Understanding The Taylor Trading Technique

George Douglas Taylor is often regarded as a top thinker in trading terrain. He authored a seminal work on The Taylor Trading Technique. This work presents the “Taylor Book Method” for swing trading in futures.

What Is the Core Concept Behind Taylor’s Strategy?

Taylor suggested that the markets exhibited patterns influenced by “market engineering”. Insiders often manipulated prices to create advantageous buying opportunities for their benefit. Subsequently, as the market surged enough to generate profits for these insiders, a short-term peak emerged, providing them with a prime selling opportunity. The market would experience a downturn, initiating the cycle again.

This engineering amplified the market’s natural rhythm, generating deceptive movements that misled traders into buying when they should sell, and the other way around. The essence of the Taylor Technique lies in recognizing this rhythm and capitalizing on the “false moves.” Many traders have long believed that if one could pinpoint market movements designed to cause the greatest distress to unsuspecting traders, they would possess an exceptional trading strategy. The Taylor Technique is thought to achieve just that.

Taylor developed this method specifically for the grain futures markets, yet many discover its relevance in today’s financial futures markets as well. Hedging programs in financial futures foster self-correcting markets. Purchasing will initiate a temporary advance as hedging occurs to secure profits and to sell options against a lucrative position to generate premium income. The act of direct selling contributes to the hedge sales, resulting in the formation of a short-term peak. This creates a consistent rhythm of a 2-4 day buying phase, succeeded by a 1-3 day selling phase, as markets typically decline more swiftly than they rise.

Taylor categorized every trading day into three main types: ‘Buy Day,’ ‘Sell Day,’ and ‘Sell Short Day.’ These labels served to pinpoint the market’s position within the cycle, enabling strategic alignment of entries and exits with its natural rhythm. However, delving into Taylor’s book reveals a more complex picture. He outlines scenarios where you capitalize on buying days or take a long position on selling days. In certain parts, it can be challenging to discern his meaning or to determine if he is being contradictory. Moreover, he places significant importance on measuring and documenting past swings, leveraging those historical data points to forecast the potential distance of future swings.

Many have discovered that the Taylor technique closely resembles Market Profile when applying his concepts for anticipatory market analysis. By forecasting the future market structure, you equip yourself with a strategy for how the market might develop and how you can capitalize on it.

Taylor aimed to steer clear of the intraday market noise and concentrate on a key strategy for the day. This aligns with the core concept of Market Profile, which highlights the importance of ‘trade location’. Jim Dalton, a leading thinker in MP, noted: “The conclusion of an auction presents the peak of opportunity…risk and return are not balanced at this juncture.” A prime trading location is essential for effective risk management.

The essence of the Taylor technique lies in pinpointing the conclusion of one buying or selling “auction” and the initiation of the next. By accurately identifying this, you can unlock significant rewards as you position yourself at the beginning of a multi-day movement.

The Taylor Cycle

The foundation of the Taylor Technique is built upon these essential “Taylor Concepts.”

• Markets often exhibit a rhythmic pattern, alternating between high-to-low and low-to-high movements over 2 to 3 days during intraday trading. This observation involves a comparison between the opening and closing values.
• Swing Highs and Swing Lows are established in one of two ways: through a ‘Violation’—where the price tests above or below the previous day’s high or low—or via a ‘Good Gap,’ where the market gaps in the opposite direction, effectively trapping the players from the previous day. A Swing High or Swing Low is defined by ‘excess’ as the market ‘overshoots.’ 
• Thanks to residual momentum, markets are likely to surpass the highs or lows set the previous day.
• Utilizing a price as a ‘reference point’ enables you to better understand the market’s movements. The key level to watch is typically the high or low from the previous day, based on your buying or selling intentions.

These concepts can guide you in pinpointing market positions through the Taylor cycle, while also revealing price levels that highlight potential opportunities. 

The Taylor Technique categorizes days into three distinct labels often referred to as the Taylor Cycle: ‘Buy Day,’ ‘Sell Day,’ or ‘Sell Short Day.’ These labels guide us in predicting our primary strategy for the day, allowing us to structure our approach and pinpoint trade opportunities effectively.

Buy Day

The initial category is the Buy Day. We seek a buying opportunity following 1-3 days of significant high-to-low trading activity. On Buy Day, we expect to witness the conclusion of a downward trend, marked by a selling auction in Market Profile, as the final sellers make their move. The previous day’s low serves as our reference price. When the market dips below the previous day’s low, it signals an excess low, indicating the decline is coming to a close. This is our cue to buy, as the market starts to reject lower prices and gears up for a rally. On a traditional Buy Day, we aim to make our purchases when the market rises above the previous day’s low, effectively ensnaring the final sellers. The rally persists, showcasing a compelling low-to-high movement that signifies Buy Day activity and marks a successful long entry.

Sell Day

On a successful Buy Day, we secured profitable long positions that we carried forward, expecting positive momentum on the Sell Day. The Sell Day can be perplexing, as its name suggests a focus on selling, yet it typically isn’t the ideal time to initiate short positions—though there are notable exceptions. On a Sell Day, we expect lingering momentum to propel the market toward the peak established during the last Buy Day session. This surge to the ‘Buy Day’ peak serves to unwind the long positions acquired in the prior session.

Sell Short Day

The concluding day of the Taylor Technique cycle is designated as the Sell Short Day. A Sell Short Day closely resembles a Buy Day. We anticipate residual momentum to drive a move beyond the previous day’s high, establishing an excess high that ensnares the final bulls. At this juncture, the rally, characterized as a ‘Buying Auction’ in Market Profile, comes to a close, leading to a subsequent decline. On a traditional Sell Short Day, we look for a dip below the reference price—typically the high from the previous session—as our signal to initiate a short position.

Inside Day

Typically, we rely on the previous session’s high or low as our benchmark price. However, an Inside Day presents a unique scenario, as it lacks any violation that would establish an excess high or low. Taylor regarded Inside Days as an indication that the market had reached a temporary equilibrium. Consequently, Taylor would consider the high and low from the previous session as key reference points. We expect a breakthrough above yesterday’s high to signal a buying opportunity, setting the stage for a potential rally. A drop beneath yesterday’s low would represent a similar ‘go with’ action.

Conclusion 

The Taylor Technique equips traders with a robust conceptual framework to classify and comprehend market dynamics. This framework enhances a trader’s capacity to predict market movements while enabling them to align their trading strategies with the market’s rhythm.