New traders often think that there is that one indicator that would help them make big profits from the market all the time. Unfortunately, there is none, which is why the triple screen strategy was invented to exploit the strong points of different categories of indicators. But what is the triple screen strategy?
The triple screen strategy is a trading system that uses a mix of different categories of indicators to screen the market so as to enter a trade in the right direction and at the most appropriate time.
The triple screen aims to find short-term pullbacks that are about to end within an established long-term trend so as to open positions in the direction of the main trend and at the right time. The system is based on Alexander Elder’s theory that no single indicator can provide reliable signals or position plans.
Let’s take a deep look at this trading system. At the end of the article we make a backtest of a triple screen trading strategy.
What is the triple screen trading system?
The triple screen strategy is a trading system that uses a mix of different categories of indicators to screen the market so as to enter a trade in the right direction and at the most appropriate time. It aims to find short-term pullbacks that are about to end within an established long-term trend so as to open positions in the direction of the main trend and at the right time.
The system is based on Alexander Elder’s theory that no single technical indicator can provide reliable signals or position plans. It uses a mix of technical studies in different timeframes that focuses on one indicator each time, which when combined, offers an accurate trading signal.
The system first uses a trend-following (momentum) indicator in a higher timeframe to confirm the dominant trend in the market, which would determine the direction you should place your trade. Next, it uses an oscillating indicator to identify turning points and entry areas every time a pullback or a retracement occurs. Then, it uses previous highs/lows or support and resistance levels in a lower timeframe to know the exact price level for your trade entry.
In essence, the triple screen system checks for the dominant trend on the higher timeframe for direction, spots trading opportunities on the main timeframe (intermediate), and uses the smaller timeframe chart to get better entry points. After a trade entry is taken, the market is expected to move in line with the dominant trend for the trade to make profits.
The indicators used in the triple screen trading system
In technical analysis, it is generally accepted that different categories of indicators work best in certain market conditions and don’t work well in other market conditions.
For instance, trend-following indicators work best in trending markets but don’t work well when the market is range-bound, while oscillators don’t perform well in trending markets but would perform well in a range-bound market.
This is why the triple screen trading system combines trend-following indicators with oscillators in a way that is designed to take advantage of their strengths while avoiding their weak points. For the oscillators, the recommended indicators are the Force Index and Elder-ray indicator. The stochastic and Williams Percent Range indicators do also work well with the system. However, there are plenty of indicators to choose from. You need to backtest yourself to find the best trading strategy (why backtesting works).
Regarding the trend, moving averages are used. But it is important to know that a trend really depends on which timeframe you are looking at. For instance, the trend may be up on the daily chart, but when you look at a four-hour chart, it may be down. So, the Triple Screen trading system dictates that you consider three trend lengths — in line with the Dow theory.
These three trends are:
- The long-term trend (the tide)
- The intermediate trend (the wave)
- The short-term trend (the ripple)
The timeframe you want to trade on should have the intermediate trend, so the long-term trend can be seen on a higher timeframe, while a lower timeframe with the short-term trend allows you to pick a better entry. The system was originally designed to use a daily (D1) chart for the intermediate timeframe; in that case, the long-term trend would be seen on the weekly (W1) chart, while the lower timeframe to pick a better entry would be the 4-hour (H4) chart.
The key steps of the strategy
As we said earlier, the system involves screening the asset at three stages, which imply analyzing the asset on different timeframes and using different indicators or analysis tools in each timeframe.
At each step, if it is found that a stock does not qualify for that stage, there is no point in going to the next step. In other words, we must get a positive assessment in all three steps to be able to trade the asset. No compromise in the process of selection is accepted.
The preliminary step
Before analyzing any stock with the triple screen method, you have to decide which timeframe you want to trade on. That would determine the other two timeframes to look at: a higher one, which provides a bigger picture of the market, and a lower one, which provides a detailed view of the current situation and gives you a chance to choose a precise entry point.
For example, if you want to trade on the H4 timeframe, you can use the daily timeframe to get a better picture of the market and the H1 timeframe for picking your precise entry points. The table below shows the likely timeframes for the various screens:
|Screen 1||Screen 2||Screen 3|
|What to look for||Main trend||Corrections||Entry points|
The first screen looks at the bigger picture. It identifies the direction of the tide (the larger trend) with a trend indicator. Here, analysis is performed using a trend indicator on a chart that is one order of magnitude longer than the timeframe on which you wish to trade. In the original triple screen trading system, the MACD indicator was used for identifying the direction of the larger trend on a weekly chart. But you can use whichever trend indicator you feel is best — such as a moving average indicator or even a trend line.
You can also choose to use the daily chart or H4 chart, instead of the weekly chart, for screen 1 if your trading timeframe is H4 or H1 correspondingly.
After identifying the direction of the main trend, we look for a corrective wave in the opposite direction on our screen 2 so we can get into the market at a beneficial level. To achieve this, we apply an oscillator to the chart, which would help us know when the corrective wave is about to end (oversold or overbought).
For example, assuming we are looking at a daily chart as our intermediate time frame when the weekly chart already shows that the larger trend is upward, we would want to know when the market is oversold, which would provide us with an advantageous opportunity to buy the market. So, we attach an oscillator of choice (stochastic, for example) to the chart and wait for it to show the oversold signal. Any sell signals in this case would be ignored because the uptrend from the first screen has already filtered those out.
The third screen is where you identify the exact price for entry points. In the original system, it works with lows and highs that form the support and resistance levels and searches for short-term breakouts in the direction of the tide using a trailing stop. New versions typically add other indicators but using the naked eye to spot price action here is a completely acceptable method.
Going by our example above, if we are aiming to go long in the market with a daily chart used for the second screen, we use a trailing buy-stop on the H4 chart. We can place the trailing buy-stop one tick above the high of the previous day. If the market resumes its uptrend and hits our buy-stop on breakout, we will be long on the market. See the chart below:
But if the market continues to decline, our stop will be deactivated, and we would then trail your stop by dropping it to one tick above the high of the day that just passed. we would keep trailing until activated, or until we see the weekly trend change direction.
Who invented the triple screen trading system?
The triple screen trading system was developed by Dr. Alexander Elder, an American professional trader and trading coach who has written many trading books. One of his books, “The New Trading for a Living”, has been regarded as an outstanding book by traders.
He first introduced the triple screen trading system in a 1986 article in Futures Magazine. Elder maintained that no single indicator was up to the job of correctly and consistently analyzing the complexity of the financial markets — different indicators may give you opposite signals for the same market. To try and solve this problem, he created the triple screen trading system.
Alexander Elder triple screen trading strategy (backtest and example)
Let’s go on to make a backtest of our own version of the triple screen trading strategy with trading rules and settings. We won’t make it exactly as explained above, though.
In plain English the strategy reads like this:
- The close must be higher than the close 250 days ago (the long-term trend filter).
- The close must be higher than the close 22 days ago (the intermediate trend filter).
- The close today must be a three-day low (of the close).
- If 1-3 are true, then go long at the close.
- We sell at the close when the close is higher than yesterday’s close.
This is all there is to it. If we employ the trading rules above on the XLU (the utility sector ETF), we get the following equity curve:
There are 285 trades and the average gain per trade is 0.4%. Despite being invested only 22% of the time, it has generated almost 5% annual returns (buy and hold has generated 7%). We think this is pretty good, however, the performance seems to be slowly declining in recent years.
Alexander Elder’s triple screen trading strategy – ending remarks
There are many ways to trade Alexander Elder’s triple screen trading strategy. The backtest we did in this article is just one example of how you can do it. With data driven strategies you can twist the trading rules to whatever you prefer. Anything goes as long as you make a profit.