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22 24000 22000 20000 - 18000  TQ 20/20 01991 CQG Inc. Figure 7.6 The 1990 Value Line Cash Index-a test and failure of the previous intermediate high. The second indication of a change in trend occurs when prices approach but dont reach a previous high and then fail. Condition 2 of the t-2-3 change of trend criterion. news, which causes prices to gap up or down and move erratically with relation to the "normal" price movement (see Figure 7.6). 3. Prices go above a previous short-term minor rally high in a downtrend, or below a previous short-term minor sell-off low in an uptrend (Figure 7.7). At the point where all three of these events have occurred graphically, there exists the equivalent of a Dow Theory confirmation of a change of trend.2 Either of the first two conditions alone is evidence of a probable change in trend. Iwo out of three increases the probability of a change of trend. And three out of three defines a change of trend. To watch for a change of trend on the charts, all you have to do is translate these principles to graphical terms as follows (refer back to Figures 7.5-7.7): 1. Draw the trendline as described above. 2. For a downtrend, draw a horizontal line through the currently established low point. Draw a second horizontal line through the immediately succeeding minor rally high. 3. For an uptrend, draw a horizontal line through the currently established high point. Draw a second horizontal line through the immediately preceding minor sell -off low. Daily Bar Chart
Daily Chart 24000 22000 - 20000 18000 ,14©  ( ) Breaking Through Pncviotis Important Minor Low TQ 20/20 © 1991 CQG Inc. Figure 7.7 The 1990 Value Line Cash Index-prices breaking below a previous intermediate low. The third and final indication of a change in trend occurs when prices break below a previous important minor low. Condition 3 of the 1 -2-3 change of trend criterion. Consider the case of an uptrend. If prices cross the trendline, mark the chart with a circled 1 at the point of crossing. If prices approach, touch, or slightly break the horizontal line corresponding to the current high and then fail to cany through, mark the chart with a circled 2 a t that point. If prices cany through the line corresponding to the immediately preceding sell-off low, mark the chart with a circled 3 at that point. If two out of the three conditions are met, the chances are good that a change of trend will occur. If all three conditions are met, the trend change has occurred and is most likely to continue in its new direction. After a little practice, you can leam to associate the three criteria of a change of trend visually and think of them in terms of 1-2-3: (I) a break in the trend line; (2) a test of the preceding high or low; (3) the breaking of a preceding minor rally high or minor sell-off low. It is as easy as I-2-3-the trend has changed! Naturally, trading on these mles alone isnt 100% effective-no method is. Illiquid, newssensitive, and highly speculative markets and stocks are especially subject to sudden reversals (see Figure 7.9). If you trade on the 1-2-3 criterion, or any other change of trend criteria for that matter, and the market reverses, it is called "getting whipped" or "getting whipsawed." The best way to avoid being whipped, or to minimize your loss if you are whipped, is to follow these mles:
9,15 Minute Bar Chart 22550 - 22500 - 22450 - 22400 -  10/26 10/27 10/30 10/31 10/25 7Q 20/20 1991 CQG Inc. Figure 7.8 December 1989 Commodity Index Futures-an example of an illiquid market. This intraday (15 mmute) bar chart of the commodity index futures shows very light trading, characterized by large price swings, gaps, and dead periods in which no new prints appear. I .Trade only in highly liquid markets that historically arent subject to sudden and large reversals. On the charts, illiquid markets are characterized by large price movements with sparse activity (Figure 7.8). 2. Avoid, if possible, highly news-sensitive markets or markets that are heavily subject to radical change from govemment monetary and fiscal intervention. The charts of such markets will be filled with "gaps"-large and sudden changes in prices with no prices printings in between the changes (Figure 7.9). 3. Take positions only when exit points can be set at previous resistance or support levels, which allow you to minimize losses if the market proves you wrong. These exit points are called "stop losses" if they accompany your order, or they can be set and executed yourself, which I call a mental stop (Figure 7.10). Trading by the 1-2-3 criterion is a simple and effective method that, if applied carefully, works more often than not. One negative when trading by it is that by the time all three conditions are met, you sometimes miss a large portion of a price movement. There are ther observations, however, that can aid you in deciding to take a position much earlier. One of them, and my personal favorite, is what I call the " 2B" criterion.
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