The Island Trade

The "Island" trade is one of my favorite trades. It has a very high success rate, but can of course be fraught with the same issues that plague us with all other trades (is the break for real? will it retrace? Where do I put my stop?)
Nonetheless, this is a very good trade for swing and longer term traders.

The idea behind the island trade is that often price moves too far in one direction before retracing. Extreme price moves are not unusual, they are quite common. Knowing how to act on these moves and when you should go "with the price move" and when you should fade it, are the keys. That ability comes with years of dedicated work watching and studying the markets. The island trade though can help you recognize this situation.

The island trade is based on a daily chart. When price is pushed forcefully in one direction there will be a "gap" between previous days and the current day. Price may stay in that area for a while, but once traders have had time to digest the move, and consider all the pertinent factors, they may view that price as extreme. This will often cause a "gap" back in the other direction after only a day or two. These two gaps create an island formation. That island shows where price is considered extreme. The trade is to go with the gap back towards the original direction, and to give price a chance to retreat. See the WindoTrader market profile chart below

This is a trade that can lead to bigger profits. It often is only recognized when the second gap has already occurred and this can lead to a difficult situation trying to figure out when to get in, and where to put the stop. Thus, it can pay to be aware of the setting, anticipate such a move, and trade after hours in the night session if necessary in order to get the best entry. Obviously, this won't always work and sometimes the gap back only occurs after a news item, making it impossible to anticipate. In those situations you must simply try to find an entry that can be used with a defined stop. Once in...let it go.