http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image4_1221.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image7_1221.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_1214.gif
Figure 1. On this chart defining the contextual pitchfork, the role of the median line is as a symmetry axis not only for price levels but also for time bars. (Refer to bar 17, off P2.) After it tested the median line (see bar 22, off P2), the market flow shot all the way up to the UML. This not only halted the market but made it drop back to the median line. In spite of all this, market momentum catapulted market flow upward again, having been temporarily stopped by the upper 61.8% Fibonacci trend line.
To summarize the role of the median line in our everyday trading, I will briefly describe 12 characteristics in the remainder
Context Is the Key to Candlestick Charts
By Alan Farley, editor and publisher of Hard Right Edge*
Posted: December 7, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
Candlestick charting found its way to the western world in the 1990s. Since then, it's become more popular than simple line or bar charts. But, traders still misinterpret these marvels of technical analysis in spite of their wide usage. The problem lies in the failure to interpret candlestick patterns within the context of other price action.
The candlestick's real body shows layers of movement within a single time period, highlighted by the relationship between the open and close of the price bar. The real body gets one color when the open finishes above the close and a different color when the close finishes above the open.
Shadows are drawn at the end of each candle. These thin lines show the extremes of price action into the high and low ticks for the time frame of each bar. I've found these extensions to be extremely useful in lowering noise levels when I'm looking for buy or sell signals because they filter out whipsaws and stop running.
Candlestick clusters, or sets of bars, yield popular patterns with intriguing names, such as dark cloud cover or concealing baby swallow. These formations are subject to misinterpretation because they sound really insightful. In truth, skilled traders can forget all the fancy names and just focus on the buy-sell conflict hardwired into these patterns.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_1207.gif
Bollinger Bands overlaid on candlesticks generates a synergy that increases the accuracy of prediction. This powerful combination measures the underlying stretch in an evolving trend or range. Logically, a price move should stretch only so far before it snaps back to center. Standard deviation underlies the dynamics for this common swing behavior.
Bollinger Bands are traditionally set to 2 standard deviations. A hammer or doji that thrusts well above the top band, or below the bottom band, can hit 3 standard deviations in a running market. This often prints a piercing candle that clues the technician into the impending reversal or pullback through the long shadow that snaps back before the close of the bar.
Traders memorize popular candlestick patterns and take action whenever they show up on the price chart. But, to me, this is a pointless exercise because these formations rarely work according to a textbook definition. A much better strategy is just to step back and examine the context in which these candle sets show up.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_1207.gif
For example, a valid candlestick reversal needs to print after a long trend hits relative strength extremes that signal exhaustion. Many traders act prematurely when these patterns show up in the middle of a congestion pattern or in the early phases of a new trend. In both cases, they get cut to shreds when the market moves against them.
Most candlestick patterns apply to short-term prediction and are only valid for three to four bars after they print. In other words, a hammer low on a daily chart will often get taken out in less than a week. Notably, price thrusting past a hammer or doji presents a more dependable trading signal (in the opposite direction) than the original candle.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image3_1207.gif
Large-cycle candlestick patterns predict large-scale reversals or breakouts. Predictions based on these patterns may be valid for months or years. Positioning on the charting landscape holds the key here. For example, dark cloud cover that prints at a major recovery high on extreme volume sets the stage for a major reversal.
To make long-term predictions, look for patterns that stand by themselves after extreme rallies or selloffs. Many traders and investors get caught holding the bag at these turning points and create huge overhead supply or underside demand. Also, considering that these macro-formations take time to evolve, be patient and wait for your trading signals.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image4_1207.gif
Once again, context is everything when it comes to effective candlestick analysis. For example, avoid taking a short position against a reversal pattern that appears right after a breakout. The rookie trader sees the first reversal candle as a failure of the emerging trend, but just the opposite is taking place.
Price commonly pulls back to support after a breakout before moving higher. The reversal candlestick hides this profit-taking event in a lower time frame, giving the pullback crowd a chance to get on board cheaply. The next bounce takes out the high of the reversal, sets off fresh buying signals and accelerates the trend’s momentum.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image5_1207.gif
Rinse job candle sets provide the swing dynamics for one of my favorite setups. These add a twist because the trading signal isn't confirmed until price moves sharply in the opposite direction. Price drops out of a sideways pattern and sets off a wave of entry signals. Amazingly, it then retraces and jumps back into congestion within a bar or two.
This price action cleans out stops on one side of the market and sets up short-term, oversold technicals in an uptrend and short-term, overbought technicals in a downtrend. This increases the probability of a sharp trend in the opposite direction within one to three bars after the rinse job.
*Reprinted (and modified) with permission from Alan Farley
Volume Loud and Clear
By Gary Panice*
Posted: November 30, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
I trade S&P E-minis, and, when I'm doing well, the markets talk to me. I'm here today to draw your attention to the story that volume tells in short-term trading. As a day trader, I spend a large portion of my time looking for trend reversals. Nothing screams trend reversal like climax buying or selling volume. Volume moves price. Stochastics and MACDs hold a prominent place in my analysis, but volume is clearly "the man".
A volume surge may be the red flag that an extended move could be ending and setting up for a reversal. A volume surge is most likely what is necessary to move price out of a trading range and into the next tradable trend.
Let's look at a 10-minute filter. Needless to say, the longer the time frame, the longer the duration of the ensuing move. In the example provided in this article, we see price / volume climaxing at approximately the 1500 level. Stochastics are oversold and moving sideways long before and not providing much of a clue that the move down may be ending. If we have a position, we can lighten up here or at least be aware of a possible tone change. This action is followed by a normal-looking reaction, and we have defined a trading range. Our trade is setting up.
Our next expectation can be a test of the climax level on diminished volume. Stochastics and MACDs often provide us with classic divergences at these levels, and this time is no exception. Note that the buy signal coincides with the downtrend being broken. The ensuing move off the lows is 20 plus points, but, more realistically, we are offered a good entry and a solid stop loss point.
After that run-up, notice how volume dries up on the next reaction. Are we building a base for the next move up? Keep listening; volume will speak.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_1130.gif
*Reprinted (and modified) with permission from Gary Panice
Navigating Safely through Financially Rough Waters
By Anthony Trongone, Ph.D., CFP, CTA*
Posted: November 2, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
Most day traders want to achieve high returns but are unaware of their exposure to downside loss. How vulnerable are your assets to a single-day market correction? Unfortunately, if your assessment of impending risk is misleading, your overall performance will suffer.
A reliable assessment of downside risk depends on the accuracy of your indicators. Traditionally, this begins when you look at standard deviations; however, this does not always provide us with a dependable measurement of future loss.
For instance, the chart shown below displays every 100-point loss in the Dow Jones Industrial Average prior to the 416-point meltdown on February 27, 2007.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_1102.gif
In the column chart, we are tracking the 59 days with a triple-digit loss leading up to this one-day 416-point correction. Was the past a good indicator of this painful correction?
Although there were many (59) one-day declines greater than 100 points, prior to this 416-point collapse, the days with triple-digit declines were becoming less frequent and the spacing between them, further apart. This left investors with a false sense of security.
And, when investors perceive less risk, they are likely to increase their exposure to risky investments. However, once stocks begin plummeting, the psychological reaction of the "crowd" is always extremely difficult to quantify because investors begin selling the pain.
A Textbook Assessment of Risk
In a statistics class, we learn to quantify the probability of risk by applying the =normdist function in Microsoft Excel. This probability function returns the normal distribution for the specified mean score together with its standard deviation. It is generally applied to compute the probability of the risk of future loss.
For instance, in the 792 trading days, the average score for the DJIA was 2.75 points, with a standard deviation of 68.5; therefore, the probability (=normdist) of achieving a 416-point loss was .000. Although highly improbable, a 416-point loss did actually occur on the following trading day -- proving that the market has no statistical boundaries.
In the data entry box shown below, we can see the =normdist function in action, using a loss of 100 points, its mean, standard deviation and its cumulative setting:
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_1102.gif
According to the normal probability distribution theory, the probability of experiencing a 100-point decline = 6.68%. Experiment by plugging in various losses to produce your results. Because there were 59 triple-digit losses in 792 trading days, the percentage of failure is 792 / 59 = 13.42%.
Trading between Triple-Digit Losses
In the following yearly chart, we are examining the upside strength of this popular index. The blue lines represent the closing price of the DJIA. It is enjoying a spectacular run -- gaining 1,344 points in 207 trading days.
Remarkably, if you look at the days between extreme losses (i.e., the days inside the three black lines with black arrows), this is where the majority of profits reside (2,646 points). In these 82 trading days, the average daily profit was 32 points. The trading environment was less profitable if you were trading outside these black lines. Within the red vertical lines, the average loss was 14 points per day.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image3_1102.gif
A study of the spacing between the red downward trading days is instructive. During the 207 days, the point gain was 1,344 points. Remarkably, 2,646 came when there were long breaks between a 100-point loss (that is, during the days indicated by the three black arrows).
The table shown below indicates the results of trading when there is no excessive volatility:
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image4_1102.gif
The next table reports the differences between the two trading environments:
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image5_1102.gif
The eSignal chart illustrates the performance of trading within the days of triple-digit losses. It clearly demonstrates how important it is to restrict your trading to a setting with less downward volatility.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image6_1102.gif
The 40-day rally, starting on March 14, 2007, was worth 1,286 points. More recently, a 980-point gain in 25 trading days came after the initial impact of the subprime crisis began to recede.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image7_1102.gif
Most technicians would become cautious over the inability of a stock to sustain support. After falling to the important 12,500 psychological level, the Dow came roaring back to life.
In the 19 trading days from July 20 - August 15, 2007, this barometer of market vitality fell 60 points per day. Furthermore, during this flurry of volatility, the daily price change was 163 points, resulting in 6 days with a 200+ point decline. Nevertheless, on the next day, after falling to 12,518, it came roaring back for a long rally to 14,000 points
Note: Apply the =ABS function. This returns the daily price change without a sign.
Naturally, two primary questions emerge from these findings:
[*]How can you avoid being in a long position when the market begins to encounter a nasty correction -- in which you encounter a maelstrom of extreme losses?[*]Sometimes, there is a long string of extreme losses, so how can you determine when these 100-point meltdowns are winding down? Once they do, they certainly give you the opportunity to begin trading in an upward environment.In a future article, I will discuss the disadvantages of traditional indicators and supply you with more powerful indicators to better forecast impending risk. In a follow-up article, I will discuss how to avoid being in an environment of extreme loss, as well as offer some suggestions on how to determine -- after navigating through financially rough waters -- when the tide is about to turn.
*Reprinted (and modified) with permission from Anthony Trongone, Ph.D., CFP, CTA
The Trading Edge of Dr. Andrews' Pitchfork
Preparation, Technique and Money and Risk Management
By Dr. Mircea Dologa*
Posted: July 20, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
In a previous article (see "Integrating Andrews' Pitchfork with Other Tools for Successful Trading"), I provided something of an introduction to Andrews' Pitchfork and described a little of the value it can bring to your trading. Now let's see it in operation.
Spotting the Trade Opportunity
The process of low-risk, high-probability trade spotting is very systematized for the experienced trader. He or she visually scans the various choices of the operational time frame charts: 60-, 30- and 15-minute and, less frequently, the 5-minute chart.
The goal of this visual scan is to detect candidates representing low-risk, high-probability trades. Once these opportunities are revealed, the trader then employs different techniques with all the recommended disciplined rigor and patience. One of these is the zoom-and-retest technique, which a trader applies to a German Dax up-sloping failure.
Finding the Optimal Set-Up
In the trade we are using for the purposes of this article, we have spotted triple up-sloping failures on 60-, 30- and 15-minute operational charts. (Refer to Figures 1, 2 and 3.) We have chosen the 60-minute chart (Figure 4) as our optimal operational trading time frame because of its better trend visualization, longer-running profit and less market noise. The risk might be slightly higher, but the profit is much more consistent.
Aligning Time Frames
We have noted that the upper time frames (weekly and daily charts) are both in the same up-sloping direction, but ready to be corrected. Then, we have looked at the three lower time frames (60-, 30- and 15-minute) to observe local market movements and better pinpoint our entry.
We also notice that the corrections of the three up-sloping trends on theses charts have already started. The 5169 level pivot is common for all the studied time frames: Weekly, daily (not shown in this article) and 60-, 30- and 15-minute charts.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_0720.gif
The previously shown 60-minute chart illustrates the beginning of a correction with a big down bar, closing right on the center line of the action / reaction lines set-up. The triple mirror pattern at the highest high (the 5169 level) is the guarantor of the reversal, the beginning of a correction. It is highly probable that the down move will continue, at least a few bars, with intense momentum.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_0720.gif
The previously shown 30-minute chart illustrates the beginning of a correction. The market travelled for a 6-bar duration on the lower median line, through a very narrow ascending channel, and was stopped cold at the 5169 resistance level. Then, it dropped with a big down bar, very close to the external lower 150 percent Fibonacci line.
The triple mirror pattern at the highest high is the guarantor of the reversal, the beginning of a significant correction. It is highly probable that the down move will continue, at least for a few bars, with lots of momentum.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image3_0720.gif
The previously shown 15-minute chart illustrates the beginning of a correction. The very strong market travelled almost vertically and made an eight-bar, narrow-range consolidation below the 5169 level. Then, it dropped with a big down bar, almost freely.
The triple top pattern at the highest high is the guarantor of the reversal, the beginning of a significant correction. It is highly probable that the down move will continue, for at least a few bars, with the same vigorous momentum.
The Three-Pawn Technique – Preparing a Triple Order and Executing the Trade
When we observe Figure 4, we note that the down move continues strongly, as anticipated, and creates a down gap, zooming through the upper median line of the ascending pitchfork. Once the zoom is accomplished, we can consider the following trade, in case of a test or retest of the upper median line (U-MLH):
[*]Sell stop entry at 5125 -- if test or retest, after zooming move.[*]Initial stop loss -- buy stop at 5129 -- just above the last high of the previous trend.[*]First profit target objective (target n°1) -- buy stop at 5062 -- at the confluence of the market price with the median line (ML).[*]Second profit target objective (target n°2) -- buy stop at 4990 -- at the intersection of the market price with the lower median line (L-MLH). The value of this target is calculated using the ATRs technique.Due to the size and location of the gap, which is probably a breakout gap, it seems that the trade has a high probability potential. Thus, we will consider two trading units:
[*]The first will be exited at the target n° 1 level.[*]The second will be exited at the target n°2 level. (Who knows: We might be able to get a free ride and trade with the market's own money.)But, before placing any orders, we will have to establish the reward / risk ratio and verify if the R / R ratio value is above or below our 2.5 usual limit. http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image4_0720.gif
Let us proceed and calculate the reward / risk ratio (R / R ratio) for this low-risk, high-probability short trade. The calculation per contract will be done only until the target n°1. For the target n°2, there will be no risk because, as soon as the target n°1 is attained, we will move the stop loss to the break-even point at the 5125 level:
[*]The reward is 63 Dax points for target n°1(entry level minus target n°1 level ).[*]The risk is 4 Dax points (stop loss level minus entry level )[*]The Reward / Risk ratio is 15.75 (63 divided by 4) -- an excellent value.Conclusion -- the R / R ratio being excellent, we will place our three pre-arranged orders.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image5_0720.gif
The second bar of the opening just retraced, slightly over the upper median line, thus executing the entry order (Figure 5). The third opening bar (the last one on the chart) has its close in its lower quarter, hinting at a down-sloping move. We are confident in our progressing short trade mainly because of the breakout gap and the down-zooming huge bar.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image6_0720.gif
The market has started to develop a pullback with regard to the down move (see Figure 6). This is an excellent opportunity to add on (scale in) one trading unit. When adding, the trader should add on fewer units than the number of initial entry units. The standard value is 33 percent to a maximum of 50 percent of the number of the total entry units.
Therefore, we enter a pre-arranged add-on unit sell stop order at 5125 level. The same stop loss (5129 level) will be used as that of the initial entry, targeting the same target n°1.
Therefore, we will have two trading units initially entered and a third one, as an add-on, a total of three units. Two are exiting at the target n°1 level, and the third at the target n° 2 level. The enormous potential of this trade requires more than an intraday trading session, so we have decided to keep the trade overnight.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image7_0720.gif
As anticipated, the next day, the market drops further (see Figure 7) with a huge gap of 55.5 Dax points. Not only did the market price reach our target n° 1, but it exceeded it. At the opening the next day, we are still in the trade, in spite of the pre-arranged buy stop at 5062 (target n° 1). Thus, we must manually exit with two units, right at the opening bar (5032 level).
We also move the stop of the remaining trading unit to the break-even level. We note that the occurrence of a second gap, usually called the running gap, gives another dimension to the already consistent trade potential.
The 50 percent level of the latter gap represents the half potential of the entire trend. The opening bar of the next day (again, see Figure 7) has a huge down tail, representing two thirds of the body. It only signals a short break in the strong down market drop. It looks as though the target n°2 has a great probability to be attained. This would be the moment to add on (scale in) another trading unit because of the high probability trade outcome.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image8_0720.gif
The previously shown chart illustrates the targeting out of our last unit (the third one) at 4990 level (target n°2) during the last hour of the day. Thus, our trade is terminated. We should emphasize here the merits of the pre-arranged exits, especially the second one, which helped us to get the most out of this trade. Without this, we would have not been able to manage the trade optimally.
Checking the Profit & Loss (P / L) Statement
Now that the trade has been concluded, let us see its outcome:
We have taken three trading units, all of them traded following an automatic pilot mode with pre-arranged orders even if the market forced us to exit manually. We should emphasize that all three units were governed by the three-pawn technique.
We have risked, per contract, four DAX points, representing 100 euros ($127). The reward per contract pertaining to the R / R ratio of 15.75 (initially calculated per contract) was 63 Dax points. As we know, we have traded three units: Two at the initial entry and one add-on. Their exits were as follows: Two units at the 5032 level and the last one at the 4990 level.
Therefore, we have obtained the following results:
[*]For the two trading units, we have, per contract, a reward of 93 Dax points (entry level minus exit n°1 level ).[*]For the third trading unit, we have, per contract, a reward of 135 Dax points (entry level minus exit n°2 level ).The total financial result per contract (all three units) is 321 Dax points (2x93 + 1x135), a total of 8,025 euros ($10,191). The total time spent in the trade was two days, from the second hourly bar of the first day to the last bar of the next day.
Trader's Journal -- Keeping Your Records
In our journal, we summarize the main points and also the unusual events or missing opportunities either with respect to the rules or to the occurrence of new lessons pertaining to the learning curve.
Let us proceed further with three summary points:
[*]We fully respected the rules, especially the three-pawn technique rules.[*]The trade reward is excellent, with above-average results.[*]We comfortably detected the first add-on opportunity, which we traded, and, also, the second one below 5032 level, right at the opening of the second bar of the second day. We chose not to trade the latter because of the large required stop loss.Once again, we realized the importance of identifying the types of gaps and their relationship to:
[*]The median line and its contextual pitchfork acolytes[*]Money management of the tradeWe took note of the role of the scanning of all five times frames to reveal a low-risk, high-probability trade, thus giving us increased confidence in our tools and techniques. This is one of the best remedies for treating and healing "trigger-shy" syndrome.
We also noticed the role of the failures, their detection and also the best way to trade them. Their concomitant occurrence in the already mentioned multiple time frames enhances, several times, the classic trade potential. Always look for them…they are great money-makers!
*Reprinted (and modified) with permission from Dr. Mircea Dologa, MD, CTA, a commodity-trading advisor who developed a new teaching concept for young and experienced traders alike, which can be found at: www.pitchforktrader.com. He can be contacted, for any questions, at mircdologa@yahoo.com.
The Market Reversal Report: Some Simple Examples of Fibonacci Forecasting
By Vincent Troncone of Pennies from Heaven, The Market Reversal Report and Vindicator*
Posted: July 13, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
Leonardo Pisano Fibonacci was an Italian mathematician who, centuries ago, discovered a pattern that occurs naturally throughout our world. This pattern is exhibited in the behavior of stock and commodities markets to some extent as well.
Fibonacci forecasting is certainly nothing new or something I created, but it is simple and tends to work well when applied properly.
In the markets, this relationship is expressed in price. Basically, the Fibonacci Method states that commodity / stock prices will increase or decrease at specific ratios times the current wave of market price action. We will use the ratio of 1.618 for our application here.
In theory, this method is very simple. When looking at a daily commodity price chart (see Example 1), identify two market highs or lows. Then, count the trading days in between the two established points.
You then multiply the number of trading days by 1.618. Take that number and project forward that many trading days from the second high or low. This will give you the approximate turning point in that market.
Example 1:
1.618 x 10 Trading Days between Lows = 16.18 trading days.
Approximately 16 trading days from the second low should be a reversal day.
If prices have been moving up to the projected reversal point, a decline can be expected. Likewise, if prices have been dropping toward the reversal point, you can anticipate a rise.
This method does not identify the duration of the reversal or trend. On a daily chart, you can use a slow stochastic on a standard setting as an additional confirmation tool as the predicted reversal day draws near.
This approach can often pick market reversals to the day, but there is no guarantee this will happen all the time. Remember that this is not an exact science.
The more significant the highs or lows are -- meaning the magnitude of the highs and lows -- and the greater number of days between the two points, the greater the accuracy of this method.
A minimum of seven trading days between the two highs or lows is suggested (or seven bars when using intraday charts).
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_0713.gif
Please see the subsequent charts for examples using the daily time frame.
The following charts show The Fibonacci Method at work. Notice that the market did reverse on the exact days projected. The previous chart used two lows for the calculation while the subsequent chart used two highs for the calculation.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_0713.gif
Notice how the slow stochastic confirms the reversal in the market as pointed out by the vertical green line. Also notice that I did not round off the calculation to 13 days. Rounding off has its pros and cons. I suggest you do what works best for you.
Here are two more examples of the Fibonacci Method in action using intraday charts.
As you can see from these two charts, the reversals occurred exactly as predicted. The first subsequent chart used two lows for the calculation. The chart after it used two highs for the calculation. Notice again, I did not round off the calculations and just used the base number.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image3_0713.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image4_0713.gif
The Music of Forex
By Abe Cofnas, equity broker, futures trader and technical analysis instructor *
Posted: June 8, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_0608.gif
The book, The Psychology of the Foreign Exchange Market, by Thomas Oberlechner, provides the results of research on how professional traders view the markets. In Chapter 7, Professor Oberlechner focuses on how Forex markets are characterized by different metaphors.
Metaphors, of course, are an important way people organize information, as well as form their own expectations of the market. Professor Oberlechner cites the main metaphors used by Forex traders. Forex is like a:
Bazaar
Machine
Living beast
Or, Forex is like:
Gambling
Sports
War
The ocean
Many of us have probably used one or more of these concepts to characterize the Forex market. Such uses are not accidental. People need to organize complex phenomena and use metaphors as a tool for thinking about them.
The major point behind the research is that the mindset used to understand and observe the Forex markets is itself a factor in how one proceeds to trade. The person who views the Forex market as a sport will look to winning trades as the main focus but may become emotionally damaged when confronted with a losing trade.
In contrast, the person who views Forex as an ocean may tend to adopt longer-term views of market moves. Still others see the Forex market as a war and, as a result, may formulate trading strategies that capture PIPs as if they were the enemy.
Even if you do not read the book, it will be useful to ask yourself which metaphor applies to your own views of the Forex market and why.
Forex traders also bring to their trading different perspectives based on their job and life experiences. Each perspective provides different strengths, as well as weaknesses. Engineers who seek to learn Forex often have a tendency to try to model the market and project direction based on equations.
In contrast, doctors approach Forex trading with the medical mindset of diagnosing the price action. While the medical workplace provides an environment where patients have a great deal of respect for their doctors, the Forex market provides no such ego gratification. The market is not a patient who returns respect.
Those traders who come from a sports background, such as the martial arts, bring a disciplined mindset and the ability to control their emotions to the Forex market. Yet, emotions can provide valuable insight into managing a trade, and too much control of one’s emotions may be counter-productive.
It turns out, in fact, that Forex trading is a great equalizer among all professions, leaving most people challenged, as never before, in mastering profitable trading. However, if one profession would appear to provide important insight for Forex trading, it would be the field of music -- because Forex price movements have a kind of harmony and the Forex market a certain rhythm.
Webster Unabridged Dictionary of the English Language defines harmony as "a consistent, orderly or pleasing arrangement of parts; congruity". What is most interesting is that one doesn't need an in-depth knowledge of music to recognize when one is hearing a harmonic set of sounds or its opposite -- cacophony.
Experienced Forex traders focus less on applying more indicators as they become familiar with the inherent rhythm of the market. Yet, those new to Forex trading face the huge challenge of trying to dig through the noise in price movements and find an inner pattern or harmony.
The entire body of technical analysis has been evolving to provide tools that enable pattern analysis and the ability to smooth out the data. The person new to Forex trading seeks to master technical analysis and is challenged by the overwhelming number of indicators and information streaming all day.
What is important and what is permissible to ignore? How does the Forex trader know what to pay attention to? Part of the answer derives from looking at Forex price movements as a form of harmony. Let's explore this further.
In searching for trades, many traders have a favorite time interval. They might have a day chart, or a 1-hour chart, and, then, they apply a variety of analytical techniques and shape a trade. While this may be a rational set of procedures to evaluate the market, an effective technique to consider is to let the time interval choose you!
To clarify what we mean, consider the everyday experience of driving your car and trying to find a radio station you would like to listen to. Selecting the scan button allows you to listen for a few minutes to each station until the right tune comes along. The driver does not need to know in advance all the songs being played on every station. All that is necessary is to hear a song that is appealing.
Similarly, the Forex market is constantly streaming a variety of patterns. There are many potential trades. By scanning through the price action that is playing, you will spot a tradable pattern.
For example, you might see a sideways pattern (as shown in the chart below) in almost any time interval. You’ll notice that the pattern has a repetition of movement up and down the price scale, revealing an inner harmony. The engineer would recognize this pattern as a simple harmonic motion sinusoidal in time with a single resonant frequency. He or she might even be tempted to put forth an equation to project its path.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_0608.gif
(Taken from hyperphysics.phy-astr.gsu.edu/)
Yet, a person versed in music would not need equations to sense the pattern as being clearly melodic with a repetition of the tones. Whether the source was the vibration of a string on a violin, or a result of the energy released by the clash of buyers or sellers trading a currency pair, it is an unmistakable non-random cycle of self-similarity. Traders with different backgrounds may all come ultimately to the same conclusion about the price action and its structure of movement.
Fibonacci Tones
In further understanding Forex prices and how they move, we cannot ignore the pervasive presence of Fibonacci ratios. It is certainly the case that professional traders know and use Fibonacci ratios to map market patterns. One of the milestones in becoming a more savvy Forex trader is developing your own understanding of how to recognize and use Fibonacci ratios to shape the trade.
Fibonacci is important because currency pairs often move between support and resistance in tune to a Fibonacci syncopation. After some experience, looking at almost any chart, one can often see retracement patterns along Fibonacci lines.
The subsequent chart shows such a sequence of upward and downward moves followed by retracements stopping at Fibonacci ratios. We can observe that, first, the pair made a move from a low to a high and then retraced to 38.2% on the way back down (pt 1) and started moving back up.
It, in fact, created a new high and then moved down to a low (pt 2). Having completed that low, it proceeded to move back up again, but stopped at 50% of the way up (pt 3). This is a sequence that, like music, provides an underlying theme to market moves.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image3_0608.gif
The application of Fibonacci patterns as a universal phenomenon were further underscored when musicologists discovered them in the works of many composers, including Debussy, Bartok, and so forth. The next time you listen to the second half of Scott Joplin's "Maple Leaf Rag", you will notice the pattern of 13 stressed and 8 unstressed notes.
In fact, one can find Fibonacci patterns in the basic structure of instruments themselves. The piano, for example, has 13 notes that separate each octave, which has 8 white keys and 5 black keys. Forex traders will recognize the ratio of 13/8 as a Fibonacci ratio. When using moving average crossovers, try the 13 and 8 time intervals on the charts.
What does this mean to the Forex trader? By understanding that currency prices are not linear movements, but expressions of emotions and human behavior, Forex traders begin to move beyond a linear approach to trading. Expanding their perspective on the underlying tones of the market, they will likely see nested patterns that are recursive and, as a result, new trading opportunities.
Ultimately, as one trader notes, "Everyone's got the same information at the same time; therefore, you need to find a different way of finding an edge over your competitor." (The Psychology of the Foreign Exchange Market, page 203).
The ability to obtain the much-sought-after trading edge may very well depend on how one looks for it. It would be wise to look for patterns and "listen to the market". It may be playing a Fibonacci melody or, for a brief moment, another profitable tune.
* Reprinted (and modified) with permission from Online Trading Academy www.onlinetradingacademy.com
Day Trading Forex -- Key Features for Shaping a Forex Day Trade
By Abe Cofnas, equity broker, futures trader and technical analysis instructor *
Posted: May 11, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
Until recent years, the opportunity to put on a trade was governed by the cycle of day and night. But, a unique characteristic of Forex trading is its round-the-clock sequence. Starting Sunday, when the sun rises in Asia, until Friday late afternoon, when the New York markets close, Forex trading is available.
So, the question arises: What constitutes a day trade in Forex, if, technically, it comprises a continuous week of trading? To answer that question, we do not need to delve into the nature of human circadian biorhythms. We have to be arbitrary.
We can effectively define a Forex day trade as a trade completed during any given trader’s waking hours. A day trade might also be considered a trade initiated and completed within the trading hours of the Asian, European or United States equity markets. One more determiner for when your Forex day trading starts might be the moment when you grab that first cup of coffee!
Your State of Mind Is a Critical Factor
One of the differences between a beginning and a more experienced trader is his or her mindset. The beginning Forex trader’s ever-present thoughts: What should I trade today? How do I get my 10 PIPs?
In contrast, the more experienced Forex trader is looking to answer a different question: Which pair offers the best opportunity for a winning trade?
The beginner wants to jump in, score and get out. The more experienced day trader wants to wait for the market to come to him or her. The beginning trader perceives the day trade as a reprieve from analysis; whereas, the more experienced trader knows that the trade itself is a result of analysis.
The Search for Your Next Forex Day Trade Starts, Ironically, by Looking Backward
We start by looking for the location where the price is probing or testing a pattern, a key Fib resistance or support area, trend line or moving average. In a real sense, your next day trade takes its shape days, and sometimes weeks, before the decision to trade.
For example, if a currency pair is approaching a key weekly 61.8% Fibonacci level, while another currency pair is simply moving between Fib levels, the pair nearer the Fib levels should take priority. It offers a greater trading opportunity because, when prices are at these Fib locations, they are more likely to result in a real change in sentiment and trend patterns.
Finding your next day trade is a result of applying some key decision rules. The actual trigger conditions for the trade will wait for the right confirming moment. However, the subsequent figure outlines the logical steps that go into shaping a day trade.
This figure shows two key steps in arriving at a trading decision. The first step is to answer the question: What is the major trend direction? The trader needs to observe the big picture in getting this answer and assess weekly, daily and 4-hour patterns.
The next important step is to decide what will be the direction of the next trade. Will it be a buy or sell? By choosing the direction of your next trade, you are not predicting the market at all. You are waiting for the market to come to you!
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_0511.gif
The Number of Trading Opportunities per Day Depends on Finding Patterns
An attractive aspect of the Forex market is the plethora of opportunities to trade during a day.
Let's try to quantify how many good opportunities the Forex day trader has on a given day. A sensitivity analysis would show that we have 6 big currency pairs (EURUSD, GBPUSD, USDCHF, USDJPY, USDCAD, AUDUSD) and at least 2 commonly traded crosses (EURGBP and EURJPY). This provides 8 currency pairs for opportunities to day trade.
When we examine each currency pair's chart intervals carefully for an evolving trading signal, we geometrically increase the potential for trades. A day trade in Forex can often provide more opportunities to trade than available capital in an average account. The trader need not rush to trade but, rather, carefully choose from among competing opportunities.
You filter through the field of potential trades by looking for patterns and selecting a key time interval. It is a good idea to pay close attention to trend lines and channel patterns in any time frame. For example, a Forex trader would be quite fortunate to spot the pattern shown subsequently! The chart here depicts currency prices moving along a meandering channel offering highly repetitive buying and selling points.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_0511.gif
A good rule of thumb for spotting trading opportunities for the beginner day trader is to use the 4-hour time interval. It represents a decent amount of time for prices to evolve wider ranges that are tradable. During a 4-hour period, currency pairs often exhibit ranges that provide enough PIP distance between resistance and support to achieve day trading goals.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image3_0511.gif
So, if we estimate that we can expect 2 opportunities per currency pair during any given 4-hour period, we can expect 16 trading opportunities that can justify putting on a trade.
If we exercise extreme rationing of these opportunities and select only 1 trade per 4-hour period per currency pair, we have more than enough for a person to consider Forex day trading a serious opportunity.
A common occurrence is a cluster effect where the action in one currency pair cascades across all of them, and, suddenly, almost at the same time, numerous opportunities appear! The distribution of trading opportunities, however, is not random, and patience in waiting for the right opportunity is a worthy skill to acquire.
Pulling the Trigger
Putting on the trade, after all, is what the analysis leads to, but it is not a spontaneous event. While there is no single rule of action on what a price trigger is, we can narrow conditions such that the trade is reasonable and can be supported by a combination of technical factors.
For example, in the subsequent chart, the price is probing the lower channel line, and a trade going long would coincide with a confirmation that the position is oversold. Notice that, in this subsequent example, the Relative Strength Indicator is breaking its own trend line. This is a very useful confirming tool if you use oscillators in your technical analysis.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image4_0511.gif
During any given day in Forex trading, patterns emerge that invite a trade. The skilled trader waits for a high probability trade where confidence is high that the trade will work. Contributing to confidence may very well be the trader's own psychological mindset and optimism.
Ultimately, the profit and loss chart will demonstrate whether you are engaged in wishful thinking or a winning game. Whether you look for a quick grab of profits that will pay for a dinner date or for a trade that makes the month's mortgage payment, day trading Forex has, embedded in its market patterns, the potential for achieving a variety of trading goals.
Forex day trading offers a range of opportunities, but it has an entrance requirement: The Forex trader who wants to be successful needs to come armed with a box of tools and a set of rules.
* Reprinted (and modified) with permission from Online Trading Academy www.onlinetradingacademy.com
Recent Results
A detailed analysis of this high-flying Internet stock in November 2006 revealed a greater downside risk in the opening 60 minutes of trading. In 119 trading days, the stock, averaging 1.53 million shares, was very active. An average range (highest - lowest price) of $4.82 made it difficult to place a protective order without the position being offset. Certainly, the $17.68 gain made the ride more comfortable.
BIGGEST HOURLY GAINS1$11.6326.1634.9444.7754.73BIGGEST HOURLY GAINS1-$7.162-5.253-4.004-3.745-3.32
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image_0504.gif
Trading Bands
By John Bollinger, CFA, CMT, Creator of Bollinger Bands*
Posted: April 6, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
Trading bands have been around for many years and come in many varieties. Sometimes they are called bands, sometimes envelopes, and, occasionally, channels. The methods of computation are all over the board, some adaptive, some fixed.
Whatever the name or method of computation, all trading bands serve the same general purpose; they define whether prices are high or low on a relative basis. The trader, armed with that information, can, then, make rigorous trading decisions. Those decisions might involve pattern recognition, confirmation (or lack thereof) with other technical indicators / methods, or they can focus on the information generated by the bands themselves.
A couple of examples will serve to illustrate the basic use of trading bands. For these illustrations, I'll stick to using my own bands with the default parameters -- a short explanation of Bollinger Bands can also be found at the end of this piece.
Example One, Pattern Recognition with Bollinger Bands A W bottom or double bottom, as it is sometimes called, consists of a decline to a low followed by a recovery and a subsequent decline and turn back up that sets the stage for a sustainable advance.
The relationship between the two lows has been a topic of wide discussion in the technical community. "Should the first low be higher than the second? Should the lows be equal? The second higher? " and so on…I find that the process of rigorously identifying these patterns is much easier, and the patterns are made much clearer, if one considers the lows in relation to the Bollinger Bands and ignores the absolute questions.
If the first low is beneath the lower band, and the second low is at or above the lower band, you have a potentially interesting setup, a divergence where the second low is relatively higher than the first, regardless of the absolute levels involved. Add confirmation and discipline, and you have something worth working with, not an argument.
%b, an indicator that tells us where we are in relation to the Bollinger Bands, is the tool we use to clarify the patterns.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_0406.gif
The key here is a relative comparison. Note that the stock makes a new low in July in absolute terms but not in relation to the Bollinger Bands. This is highlighted by %b, which falls below zero at the initial low but remains above zero at the July low.
Example Two, Bollinger Bands and Indicators
It was not pattern recognition that interested me when I first got involved with trading bands; it was technical signals generated by tags of the bands that went unconfirmed by technical indicators. For example, a tag of an upper trading band by an important stock market index that was accompanied by negative stock market breadth data.
Chart 2 (shown subsequently) depicts an advance that was confirmed by a technical indicator until its final stage. Just prior to the decline setting in, we get a tag of the upper band accompanied by a negative reading in the indicator. In this example, the indicator is a variation of David Bostian's Intraday Intensity developed by Marc Chaikin, 21-day Intraday Intensity %. II% is designed to depict the flow of money into and out of a stock.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image2_0406.gif
Note the new high for NSC in May. It is a tag of the upper Bollinger Band accompanied by a negative reading for 21-day Intraday Intensity percent. Also note that the subsequent "throw-back rally" carried NSC right back to its breakdown point and offered a last chance to get out or a second chance to get short.
In a nutshell, relative highs and lows as a framework for rigorous decision making are what trading bands are all about. Why the emphasis on rigor? Because emotions are our worst enemies and employing rigorous tools and techniques is an effective way of keeping our emotions in check. But, that, as they say, is another story.
Good trading!
*Author’s Note: Bollinger Bands are curves drawn in and around the price structure. The base of the bands is a 20-period simple moving average that serves as an anchor for the bands and an indication of the trend. The bands themselves are spread above and below the average using a measure of volatility called standard deviation.
Standard deviation is calculated using the same data that was used for the moving average. The default period is 20, and the default width of the bands is plus and minus two standard deviations.
*Reprinted (and modified) with permission from John Bollinger, Bollinger Capital Management (www.BollingerBands.com or http://www.BollingerOnBollinger Bands.com). All charts created with eSignal and the eSignal Bollinger Bands Tool Kit.
Real Trading -- The Adventure Begins
By Mike Parnos of Online Trading Academy*
Posted: March 2, 2007 http://www.esignallearning.com/education/marketmaster/images/btn_print.gif
It's time to put it all together -- all the stuff you've learned up to this point in your trading career. We're going to go through the process of selecting a position -- without adult supervision. We're going to make believe we have an opinion about the direction the market is going. What is this opinion based on? It came via a fortune cookie from last night's Chinese carryout. First, it gave you next Saturday night's lottery numbers. Then, it told you that EBAY was going up 8 points in the next month.
Wow! What a tip! However, you look at a chart of EBAY and see that it's trading near its 52-week low -- at approximately $26. But, you figure -- who are you to argue with a fortune cookie? Plus, some bald guy in a three-piece suit on CNBC said something about EBAY possibly making a bottom at this level. Gee, how much proof do you need? Let's take some of your hard-earned money and put it to work. It's time to roll the dice.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image1_0302.gif
Trade Example Combining Bracketing
The stock chart shown subsequently illustrates a market consolidation in Nortel's stock, with upper and lower lines drawn in that bracket the consolidation. Trade entries are placed above and below the consolidation. Also note how prices become even more compressed toward the end of the consolidation just before this market begins to trend. This occurs often because markets usually spring from compressed price consolidation.
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image_0216.gif
When the market finally breaks above the channel, you should enter your trade one tick above the upper, green-colored band or line (as seen in the previous chart). Your initial stop-loss is placed one tick under the lower band and adjusted upward as market activity warrants.
It doesn’t cost you anything to look and learn, so I hope this is of interest to you.
Chart: 1:1 in a Bullish Trend
http://www.esignallearning.com/education/marketmaster/wkly_articles/2007/images/image_011207.gif
*Reprinted (and modified) with permission from Bryce Gilmore of Bryce Gilmore & Associates Pty Ltd (www.wavetrader2004.com)
http://www.esignallearning.com/education/marketmaster/wkly_articles/121506/images/chart1.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/121506/images/chart2.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/090806/images/screen1.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/090806/images/screen2.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/090806/images/screen3.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/080406/images/screen1.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072806/images/screen1.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072806/images/screen2.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072806/images/screen3.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072806/images/screen4.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072106/images/screen1.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072106/images/screen2.gif
http://www.esignallearning.com/education/marketmaster/wkly_articles/072106/images/screen3.gif