The past few weeks, market volatility has been sky high. I can't remember the last time the NASDAQ had more 50 – 100-point swings so often. Very strong supply and demand levels and huge profit zones are the norm ever since the market declined to the February lows. So often in the trading world, I hear people talk about where price is likely to turn next and how high or low it can go. The question I hardly ever hear anyone asking is, ‘Where is the next big profit zone?' This is one of, if not the, most important things to consider when speculating in markets.
The profit zone is the distance in price between the entry point and the profit target price. When looking for trading opportunities, people tend to focus on where the next big turn in price will happen. As I often write about, these turns happen at price levels where supply and demand is out of balance. When looking at charts, you will find that there are many supply and demand levels. By no means are we interested in taking trading opportunities at all the levels we find. In fact, when considering profit zone into the filtering mix, we would ignore most of the supply and demand levels we find and narrow our focus down to the quality supply and demand levels that have large profit zones associated with them.
To explain the concept of profit zone and its importance in trading, let's take a look at a trading opportunity from a recent live trading session I held last week for our students. Notice the demand zone on the chart (yellow box). Price gaps higher from that level for one reason, demand greatly exceeded supply. Price gaps higher because there was too much demand at that area and no sellers. Price had to travel higher to find sellers (the gap). All this price action is taking place in the box area on the chart.
Follow my logic here… If there was no supply on the way up, forming the gap, then there will be little demand on the way back down to the demand zone, as seen on the chart. The chart suggested that banks were big buyers, but at the origin of the gap, not higher. The boxed area on the chart becomes the ‘profit zone'; which means there are very few unfilled buy or sell orders to stop price from moving through that area. The trading opportunity was to buy at the demand level and profit from a rally in price, which happened and can be seen on the second chart.
