Break the Code of Trending Markets and Save Your Account

World War II, 1942. The Germans were at the height of their power and reach, having conquered most of Europe. Across the Atlantic, German U-boats were picking off allied ships as though they were in the midway at a county fair.

In 1942 alone, they sunk more than 100 ships off the east coast of North America, in the Gulf of Mexico and the Caribbean Sea. It was Alan Turing and his primitive, yet war-saving machine that decoded the Nazi enigma codes being sent to the sea.

When the market is trending, price tends to pick off swing traders easily – racking up a staggering number of kills. You can use Volume at Price, combined with Imbalance Summaries that come from Order Flow Sequence Tracking to decode trends – and then trade with them.

Days when reversal traders get picked off, trade by trade

By the end of World War II, almost 3,000 ships had been sunk by German U-boat torpedoes. That worked out to 175 warships and 2,825 merchant ships. Making matters worse, the German torpedoes only managed to get better, going from straight line shoot and fire to torpedoes that would actually hone in on their target.

In every market, price manages to hone in on a target that retail traders can never seem to track. When price grinds along, many traders struggle to find the reversal points. When it’s trending – batten down the hatches and hold onto something that’s anchored – you could be in for an explosion on your account.

The simple reality is that when price is trending, many retail traders focused on reversals have no way of knowing who’s really in control. This is because the price-based indicators they use offer no indication of volume or value relative to individual price levels.

Indications you can use to crack a trend’s code

It was the Bombe machine, an electromechanical device used by Turing and British cryptologists which helped to decipher the German Enigma machine messages. The US Navy and Army would go on to produce their own ‘Bombe’ machines – but it was Turing that got to the solution first. The result changed the war.

Don’t take on the forces of the market on your own… decipher the coded plans held within price. Thanks to Order Flow Sequence Tracking, you can watch as positions are taken between buyers and sellers – in real time. Imagine being able to plot the movement of every U-boat in the Atlantic, and then radio the information to nearby ships.

Imbalance summaries tell you if there are powerful forces driving price – where they’re coming from and when they’re stepping in. They simply track the bold positions – those that enjoy a 300% size advantage over their counterpart.

This intelligence affords you the chance to monitor the veracity behind each candle’s direction. Couple this with knowing where you’re at relative to fair value – the price that institutional traders are hoping to protect – and you have the makings of your own market Turing machine.

Embedded within every trend lies the secrets of direction based on the prevailing force between buyers and sellers.

Knowing exactly who’s in charge – and if you’re still at a price that the institutions like – will tell you if the market will continue to trend in that direction. Using the ES example here, note how the imbalance summaries coincide with the corresponding price runs. Hard to miss who’s in control.

Using the code breaker to make safe entries

With the success of the Turing machine, the Allies were left with a serious moral dilemma, having broken the Axis codes almost right away. Deploying resources to meet oncoming U-boats would almost surely tip their hand that the codes had been broken. Instead, they made the tough decision to take losses and turn the tide slowly over time.

When using imbalances, you don’t need to incur losses in pursuit of victory. Simply take inventory of who comes out ahead at the close of each bar by looking at the delta (the red or green number at the top), and then the imbalance summary – the two numbers above the delta.

Imbalance summaries that are heavily in favor of one side or the other indicate a strong appetite to push price by the buyers or the sellers. This indicates that they’re on the run and in the process of making their move. You can either get on board with them or steer clear.

When the imbalance summaries are close – like 1×1 or 1×0 (or vice versa) – the result of the conflict is still in question. In a trend, this means you’re seeing a break in the action – but wait until you have confirmation that price is going to continue with the prevailing side.

Track the deltas and imbalances to crack the code on continuation entries.

Looking at our ES example, see how the imbalances revealed the action that was driving price, in this case upwards. When there was a pause in the action, the scores evened out – and when it picked back up again, the buyers accelerated.

This intelligence allows you to crack the code early, and get in during lulls in the action.

Avoiding false reversal conditions that can sink you

In the 20% of the time that a market decides to trend (on an intraday basis), many believe that this serves as the downfall of the reversal trader – the ultimate source of their losses, anguish and agony. This doesn’t have to be the case.

Thanks to Volume at Price (V@P), intraday positions – for most time periods – can be validated based on the value zone that’s presented by V@P. As with the above example, you can see two zones:

  • Value Area: The red portion in the middle of the bars making up the profile on the right. This is where the most volume is taking place – and where the market believes fair value is. Steer clear of this. If you’re a reversal trader – pauses in a trend taking place in the middle of the Value Area are not good reversal entries.
  • Value Area High (VAH) and Value Area Low (VAL): The blue portions above and below the middle red Value Area. These are overbought and oversold conditions respectively. When price legitimately enters into these areas you could be at a pricing extreme. Watch the imbalances closely in these zones – if they’re still in favor of the prevailing trend (or have close scores) – price is still on the move.

Monitoring V@P as your final entry criteria gives you the perspective you need to avoid being caught with a reversal entry that’s on the wrong side of a trend.

Win the battle along with the war on trends

Without Alan Turing and his team in Hut 8, the war would have turned out very differently for the Allies – and humanity. German forces would have continued to deliver massive blows – unmitigated thanks to their superior ciphering technology. Some historians estimate that the war would have continued for another two years, and two million more lives would have been lost.

Don’t underestimate the harm that trending days can inflict on your trading account. Keep a vigilant eye on Volume at Price – steering clear of the Value Zone at all costs. When imbalances start to rack up, know that price has not lost its steam and is forging ahead.

Wait for a break in the action and take your continuation when the imbalances die down, but the trend is confirmed again with the following bar.

Turn the tide of losing trend days into heroic profits – even as a reversal trader.

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