Initial Balance Breakout Strategy for ES & NQ

All right, good morning. This is David from Trader Dale, and today we’re going to go over an extension trade using the Initial Balance, which we really like to use here at Trader Dale.

For those of you who don’t know what the Initial Balance is, the Initial Balance is basically created by taking the first hour of the New York trading session, from 9:30 to 10:30, and marking out the high, the low, and the midpoint. That’s it.

As you can see, I have a tool that does that for me. It marks the high in green and the low in red, and it tints that area so I can go back and look at it. It gives me a good visual.

What we are looking for with the Initial Balance is an extension and acceptance of price above or below it. After 10:30, this helps us determine whether price is going to trend for the rest of the day or remain balanced for most of the day.

Those are really the only two things the market can do after the first hour. It is either going to stay balanced within that first-hour range after attempting to break one side or the other, or it is going to break one side, extend, and continue higher or lower.

This is an example of an extension trade. What are we looking for? Something very simple.

I have the NQ and the ES together because we have to watch both markets. Both markets give us information, and we are also looking for divergences and SMTs, which are very important in our trading.

The first thing we are going to look for is a 15-minute close. We want to see a nice bearish 15-minute candle close below the Initial Balance. It cannot be a rejection candle. It cannot be a candle that broke out, rejected the move, and closed back near the range. It has to be a clean bearish candle closing below the Initial Balance on a 15-minute chart.

Next, we are looking not only for a close but also for displacement below the range. Displacement means leaving a fair value gap behind because that shows intention. We want to see clear intention and acceptance of price below the Initial Balance because that is going to give us our targets.

We are going to use this on a 15-minute chart. Sometimes, you can use it on a 10-minute chart or go up to a 20-minute chart. It does not really matter, but we do not want to use anything much lower than that because the conviction will not be as strong.

Anything higher than that, such as a 30-minute or one-hour chart, is simply going to take too long. The 15-minute chart is the perfect sweet spot. Occasionally, you can use a 10-minute chart if there is no valid 15-minute setup, because sometimes there will be a 10-minute setup but not a 15-minute one.

That is all you really need. Anything lower than that is going to be too short of a timeframe.

As you can see on the NQ, price displaced lower and created a fair value gap. The next thing we are going to look for is price to tap back into that fair value gap.

While doing so, price also created an SMT. As you can see, the price on the NQ did not tap into the fair value gap, but the corresponding candle on the ES broke this high even though the NASDAQ did not. That is good enough because the ES broke the high while the NASDAQ did not. That gives us an SMT.

Now we are going to need an execution, so let’s go to the shorter-term charts.

Let me spread this out a little bit. On the right is the NASDAQ, and on the left is the ES because we are using the ES for reference.

Here is that SMT back into the 15-minute fair value gap. What are we looking for after that?

First, we are looking for a bearish bias. Our narrative is a pullback into that fair value gap with an SMT. A narrative is simply an area from which price can deliver. In this case, if we are bearish, where can price deliver from? That is exactly the level we have identified. Now, we just need an execution.

In this case, if you go to the one-minute timeframe, you can see that after the SMT, price created this bullish fair value gap that was quickly inverted.

These three blue lines are the draws on liquidity. We do not need to target the entire move with the first trade.

We are looking to do two things. First, we are looking for price to take out this external liquidity, which gives us an area where we can at least move the trade to break-even. We are then looking to trade into this next level.

The trade is going to look like this. The short entry is going to be on the close of that candle, and our target is going to be this level here. That gives us approximately a 1.75 risk-to-reward trade.

The reason we take profits at these levels is that, especially after 11:00, price can become choppy. Every time we reach one of these levels, reversal traders are going to enter and try to reverse the market. They may also induce more buyers before price eventually moves lower.

We always trade from one target to the next. We let price bounce, and then we look to reenter the trade and target the lower levels.

That is exactly what happened approximately 45 minutes to one hour later. Price rallied, moved higher, created another SMT, and then formed a nice inverse fair value gap on a two-minute B-formation, taking out this bearish move.

In this case, we are going to do the same thing because price has not yet drawn to these lower liquidity levels. We are going to enter short at the close of the candle. Our stop is going to be just above the candle that created the sweep and above the fair value gap. We are then going to target these lower levels.

This was a better risk-to-reward trade. It offered 2.75 to the first level. If you held it to the second level, it offered approximately 3.66.

As you can see, the fourth level we were looking for was not reached during regular market hours. Price eventually reached it, but not during regular market hours.

Normally, we would take the trade to this next level here, so let’s call this a 2.75 risk-to-reward trade.

As you can see, price paused slightly when it reached the level. It could have easily bounced from here. It did not, and it eventually continued to the next target.

That is a decision you can make once price gets there. However, when I have two levels this close to each other, I do not get greedy. A 2.75 or 2.8 risk-to-reward trade is an excellent trade, especially considering that we had already completed a 1.75 risk-to-reward trade earlier.

This is a very simple setup based on the Initial Balance. You can add an Initial Balance indicator to your charts. This is the one I use, but there are multiple indicators available that will mark it for you. You can also mark it manually by identifying the high and low.

Basically, you are looking for an expansion below or above the Initial Balance.

This is going to happen more often in trending markets. Over the past couple of weeks, we have had fewer of these setups because the markets have not been trending. However, when the markets are trending, you can find many of these opportunities.

This is a great example of how you can capture extension moves. This is where a lot of money can be made because these are big moves. You are trading with the trend, and you have confirmation that the trend is lower because price is expanding below the Initial Balance.

Once that happens, all you need to do is find the reasons and targets for price to continue toward.

As you can see, once price broke below the Initial Balance, there was a very strong move to the downside. A lot of money could have been made, not only from one trade but potentially from two trades heading toward that level.

Try putting the Initial Balance on your charts and backtesting this setup. Again, after 10:30, you are looking for the Initial Balance high or low to be broken, followed by a continued move in that direction.

Before we leave, let’s find another example.

Here is another example where the NQ displaced above the Initial Balance high. We can now trade this move to the upside and target the liquidity levels above.

One rule is that once price breaks the Initial Balance high, we do not look for any more short trades during the day, especially while price remains above the Initial Balance high.

The same rule applies to the Initial Balance low. Once price breaks the Initial Balance low, long trades are off the table.

Price can fake a move lower and rebalance slightly, but these retracement trades can be very difficult.

This is an example where price attempted to break out and then pulled back to the midpoint. In this case, it completely reversed, which is even rarer.

However, what we are primarily looking for is expansion. Typically, after 10:30, once the high or low of the Initial Balance has been broken, we stop looking for countertrend trades. We instead look for price to expand higher or lower.

Put the Initial Balance on your charts, backtest it yourself, and retest the setup. You are looking for a 15-minute move first. You can then move down to a shorter-term chart, such as a 30-second, one-minute, or two-minute chart.

Look for either your own entry model or the entry model that we use, which is basically an inverse fair value gap combined with SMT divergence. You can also add a change in state of delivery for additional confirmation.

Hey everyone, it’s Dale here. I hope you enjoyed the video. If you’d like to trade alongside me and our team of prop-firm-funded traders every day, click the link below the video and hop aboard. We’re looking forward to trading with you.