The Principle of Contraction/Expansion | Toby Crabel

 

Price always moves from Consolidation to Expansion, never from Consolidation to Reversal or from Consolidation to Retracement. After an Expansion, two possible scenarios can occur: either a Retracement or a Reversal, followed by another Expansion or Consolidation. That’s it—it happens over and over again. 

» The principle of Contraction/Expansion is defined as the market phenomenon of change from a period of rest to a period of movement back to a period of rest. This interaction between the phases of motion and rest are constantly taking place, with one phase directly responsible for the others' existence. «

 

Toby Crabel, 1990
 

In his study 'Day Trading with Short Term Price Patterns and Opening Range Breakout' Toby Crabel defined the following range contraction and expansion patterns:

NR4 - The narrowest daily range relative to the previous three day’s daily ranges compared individually.
NR7 - A day with a daily range that is narrower than the previous six day’s daily ranges compared individually.
WS4 - (Widespread 4) A day with a daily range that is larger than any of the previous three day’s daily ranges.
WS7 - (Widespread 7) A day with a daily range that is larger than any of the previous six day’s daily ranges

             compared individually.

His key findings were: A cumulative total of Gross Profits for the contraction patterns vs expansion patterns on trades in the direction of the move off the open showed $710,000 for contractions on 7,313 trades and $102,000 for expansions on 7,524 trades. Profits were seven times larger for ORB (Opening Range Breakout) trades after contractions than expansions.

» Clearly something is going on here. The suggestion from these results is that one should be looking to go with a forceful move off the open after a contraction and not willing to do so after an expansion. In fact, fading price action off the open, with trend, after an expansion is a consideration. Other patterns can help with the decision on whether to fade a move off the open along with previously mentioned market context. If nothing else, one should be aware of the dangers of ORB trades the day after a big directional day. Caution is necessary after expansions. This is when the most attention is given to the market by the novice trades who invariably get caught in whipsaws and trendless markets. «  

Bitcoin - Inside Bar Narrow Range 4 (ID/NR4)
in monthly, weekly, daily and 4 hour bar charts.

» An object at rest stays at rest and an object in motion stays in motion with the same speed 

and in the same direction unless acted upon by an unbalanced force. «
Isaac Newton's 'First Law of Motion', 1687

 

Reference:
Toby Crabel (1990) - Day Trading With Short Term Price Patterns And Opening Range Breakout.

Jack Corsellis (2023) - Toby Crabel - Secret Trading Strategies of Billionaire Trader Revealed. (video)

Jarrod Goodwin (2023) - Testing Toby Crabel's Narrow Range NR4 Breakout Strategy on Daily and 4 Hour Time Frames. (video)
Ali Casey (2023) - Toby Crabel's Narrow Range NR4 Pattern. (video)

NR4 & NR7 (Narrow Range 4 & 7) and ID (Inside Days) | Toby Crabel

Narrow range patterns were described by Tony Crabel in his book, "Day Trading with Short Term Price Patterns & Opening Range Breakout". Even though it was published in 1990, many of Crabel's concepts and set-ups are still effective, and in particular his NR4 (Narrow Range 4) and NR7 (Narrow Range 7) patterns became quite popular with short-term traders. The idea for set-ups is similar to the Bollinger Band Squeeze or Short-Squeezes and Long-Squeezes in general: a volatility contraction is followed by a volatility expansion; narrow range days mark price contractions that precede price expansions. The NR7 day and the NR4 day as such are 'neutral' when it comes to future price direction, and other tools need to be employed to determine directional bias. Because NR4/NR7 days are relatively commonplace and the range is small by definition, the chances of whipsaw are above average. A break above the NR7 high can fail and be followed by a break below the NR7 high. Just be aware of this probability and keep the bigger picture in mind. In other words, be wary of sell signals within a bullish pattern, such as a falling flag or at a support test.

 

Examples of Narrow Range 7 Inside Days (IDnr7) in the Nasdaq.

Traders will want to qualify NR7 signals because they are quite frequent. A typical instrument will produce dozens of NR7 days in a twelve month period and a daily scan of US stocks will often return hundreds of stocks with NR7 days. Traders can increase or decrease the number of narrow range periods to affect the results. A decrease from NR7 to NR4 would increase the number of instruments fitting the criteria, while an increase from NR7 to e.g. NR20 would decrease the number of signal days. Consider NR7 and NR4 days that are at the same time Inside Days (IDnr4, IDnr7) also as signal days (see chart above).

Strategy: This strategy starts with the day's range, which is simply the difference between the high and the low. Crabel used the absolute range, as opposed to the percentage range, which would be the absolute range divided by the close or the midpoint. Because we are only dealing with four and seven days, the difference between the absolute range and percentage range is negligible. Crabel focused on two different narrow range timeframes: four days and seven days. An NR4 pattern would be the narrowest range in four days, while an NR7 would be the narrowest range in seven days. It is a very short-term pattern designed to initiate a trade based on an "opening range breakout", which is another term from Crabel's book. Look for an upside breakout when prices move above the high of the narrow range day and a downside breakdown when prices move below the low of the narrow range day.

Bull Signal:

1. The daily bias is bullish.
2. Identify a NR4, a NR7, an IDnr4 or an IDnr4 day.
3. Buy on move above high of narrow range day high.
4. Set trailing stop-loss.

Bear Signal:

1. The daily bias is bearish.
2. Identify a NR4, a NR7, an IDnr4 or an IDnr4 day.
3. Sell on move below low of narrow range day low.
4. Set trailing stop-loss.

Targets: Because this is a short-term setup, it is important that the trade starts working right away. Failure to continue in the direction of the signal is the first warning. After a buy signal, a move below the low of the narrow range day would be negative. Conversely, a move above the high of the narrow range day would negate a sell signal. Consider profit targets and stop-losses. Crabel took profits quite quickly, usually at the close of the first trading day or on the first profitable close. Again, this is very short-term-oriented and might not be suitable for all traders. Alternatively, profits can be taken near the next resistance levels or a percentage target can be used. Base stops on previous highs and lows, the Average True Range (ATR), etc. For example, the stop-loss on a long position could be set two ATR values below current prices and trailed higher.

 

Reference:
Toby Crabel (1990) - Day Trading With Short Term Price Patterns and Opening Range Breakout.

Toby Crabel (1990) - Inside Days in the S&P 500.

 Oddmund Groette (2023) - NR7 Trading Strategy (We Improved It).
Oddmund Groette (2023) - Inside Day Trading Strategy – Does It Work? (Backtest). 

TPR (2023) - Trend Continuation Entry Strategies.

SPX | Narrowest 2 Year Percent Range of Monthly Closes

Credits: Nautilus Research

Tom McClellan: "Such low volume episodes are typically followed by uptrends. Exceptions noted."
Credits: Tom McClellan