In a previous article ‘Supports and Resistances are Crucial to Read the Markets’ in which we described how to set levels and areas with influence for the price and its movement in the future, I mentioned box theory and since then I received many questions about proper marking and use of boxes.
What are boxes in trading?
A box is simply a time correction. In trading we can describe a few types of corrections, but they fall into one of these two categories:
- Price correction. This happens when the price is moving in opposite direction to the current trend. It means decreases for bullish trend and increases for bearish trend. It can contain few smaller impulses and corrections. In this manner, we see wave structure of the correction.
- Time correction. This is a consolidation or sideways movement. It is a correction of an earlier bearish or bullish impulse. It does not have a wave structure or any impulses and corrections that are easy to observe.
As mentioned before boxes are just a consolidation. When considering their size and impulses we can sometimes spot that boxes are a correction of trends for the current or longer time frames. A huge advantage of boxes is the fact that they lead you to invest both with the trend and against it.
Below you can see what the boxes are:
As you can see after every impulse there is a correction. Some of them are shorter, some of them are longer, but all of them are boxes. During an impulse, the price moves from one box to the next. After that there is a which corrects testing and rejecting the border of the last box.
Technically boxes are almost identical or really close to each other.
This means that to set a potential target of breaking out of the box we just need to move its range to the current impulse.
This is one of the theories of Price Action and it can used for both low and high time frames.
Depending on the time frame and instrument boxes can have large variances in size from a just a few to hundreds of pips
It is also worth noting that the 1:1 ratio of boxes is just a theory and there are, of course, exceptions. Experience tells us that very often there are boxes in 1:1 ratio supported by mirror reflection. I know it sounds weird so to explain take a look at this chart:
There is also second rule with high probability. Impulses usually have a size of two boxes and correction is one box high, so we can see 50% Fibonacci retracement. This provides a very good opportunity to open a position consistent with the momentum.