The Construct
The Construct
The Construct
an Edge In any Market.
Notes from the desk of Kai Whitney WWW.RedBridgeCapitalConsulting.com
and NOFT NinjaOrderFlowTrader Credit is given for all of my resources.
The Construct: A training simulation where the truth
about the market matrix can be loaded and failed
traders can be properly reprogrammed towards
profitability, and where successful traders can
increase their existing skills and increase their profit
potential.
Market Matrix:
For all those who hope to learn the skills of tape reading I recommend reading about
Jesse Livermore in the classic investment book: Reminiscences of A Stock Operator by
Edwin Lefevre. (http://amzn.com/0471770884). PDF file: I continue to reference this book
any time my trading is off balance.
Even in tape reading something enters that is more than arithmetic.
“There is what I call the behavior of a stock, actions that enable you to judge whether or
not it is going to proceed in accordance with the precedents that your observation has
noted. If a stock doesn't act right don't touch it, because being able to tell precisely
what is wrong, you cannot tell which way it is going.” p.60
In creating this guide for traders, we’ve made some assumptions that should be made
clear as we move forward:
● Our belief is that the futures markets are 100% transparent and therefore 100%
correct. The number of contracts bought and sold at any given price on the
futures exchanges is available to the public. That is what makes them
transparent.
● We believe in the Financial Economics of Modern Capital Market and Portfolio
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Theories developed in the 1950’s through late 1980’s taught within the
professional education programs of the Wall Street Investment Banks and Hedge
funds. We accept the market as a complex system where seeking value is the
primary function of markets. This assumption assumes equilibrium and a
gaussian (bell curve) distribution of price range. Market risk is defined as the
standard deviation of distribution with an assumption that does not allow for
prediction.
● All participants are trading within a zero sum game, meaning for every buy to
occur at the ask price someone needs to be willing to sell at the ask price.
● Most indicators are calculated over a period of time, and as such, they lag actual
price action.
● The most successful traders, such as institutions and hedge funds do not use
indicators but order flow and the key levels created by that order flow.
● The price transparency of the futures markets creates an orderly auctioning
process that gives a trader the opportunity to look for clues hidden within the
order flow, through the use of professional tools such as the footprint and the
market/volume profile.
A great trader will continuously ask himself or herself questions while observing market
behaviour: What story is the market telling me? What is the market doing? How well is
it doing it? Such questioning is how you create “If, Then” scenarios that make no
assumptions. If the story being told by the market’s order flow is unclear, then there is
no need to rush to judgement, and therefore no need to enter any positions or to place
any pending orders. It simply means the market needs more time to offer more
information to give the trader an opportunity identify the probable future direction. Until
the market reveals the information necessary for the trader to enter the market with a
high probability of being correct, the trader has no edge, and therefore the wise trader
stands aside.
A rich understanding of the markets can only come from careful study, consistent
observation, and dedication to learning how the markets really work. The market does
not consist of one day’s trading or one time frame. It consists of a many different time
frames and each with its own condition. The first questions every trader should ask
before the trading day: Is the market balanced or imbalanced? Is it attempting to
become balanced or imbalanced? If the market is trending, its condition can be
described by including all those days since the trend began. If it is in a trading range, it
can be described only by taking into account the activity since the trend ended. The
missing link to market understanding is found within the data itself. All relevant market
data must be considered, but more importantly within context. Take the markets major
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swing high and swing low with 2 3 legs to identify the real trend. For example, I like to
use the 1440 min chart or the 10,000 volume chart going back 3060 days. The answer
to the fundamental questions of whether or not the market is balanced or imbalanced,
trending or consolidating, will help you choose the right strategy at the right time.
Until recently, many retail traders neither had access to the real time bids and offers,
nor had they spent the time understanding the auction market process, something that
often comes with years of experience, or, exposure to an institutional (banks) or
professional (hedge funds, prop firms) trading environment. Transparent, uptodate
information directly from the markets, properly interpreted, can level the playing field
between the retail trader and the professional. However, it is extremely important to
understand market structure and market conditions; to identify the principal players are,
and what they are doing. Once you can find the fair value of prices that will be
perceived as fair by market participants, then you can readily identify prices that are too
high or too low relative to perceived fair value. Price is attracted back to the middle of
value the return to the mean. Markets will usually find buyers below value and sellers
above value.
When you can readily identify fair value, you will understand the markets behavior and
quickly be able to detect, and act appropriately when the unexpected when it occurs. In
the end, if you follow value and changes in value, you can control trading risk. If you
know value, you know the most important reference point(s). The best way to consider
the markets is both from the longer term fundamental (the valuebased (price over
time)) and short term technical analysis (price).
Market Structure, Volume Profile &
Market Profile:
Value Based Power Trading will teach you how to determine a market’s structure and
condition, who the principal players are, and what the are doing. From market structure
and condition you can identify value. Then you can readily identify prices that are too
high or too low, prices that are away from value. With this information, you will know
what market behavior is expected and quickly be able to detect the unexpected when it
occurs. If you follow value and changes in value versus chasing price, you can can
control trading risk.
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Your key to successfully trading futures markets is knowing the important reference
points. What is a reference point? It is a price level, an amount of volume, or another
variable that carries with it important and relevant information about a market to inform a
trading decision. As soon as you can identify value in the market you are trading, you
know the most important reference points, giving you an edge against the
nonprofessionals the same edge as banks and institutions. Value can be most simply
understood as price over time, or value located by volume: a price region to which the
market continues to return over a period of time. Pricebased research treats all prices
equally; valuebased research identifies those prices that are more important to the the
bigger players.
Adding the overlay information and reference points from commercial traders (COT),
the previous day’s distribution, the trader is in a position to make lowrisk trading
decisions.
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What is value?:
Market Profiling is made possible by the nature of trading markets since they can be
defined by time, price and volume. The market develops a daily range of prices,
creating value that can be understood as price over time. That is, value or an
equilibrium point where there are an equal number of buyers and sellers. The market
will develop a normal distribution curve within a price region to which the market
continues to return over a period of time. Market Profile theory defines value as 6870%
of trading volume or a bellshaped curve to represent “normal” statistical distribution. By
monitoring this price distribution over time, the trader is offered insight into what levels
are considered fair/ support and unfair/ resistance based on the markets participation
rate. It is most commonly referenced to relation to the previous day’s volume
distribution, and is used as reference points for the current day.
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As mentioned earlier, understanding the market structure requires identifying the
market’s condition, as well as the reference points from commercial and institutional
traders. Once the market condition, value and other reference points are found, a
trader is in a good position to make lowrisk trading decisions and avoid the daily bear
and bull traps. The first trader to identify value wins.
"All a man needs to know to make money is to appraise conditions" J.Livermore.
The condition of the market can be described as:
● Balanced
● Trending
● Continuation
● Value Divergence
Why is value so important? Because the largest players in the markets, called
Commercial Traders, trade value. Who are Commercial Traders? See the CFTC
website for the description and the trading activity of Commercial Traders at
www.cftc.gov Commercials are the dominant force in trading, period. They work for
financial institutions, governments, and large corporations such as XOM, Monsanto
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etc… Each day they have business to transact which they try to do at value. Because
of their insight into each of their industries, they understand value better than anyone
else. For example, grain commercials know the prices for which their firms are buying
and selling grain, and hence current value. When prices deviate from value, the
commercials often identify value by selling near the top and buying near the bottoms.
Commercial traders are closely watched by others on trading floors of the exchanges.
Why? Think of it in this context: the smartest traders those with the best, most
uptodate, legal ‘inside’ industry information know when prices are fair (at or near
value), and when they have moved away from value (to low or too high). It makes
sense to identify these ‘Big Dogs, the ‘Smart Money’, follow their footprints in the
market, and trade accordingly.
Combining value with the understanding of the commercial traders behaviour in relation
to the markets, will give you proper fundamentals and a solid foundation to trade the
markets. Keeping track of value will limit your risk and protect profits. You can also set
your expectations properly with this understanding. Once potential trades are identified,
identify price and the discrepancies or deviations from value. Price can then be
validated by volume imbalance.
Price vs. Value
Perhaps the most important skill you must master to become a successful trader is the
ability to distinguish "price" from "value." This is something expert traders do intuitively,
and Market Profile does by its very nature, organizing information from the entire
timeframe spectrum in a way that enables you to visualize how value is building and
migrating. “While separating price from value is the hardest concept to internalize,
it is absolutely essential to understanding and effectively employing market
generated information”. from the book, Markets In Profile
The following picture is a long term Bullish Percent Value chart of the NYSE which
represents 3000 listed stocks spanning 14 years from 20002014. (Bullish Percent
takes the Point and Figure concepts and show’s the number of NYSE stocks on a
Bullish Buy Signal vs. Sell Signal on a percentage basis. Notice the majority of price
action is between the Red 70% zone and the Buy 30% zone. When more than 70% of
the stocks are on a buy signal it is considered higher levels of risk and marks market
tops. In short, the largest long only money managers stop buying stocks. Also
important to note is when there are less than 30% of stocks on a buy signal this marks
market bottoms because those same money managers aggressively buy stocks. As
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this example shows the concept of value and trading the edges of value applies to all
time frames (i.e. looking to sell as price moves away from value and is considered a
premium or overbought and buy as price gets cheaper or a discount to value.)
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For example, as long as higher prices continue to attract more volume and the
consecutive balance areas are distinctly higher, than the odds of the auction continuing
upward are high. Similarly, as long as lower prices continue to attract more volume and
the balance areas are distinctly lower, than the odds of the auction continuing
downward are high.
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Remember, the auctions fundamental purpose is to advertise opportunity (price), fairly
and efficiently allocating bids and offers among the market's participants. As you gain
experience reading marketgenerated information as it unfolds you will learn to interpret
price in context, which is the key to successfully trading in any timeframe.
Markets are much more understandable if you think of price as simply an advertising
mechanism; you want to learn how to gauge the market's collective response to each
and, as it were. Unfortunately, most traders focus solely on price, not its qualifications or
context, and it's no secret how "most" traders perform, in the long run…
Value is the fundamental longerterm analysis of the markets, price is the emotional
acceptance or rejection fear or greed relative to value.
Trade Location & Reference Points:
Trade Location means trading where there is an advantage or edge. Trading where the
Longer Term traders or institutional traders position themselves (OTF Other Time
Frame) can keep you on the right side of the market. Your only goal is to “ride the
coattails” of those in the know.
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Anticipate a trade at each reference point by watching price and its reaction to each
level. (for example, on the downside, look for the bids to sequentially lower until the
buyers shut off the sellers) Shutting off looks like a 2 X 0 or equivalent on the bid ask
footprint. If there is a 2 X 6 for instance that suggest that the auction is not finished and
the prices are not complete. The market may trade away from these areas initially only
to return creating attractive targets based on market generated information.
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Hint: Reference points are more valid when they are aligned with Low Volume
Nodes See example below on trading reference points.
● Previous Days Value Area High VAH
● Previous Days Value Area Low VAL
● Look for overlapping periods/days of value. Use those VAH VAL as confluence
● Previous Days Point Of Control “Fairest agreed upon price”
● Overnight High (or previous session, London, Asian)
● Overnight Low (or previous session, London, Asian)
● Previous Days Settlement Close. Look for Standard Deviation levels away from.
● Current Day Open in relation to value
● Current Day First hour Hi and Lo “Initial Balance”
● Volume Composite (multiple days, weeks of accumulated volume)
1. Identify Low Volume Nodes (Rejection Areas)
● Look for Fibonacci Golden Ratio 61.8 retracements and its inverse 1.618
extensions in relation to market generated reference points
● Stacked Traded Imbalance on the NOFT Ghost iBlock
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Tricks & Traps by Commercial and Institutions:
Large traders use their knowledge of value to enter balanced markets at extremes.
That being said, it is important to note the trade location and the time of day they do
their activity.
Below is a list of tricks that I have adopted and tailored to my trading. They occur in all
markets and all time frames. These are for educational purposes only and do not
constitute a recommendation to buy or sell any security.
(1) Trick: If during the opening first ½ hour of the markets open the price opens outside
of yesterday’s value area and continues in that direction with velocity it is wise to step
aside and do not fade. The Commercials and Institutions are privy to trend changing
news events and will act accordingly. If during the last ½ hour to the markets close
price runs away from the days developed value do not fade the move. Its better to trade
with the institutions than against them. If the market is breaking outside of a balanced
situation, continued commercial activity will show up in the order flow as volume
imbalance of 200400% multiples relative to the other side attempting to (wrongly) fade
the move. This is strong evidence for the start of a trend.
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(2) Trick: Let the news event or breakout occur to show its direction then wait for a
38% Fibonacci retracement and go in the initial direction.
(3) Trick: When the market has a major economic report such as Fed minutes etc…
Fade the initial move, for up to 50% retracement on average. Do not hold that position
too long.
(4) Trick: When observing the order flow footprint and a specific price or level keeps
refreshing and absorbing large orders, watch for a “Flush” of the price to occur. The
market will initially trade away from the level to return and break through clearing stops
and creating liquidity for the larger traders.
(5) Trick: Price is used as an “advertisement” to get you to chase the move. As price
is coming into a level, watch for the candle to “advertise” that it is going to go in that
direction indefinitely (extremely bullish or extremely bearish candle with very little no no
wick). Market makers will always make the candle look inviting just before it pivots and
reverses (the price gets too cheap or too expensive). Remember, the sizes that the
banks, hedge funds, and prop traders are playing with is many multitudes greater than
that of a typical retail trader or investor. Therefore these major players need liquidity in
order to offload their inventory of the financial instrument being traded. They will initiate
block trades and trade imbalance near or within a value area. (see range). Very seldom
is there enough liquidity near the end of an impulse or thrust move. Very rarely will they
sell double bottoms or buy double tops.
(6) Trick: The Retail Flush. When price comes into a level watch for the last bar to
close and the next bar to open and trade a few ticks beyond in the same direction, just
to get “rejected” with a volume imbalance, wick, or “small capping” of the tape (For
example: 0 X 2). Take the trade in the opposite direction. In the example below the
previous bar is a down or red bar. The very next bar opens and continues in the
direction of the previous bar to “flush” the retail traders who short bottoms. A rejection
occurs and price trades around the COT/POC or into the previous bar and a long
opportunity is one tick around that COT/POC, or trapped trade imbalance (i.e. large
traders), iBlock in the direction of the previous bars unfinished business, Hi Vol Node or
iBlock or Price Magnet. This becomes the opportunity to adjust your risk.
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(7) Trick: Institutional Trap If you notice an abnormal large bid or offer near the end of
the footprint (for example: 156 X 0) You can expect a trap is being set and to take a
trade in the opposite direction and place stops just beneath the price the trap was set.
The trapped traders will need to cover their losing positions propelling the market
higher. “There is always a trap being set, If you cannot identify it you’re in it” Al
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Brooks
(8) Trick: Once in a trade use the COT/POC (Commitment Of Traders) price as a
“blocker”. An analogy is akin to running back carrying the ball in American football.
Great running backs know how to follow a blocker a larger teammate such as an
offensive lineman or fullback. They run behind that teammate looking for as much
forward gain as possible, and under the right conditions, a touchdown. Trading is no
different. As a trader, follow price, hiding behind your blocker the COT/POC for the the
previous bar by one tick, and follow in the direction of the trend for as long as possible
and let the market take you out. If the large committed traders are not willing to defend
that price, then you stand no chance defending it by yourself.
(9) Trick: Watch the footprint for a confluence of large block trades surrounding a
specific price within the same time frame or over a period of time consistently at or
around the same price. This is evidence a large fund has an order they need to execute
at or around that particular price point.
(10) Trick: 80% Rule. A value area trading strategy reported by Dalton Capital
Management. It states that there is an 80% chance when a market opens or trades
above or below the value area high or low,and then trades in the value area for two
consecutive periods, then the market has an 80% chance of testing the other side of the
value area.
(11) Trick: Unfinished Business:
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(12) Trick: Value Trade. All of these tricks and trades work best in a Low Volume area
on a volume composite, also known as a volume profile.
Volume Profile: Its all about trading the edges of value. Do not initiate trades in
a continuation area because that’s where the program algorithms, iceberg orders, and
large traders the Big Dogs will eat you alive. This area is commonly known as chop
or consolidation.
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Market Analysis: Fundamental Analysis &
(OTF), Technical Analysis (DTF)
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Trading presents a fundamental paradox: How do we remain disciplined,
focused, and confident during the market analysis and execution and
trade management? How do we completely accept the risk in trading, the
most important skill you can learn? Answer: market generated
information. In other words, Its great to have a belief in a mathematical
model and anticipate and project a measurable move based on historic
reference. But how you measure and confirm when the fundamental and
technical analysis is within your risk parameters? The fact is there a no
limits to the market’s behavior. Anything can happen at any moment. No
matter how much analysis, belief or hope you have, you can never learn
enough information from these two styles of analysis alone. This breads
lack of confidence and increased level of fear because the best you can
do is guess and hope you made the right guess.
Institutional Level Bid Ask Analysis:
Quantify your entries with Order Flow to reduce risk and increase the
probabilities of trade success:
Order flow analysis is the missing link for many traders. It essentially represents a
graphical or spreadsheetlike rendition of the most basic and fundamental market
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generated data. It refers to how the orders are coming into the market, how aggressive
they are being entered and how they are being filled. Observing order flow or “tap
reading” in real time can tell the trader how trade is being facilitated, a key concept in
auction market theory. Rather than looking at lagging indicators or candlestick charts
the trader assess time and sales patterns that most retail traders never even realized
existed. Many early attempts at reading a traditional time and sales tape have been
met with angst due to the fact that the data scrolls endlessly by in a flash and quickly
out of site. The NOFT patterns can be recorded, analyzed and classified into Intrabar
patters, end of bar patterns and multidata sequences. Unlike any other style of trading,
auction market theory and the reading of time and sales patterns affords the trader the
ability to assign structure and context to price and thus meaning into what they observe.
This provides the trader a logical decision support of the highest quality.
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Quantify and Qualify your entries with NOFT.
Look for sellers absorbing buyers inventory in real time and buyers
absorbing sellers inventory. This is how you quantify your entries with
less risk.
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The Transition from trend to bracket My notes from Markets In Profile
Price Exhaustion “Trends end in either of two ways or a combination of the two.
The first occurs when volume which is in the direction of the trend simply dries up as if
the participants that were driving the directional move are “all in” and there is no one left
to participate and an excess high or low created. The ending of an auction offers the
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moment of greatest opportunity, as well as the moment of greatest risk”.
For example, If higher prices are causing investors to become less aggressive in their
buying, then logic says that the auction is likely to stall and eventually reverse. If higher
prices are causing investors to become more aggressive (higher volume), than logic
says that the auction is likely to continue, perhaps even accelerate.
If higher prices are attracting less volume, then it becomes apparent that the mean or
median (standard deviation) has remained well below the current price, which means
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the odds are high that price will return to previous value levels. “Price ran too far away
from value.”
If you can identify when the odds are changing and then act on that knowledge, then
you have a meaningful advantage over the majority of investors who wait until proof is
incontrovertible before making a move. In the highly competitive investment business,
the reward—even if only a few percentage points—can be very significant.
“Excess”. The second and most common end to a trend occurs when a market makes
a dramatic price high or low on low volume (at a low volume or rejection area in the
volume composite) and opposing buyers or sellers react quickly and aggressively by
auctioning price in the opposite direction. In short the laggards are finally “all in” and the
market moves with real conviction. An excess high or low occurs on light or low
volume. Most of the investing world, however, thinks the opposite is true. Most
investors believe that capitulation at the end of a downward auction when all the sellers
finally sell occurs on heavy volume. What people incorrectly ascribe to capitulation is
actually a result of the action in the opposite direction.
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Block Size Filters:
Use these recommended filters for the markets your
trading. These are dynamic. Test for yourself.
Short Time Frame OTF (Other Time Frame)
Instrument (Sell Side) (Buy Side)
ES S&P Mini 164 184
NQ Nasdaq 24 54
TF Russell 14 24
YM Dow 14 24
GC Gold 14 24
CL Crude 14 24
6E Euro 24 54
ZB TSY 89 164
Trading a key level Homework:
Once a market attempts and fails to auction above a previous high, the odds are
good that sellers will respond and auction price downward and explore
the opposite end of the range. Recall the 80% rule: when an auction attempt fails to
establish value in one direction, and price reenters a previously accepted value range,
the odds are good that the market will auction down and explore the opposite end of the
accepted range.
The following chart shows a previous level of stacked institutional trades indicated by multiple
trade imbalances (red highlighted numbers) “stacked” on top of each other as a key reference
point to trade off.
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The chart to the left
identifies a sequence
of institutional trade
imbalance or
institutional
momentum. It uses a
trade imbalance of 3 to
1 or 300% as a
threshold to determine
trade imbalance and
possible institutional
activity. Follow and
place stops behind
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these aggressive market participants. If they cannot defend the direction of the market,
certainly no retail traders size can.
Morning Trade Analysis:
Each of these levels and more are to be confirmed with the OFST. A
confluence of levels aligned with a low volume node in the volume profile
are key to success.
1. Locate previous Day’s VPOC, Value Area High & Value Area Low.
2. Risk Management Where is the Low Volume Areas in the Volume Profile.
3. Locate Initiated Trade Imbalances outside a narrow range area.(Initiative trade)
4. Watch for previous levels where price rejected (SQD responsive trade)
5. Look for volume distributions. Identify the ledges and a large area of low volume
in between 2 high volume areas. Think of a dumbbell.
6. Where is the POC/COT most volume traded on a larger time frame OFST
7. Are there any naked POC’s
8. Identify Stacked Institutional Block Trades and Ghost iBlocks (i.e. Trade
Imbalance 3 to 1 or greater within a minimum of 3 price levels)
9. Possible trapped aggressive/ block traders, POC (trapped value). These will
occur near the end of an impulse or thrust move.
Please see a students example of homework and the levels he prepares to trade.
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dr ey bb rv @ gm ai l.com, Skype: andr
an
Notice the trades taken are at homework levels. This allows a trader to anticipate specific
levels reducing the number of trades and increasing the probability of a successful trade.
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in g co ll ec ti on : h ttp://www.forex-w
Trad eybbrv
dr ey bb rv @ gm ai l.com, Skype: andr
an
U.S. Government Required Disclaimer
When considering day trading and investing, do not invest money you cannot afford to lose. Day trading is highly
speculative and unpredictable. Financial and commodity markets expose you to risk due to factors such as slippage,
volatility, liquidity, leverage, order execution speed, and seemingly random fluctuations in price. With significant
losses exceeding your trading account’s margin, you may be responsible for paying back these losses. Past
performance is not indicative of future results. Hypothetical results are not indicative of actual live trading results. We
offer no guarantees of profit or loss. Our testimonials have not been independently verified, nor are they indicative of
future results. Our products and services are provided solely for educational purposes. Our written and verbal
statements, including those provided on our website, by staff members, testimonial individuals, affiliates and clients,
are personal judgments and should be regarded as such. These written and verbal statements do not constitute
investment advice. Online trading systems are subject to a variety of technological problems including (but not limited
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delays. We are not liable for any loss or damage, including without limitation, and loss of profit, which may arise
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this Cheat Sheet are subject to change at any time without notice.
arez.com
in g co ll ecti on : h ttp://www.forex-w
Trad eybbrv
dr ey bb rv @ gm ai l.com, Skype: andr
an
arez.com
ing co ll ec ti on : h ttp://www.forex-w
Trad eybbrv
dr ey bb rv @ gm ai l.com, Skype: andr
an