You probably know by now that the use of key levels in the market is a large part of what makes a Forex trader successful. But how can you be sure that the placement of a level is as accurate as it can be? Should the level be placed at the highs or lows of each candlestick or at the body?
The answer to these questions is of course, dependent on current market conditions. In some cases, it may make sense to place the level at the highs or lows, whereas in other cases it may be more logical to place the level closer to the body of the candles. And of course, there will be times when a level deserves to be placed at both the highs or lows as well as the candlestick body.
It’s easy to know the answer when the highs or lows all match up perfectly across a given level, but that’s a rare occurrence. Which brings us to the million dollar question…
How can you be sure that the placement of a key level is ideal when the highs or lows don’t match up perfectly?
That’s exactly what we’re going to uncover in this lesson – a way to use the lower time frames to “fine tune”, or refine, the placement of key levels.
So without further ado, let’s get started.
First things first, before we talk about the ideal position for a level, we first need to understand the relationship between key levels and time frames.
You may have noticed that levels don’t always play nice across multiple time frames. For example, a level may look great on a daily chart, but a four-hour chart reveals the candlestick body breaking support or resistance.
Let’s take a look at an example.
Notice how this level is being respected nicely on the daily time frame. All the candlestick bodies within the highlighted areas are contained above or below the key level with no overlap.
Now let’s take a look at the same level on a four-hour chart.
The four-hour chart above shows the first retest of this key level as new support. Notice how the body of the candlestick closed below the level.
At first glance, this looks like a failure of support that may lead to a breakdown in the market. But it doesn’t. Why? Because “the market” is only interested in supporting this level on a daily basis, not a four-hour basis.
Here is a comparison of the two time frames, side-by-side. The level represents the same price in both charts.
We can draw two conclusions from the comparison above.
The fact that all lower time frames made false breaks tells us that the market is only interested in supporting this level on a daily basis. This means that moving forward, we should trade this level from nothing lower than the daily time frame.
This may seem like a simplistic example or even obvious, but it’s extremely important to understand the significance that time frames play when identifying (and trading from) key levels.
Now that we’ve covered the basics, let’s discuss how to use the lower time frames to refine the placement of key levels which we can then trade on the higher time frames.
Although we do all of our trading from the four hour and daily time frames, that doesn’t mean we have to dismiss the one hour chart. It can be a nice compliment to the higher time frames if used properly.
I’m not advocating the use of the one hour chart to enter or exit trades, simply to be used as a tool to help refine the placement of key levels that have been identified on the higher time frames.
I also want to point out the fact that this “trick” won’t always work, but when it does it can be extremely helpful. We’ll cover the criteria needed for it to work later in the lesson. For now, let’s focus on how it works.
We’ll start by defining a channel that formed on the AUDUSD four-hour chart.
The chart above shows a simple equidistant channel that formed on the AUDUSD four hour time frame. This type of pattern is fairly easy to spot, but how can we be absolutely sure that our levels are accurate?
For instance, who’s to say the channel shouldn’t be drawn as follows?
Notice in the chart above, channel support is drawn a bit lower to include the lows of the first two touches.
For comparison purposes, here is a close-up of the two variations.
The comparison above highlights how the first support area captures each swing low, whereas the second support level does not. The second support level was also drawn using the extreme lows of the first two touches.
So how can we determine which placement is most appropriate for this pattern?
To find the answer, we need to move down to the one hour time frame. By using a lower time frame such as the one hour, we can use price action to fine tune our key levels.
Let’s take a look at how this channel appears on a one hour chart.
The AUDUSD one hour chart above shows a bullish pin bar which formed at support. It should be noted that the placement of this level is the exact same as Channel Support Placement #1 in the four hour chart above.
So what is this bullish pin bar telling us?
It’s telling us that this level is the “line in the sand” between the bulls and bears. Remember that pin bars are in indication of increased supply or demand at a particular level. So the fact that the bulls were holding this exact level tells us that this placement (#1) is the most appropriate for this pattern.
At this point you may be wondering how the rest of this channel looks on the one hour chart. And that’s a perfectly legitimate inquiry. In fact, the only way this “trick” works is if the entire level lines up with the one hour chart.
Let’s take a look.
Notice how each touch off of support lines up nicely on the one hour chart. This gives us further confidence that the bullish pin bar is a valid indication that our support level has been placed correctly. If any of the bodies of the circled candlesticks above had broken channel support, we wouldn’t be able to use this technique.
But the bullish pin bar failed, so what’s the point of this exercise you ask? Remember, we aren’t trying to identify a price action signal to go long or short within the channel. We’re simply using the one hour chart to help fine tune the placement of the levels that define the channel. This makes trading a breakout on the four-hour time frame much more accurate and dependable.
Which brings me to an important point. Just because we use the one hour chart to fine tune a level doesn’t mean we want to trade this pattern from the one-hour time frame. Again, we’re simply using the lower time frame to get a more precise level which we can then use to trade the higher time frames.
So now that we have our levels in place, we’re ready to trade a breakout from the four-hour chart. Remember that we want to do all of our trading from the higher time frames (four hour and daily). So although we used the one-hour time frame in this lesson to define our level, we’re still entering and exiting the market from the four-hour time frame.
Here’s how this channel breakout could have been traded.
You’ll notice that the four-hour close pointed out in the chart above would have broken support regardless of where the key level had been drawn. But remember that this is the line in the sand between the bulls and bears. Which means it isn’t only useful as an entry signal but can also be used as an exit strategy in the event the trade goes against you.
This means that you now have an accurate level to use as a sentiment indicator. For instance, if the market were to close back above the level after breaking to the downside, you would want to close any short positions as it would be a clear indication that the bulls aren’t ready to go home yet.
Although key levels should always be thought of as zones rather than exact levels, knowing the most appropriate placement of a level will make you that much more accurate as a trader.
I hope this lesson has introduced an easy way for you to fine tune your key levels. Do keep in mind that most levels are best thought of as zones rather than exact levels. So although the technique we just discussed can be highly effective, it won’t work in every situation nor is it without flaw. So remember to always protect your trading capital with a strong defensive strategy.
In closing, here are some of the most important points from the lesson.
What do you think about the technique we just discussed to fine tune key levels? Do you currently use something similar? If not, do you see yourself using this one hour technique going forward?
Share your question or comment below.