Trading success is often elusive, especially when you find yourself consistently on the wrong side of the market.
If you have ever gone long only to watch the market plummet, or gone short only to see prices skyrocket, it is probably because you lack a mechanical way of assessing market structure. Let’s go into the three rules that should help you establish consistent profits while, at the same time, establishing clear directional bias in your trading.
These solid-principled approaches have allowed me to make a minimum of $10,000 per month trading Forex. Let’s dive right into the meat of the approach.
The Role of Market Structure in Trading
Market structure is the foundation of profitable trading. Without a clear understanding of it, you’re guessing rather than trading with precision. The three principles covered here include:
- Understanding Break of Structure vs. Liquidation.
- Using the Box Model to Identify Valid Highs and Lows.
- Applying the Three-Pullback Rule for Accuracy.
Having learned these will help you navigate through your trades, preventing expensive blunders.
Rule 1: Break of Structure vs. Liquidation
There is one most common error a trader can do: being mistaken about price action in a break of structure vs. liquidation. This is how you are to distinguish them from each other.
Break of Structure (BOS)
When price breaks a key level and closes above (or below) it with a strong, definitive candle, it is a sign of momentum and confirmation of the trend. For instance, when a candle closes above a previous high, it is a sign that buyers are in control, and the pullback becomes a reliable buying opportunity.
Liquidation
When price wicks above an important level but closes back into the range, this is a rejection due to heavy selling pressure. This often traps traders who wrongly interpret the wick as a valid breakout. Price is more likely to make a reversal back towards trading lower rather than continue higher.
Knowing this difference is the key to not getting caught on the wrong side of the market.
Principle 2: The Box Model – Identifying Valid Highs and Lows
Accurate identification of trading ranges is key to identifying the direction of the market. The Box Model is a structured approach to charting valid highs and lows.
Current Range
Mark the high and low of the current trading range. If price is bullish, mark the swing low and the swing high.
Draw the Box
Create a rectangle from the previous range’s high to its low. This defines the area where price action is unfolding.
Look for Breakouts
When price breaks out of the box and closes above, this confirms a continuation of the trend. At this point, update your range to include the new swing high and swing low.
Avoid Common Mistakes
Many traders mark low or high prices that are actually invalid, resulting in bad trading decisions. Through the Box Model, you will constantly identify the correct levels and be able to trade confidently.
This hard approach removes the guess and keeps you on the right track of the market.
Rule 3: The Three-Pullback Rule
Valid pullbacks are also an important aspect of the structure of the market. A pullback is not just a retracement. It needs to satisfy specific conditions to qualify as valid. This is how the Three-Pullback Rule works:
Three Consecutive Bearish (or Bullish) Candles
The price has to generate three consecutive bearish candles in an uptrend, or bullish candles in a downtrend, to qualify a pullback.
Break Previous Levels
Each candle has to close below (or above) the low (or high) of the previous candle. In case this condition is not met, the pullback is invalid.
Trend Continuation
The trend continues with the ideal entry after the valid pullback.
Invalid Pullback Example
If price retracts and there are one or two failed bearish candles that could not break below the low of the previous candle, then the pullback is invalid. Trades with such setups very easily lose their way.
Observation of this rule ensures accuracy at the entry level, which naturally decreases the rate of false signals.
Common Pitfalls to Avoid
Most traders fail to define the market structure. Here are some common mistakes and how to avoid them:
- Marking Random Highs and Lows: Use the Box Model to identify valid ranges. Do not label every price movement a new swing high or low.
- Ignoring Liquidation Signals: Be careful whenever price wicks above or below key levels without follow-through.
- Trading Without Rules: This enables you to have mechanical rules like the Three-Pullback Rule in order to be objective.
Advantages of a Mechanical Trading System
You take much of the guesswork out of trading by implementing these principles. With this mechanical system, you will:
- Clearly define your directional bias – bullish or bearish.
- Avoid falling prey to false breakouts.
- Trade with confidence since you know the trade fits the proven strategies.
Conclusion
Mastering market structure is the foundation of consistent trading success. It is about understanding the difference between a break of structure and liquidation, defining ranges using the Box Model, and applying the Three-Pullback Rule, among others. All these will give you a significant edge in the market.
These market structure rules have been rigorously tested and have helped me generate $10,000 every month. They provide clarity, precision, and confidence—qualities every trader needs to succeed.
If you’re ready to take your trading to the next level, start implementing these principles today. And don’t forget to share your experiences in the comments below. What market structure concepts have transformed your trading?
