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You are here: Home / Trading Setups / 3-Step Pullback Trading Method

3-Step Pullback Trading Method

By Galen Woods in Trading Setups on May 24, 2019

This 3-step method for trading pullbacks comes from Richard Deutsch’s excellent Udemy course. It uses the Keltner Channel to identify trend momentum and tradeable pullbacks. From there, it relies on price action to select the best pullbacks for entering the market.

Trading Trend Pullbacks – 3-Step Technical Analysis Method by Richard Deutsch

Note: I’ve interpreted the source material with my observations to form the trading rules below. Hence, there may be slight differences.

The Three Steps

What are the three steps?

  1. Use the Keltner channel to identify trends and to find healthy pullbacks. (Not sure what’s a Keltner Channel? Click here.)
  2. Focus on price action to select entries.
  3. Place your stop-loss and target orders with the help of price action and your market’s ATR.

Let’s learn more about the three steps below.

Step 1 – Identify Pullback Candidates

The critical component of this system is the Keltner Channel. It is a versatile trading tool that incorporates both trend strength and momentum.

A properly calibrated Keltner Channel covers most price activity. So, when price moves outside the channel, either above it or below it, it signals a trending market.

Recommended Keltner Channel settings:

  • 15-period EMA
  • 15-period ATR
  • 2-times ATR multiple

After the price breaches the channel, you wait for a pullback.

For a pullback to be valid, it must occur within a Target Range. It is defined by the degree of pullback and its duration. Specifically, look out for pullbacks that:

  • Reaches 20% to 80% of the Keltner Channel;
  • Within 3 to 15 bars.

Step 2 – Trade Entry

Once the market is within the Target Range, wait for one of two entry triggers:

  • Price bar(s) showing short-term, with-trend momentum.
  • Price bar(s) forming a Pin Bar with a long tail and a strong close back in the direction of the primary trend.

Step 3 – Stop-Loss and Profit Target

A stop-loss is set at least 2.5 ATRs away.

This relatively wide stop-loss recognizes that pullbacks often take some time to develop. The intention here is to accommodate complex or multi-legged pullbacks.

A profit-target is set at equal distance, providing an initial 1-to-1 risk-to-reward ratio. You can tighten the stop-loss if the trade goes your way.

3-Step Pullback Trading Rules

To summarize the trading rules:

Long Pullback Setup

1. Price exceeds Keltner Channel ceiling.
2. Price pulls back into the Target Range.*
3. Wait for a price action entry signal to go long.

Short Pullback Setup

1. Price goes below the Keltner Channel floor.
2. Price pulls back into the Target Range.*
3. Wait for a price action entry signal to go short.

*20% to 80% of the Keltner Channel within 3 to 15 price bars.

Trading Examples

In the charts below, the blue lines form the main Keltner Channel we are relying on to assess the trend.

On top of that, I’ve added a second Keltner Channel to highlight the Target Range (orange dotted lines). This is optional but it can be a helpful visual guide if you’re new to this approach.

Winning Trade

This example shows two successful day trading setups using the 3-Step Pullback Method.

3-Step Pullback Winning Example

  1. These consecutive closes below the Keltner Channel floor confirmed the bearish momentum.
  2. After five bullish bars, the pullback hit the Target Range (within the orange channel). From that point, the market drifted sideways.
  3. The previous candlestick signaled uncertainty in the form of a Doji. But this bearish trend bar showed the with-trend momentum we needed for a short entry.
  4. The market punched below the Keltner Channel again. This development set the stage for another short pullback setup.
  5. This bearish Pin Bar at the EMA line (50% of the Keltner Channel) offered a marvelous short entry.

Both setups here hit the default profit target of 2.5 ATR.

Losing Trade

3-Step Pullback Trading Losing Example

  1. A long series of candlesticks forming below the Keltner Channel. This formation is a compelling show of bearish force. It created the context we needed for a short pullback entry.
  2. As the market pushed to new lows in this downwards trend, price action started congesting. Also, note the overlapping lower shadows of the price bars. These were not signs of a healthy bear trend.
  3. Nonetheless, the technical bearish trend conditions were in place. Hence, this bearish outside bar offered a potential short entry for the 3-Step Pullback Method.

However, it failed almost immediately.

In this example, we saw clear warning signs, as highlighted in Point 2 above.

But this will not always be the case. You’ll encounter perfect-looking pullback setups that turn out disastrous.

Accept these losses as the cost of doing business. Be careful not to go down the rabbit hole of trying to avoid all losing trades.

Review – 3-Step Pullback Trading Method

This strategy prescribes a method for trading pullbacks within a trending market. But there’s ample room for experimentation.

With this three-part trading template, there’s much you tinker with and learn from.

For instance, you can easily swap the Pin Bar entry with your favorite price pattern. Stick to one that you’re confident of finding and interpreting.

The trading rule that considers the number of bars into a pullback is helpful. It offers a straightforward method to assess the complexity of a pullback. Another way is to count the number of legs within the pullback.

In his original course, Richard discusses many more nuances of this strategy. These include his rationale and method for placing stop-losses and taking profits. These are aspects we did not focus on in the examples above.

If this simple pullback strategy appeals to you, be sure to check out Richard’s video course on Udemy.

Read more about Keltner Channel, Price Action Trading, Trading Trend

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Comments

  1. Moyaiu Sangaioa says

    August 5, 2019 at 6:14 PM

    I appreciate you writing, but I am looking for something which is used nothing more than a naked chart. I love trade with, or else share something which works better than any ordinary lagging indicators. SA people are doing great in Nasdaq. They are in beating postion but no one can beat them. exceptional trading system.

    Reply
    • Galen Woods says

      August 8, 2019 at 9:49 AM

      Hi! You might want to check out my price action tutorial or my price action trading course.

      Reply
  2. Steve says

    February 6, 2020 at 10:02 PM

    Hi, Galen.
    First off, thanks for your many articles. I read them all!

    In respect to this Keltner Channel method, what are the settings for the orange dotted channel?

    Is it just 80% of the main Keltner, which is 2ATR, so the orange dotted one would be 1.6ATR?

    Thank you! Steve

    Reply
    • Galen Woods says

      February 9, 2020 at 10:54 AM

      Hi Steve, great question. It gives me a chance to elaborate. The settings for the orange dotted channel (Target Range) is 1.2 ATR.

      To understand this, we need to clarify the percentage measures here. (We’ll look at a bullish instance below.)

      Once the market exceeds the top Keltner line, the top line becomes the 100% line and the bottom Keltner becomes the 0% line. The midline then becomes 50%.

      So when we say that the target range is between 20% to 80%, it means that we need to shift 20% down from the top line and 20% up from the bottom line to form the Target Range.

      Richard’s course explains it much better with a visual format. So if you want to dive deeper into this strategy, consider picking up his course on Udemy.

      Reply
      • Steve says

        February 10, 2020 at 6:06 AM

        Hi Galen, thank you for the reply.

        Yes, I see what you are saying, that’s great!

        I like the look of Richard’s course, so thank you for the link.

        I look forward to more of your articles, they help generate ideas and keep me learning!

        Regards, Steve

        Reply

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