, Channel Surfing, True Support and

Resistance Lines and Center Lines. All together they add up to the best understanding
of the market and its behavior today. What you have is truly a gift. The gift of sight, the
gift of hearing and the gift of understanding, what the market is really saying. You have
the elements of its language and the opportunity to have it tell you in advance what it
wants to do.

Don't take this gift for granted. When I was in high school, I took two years of the
Spanish language and was top in my class. As an adult, there was no one that I knew that
I could converse with. Today, I couldn't speak Spanish if my life depended on it. If you
don't use it, you lose it.

I am sure you understand this all too well yourself. Perhaps like me, you played an
instrument as a child. I once played the trumpet and was even in the school band. Again, I
lost the skill I once had because I put the instrument down many years ago. What have
you put aside from years ago that you would find it difficult to do today?

If you put this methodology down, you will forget much of it and later find that you
simply can't seem to make it work. Even now, for some this is a real danger of this
because they fail to fully grasp these methods and are easily frustrated.

Think for a moment. When you originally acquired this information, no doubt you were
serious about your feelings on trading. You were looking for something that works. Well,
you have found it, as testified by dozens that are currently using this method. All you
have to do is master it. Do you feel that you have?

What does it really mean to master something? If you remember, when I wrote the
section on Channeling, I made a statement regarding mastery and its ultimate form.
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Simplicity is the pinnacle of Mastery.

When these methods become simple and automatic to you, then you will know that you
have mastered them. You already have the tools to do just that. You just need to apply the
three keys to succeed. The three essential keys to mastery are practice, practice, and
practice. Oh, and did I also mention practice?

From time to time, go back and read everything in this book again. Each time you return
to the material, you will pick up another piece of the puzzle and be able to add it to your
trading. The rest will come naturally.

Of course, you are welcome to talk to me about any questions regarding these methods
that you may have. I always welcome comments and questions. They offer me an
opportunity to evaluate my writings and explanations, look at issues that I had never
thought about before, and explore new avenues of research.

The funny thing about knowledge, it seems the more I learn the more I realize how much
I don't know. While I may have more answers, it seems that my questions have grown
much faster than my answers. My thirst for answers is what started me down this road in
the first place and has resulted in my discovery of many wonderful things. I am not about
to stop now. It is my hope that you will not either.

The only thing that I can remember my oldest brother teaching me of value was a lesson
that I still treasure today. "Whatever you decide to do, be the very best at it. You may
never be the very best, but you will certainly be the very best that you can be."

You have learned the very best methods. So make them your own. Work at being the best
and the best of trading will come to you.

Trade magically and magical things will happen in your trading, your life, and with you.

Trade well and be happy.

Michael J. Parsons