Head Room


Prerequisites for this discussion:

               Consolidation

                Support & Resistance


Head Room is a measure of how far we think a price might go if we take a trade.   We measure Head Room from the current price ( Up To or Down To ) the next period of Consolidation, Support or Resistance.    Head Room is subjective.   It requires a trader with knowledge of the Pair and the ability to read the charts.    If you ignore how much potential Head Room there is in a trade then you miss the point of whether you should open the trade or not.

If you have too little Head Room then the price is subject to reverse before it ever gets profitable.   If you don't know the Head Room and you keep the trade open too long the price is subject to reverse and take away all of your profits.

Knowing what the Head Room is and then caculating a conservative 50% to 75% of the total Head Room as an exit point will help you Bank The Pips .

Some examples might help show you the concepts of what is being described.  Review the chart below:



Let say we have identified EUR/USD as a potential trade.  We will move along the chart from the Left to the Right.   During our reconnoissance of this Pair we noted a level of SUPPORT in which the price when falling did not fall any further.  On our chart we marked this as the horizontal PURPLE line on the far left.

The PURPLE line shows us where the price fell several times but never went below.  This is price SUPPORT and helps us calculate Head Room.  

We then watched the price go up and make a reversal.  Some where along the GREEN line we decided to place a trade.   To calculate Head Room we went from the current price down to the solid PURPLE line.    This will give us the potential Head Room.  Why?  If the price hit the SUPPORT level before and reveresed wouldn't we expect it to do it again?   The PURPLE line shows us where the price could reverse until it breaks that level of SUPPORT.

Question 1:   Is there enough Head Room to allow us to reach our profit target?   In this case (prices are arbitrary for this example) we calculate 100 pips of Head Room so there is enough to trade.

Question 2:   How much Head Room is left ?   Do we want to take 50% or 75% of the Head Room and still realize our profit goals?

The GREEN line and the PURPLE line help us answer these questions.

We place our trade and ride it down to about the PURPLE level of support and close the trade.   Lucky for us the price reversed and went back up after we closed the trade.    We now have another Selling Opportunity.   We do the same calculates along the PINK line.   We decide we again want to sell the Pair because the PURPLE line was confirmed even stronger.  We calculate from the current price down to the PURPLE price and answer our Question 1 and Question 2.   Things look good so we pull the trigger again and take another trade.    Prior to the price reaching our Head Room level, PURPLE line, we close the trade again.

The price reverses, wow this is easy, and goes back up.  Our trade signals are reformed again and we are now at the top of the GREY line.   This time we calculate our Head Room from the top of the GREY line down to the purple.   When answering questions 1 and 2 we realize there is not enough Head Room and the risk is too high.

We sit the trade out during the GREY line movement and NOT take a trade.

What is interesting is the price continues to fall below the PURPLE SUPPORT level.   We can then look for a new Head Room calculation because the PURPLE line is no longer being used in the calculation.   Taking a trade along the ORANGE line will NOT use the PURPLE line for Head Room Calculation.

To calculate the Head Room Level along the ORANGE line we will have to go back further in time to find the next period of SUPPORT or Consolidation to help us answer Question 1 and Question 2.
 

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