Quote from clarodina:
how you guys deal with overshoot or undershoot of support and resistance level? How to know whether price would overshoot or undershoot?
Learning the nuances of price action and candlesticks can help.
As an example-- if u have a defined supply zone (sellers exist in "areas" on the chart...not in an exact location--the extreme point of which is a horizontal resistance line that is drawn from the left side of the chart where a significant pivot point exists where price turned) above current price in your primary time frame (let's say 15 min chart)... how does price arrive to the level in your execution time frame (let's say 5 min)?
Is it a capitulation series of extended range candles with large bodies on high volume... where price falls outside a 2 std deviation move as represented by a significant pierce of an upper bollinger band line outside of normal price distribution? If so-- you have an extremely high probability that the move will not sustain itself and that a reversal is imminent...a reversion of the mean if you will. There are no more buyers left... they are exhausted. Any overshoot is more likely a false BO.
Or is the move a series of small stair step candles on moderate/low volume...a slow crawl up to the level within the confines of 96% of normal price distribution within the bollinger bands? If so - you have a much higher probability of the level failing and a true breakout occurring. Why? Because sellers and supply are drying up... buyers have not been exhausted like they were in the former example above... higher lows are being made.. price is not at an extreme. Any overshoot more than likely still has legs and is a real move to the next level of resistance.
Another way to determine whether an overshoot is real or not is to examine how many times has the level been tested before? The more a level gets tested- the lower the probability that it holds and reverses price and a greater likelihood the overshoot continues on... conversely a fresh level tested for the very first time has a much higher probability of being honored and as a result the overshoot will be nothing more than just that- a headfake... a bull trap.
Also how strong was the level the first time it was established? Did price spend alot of time there before reversing.. and even upon a reversal... had a slow drop (indicating a balance of supply and demand and price equilibrium for an extended period.. and therefore a weak level on which to expect a future reversal... but rather a sustained overshoot)? Or did price spend little time at the level... limited candles before rapidly dropping (indicating a major supply/demand imbalance and therefore a very strong level the next time back... with any overshoot typically being shortlived).
So now with the guidelines above- go back and backtest and see for yourself how reliable this analysis is-- you will be amazed. Naysayers-- don't "nay" until u have the screentime to back up your rhetoric. Trading is ALL ABOUT PROBABILITIES. The price action that I explained earlier tells a story of where the true buyers and sellers are... that's all. It's not just about patterns and self fulfilling prophecies. Think about it-- hard right edge price action is as forward leading as u can get... everything else lags.
Take it a step further and in your basket of stocks-- examine the normal volatility and ATRs-- and backtest when there were overshoots-- how much distance was it relative to your volatility? Find a mean and consider moving your stop location by that amount... simply position size accordingly for the "wiggle room" so as to still keep your defined max
risk you are willing to accept and not exceed.
And finally - remember-- if you do get stopped out and it turns out that it was merely an extended overshoot and price did subsequently reverse-- you can always get back in. Just never average down... the first stop is always the cheapest and will keep you in the game. Manage your risk first- profits second. Profits will always take care of themselves as long as you have an edge and you manage risk.
And yes Magic- I have provided more than the OP asked for... Merry Christmas.
Good luck.
