THE WILLIAMS METHOD
Dr. Bill Williams has authored two books detailing his
trading method. His first book, Trading Chaos , was published in 1995, and
his second book,
New Trading Dimensions , was published in
1998. We are dividing our tutorial on our application of
the Bill Williams' method into two categories - the Basic
Method and Expert Method. The second part of this article
is a presentation of our interpretation and application
of the Basic Method and how it can be used to complement
the pattern, price and time work that is the foundation
of our own Trading Fives Method. The Basic Method uses
concepts contained in both of Dr. Williams' books so if
the reader wants to study all the details as presented by
the author both books are required. The above links will
take you to the Barnes & Noble on-line bookstore
where you can purchase one or both of Dr. Williams books
at a discount.
The Trading Fives Method and the Williams Method are similar in that each use the Elliott Wave as a representation of the basic structure of the trading market for futures, stocks and indexes. We differ in that Trading Fives provides detailed Elliott Wave pattern analysis for you, most often in multiple time frames, for every stock and index that we follow. The Williams Method leaves you on your own to identify and label the Elliott Wave pattern possibilities that may exist at any time. Another primary difference between the methods is that Trading Fives makes heavy use of the dynamic Fibonacci relationships of prior swings of the same, higher, and lower degree to project precise price and time targets for the termination of that swing and the beginning of the next swing in the opposite direction. This is the point in price and time that Dr. Williams calls "Point Zero."
The primary difference between the methods, and the most significant reason that we have included the Williams Method at TRADINGFIVES.COM, is that where the Trading Five Method is a reversal trade method, the Williams Method is a breakout trade method. In other words, Trading Fives is looking for the lowest or highest tic at the suspected end of a swing to take a position with the expectation that the trend has reversed at that point. The Williams Method goes into action after the trend has reversed at the suspected Point Zero and prices have broken through the prior swing's last minor high or low. A couple real world examples will demonstrate why the distinction betweeen a reversal trade and a breakout trade may be important to your trading plans, and also show you how the methods complement each other to provide certain advantages to the trader in different market conditions.
The first chart is AOL. Click here to pop-up the AOL chart window and then move or resize the window so that you can see the chart while reading the text. On September 21 the Trading Fives Method had identified a coincidence of pattern, price and time that alerted us to the possibility that AOL could make an important swing low on that date at about the 80-82 price level. The AOL comments from the Sweet 16 ActionTable detailed what to expect and what to do if certain events occurred that day. AOL made an intraday low of 80.50 and then reversed price. The price reversal created a Reversal Bar, one of the Trading Fives trading triggers. Applying the rules of the Trading Fives Method a long trade in AOL was elected at the close (3:59PM) on September 21 at a price of 84.375.
If a trader missed the September 21 trade there were two more Trading Fives triggers on September 22 that elected a long trade the day after the Reversal Day. In addition to being a Reversal Day, September 21 was an Outside Day, prices had made both a higher high and lower low on the daily bar. The closing price following an Outside Day can be a trading trigger if certain criteria are met. September 22 was also a Reversal Confirmation Day, a day that closed higher than the open and the previous day's close (for a long trade). Either of these follow-up trading triggers would have gotten the trader long AOL at about 91.00 on September 22.
The AOL chart illustrates in the most dramatic way possible the advantage of reversal trades - you get a trade entry near the absolute pivot extreme (Point Zero) providing maximum profit potential and minimal risk. It cannot get any better than that. For either day's entry, September 21 or September 22, the maximum risk was measured from 80.50, the Reversal Day low.
What would have happened if the trader had not acted on September 21 but had waited and used the Williams Method for additional confirmation that the September 21 low was indeed a major pivot? The first fractal breakout level for a long trade in AOL was at 97.44, the high on September 10. AOL closed above that fractal breakout level for the first time on September 27 at a price of 101.125. In this real life example, the Williams Method trader would have been long AOL ten to sixteen points higher than the Trading Fives reversal trader. And at considerably more risk because the only totally objective stop loss point on the daily chart was still at 80.50, the September 21 pivot low.
Despite the differences, with any kind of reasonable stop loss strategy both traders would have made money on AOL which went to 124 a week later, and that is the only thing that matters.
The second chart shows an unsuccessful reversal trade for IBM. Click here to pop-up the IBM chart window and then move or resize it so that you can see the chart while reading the text. On October 1 IBM made a coincidence of pattern, price and time that alerted us to the possibility that IBM was making a significant pivot low on that day. IBM did not put in a reversal bar on October 1 so before electing a long trade we waited for a Reversal Confirmation Signal on October 4, the next trading day. IBM closed near the high of the day on October 4 and a long trade was elected at 119.375 (3:59PM price). The stop loss point, and risk in the trade, was the October 1 low at 115.50. The chart shows what happened next. IBM topped out the next day at 123.50 and then moved back down to take out our stop at 115.50 resulting in a loss of 3.875 per share.
The Trading Fives Method did not fail on October 1. Without detailing them here, there was a strong coincidence of pattern, price and time that prompted us to take the trade. It was unfortunate that IBM did not put in a reversal bar at a lower entry price on October 1, or that the October 4 Reversal Confirmation signal came near the very highest price of the day, but that is part of trading. No method that we know of is 100% accurate or can guarantee profits on every trade or even the majority of trades. You can make money trading only by properly managing an assumed 100% probability of losing money on most trades.
How would the Williams Method trader have made out with IBM on October 1 and 4? There was no fractal breakout and therefore no trade. The Williams Method trader stayed flat. No long trade - no loss.
The October 1 low, marked with the green (a) on the chart, could have triggered both a Trading Fives short trade and a Williams Method short trade in IBM when prices broke below 115.50. When IBM broke below 115.50 the Trading Fives method could have prompted a short trade because 115.50 is where pattern analysis said that W.C = W.A, and if that level did not hold then it became more likely that IBM could trade down to where W.C = 162% of W.A in the 102 price area. Breaking below 115.50 triggered a William Methods short trade because it was a validated downside fractal breakout. What constitutes a validated fractal breakout is explained in the next section.
Two recent, real life examples show how the Williams Method can be used to confirm (or not) a Trading Fives Method reversal trade. We know from email and telephone conversations with subscribers that reversal trading is a new experience for many. Reversal trading is downright fun when you're on target but we understand that it is not for everybody all the time. We have added the Williams Method as a peace of mind and confidence builder. We will expand this concept and show in another article how the Williams Method can be combined with the Trading Fives Method as an asset allocater in an attempt to capture the best features of both methods for the Trading Fives subscriber.
THE BASIC METHOD
The fractal is the fundamental concept to successfully implementing the Williams Methodl. It is imperative that you understand what a fractal is, how a fractal is formed, and when it becomes a trading signal. If necessary please review our paper on Fractals. Review the AOL and IBM charts from the earlier links. The fractals on those daily charts are marked with magenta bars. We did not make a color distinction between up and down fractals because the difference is obvious from simple observation.
For trading purposes we are interested only in the most recent up-down fractal combination.