I like to think of a market's trend as a staircase. An uptrend is a series of steps upward consisting of successively higher highs and higher lows. A downtrend is a series of steps downward consisting of successively lower lows and lower highs.
Anyone who has studied market behavior knows that this description is a very impressionistic one. It can be very difficult to translate it into actionable trading rules. The best way I have found to do this is based on my box theory.
Once a box size has been identified within an uptrend each successive top is generally some multiple of half the box size above the last top. Usually it is 1/2 or 1 box size above it but in an acceleration phase one can see 1 1/2 or rarely 2 box size separations between successive tops. The same rule applies to successively higher lows within and uptrend. In a downtrend one follows the same guideline but then of course the tops and bottoms are successively lower.
The main idea is that each top is related by a box size multiple to the previous top and each bottom is related by a box size multiple to a previous bottom.
The hourly chart above depicts the trading boxes(drawn in red) in the June 2005 S&P futures. My estimates of the staircase levels are drawn in purple.
Before looking at this chart in more detail I want to make another observation. This staircase approach requires a real artistic input by the speculator who uses it. The best way to develop the feel you need to see staircases is to practice on lots of examples and to do this in real time. Remember that in speculation everything is obvious in hindsight but you can't make any money predicting the past!
This S&P example is not a terrifically neat one but it illustrates the ambiguities one faces when trying to see staircases.
The June S&P made it's day session low on April 20 at 1136.80. The subsequent rally halted at 1167 and thus defined a box 30 points high. After the 1167 top was broken we can make a guess at the first step in the bullish staircase of lows. Since it is early in the trend we guess that the first subsequent low will be at 1152 which is 1/2 a box above the initial low. The actual low was 1147.20. Once the market makes a new high by at least 1/2 box following the 1147.20 low we want to estimate the position of the next step up for the lows. My best guess would be a full box size above 1152 (NOT above 1147.20 , the actual low!). This is the 1182 level.
Note that the market reacted only to 1186.50 so someone who insisted on buying only on a drop to 1182 would have been left behind. But as a practical matter this should not have been a problem. Note that a few days earlier on the initial break above the 1182 level the market formed a little shelf of lows at 1185. Since one already assumes the market is in an acceleration mode by choosing a full box size above 1152 instead of 1/2 a box, it is reasonable to think that the lows at 1185 would not be broken on the subsequent reaction.
So far we have been predicting the past. What about the future? After the 1186.50 low the market struggled to a new high. So our estimate of the next step up for the lows in the uptrend should be 1/2 box above 1182 (NOT 1186.50 - the actual low!). This is the 1197 level which the market is flirting with as I write this. On this basis I believe that the next move of 10 points or more from 1197 will be upward.
Next let's look at the highs in the uptrend. After the high of the initial box at 1167 was made the normal expectation would be for the next high to be at 1182, 1/2 a box above 1167. After 1182.30 was reached overnight (not shown on the chart which records only daytime activity) the market broke to 1147.20. It would then be reasonable to expect an acceleration phase to begin and this would predict the next stop at the 1212 level, a full box above 1182. But the market began to struggle after it broke above 1190 so it made sense to scale back the estimate to only a 1/2 box progression above 1182. This would be the 1197 level and the market formed a small top at 1199 and dropped to 1186.50.
As to the future, the most conservative estimate would be for a rally to 1212, a 1/2 box move above 1197. But I think it is at least as likely that the market moves a full box above 1197 to 1227 (near the March high) before a reaction of half a box or a full box sets in.