Technical Analysis of The Financial Markets

TECHNICAL ANALYSIS OF THE FINANCIAL MARKETS : JJ MURPHY
Contents
EXTRA NOTES ADDED FROM OBSERVATIONS ELSEWHERE ................................................................................................................................................................... 1 QUESTIONS: ..................................................................................................................................................................................................................................................................... 2 COURSE TEXT BOOK:................................................................................................................................................................................................................................................... 2 CH 1 : PHILOSOPHY OF TECH ANALYSIS ............................................................................................................................................................................................................ 2 INTRO ........................................................................................................................................................................................................................................................................... 2 philosophy or rational ........................................................................................................................................................................................................................................... 2 fundamental vs technical forecasting ............................................................................................................................................................................................................. 2 Analysis vs timing.................................................................................................................................................................................................................................................... 2 Flexability: .................................................................................................................................................................................................................................................................. 2 economic trends ....................................................................................................................................................................................................................................................... 2 Comparison of analysis of stocks to futures ................................................................................................................................................................................................ 2 CH 2 :DOW THEORY ..................................................................................................................................................................................................................................................... 3 CH 3 : CHART CONSTRUCTION: .............................................................................................................................................................................................................................. 3 BULL & BEAR THEORY: ........................................................................................................................................................................................................................................ 3 Types of chart: .......................................................................................................................................................................................................................................................... 3 SPECIAL THINGS ...................................................................................................................................................................................................................................................... 3 ARITHMATIC VS LOGARITHMIC CHARTS: ............................................................................................................................................................................................. 3 CONSTRUCTING A BAR CHART ................................................................................................................................................................................................................... 4 FUTURES OPEN INTEREST: .......................................................................................................................................................................................................................... 4 CH 4 : BASIC CONCEPTS OF TREND ...................................................................................................................................................................................................................... 4 DEFINITION OF TREND ........................................................................................................................................................................................................................................ 4 THERE ARE ONLY 3 TREND DIRECTIONS: ............................................................................................................................................................................................ 4 THERE ARE 3 DECISIONS A TRADER CAN MAKE : ............................................................................................................................................................................ 4 Trend has 3 CLASSIFICATIONS: .................................................................................................................................................................................................................. 4 SUPPORT & RESISTANCE .................................................................................................................................................................................................................................... 5 WEDGE ....................................................................................................................................................................................................................................................................... 17 RECTANGLE ............................................................................................................................................................................................................................................................. 17 THE MEASURED MOVE ....................................................................................................................................................................................................................................... 17 CONTINUATION HEAD AND SHOULDERS ................................................................................................................................................................................................. 17 CONFIRMATION AND DIVERGENCE ............................................................................................................................................................................................................. 18 CHAPTER 7 : VOLUME AND OPEN INTEREST ................................................................................................................................................................................................ 18 VOLUME AND OPEN INTEREST AS SECONDARY INDICATORS: ...................................................................................................................................................... 18 LONG TERM CHARTS ................................................................................................................................................................................................................................................. 21 special contructions continuation charts for futures ............................................................................................................................................................................ 21 PATTERNS ON LONG RANGE CHARTS ........................................................................................................................................................................................................ 22 ORDER OF STUDYING CHARTS ....................................................................................................................................................................................................................... 22 SHOULD LONG RANGE CHARTS BE ADJUSTED FOR INFLATION OR NOT? ................................................................................................................................ 22 CHAPTER 9 MOVING AVERAGES ......................................................................................................................................................................................................................... 22
EXTRA NOTES ADDED FROM OBSERVATIONS ELSEWHERE

INSIDER TRADING
1. THERE ARE 3 GOOD RULES FOR INSIDER TRADING: a. 1: SIZE MATTERS : if ceos etc will not take the RISK of buying large stakes if the risk is high. b. 2: GIVE IT TIME : they are not allowed to do insider trading, so they only buy when they think the GENERAL VALUE is low compared to what it should be .This means gains only come when the next ( cyclical )market general bull move upwards carries this one with it to what they are really worth. c. 3: COMPANY SIZE MATTERS : SMALL IS BETTER THAN LARGE: Insiders at small companies have a lot more control over the bottom line than the top brass at the huge multinationals. They are focused on a smaller picture and, as the recent success from regional-banking insiders proves, have a much better sense of market timing.
THE VIX GENERAL
1 FROM SOME NEWS LETTER : Following a crushing bear market, a bull market began in March '09 that lasted 26 months, with the Nasdaq peaking in early May of this year. As usual, the bull was led by growth stocks, recession-resistant vehicles growing earnings at 20%+
1 Technical Analysis of the Financial Markets -Notes.
annually, well above the long-term company average of 8%. Fundamentally, these big winners had a number of things in common, among them entrepreneurially-driven managements offering innovative products and services. In many cases, these dynamic companies came public in the previous eight years. a. Technically, these market leaders began their big moves before it became evident to most that a new bull had begun. Indeed, most bottomed in November '08, about three-and-a-half months prior to the bear market bottom in the averages. b. How do you catch these moves? c. By studying historical precedent, it is possible to isolate several characteristics, both technical and fundamental, that nearly all big-winning stocks possessed at the outset of their sizable runs. O'Neil's first book discusses all of these factors in great detail. d. Distilling these characteristics down to three, we have: 1) big earnings growth, 2) high relative price strength, 3) a chart pattern called a base. e. This covers the stock selection side of it, albeit from 50,000 feet. The other piece to it is the general market. The averages must be in a bull market. If not, the speculator sits in a cash position, content to protect precious capital until the storm passes and the sun shines again.
2
QUESTIONS:
1.
COURSE TEXT BOOK:

1. TECHNICAL ANALYSIS OF THE FINANCIAL MARKETS : JJ MURPHY
CH 1 : PHILOSOPHY OF TECH ANALYSIS

INTRO
1. 1. IS the study of market action.primarily using charts, for purpose of forecasting future price trends 3 premises on wjich tech analysis is based: a. Market action discounts everything : all factors are built in already, need not be done separately, Fin stats, news, sentiment. b. Prices move in trends : corollary: A TREND IS IN MOTION IS MORE LIKELY TO CONTINUE IN DIRECTION IT WAS GOING THAN REVERSE - like newtons law of motion. Same principle unless acted on by an opposite & opposing force. c. History repeats itself Fundamen. Is like economics, psychology, news etc ie the cause , tech is looking at chart movement price ie market action. PRINCIPLE: MARKET PRICE TENDS TO LEAD THE FUNDAM3ENTALS: means often price changes before we know the fundamentals causing it Your analysis may be right but if timing is a bit off you can loose eg futures where they EXPIRE as well as margin is 10%, a small price move in wrong direction cause big loss- so timing must be right when- as well as what- but with stock you could just wait till it corrects Technical analysis can be applied to all areas- long/short term, over weeks/months graph trends or hours minutes graph intraday trends all work very well - hedges, futures etc. as well. All normal technical Charts trends from this book of commodity prices of eg gold and oil, and interest of treasury bonds can tell us a lot about the economy direction: because high commodity prices usually means bull economy, falling means bear, and interest rates are affected by trend of commodities.(how which way?) Differsences are: a. Pricing structure : more complex eg cents per bushel grain, vs $ per ounce gold b. Limited life span: futures only last 18 mnths usual, only a small range of mnths is safe ( before last few expiry mnths are near) c. Lower marging requirements: 10% margin for futures, so magnifys impact. 2 Technical Analysis of the Financial Markets -Notes.
PHILOSOPHY OR RATIONAL
FUNDAMENTAL VS TECHNICAL FORECASTING

1. 2.
ANALYSIS VS TIMING
1.
FLEXABILITY:
1.
ECONOMIC TRENDS
1.
COMPARISON OF ANALYSIS OF STOCKS TO FUTURES

1.
d. Time frame is shorter: stocks days, mnths yrs- futures less even hrs, days etc e. Greater reliance on timing: very dangerous futures expire so cannot wait for recover is analysis right but timing wrong cause some error f. Less reliance on market indicators: dow . s&p used in stocks, but not many in futures-except maybe Commodity Research Bureaus Futures Price Index etc, but used less focus more on individual trend of itself g. Specic technical trends : some difference eg: futures trends patterns do not usually form as Fully as stocks patterns i. Stocks: relies a lot more on SENTIMENT INDICATORS : enormous importance placed on indicators of floor specialists, odd lotters and mutul funds per theory that normally the majority Opinion is USUALLY WRONG! and FLOW OF FUNDS ANALYSIS: casg position of major funds andlarge instsutions ie more cash available for purchases or not.
CH 2 :DOW THEORY
1. 2. FIRST 1882 DOW 11 STOCK INDEX , 9 RAIL 3 INDUSTRIAL. , TODAY 30 stocks in index BASIC TENNETS OF DOW THEORY: a. The averages discount everything : incl. economy, psychology, acts of god etc. b. The market gas 3 TRENDS i. Primary : market trends = yr or yrs ii. Secondary: waves in a tide: 3wks to 3 mnths ,REM this trend RETRACES itself from 1/3 to 2/3 and most frequently of previous secondary wave movements . as a market correction every timeiii. Minor: ripples , up to 3 weeks, c. Major Trends have 3 PHASES : i. Accumulation phase : by most informed buyers before price movements show ii. PUBLIC PARTICIPATION Phase : by everybody else when price starts major moves iii. Distribution phase : happens when NEWSPAPERS REPORT BULLISH ECONOMIC REPORTS about it etc, then first most informed buyers START SELLING OFF their previous buy before anyone else starts selling. d. The Averages must CONFIRM each other : ie major trand averages must concur to become a trend, not outlier : eg rail & industrial index must concur, or DOW transport & DOW industrials etc etc. e. . Shorter time between the 2 sigmals concurring in direction is stronger confirmation. f. Volume MUST CONFIRM the trend: volume should expand or increase in the direction of the trend. Considered a secondary indicator though. Here based only on closing prices g. A trend is in effect/MOTION until it gave definite signls it has reversed : like newtons law i. NON-FAILURE SWING : where next high/low after first drop/rise does not go below /above the previous same trough /peak ii. FAILURE SWING: where 2 troughs/ peaks end up falling exactly below/above each other, not just the first one like above. Much weaker signalwhatever that means. 3. USE CLOSING PRICES NOT INTRADAY PRICES : dow BELIEVED in using end of day not intraday prices for these type of calc. 4. CRITISISMS OF DOW: a. ON AVERGAE IT MISSES 20-25 % OF A TRADE BEFORE ITENTIFYING THE TREND : dow buy sigmal usually occours in 2 nd phase of a uptrend as it pens]etrates a previous intermediate peak.- this is incidently e=where MOST trend following systems arte able to identify a a trend b. MEANT for major bulls and bears, ti firecast economic conditions from stocks, not for small signals, c. Good = DID capture 65% of moves of S&P composite and industrial & transport averages from1920-75 : d. In futures you use minor swings to trade, this dow is only for Primary trends really.
CH 3 : CHART CONSTRUCTION:
BULL & BEAR THEORY:
1. BULL & BEAR TREND theory : a. Bull Trend: In EACH successive rally the peaks end above last peak b. Bear Trend: In each successive low troughs end lower than previous trough.
TYPES OF CHART:
1. 2. 3. DAILY BAR: each plot point on chart is a long bar - top is day high, bottom low, T line left opening & T line right closing prices. LINE CHART: solid line , not bars CANDLESTICKS: Japanese : same as Daily Bar, but clear rectangle shows high/low and smaller black or white rectangle inside this other one shows open/close : black if close below open, white if close above open.
SPECIAL THINGS ARITHMATIC VS LOGARITHMIC CHARTS:

1. ARITHMATIC: normal numbering as usual 2. LOGARITHMIC : each time it doubles the length increase by 1 cm : ie from 1-2 is same length as from 5-10 : theory is each time share doubles in price ie % wise not Rands wise. MAY / HELP TO EXPLAIN / allow a easier /better fit of a trendline to 3 Technical Analysis of the Financial Markets -Notes.
a range of days - you try both to see using software usually .Show certain trends lines ( any of those so far or others) better than other scale. a. NOTE : SEE PIC 8.12 IN LONG RANGE CHATS CHAPTER : up trendlines on log charts are broken sooner than liear up trendlines --- this is an important fact always keep an eye on log charts to spot breakthroughs earlier. PIC 8.12 PG 194 ..IN LONG RANGE CHARTS CHAPTER.
CONSTRUCTING A BAR CHART

1. 2. Weekends are left out completely and HOLLIDAYS arfe included but left as a blank space Days Opening price is a tic to left , closing price is a tic to right joined to bar at right angles.
FUTURES OPEN INTEREST:

1. FUTURES OPEN INTEREST : is the total amount of outstanding futures contracts that are held by market participants at the end of the day. Either by the Longs or the Shorts , not the total of both. Usually shown below volume but above price on the chart 2. Totals VS Individual volume: chart services quote per total commodity market , not figures for each available delivery mnth( futures trade for 18mnths usual, only middle few are used- start is buiding up and end is liquidating position time, so only middle is traded.) So to give forecasting value TOTAL numbers are used. 3. REPORTING DAY LATE: FUTURES data is 1 day lag late due to data collection. stocks are immediate 4. OPEN INTEREST NUMBERS: one should only trade mnths futures with high open interest BECAUSE this increases liquidity of it- not too few or zero buyers/sellers when you must sell etc. 5. WEEK LY AND MONTHLY BAR CHARTS: : wkly up to 5 yrs, mnthly up to 20yrs,
CH 4 : BASIC CONCEPTS OF TREND

DEFINITION OF TREND
1. 2. 3. Sayings: never buck the trend ; The trend is your friend ; Allways trade in the direction of the trend Market NEVER moves in a straight direction it ALLWAYS moves in a series of zigzags . The direction of the peaks or of the troughs is the trend direction NOT the direction of the market price line at all.
THERE ARE ONLY 3 TREND DIRECTIONS:

a. b. c. d. e. f. UPTREND : line connecting series of peaks & other line of troughs both go in a upward diection DOWNTREND : line connecting series of peaks & line of troughs both go in a downwards direction. SIDEWAYS TREND line connecting series of peaks & line of troughs both go in a sideways- not up or down- direction- stay at the same price level for a while. Known as Trading Range , or as a LINE by Dow , or as Sideways movement where market forces of SUPPLY and DEMAND are in Equilibrium . At a conservative estimate this sideways trend occours roughly for 1/3 of the time hsitoricly not mostly ups or downs historicaly per book.. In thiu slateral phas e trading systems donot work-cause they weredesignedfor a up/downtrend, not trendless phase.It is here sysmes traders experience their greates losses not in down or up trends.this is because they try apply asystem designed for up/down to a trend it was not designed for.
THERE ARE 3 DECISIONS A TRADER CAN MAKE :

1. 2. 3. Buy a Market : GO LONG : When a Market is RISING , Buy STRATEGY is PREFERABLE Sell a Market : GO SHORT When a Market is FALLING , Sell STRTEGY is PREFERABLE Do Nothing : : When a Market is going SIDEWAYS , To Do nothing/stay out of the market is usually the wisest.
Trend has 3 CLASSIFICATIONS:

1. 2. 4 In reality 1000s trends from seconds to 50/100 yrs interacting with each other constantly. classified as follows: Each trend forms part of next larger trend : ie intermediate would form part of Major as a correction or zig zag part of long term trend., and Near term in turn forms part of intermediated as zig zags and corrections in that correction Intermediate - of the Major So Major may be up , intermediate down and short also up / down , or all3 may be the same etc at any point in time To a Day trader a 3 day trend may seemto be a Major , but to a long term position trader it appears as a Short term.- per book
MAJOR Trend : Per Dow Theory: over 1 yr , Futures markets: over 6 mnths INTERMEDIATE Trend: Dow : 3 weeks to 3 months ,Futures : same Technical Analysis of the Financial Markets -Notes.
3.
SHORT/NEAR TERM Trend :
less than 2- 3 wks ,
Futures : same
SUPPORT & RESISTANCE

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VARIOUS INDICATORS ATR : AVERAGE TRUE RANGE 1. This is simply the avg daily range of volatility of a stock etc. price. 2. It is calc. by 3. You can chose either 5 or 14 or day or weekly range over which to average on the screen. The following time horizons would use different times : START on bus CHAPTER 4 , heading below, pgb55
Trend has 3 CLASSIFICATIONS: * In reality 1000s trends exist from seconds to 50/100 yrs interacting with each other constantly. classified as follows: * Each trend forms part of next larger trend : ie intermediate would form part of Major as a correction or zig zag part of long term trend., and Near term in turn forms part of intermediated as zig zags and corrections in that correction Intermediate - of the Major * So Major may be up , intermediate down and short also up / down , or all3 may be the same etc at any point in time * To a Day trader a 3 day trend may seemto be a Major , but to a long term position trader it appears as a Short term.- per book 1. MAJOR Trend : Per Dow Theory: over 1 yr , Futures markets: over 6 mnths 2. INTERMEDIATE Trend: Dow : 3 weeks to 3 months ,Futures : same 3. SHORT/NEAR TERM Trend : less than 2- 3 wks , Futures : same SUPPORT & RESISTANCE 1. troughs = reaction lows = called SUPPORT ...under market where buying resistance is sufficiently strong enough to overcome selling pressure 2.peak = reaction highs = called RESISTENCE ...price area over market , where selling pressure overcomes buying pressure. 3.in a downtrend, support levels are not able to stop downtrend permanently. but only to check it temporarily., and visa versa. 4. FOR AN UPTREND TO CONTINUE , EACH SUCCESSIVE PEAK MUST BE HIGHER THAN THE LAST PEAK . IF THE CORRECTIVE DIP VIOLATES / COMES BELOW THE LAST ONE IT MAY BE A SIGN THAT THE TREND IS REVERSING. 5. FAILURE TO EXCEED A PREVIOUS PEAK IS USUALLYBTHEBFIRST WARNING THAT A EXISTING TREND IS CHANGING. HOW THE ROLES OF SUPPORT AND RESISTANCE CHANGE SIDES AND REVERSE ROLLS 1.Whenever a support or resistance level is penetrated by a SIGNIFICANT AMOUNT, they REVERSE rolls and become the opposite.....so a support level becomes a resistance level and visa versa. PSYCOLOGY OF SUPPORT AND RESISTANCE LEVELS...that helps cause this... ...say we are In a Scenario...say the market begins to move higher from a support area where prices have been fluctuating for some time. NOTE.. HOW FAR THE MARKET HAS MOVED FROM THIS POSITION WILLMGREATLY INDFLUENCE THE DECISIONS TAKEN BELOW..so a large move is different to a small move. 1..LONGS: already commited and purchased contracts: Are delighted, but regret not buying more, so they would buy if market dips back to support level momentarily 2..SHORTS: already committed to sell side, angry they are loosing out, hope it drops again to same support level so they can buy shares to cover their short sale. 3.. UNCOMMITTED: have gotten out or remain undecided DIVIDED INTO 2 groups: A)who sold off at last support level...angry, wish it would dip MOMENTARILY s they can buy again? B)who never held any positions yet.. Wish it would dip momentarily so they can buy into upswing at low prices.
what happens here is that ALL of the participants then buy en masse at next MOMENTARY dip to last support level, this then causes HIGH DEMAND which forces prices higher again . 2. SIGNIFICANCE OF SUPPORT AREA MEASUREMENT ; A)Time.. The LONGER the time shares traded in support or resistance area, the more significant it becomes for this principle to work. B) Volume ...if support level formed on higher volume morebsignificantbthan on low. C)Recent ....The more recent activity took place the more in traders minds and thoughts,so principle becomes more significant and acted on. 3. DEGREE OF PENETRATION : convincing of permanence of trend a)1. Note.. They must first be sure it is a momentary dip from the uptrend , and not a start of a new downtrend. b) DEGREE OF PENETRATION : most chartists use : 1) 3% of dollar value of level breached: MAJOR SUPPORT and RESISTANCE levels 2)1%. Of dollar value : SHORTER TERM support and resistance levels PIC 1 4.5c IMPORTANCE OF ROUND NUMBERS PSYCOLOGICALLY 1.there is a tendency for round numbers to stop advances of declines. 2.Traders tend to think in terms of important round numbers such as 10,20,25,50,75,100, and multiples of 1000 3. Eg gold 1982 low of 300, rose to just above 500, then dropped agin to 400. 5. Traders can use this by: A) by beginning to taking profits as important round number is approached. B) AVOID placing orders at important round numbers...because if a trader is trying to buy into a short term market dip in an uptrend by placing a stop order at a round number ,other traders are going to be buying as the round no is approached as well, so the market may NEVER GET THERE at all, it may rise on pressure again. So one must set stops just above / below round numbers . TRENDLINES 1.UPTRENDLINE : is a line drawn upward to the right along successive REACTION LOWS...TROUGHS. 2. DOWN TREDLINE : is a line drawn downward to the right along successive REACTION HIGHS...PEAKS 3. some experimenting with different lines is usually necessary, sometimesnaline that looks correct will have to redrawn....GUIDELINES FOR GETTING THE CORRECT LINE. A) tentative vs valid trendline : 2 points are a tentative , but only once confirmed by 3rd point should it become a valid . B) Some chartist ... Only require the 2nd peak point in a trend drawn under troughsnfornan uptrend to be penetrated to confirm a trendline... before the 3rd confirming line point above is even reached....See pic C) Other Chartists ... Only require a 50% retacement up to just before level of 2nd point above (marked 2 on pic in diagram), not even a penetration , to confirm a trendline....also before a 3rd confirming line point is even reached...se pic PIC 2 ... 4.6 a HOW A TRENDLINE IS USED : 1.the basic concept of trend is ..na trend in motion will tend to remain 2. COROLLARY...to the above... Is once a tcertain slope or rate of speed remain on the same slope. 3. USING A TRENDLINE TO TRADE: the dip/ rise to the trendline is used to resitance area for selling purposes in a downtrend . 4.BREAKING OF TRENDLINE :is very often the BEST early warning signals of all positions or start considering acquiring in an uptrend. DETERMINING THE SIGNIFICANCE OF A TRENDLINE
in motion... isnidentifiednit will usually buy on in an uptrend and as a change in trend.. Liquidate
2 things do this 1)The longer it has been intact 2) the number of times it has been tested. ...8times tested and 9 months old more significant than 3 times tested or 9 weeks or 9 days old. TRENDLINES SHOULD INCLUDE ALL PRICE ACTION. 1. Some Chartists only include closing prices but the more standard practice is to include All intraday prices And is the more correct method HOW TO HANDLE SMALL TRENDLINE PENETRATIONS. SOMETIMES it is better to ignore a minor breach, ESP if subsequent action confirms former trend. Closing price breach would be more serious than an intraday breach , of course, but both could be outliers.However probability of a closing price being an outlier is much less. HOW TO DECIDE WHAT IS A VALID BREAKING OF A TRENDLINE: 1.General rule : a close beyond line is more significant than just an intraday penetration.sometimes a closing penetration is also not enough to confirm a break of line. 2. Most technicians use a variety of TIME and PRICE filters to isolate valid from whipsaws.examples ... These filters below are also used for determining breaking of major support or resistance levels as well.o PRICE FILTERS A) 3 % penetration criteria ... Of dollar value of point on trendline breached, used only for longer term TRENDLINES, requires CLOSING PRICE to be 3% other side line, not intraday.Thisbrule does not apply to some financial futures markets eg interest rate markets. B) 1% penetration .. This is used for shorter period trendlines, where closing or intraday prices may be stipulated, depending on market itself. C) if filter too small..whipsaws, if too big then you loose most of market move before pick it up...always make allowances for individual markets. TIME FILTERS A) eg 2 day rule , prices must close beyond trendline for 2 days in a row. B) Friday close beyond the trendline HOW TRENDLINES REVERSE ROLLS 1. Trend lines work the same as support\resistance points in this respect, so support becomes resistance once broken for same reasons, 2. It is a GOOD IDEA TO PROJECT lines as far as possible to right even after they are broken, SINCE IT IS SURPRISING HOW OFTEN OLD TERNDLINES ACT AS SUPPORT AND RESISTANCE AGAIN IN THE FUTURE, WEEKS MONTHS OR YEARS LATER. Pic 3 4.10 c MEASURING IMPLICATIONS OF TRENDLINES 1. After a TRENDLINES is broken, prices USUALLY move a vertical distance up\down on new side of TRENDLINES as what it travelled on the opposite side of TRENDLINE before the trend reversal.....so if it moved 5 dollars above line, it should move 5 below line.the same basically in the head and shoulders pattern... where distance from head to shoulders is projected beyond that line once it is broken as a measurement for distance expected to travel below or above same shoulder again. A bit unclear where the distance starts below a trend after a long climb before.. It seems the closest major point. Thing . TRENDLINE change. Thing. THE FAN PRINCIPLE Pic 4 4.11a Pic 5 4.11c
1. If you draw a fan of lines from the start of a trend line, to the first trough below or above it,mthen next line to next major point ..trough or peak... , the next fan line to next major point , it forms a fan. this forms when up or down trend starts after breaking a TRENDLINE. 2. THe breaking of the 3rd fan line inc. , counting the 1st TRENDLINE, Usually SIGNALS s that are headed lower....this is the VALIDNTREND REVERSAL FIGURE. 3. Note also that previously broken fan lines often become new support or resistance levels from then on. IMPORTANCE OF NUMBER 3 There are 3 of many things in charting, eg major bull and bear namatketsbhave 3 phases, DJ THEORY, fan principle has 3 lines, common reversal patterns eg head shoulders, triple top haveb3 peaks. There are 3 classifications on trend.. Major, secondary,minor. 3 trend directions ..up down sideways, 3 types of triangle, 3 sources of info.. Volume price,open interest. Etc etc THE RELATIVE STEEPNESS OF THE TRENDLINE 1.Most TRENDLINES avg 45 deg for some reason... And this isnwhere price and time are in perfect balance. Some Chartists simply draw a 45 line for all trends eg WD gann 2. If linebissteeper than 45 could mean price advancing too rapidly and will slow down,rate cannot be sustained. If line is less than 45 it may mean uptrend is too weak and not to be trusted. 3. Note some Chartists simply draw a 45 line from previous prominent high or low. HOW TO ADJUST TRENDLINES . 1. For accelerating trends: where it changesvslopenverynoften, you have to make more than one line , a new one for every change in slope from point of change to next point of change. HOWEVER FOR ACCELERATING TRENDS IT IS BEST TO USE A MOVING AVERAGE INSTEAD..which is the same as a curvilinear TRENDLINE...instead of straight lines..as per book.Just change from one method to next for this case. 2.One can use one TRENDLINE to connect the low points of a major trend,then another trendline for secondary intermediate trend swings inside that major trend itself then a third line for short term sensitive movements , as the trend progresses. CHANNEL LINE pic 6 4.16a Pic 7. 4.16c 1. Also called ,return line,. 2. Sometimes prices happen to trend between two Lines, the basic TRENDLINE and a channel line. You draw the channel line using a dotted line. This often happens in reality. 3.USING THIS TO ADVANTAGE :If the chartist recognizes this, it can be used to advantage. a)So you buy on dip to bottom channel and sell on upswing to upper channel. b)some traders may initiate a short sale on the down from a high in channel, BUT warning that trading against the trend may be dangerous and USUALLY costly tactic , per book. c)breaking of dotted channel line signals acceleration of trend, some traders see it as reason to add to long positions. d) failure to reach any side of channel signals trend is changinging in opposite direction, Esp used where top is not reached in uptrend, may signal start of downtrend as first sign mainbtrendline will now be breached. Now OFTEN, you change the direction of the whole channel by drawing 2 new parallel lines from changed last reaction point to new reaction point .. And this is often the direction of the new channel ...whether up from a uptrend or now going into a new downtrend from an old uptrend , they both work. PIC 8 4.18 pic 9 4.19 4. 1)more often tested and 2 ) longer in existence, it is, the more reliable channel becomes. 5.MEASURING IMPLICATIONS: After a breakout from a channel prices move usually VERTICAL DISTANCE other side line equal to vertical width of channel on other side of 6) Main TRENDLINE is more reliable and important of the two though
7) channel line works often enough to justify inclusion in Chartists toolkit. PERCENTAGE RETRACEMENTS 1. After a market move, prices retrace a portion of previous move before moving in previous direction again ..in a zig zag normal pattern. ..This applies to all moves..major , secondary and very short term as well ..The average RETRACEMENT is statistically 50%, and it mostly falls between MINIMUM 33% TO MAXIMUM 66%. ...Fibonacci and Elliot wave use % RETRACEMENTS of 38 and 62. However book says he likes to combine all these into a min of 32-38 and a max of 62-66. Some technicians round These off even further to get 40 to 60 % RETRACEMENT zone. ....Gann divided into 1/8 ths, and attached special importance to 3/8 and 4/8 and 5/8. Being 38, 50 and 62 %. .. TRADING METHOD USING THESE FIGURES: The trader, in a case where the market is evidently correcting a strong trend,trader can trace a 33 to 50 perc. Line under turning point and use this as a buying area into long position. note 66% mark is where it is likely to reverse so better to buy before then in case you miss it. Pic 10 4.2a Pic 11 4.2 b SPEED RESISTANCE LINES. ...by Edison Gould ...same as percentage RETRACEMENT, except this one measures the speed of ,rate of accent or decent, ...method ..you draw a vertical line from highest point of uptrend( or visa versa) , to where the trend began. This is divided into thirds same as fan lines...see pic below.The speedlines may go through price action line but that is ignored. EACH TIME A NEW HIGH OR LOW IS REACHED, A NEW SPEEDLINE MUST BE DRAWN. ...INTERPRETATION: for any corrections from trend highs they should not pass through theb2/3 (like the 33% vertical drop down from ...retracement % ...from a uptrend(or visa versa) if they do, it probably means per SPEEDLINE theory that: theb2/3 SPEEDLINE will now change roles and act as resistance, and the 3/3 SPEEDLINE will act as a new support..so theq previous trend SLOPE has been broken and a new TRENDLINE SLOPE IS created. That's all. GANN AND FIBONACCI LINES 1. Charting software allows the drawing of Gann and Fibonacci lines 2. FIBONACCI : lines are drawn in same way as speedlines but at 38% and 62% angles. 3. GANN LINES : these are just lines drawn at either 45 degree angle, or at 63,75 or 75 degree angles for steeper trends or down to 26,25 and 15 degree for flatter lines.Gann lines are controversial since one is never sure which of the lines will be the next support, it could be the next or the next ..even if one of them works you cannot be sure which oneofnthem it will be as per Chartists. O 4. INTERPRETATION : both of these methods work about the same as speedlines, with a penetration (valid, permanent) leading to that line changing roles and becoming the next support or resistance and the next line from that one in direction of penetration becoming the next other side of 'channel' support/resistance....so in uptrend when one line is broken then prices are going to fall to the next lower line per statistically . Some Chartists question validity of geometric TRENDLINES at all though. INTERNAL TRENDLINES. 1. These are just TRENDLINES drawn through middle of price action , trying to connect as many peaks and troughs as possible. Some Chartists develop a good eye for these,and find useful.Problem is not very exact. REVERSAL DAYS: NB 1. also called Top Reversal Day, Bottom Reversal Day, prices weaken )buying or selling climax, key reversal day , Outside Day,
2. By itself not very important, but taken in context of other technical info, it can sometimes be significant. 3. It is the top or bottom of a trend : definition of top reversal day is the SETTING OF ANEW HIGH IN AN UPTREND (usually at or near opening) FOLLOWED BY A LOWER CLOSE ON THE SAME DAY ..(prices weaken )so high and low both exceed those of other days. (Bottom reversal day is opposite.) 4. SIGNIFICANCE OF THIS SIGNAL : for a possible near term trend reversal. (a) VOLUME .. the greater the volume (must be bigger than avg. preceeding days) the more significant is the signal for a possible near term trend reversal. (b) RANGE..... the wider the range for the day between high and low, (must be greater than avg. preceeding days.. Then called an outside day) the more significant is the signal for a possible near term trend reversal. 5. NB : SELLING CLIMAX : This is a special case where above happens,mans all the discouraged longs have finally been forced out of the market on heavy selling pressure. creates a VACUUM over the market which prices quickly rally to fill. One of more dramatic examples of a reversal day, while it may not MARK the bottom of a falling market, it usually signals that a SIGNIFICANT LOW HAS BEEN SEEN. 6 . WEEKLY AND MONTHLY REVERSALS: Shows up on weekly and monthly charts, Has MUCH MORE SIGNIFICANCE than daily chart. Weekly means went lower in week but closed FRIDAY at higher than any before.. Since week chart only shows Friday close.Mnthly reversals even more important, BOTH WATCHED VERY CLOSELY BY CHARTISTS. PIC 11. PIC 12. 4.22a 4.22 c
PRICE GAPS: 1. Simply areas on chart where no trading has taken place. In Uptrend prices open higher than previous days close, and do not get filled in the day. Ddowntrend is opposite. 2. upside gaps are signs of MARKET STRENGTH, downside gaps are signs of MARKET WEAKNESS. 3. CAN appear on week and Mnthly charts ..are much more significant, bust usually on daily charts. 4.It is important that prices do not fall below gaps in an uptrend . IN ALL cases, a close below an upward gap is a sign of weakness (next days or same day?) 5. THERE ARE 3 TYPES OF GAPS : (a) THE BREAKAWAY GAP... Usually occurs at start of an IMPORTANT PRICE PATTERN, and usually signals the beginning of a SIGNIFICANT MARKET MOVE. eg after a major basing pattern,the breaking of resistance usually occurs on a big BREAKAWAY GAP. Major top or base patterns are breeding grounds for this gap. these GAPS can also occur when a major TRENDLINE is broken. BREAKAWAY GAPS all usually occur on heavy volume. Mostly , they are not ever filled. AS A RULE.. THE HEAVIER THE VOLUME AFTER THE GAP, THE LESS LIKELY IT WILL BE FILLED. Upside GAPS USUALLY ACT AS SUPPORT AREAS on subsequent market corrections. (b) THE RUNAWAY OR MEASURING GAP... Around the MIDDLE (N.B. ) of a full trend move ,more vertically speaking it seems, prices will leap forward to form a single or series of gaps. It is used to measure the probable distance trend will still go in same direction, by DOUBLING distance travelled so far .It Reveals a situation where market it moving effortlessly on MODERATE VOLUME, in uptrend it is a sign of strength, in downtrend a sign of market weakness. HERE AGAIN THEY TEND TO THEN ACT AS SUPPORT UNDER MARKET ON SUBSEQUENT CORRECTIONS, and are 'Often' not filled per book. A CLOSE BELOW A RUNAWAY GAP IS A SIGN OF WEAKNESS IN AN UPTREND. (c) THE EXHAUSTION GAP.... appears at end of a Market Move. after all objectives have been fulfilled, and runaway and measuring gap have both occoured in trend etc, analyst could expect this GAP to start making an appearance. NEAR THE END OF AN UPTREND PRICES LEAP FORWARD IN A LAST GASP SO TO SPEAK.However that last gasp quickly fades and prices turn lower within a a couple of days or within a week. WHEN PRICES CLOSE BELOW THAT GAP, it is usually a dead giveaway that the exhaustion gap has made its appearance. This is a classic example of where falling below a gap in an uptrend has very bearish implications. PIC 13 4.23 A Pic 14 4.23 b ISLAND REVERSAL PATTERN: PIC 15 4.23c
1. Sometimes after exhaustion gap finished, prices trade in a narrow range for few days or weeks,BEFORE GAPPING TO DOWNSIDE, so another BREAKAWAY GAP is formed after island of sideways trading.usually Indicates reversal of some magnitude, depending where prices are in trend. CHAPTER 5 MAJOR REVERSAL PATTERNS. Volume Pattern: Return Move: Measurement: PRICE PATTERNS: formations that have predictive value. Trend reversals often are not abrupt and take time, so the transition periods often form different patterns that can be read. A) patterns may often be suspect, but the key is knowing where In A trend To NORMALLY EXPECT a pattern is the key to attaching high probability of validness to them, and sifting out the false signals. B)THE COMPLETION of each pattern should be accompanied by a noticeable increase in volume. CONTINUATION PATTERN : indicates market is only pausing to position REVERSAL PATTERN: indicates important trend reversal correct a temporary overbought or oversold
Major points common to all reversal patterns: 1. Prerequisite for a reversal pattern is a ,prior trend,.....if appears where no proper trend was, then probably suspect..key is know where in trends actually to expect them. 2. First signal of impending trend reversal is often breaking of an important TRENDLINE.: ... 3. The larger the pattern the greater the potential.....larger referring to height and width of pattern...so greater volatility,height, and greater time,length,greater potential for ensuing price moves 4. Difference between tops and bottoms... Topping patterns are usually shorter in time and more volatile up/down than bottoming patterns. Therefore it is usually easier to identify and trade bottoming patterns. However, prices tend to to DECLINE faster than they GO UP. So it Traders can usually make more money faster by shorting bear market, than long bulls.Toppingbpatterns harder to catch but worth the effort. 5. VOLUME IS MORE IMPORTANT ON THE UPSIDE: volume should increase I. The direction of the market trend, confirming factor, THE COMPLETION of each pattern should be accompanied by a noticeable increase in volume. However, in EARLY STAGES OF TREND REVERSAL, volume is not as important at market tops...MARKETS HAVE A WAY OF FALLING OF THEIR OWN WEIGHT AS A BEAR MOVE GETS UNDERWAY,high volume is not allways necessary....traders like to see it but not critical there.BUT at bottoms volume pickup is ABSOLUTELY ESSENTIAL. HEAD AND SHOULDERS PATTERN. PIC 16 Pic 17. 5.1 A 5.1 b
1. Best known and most important of all reversal patterns 2. Picture a situation in uptrend where a series of ascending peaks and troughs gradually begin to loose momentum.Then the uptrend levels off for a while..sideways not up , during this time forces of supply and demand in Relative balance.Once this distribution phase completed, support levels on bottom of hrizontal trading range are broken and new Downtrend begins. 3.PATTERN: in an Upward Moving Trend A)LEFT SHOULDER : still ascending peak , volume still increasing as usual on up-move and being less on down corrective dip zig zag. No signs of a top yet. B)HEAD : the volume on upside move to head maybe slightly less than the left shoulder - last peak- volume (decreasing volume now-warning light goes on ) THEN the correction zig zag declines Lower than previous peak - so it breaks the previous support level ...this is first REAL sign of a change in trend.per theory...this penetrated peak now changes roles and functions as roof ... Resistance .. head is sometimes only a bit above shoulder height, not allways alot.
C)RIGHT SHOULDER: market now rallies upward to right shoulder...on even lighter volume than previous 2 peaks, BUT cannot get even to height of last (head) peak.This fulfills half of requirement for a new downtrend.. Descending peaks. HOWEVER , all we know now is trend has shifted from upward to sideways.. No confirmed downtrend yet will be seen. D) BREAKING OF NECKLINE :1- 3% penetration rule OR 2day rule (2successive Closes below the neckline) can be used for added confirmation.....the neckline is a flatter TRENDLINE that can be drawn under last 2 Lows ..the NECKLINE At Tops is normally at an UPWARD SLOPE , but sometimes is horizontal -means same thing - or less often slopes down-(a sign of market weakness and usually also accompanied by a weak right shoulder then). The deciding factor in the head..shoul. Resolution is a decisive closing below neckline. Then 2nd requirement of new downtrend fulfilled..descending peaks and troughs.VOLUME should INCREASE on breaking of the neckline - but is not critical in initial stages of a market top. E) THE RETURN MOVE :Usually a return move develops - should be on lighter volume than downmoveswhich is a bounce back up to neckline..now the new resistance. Sometime it does it occur or is only a minor bounce.lightish volume on neckline initial break indicates possible strong return move, but very heavy volume indicates possible no return move.(ie heavy pressure pushes it away)resumption of downtrend again should be again on heavier volume. VOLUME PATTERN: 1. Second peak (head) should take place on lighter volume than 1st(left shoulder)...not a MUST but shows strong tendency. 2. Most important : volume must decrease on right shoulder to be less than from head and left shoulder. 3. Volume should expand on break of neckline, contract on return move,and expand again once return move is over. 4. TOPS : Volume is less critical on tops butvshould at least incr. as prices drop into new downtrend. 5. BOTTOMS: MEASUREMENT: MINIMUM TARGET: These 2 methods give a MINIMUM target, often this is exceeded by the market move but it is a valuable min. To judge whether trade is worthwhile. MAXIMUM TARGET: the size of prior move.. Eg size of last bull run before head shoulder pattern. 1. Method 1 : vertical distance from head to neckline , project that downwards from point where neck is broken = expected travel 2. Method 2 : length of head top to 1st dip on right shoulder...then double it ..and ? Either project below break on neckline or? Just continue head to 1st dip line by doubling it to get lower point of measure? Not sure, test it a bit. ADJUSTING MEASUREMENT PRICE OBJECTIVES: Number of other points also must be taken into account for any measurement: 1. first do above vertical measurement step 2. Last Move,s prominent support/resistance. Next, where are the Prominent Reaction support OR resistance levels left by last bull/ bear trend. ....often pauses at these points esp. Bears 3. Percentage RETRACEMENTS... 38 % ,50% and , 66% levels ...where are they 4. Prominent Gaps from GAPPING underneath/above..they often act as support levels later. 5. Long Term trendlines visible below the market. Are any visible. Interaction with these. 6. When a slight discrepancy exists between vertical measure and old support levels or TRENDLINES, it is usually safe to adjust calc. toward onto the old support level or TRENDLINE etc. INVERSE HEAD AND SHOULDERS PIC 18 5.2b Basically same as Topping pattern except for: 1. Greater tendency for return move back to neckline, and vol should decr. on ret. move and incr. on way down again. 2. Volume plays a much more important role in ALL bottoming patterns, also this type. All volume points are important, not just neckline break like for tops. MOST IMPORTANT is neckline break where it is essential for volume to incr. as a sharp burst ALOT in bottoms.(vol not very important in tops because markets have a tendency to fall of their own weight,but for bottoms it needs significant incr. in buying pressure, reflected in volume, to launch a bull market.....A MARKET CAN FALL JUST FROM INERTIA,
lack of interest or buying power from buyers is often enough, BUT market does not go up on inertia, prices only rise when 1-demand exceeds supply AND 2-buyers are more aggressive than sellers. 3. Slope of Neckline: bottoms neckline slopes DOWNWARD, but if it slopes upward it is a sign of greater market strength, but with disadvantage of giving a later signal of line penetration, (mos slopes away from coming action thus takes longer to hit) COMPLEX HEAD AND SHOULDERS 1. DOUBLE HEAD AND SHOULDERS 1. Where 2 left shoulders form, or 2 heads form. Note there is a strong tendency to symmetry in these, so 2 left shoulders probably means 2 right shoulders will form too. FAILED HEAD AND SHOULDERS PATTERN 1. If prices recross the neckline after breaking it the first time - is a signal that first break was probably a bad signal-,starts out looking like a classic head shoulders but at some point , just before or after neckline break, it goes and continues its old trend and thus fails. CONSOLIDATION HEAD SHOULDERS PATTERN Very seldom the head should can be a consolidation pattern instead...see next chapter TACTICS PIC 19 5.3 1. Key to survival in fin markets is keep trading losses small, and exit a losing trade quickly. THERFORE Always be alert to signs your analysis is correct, pattern ARE sometimes wrong. WATCHING ALL OTHER INDICATORS AND TAKING DEFENSIVE ACTION QUICKLY ARE QUALITIES NOT TO BE TAKEN LIGHTLY IN THE FIN MARKETS. 2. not all technical traders wait for breaking of neckline to initiate trade. ALOT OF anticipatory buying takes place on formation of the right shoulder: 3. Some begin probing long during formation of right shoulder 4. Some buy first technical signal that decline into right shoulder has ended. 5. Some buy a 50% RETRACEMENT of first rally from top of head to right shoulder first bottom. So if right shoulder goes up 50% to 66% of head height towards the shoulder peak, they buy already to get in on market before it even bottoms at shoulder peak and turns around to rise. 6. Or draw TRENDLINE for above "head bottom to right should peak line" and buy on crossing of this TRENDLINE . 7. Because these patterns are reasonably symmetrical, some buy when right reaches level of left shoulder. 8. If initial longs are fruitful, additional can be added on neck penetrate, or on rebound back to neck. TRIPLE TOPS AND BOTTOMS 1.rare, basically exactly the same as a head shoulder , but 3 tops just happen to be in line, difference is just academic. 2. Volume tends decrease each successive top, then incr. at breakdown point.It is also complete when neckline is broken. Pic 20 DOUBLE TOPS AND BOTTOMS 1. PIC 21 and pic 22 5.5 a and c. 2.next most common after head shoulders, also called m or w pattern 3. Same volume pattern and same measuring rule as head shoulders, similar in all respects except only 2 peaks instead of 3. 4. Note : 1st peak is on increasing volume and first trough is on decreasing volume, as per usual in any ....say...uptrend , same as for head shoulders....then ONLY ON SECOND PEAK do you start to see a declining volume where it fails to exceed previous peak for 1st time. 5. Return me to breakout ..neck.. Level is not unusual. 6. NOTE: pattern is only complete when 'neck' or previous support/resistance is broken on closing basis, till then it could just be moving sideways...that's it.
7. Term double top is greatly overused in markets. Most potential ones wind up being something else usually.REASON is prices have astrong tendency to back off or bounce off previous peaks or troughs .. Natural reaction. REM prices must ACTUALLY violate a previous low/ high .. FILTERS TO USE : (1)With filters applied Eg 1-3% rule... Before constituting a reversal.NOTE: technical odds favor continuation of an existing trend always ..so wise to wait for filter etc. confirmation (2)size of pattern...longer and greater height more valid(this is true of all chart patterns) most valid double tops or bottoms at should have at least a month between peaks/troughs...even 2-3 months., or yrs. BULL TRAP: PIC 23 5.6a 1. where there is only 1 final peak then the trend simply reverses and starts falling without any special patterns like the labove ones. Sometimes near end of a trend final prices will exceed a previous days PEAK before falling ... This is what a BULL TRAP is basically, that's it. 2. Often the difference to last peak is slight , not great, so it can qualify as a double top Per book. 3. Certain INDICATORS are used to spot these "False Breakouts" or Bull Traps for what they are instead of seeing them as a continuation of a trend.They are: (1)If the upside move to new peak high at LOW OR DECELLERATING VOLUME, while subsequent decline or Bull Trap is on heavy volume.Helps identify and avoid some Bull Traps BUT not all per book.! (2)GAPPING ... Exhaustion, breakaway or island reversal GAPPING may indicate. (3) 1-3 % penetration filter, or close/2 day close or Friday close filters etc. VARIATIONS FROM THE IDEAL PATTERN 1. In most areas of market analysis real life is variation of ideal.Sometimes 2 peaks not at same level, or second does not reach level of first...this is not too problematical but if z2nd is above 1st, then may seem like a continue of trend. These problems solved by using FILTERS. 2. FILTERS: A) close beyond previous peak/ trough instead of just an intraday penetration B) PRICE FILTERS : 1)eg R1-3% penetration criteria. 2) 2 day close beyond penetration rule. 3) Friday close beyond...ie . weekly 4)volume on upside breakout ... Used to indicate reliability of breakout SAUCERS AND SPIKES 1. SAUCERS : PIC 24 5.8 (1)round pattern, like a dish. Less frequent.usually spotted on weekly or Mnthly charts where chart spans years. (2) it is difficult to tell exactly when saucer has completed, or exactly how far prices will travel in opposite direction..measurement. 2. SPIKES : PIC 25 5.9 (1)also called v pattern, Happen very quickly with little or no transition period. Usually in very very overextended market , where sudden news just causes a reversal very abruptly.Very tricky and abrupt market move. (2)often only warning is heavy volume on the daily or even weekly reversal. CHAPTER 6 CONTINUATION PATTERNS 1. These patterns INDICATE that SIDEWAYS movement on the chart is nothing more than a pause in the PREVAILINGBTREND, and the next move will be In The same direction as trend so far. 2. Are usually short term or intermediate term patterns, shorter induration than reversal patterns which usually take longer to build. TRIANGLES 1. Usually
14
time length patterns, but occasionally on long term charts.

Technical Analysis of the Financial Markets -Notes.
2. INVERTED triangle not continuation but signals major market TOP USUALLY. 3. 3 types, symmetrical, ascending and depending. Plus 1 extra called broadening or expanding. 4. BASE: Vertical line drawn at base of triangle to measure height of pattern(straight up/down height ) 4. APEX : point where 2 lines meet...tip of triangle 5. FIRST TURN into ... NOTE INTO ...triangle is point 1 on CONVERGING LINES. FOR ASCENDING first point will always be TOP point in triangle,mfor DECENDING trend always be BOTTOM POINT first...(hits first at base) SYMMETRICAL TRIANGLE PIC 26, 6.1 a, PIC 27' 6.1 d 1. Also called coil ...for obvious reasons. 2. 2 converging TRENDLINES, upper one ascending, lower one descending. 3. If in a bear then indicates continuation of bear,mid in bull trend indicates continuation of bull trend then. 4. Minimum requirement is 4 reversal points in triangle...IE TAKES 2 points each side to draw The 2 lines.Some have 6 points...3 and 3 , to form 5 waves in elliot wave theory .SEEMS MOSTLY BETWEEN 4 and 6 points, rarely more In A triangle. 5. TIME LIMIT: A) the time limit is the point the apex.So draw lines then see date of apex to be. B) AS A GENERAL RULE... breakout from triangle should occur in 2/3 to 3/4 of HORIZONTAL WIDTH of triangle from base. C)if prices remain after 3/4 point then triangle starts loosening potency, and it usually means it will fail and prices will continue moving sideways beyond apex completely. 6. VOLUME :should do diminish as price swings narrow within triangle. More important on up than on downside. Increase is ESSENTIAL in resumption of uptrend in ALL CONSOLIDATION PATTERNS, but not as essential in down trends. HOWEVER it should be noticble that volume increases on ALL internal triangle moves towardwards trend direction, and decreases on all moves away from trend direction. Price swings narrow in ass 7: MEASUREMENT : A) method 1 ...height of base , taken from breakout point vertically...gives minimum, not max measurement. B) method 2 ... Draw. TRENDLINE parralel to opposite line on trend breakout side....measurement is where this line is intersected. C) often...or sometimes....not always, prices will hit channel line in method 2 at same time apex would have been reached time. 8. RETURN MOVE: sometimes a return move to breakout triangle side line occurs after breakout. 9. FILTERS : miniumm is CLOSING outside lines. All normal filters can be applied here too eg 1-3% etc. ASCENDING TRIANGLE: Bullish (or right angle triangle) PIC 28 6.3a PIC 29 6.3b 1. Difference to Symmetrical triangle is UPPER TRENDLINE of triangle IS FLAT, LOWER TRENDLINE IS ASCENDING. 2.mostly....but not always, this is a bullish pattern, means a breakout to top is coming, no matter where it is found at all. mostly as continue pattern in uptrend, but also sometimes as a bottoming pattern in a normal trend reversal. 3.VOLUME :volume diminishes as triangle works itself out,then increases on breakout. As with all UPSIDE. breakouts, essential that vol should incr. on breakout. one should also detect slightly incr. vol on upswings and decr.vol. on downswings inside the triangle as it goes forward. 4. RETURN MOVE : sometimes a return move to breakout line , but on diminishing vol. of course. 5. MEASUREMENT: only height of base projected from breakout point, not others. 6. TIME: triangles are intermediate patterns, they should take longer than1 month BUT less than 3 months to form. IF IT LASTS LESS THAN 3 MONTHS ,IT IS PROBABLY A DIFFERENT PATTERN LIKE A PENNANT .
DECENDING TRIANGLE (bearish) (also called right angle triangle) PIC 30 6.4a PIC 31. 6.4b 1. Difference to Symmetrical triangle is UPPER TRENDLINE of triangle IS DECENDING ,LOWER TRENDLINE IS FLAT 2.mostly....but not always, this is a BEARISH pattern, means a breakout to BOTTOM is coming, no matter where it is found at all. mostly as continue pattern in A DOWNTREND, but also sometimes as topping pattern as a trend reversal. 3.VOLUME : volume diminishes as triangle works itself out,then increases on breakout. also , One should also detect diminishing volume on upswings and slightly increasing volume on downswings as the triangle works itself out toward the breakout. 4. RETURN MOVE : sometimes a return move to breakout line , but on diminishing vol. of course. 5. MEASUREMENT: only height of base projected from breakout point, not others. 6. TIME: triangles are intermediate patterns, they should take longer than1 month BUT less than 3 months to form. IF IT LASTS LESS THAN 3 MONTHS ,IT IS PROBABLY A DIFFERENT PATTERN LIKE A PENNANT . BROADENING /EXPANDING /INVERTED TRIANGLE FORMATION PIC32. 6.5 1. Also called megaphone top, 2. Mostly occurs at Market tops, is a REVERSAL PATTERN, not continuation, generally at end of major, bull run. 3. It is a bearish formation always. 4. VOLUME : should INCREASE as triangle forms, on top and dips,both. 5. Represents a market that is out of control, and unusually emotional , with unusual amnt of public participation . 6. Quite rare FLAGS AND PENNANTS PIC 33 6.6a PIC 34 6.6b Pic 35 Pic 36 1. Both very common 2. Both similar, same vol, measure , both appear in middle of trend. 3. Represent brief pauses in a dynamic market move, where a market has gotten ahead of itself, and pauses briefly to catch its breath, before running off again in same direction. 4. Requirement for both is : preceded by a sharp and almost straight line long move...on heavy volume, called the flag post, just before pattern. (seems it does not always actually happen, but very often) 5. Most reliable of patterns .very rarely cause a reversal 6. VOLUME: flag post on heavy volume, then pattern forms on ever decreasing drying up volume both ways up &down zags, then breakout on heavy vol. As usual, upside vol. is more critical than downside vol. 7.TIME: very short term, should complete in 1-3 weeks. In downtrends even shorter, can be even 1-2 weeks. 8. MEASUREMENT: tend to appear at halfway point of a trend, so vertical distance from break of trend/ support that started the first trend before the pattern , projected upwards from breakout point. FLAG 1. Paralellogram that slopes AGAINST former bull..down slope, bear ...upslope .Opposite. 2. PENNANT 1. TWO CONVERGING TRENDLINES,resembles a symmetrical triangle pattern, horizontal. 2. TIME : notice that drawing lines to apex gives you a time measurement as a max time for the pattern to cease. WEDGE 1. like a triangle, but both lines either slope up or down, to make a wedge. 2. Similar to symmetrical triangle in time and shapishly. 3. Between 1-3 months..intermediate category. 4. Wedge slants AGAINST prevailing trend...falling wedge bullish, rising wedge bearish.
5.
WEDGE
PIC38 PIC37 6.8A PIC 39 1. Rising wedge in a uptrend or visa versa is a signof a REVERSAL not continuation. 2. Rinsing wedge ina downtrend is a sign of a continuation 3. Both trendlinesofa wedge are slanted in same direction basicly, none horizontal. 4. 1-3 mnth pattern- intermediate 5. TIME: note time estimationto copmleion of pattern is draw 2lines to apex, this is the time limit. 6. MEASURMENT : none given, nor position in trend given so anywhere.
RECTANGLE
1. 2. 3. 4. 5. 6. 7. PIC 40 6.9b PIC 41- 6.9c Also called Trading Range, or Congestion Area, in dow theory called a Line Pause in trend , prices move sideways between 2 horizontal parallel lines. Usually resolved in same direction as previous trend. Forecasting - all same as symmetrical triangle. Decisive close beyond lines indicates completion NOTE : be aware it could be a triple top or head shoulders pattern as wellvery easily- very similar. Clue to resolve this is volume see belowVOLUME: a. the side where volume is heavier is probably direction of breakout- so if that were a reversal then not a rectangle , but if that were a continuation then probably a rectangle, not others. b. The broad price swings prevent usual dropoff in volume seen in triangles and wedges. c. Breakout volume same as usual large on breakout- more imp. On up than down. RETURN MOVES : can get,very common , on lower vol, back to breakout line. SUPPORT/RESISTANCE: the rectangle parallel trend lines after breakout act as very very strong-stronger than usual- supports on any bouncebacks because they are horizontalthey say and well defined as such TIME : 1-3mnth usually , similar to wedges & triangles.( note flags & pennants are 3 weeks) MEASURING TEQUNIQUES : heightof pattern,projected again from breakout point.This method is based on the volatility of the market per book. TRADING TECHNIQUES: a. Some traders buy dips and sell at top rallies within pattern- allows trading otherwise trendless market, because risks are taken at extremes of range, risks are relatively small and well defined when a breakout does occour trader exits last losing trade immediately and reverses previousposition by initiating a new trade in direction of new trend , also occilators are escpecially useful in sideways trading, but less useful once breakout has occoured see occilatorsall per book b. Others : ascontinuatiponpattern, initiate long pos. near lower end of price band in an uptrend, or short at top line in downtrend, c. Others avoid trendless markets altogether most trend following systems perform very poorly in sideways trends.
8. 9. 10. 11. 12.
THE MEASURED MOVE

1. 2. 3. 4. 5. 6. 7. PIC 42 6.1OA 6.10B Also called swing measurement Is a phenomeneone where a major market trend is divided into 2 equal & parallel moves. It is relly just a variation of other halfway patterns eg flags & penants On principle marketys retrace 1/3 to of prior moves. For this approach to work the market moves should be fairly orderly and well defined. When seen , you can assume the second leg after correction of 1/3 to , to travel roughly the same vertical height again as the first leg before correction did. Seems difficult to notice when only halfway unless pattern is very perfect. TIME : ,possibly shorter times as well, but can be up to months or even yr. PIC 43 6.11 A AND 6.11 B Pic 44 6.11 c CAN sometimes appear as a continuation instead of a reversal pattern.
CONTINUATION HEAD AND SHOULDERS

1.
17
2. 3. 4. 1. 2. 3.
Prices trace out a pattern very similar to continuation rectangle, except in a downtrend middle head pokes out above shoulders.or pokes out lower than shoulders in a uptrend. WORKS OPPOSITE TO NORMAL HEAD SHOULDERS: no chance of confusing it with normal head shoulders because in a uptrend the continuation pattern will look like a BOTTOMING head should in a REVRSAL role, ie upside down- meaning it signals a upward move after it- and visa versa for downtrend.-see pic Study the general motors pic to get idea of their look very funny. Confirmation is a common themerunning through analysis, together with counterpart divergence: applies to tech charting as well as any other analysis of stocks at all really. Confirmation: compareall signals to ensure MOST are pointing in same direction / or confirming each other. Divergence : where different indicators fail to confirm each other- point in different directions. DIVERGENCE IS ONE OF THE BEST EARLY WARNING SIGNALS OF IMPENDING TREND REVERSALS.
CONFIRMATION AND DIVERGENCE
CHAPTER 7 : VOLUME AND OPEN INTEREST

VOLUME AND OPEN INTEREST AS SECONDARY INDICATORS:
1. OPEN INTEREST : definition :is only found in futures markets. The Total number of OUTSTANDING or UNLIQUIDATED CONTRACTS at the end of the day is open interest vertabim per book a. Open Interest represents TOTAL no. of longs or shorts in the market, NOT the sum of both. Open Interest is the NUMBER of CONTRACTS. A contract must have a buyer and a seller Open int. figure reported each day is followed by either a +or number showing either the incr,. or decr. in no. of contracts for that day. It is those changes in levels , either upor down, that gives open interest its forecasting value- clues to changing character of market participation. REPORTING TIME : official Volume and Open Interest are reported a day late in the futures markets, and aretherefore ploitted with a 1 day lag.Only estimated Vol figures are available for the last day. Therefore each day chartist plots H, L, & closing price for last day of trading, BUT plots official Volume & Open Interest for Previous second last - day. Price is most important, Volume and open interest are secondary, used primarily as confirming indicators, of these 2 vol is most important. Vol is usually not used on mnthly bar charts, only dly &wkly forsome reason , and these plotted at bottom usually .
2. 3. 4. 5. 6.
NOTE IMPORTANT to put IN BEGINNING OF NOTES and indicator section . Indicator TRENDLINES are OFTEN BROKEN AHEAD OF PRICE TRENDLINES.NOTE, NOTE, NOTE.....FOR ALL INDICATORS!!!! OPEN INTEREST IN FUTURES HOW CHANGES IN OPEN INTEREST OCCOUR 1. Every time a trade takes place, open interest changes in one of 3 ways.. It increase, decreases or stays the same depending on type of transaction. PIC 1 pg 160' start of pic 1 again Per pic above: 1. Both buyer and seller initiate a new position and a new contract is established 2. Buyer is intimidating a new long position, seller is merely liquidating an old long, so no change in. No. Of contracts takes place , remains same. 3. Seller is initiating a new short,nbuyer is covering an old short, because one is entering and one is exiting, no change is produced . 4. Both traders are liquidating an old position , so open interest decreases by 1 ......to sum up.. If both are exiting,it decreases , if both are entering,it increases, but if one is entering and other exiting then no change in no. Of contracts.So it seems if a old contact is resold, no change in overall no. of contracts occurs,but if a old ..angazi, angaaaaaaz, eh? ......by looking at the net change in open interest at day end, one is able to analyze strength or weakness of current price trend. GENERAL RULES FOR INTERPRETING VOLUME AND OPEN INTEREST. PIC 2 pg 161 1. Rules for vol and open interest are similar so they are generally combined. RULES THAT ARE THE SAME FOR BOTH VOLUME AND OPEN INTEREST see pic above : 1.if vol and open interests are both rising, then current trend will probably continue in same direction it is going in right now. 2. BUT if vol and open interest are both declining, then it can be viewed as a warning that the current trend is nearing an end. 18 Technical Analysis of the Financial Markets -Notes.
RULES FOR VOLUME ONLY ...FOR ALL MARKETS PIC 3. 7.4 1.Rule : " should expand in the direction of the existing price trend. " Also , it should contract on dips and expand on ups,min an uptrend and visa versa. Heavier vol reflects a degree of intencity ,urgency, action, in a price move. It shows a price move is to be trusted. Low vol would show a price move is not to be trusted, not confirmed. 2. Divergence : if breaking a previous high/low takes place on decreasing vol, signals divergence and diminishing buying pressure.If opposite direction zags get increasing vol ...alerts you to the fact that the current trend is in trouble. 3. Normal rules for each individual pattern vol generally applies everywhere. Some have own specific rules though...eg expanding triangle.See each pattern VOLUME PRECEEDS PRICE 1. Pic 3' 7.4 1. Technicians believe volume PRECEEDS price, meaning the loss of upside pressure in uptrend actually shows up in the vol figure before it is manifested in the reversal of the price trend . ON BALANCE VOLUME PIC 4 7.7 Pic 5 7.6 1. technicians experiment with many different vol indicators to help follow vol, best known of these is OBV, or on balance volume. 2. It is a smoothed line that becomes a curved line instead of vol bars ,easy to confirm quality of current price trend or warn of impending reversal.It is much easier to follow than vol bars. 3. Contruction: total vol for day is assigned a plus or minus value depending on whether prices close higher or lower for the day.A running cumulative total is then maintained by adding or subtracting each days figure. 4. It is the direction of the OBV line, and not the figure iyself that is important..figures will differ depending on length time you are charting...only concentrate on directiion. 5.The OBV should follow in same direction as price trend. It is when it DIVERGES and fails to move in same direction that possible trend reversal is indicated. If price is trending up, OBV should also be trending up and visversa, due to odd way it is calculated.most charting packages allow you to plot it directly over price data on screen to watch divergence etc. 6. It has it's shortcomings..assigning entire days Val plus/- depending on closing is bit extreme.but works quite well. ALTERNATIVES TO OBV 1. Variation to address shortcomings of OBV....give greater weight to days when price trend is strongest, by just multiplying price gain by vol, otherwise same method as OBV .reduces impact of days where price change is minimal 2. JAMES SIBBERTS DEMAND INDEX: ..combines price and vol into a leading market indicator.( not lagging but leading I think) : PIC. FIGURE A1 pg464 PIC. FIGURE A2 pg465 (a)called the DEMAND INDEX, from 1970,s ,the formula is quite complex ..it calcs buying pressure and selling pressure, then takes a ratio of the 2 somehow. (b)when buying pressure is greaterbthan selling pressure ,the DI is above the zero line, which is positive.Greater selling pressure means the DI is below zero, which implies prices will move lower. (c)most traders also look for diversions between the DI and prices....if DI forms higher lows ie trends upwards even if still stuck below zero, but prices are still trending downwards, it means a trend reversal to bullish could happen.....And visa versa( .see pic for example.) (d)it can be plotted as a solid line or as bar graphs. (e) all indicator TRENDLINES can be useful, and this DI is the same. One can make TRENDLINES of the DI line or bar chart. Indicator TRENDLINES are OFTEN BROKEN AHEAD OF PRICE TRENDLINES.NOTE, NOTE, NOTE.....FOR ALL INDICATORS!!!! 3. HERRICK PAYOFF INDEX :uses open interest to measure money flow : PIC A3 and A4 on page 467 and 468 (a)indicator was developed as a way of analyzing commodity futures using open interest ,price and volume to determine money flow into or out of a given commodity.changes in open interest can indicate whether a market trend is well supported or not. (b)this helps trader spot divergences between the price action and open interest.this is often quite important as buying and selling panics can be identified through analysis of he open interest by the herric payoff index U 19 Technical Analysis of the Financial Markets -Notes.
(c)The first of the 2 uses / interpretations: the most basic interpretation is whether it is below or above the zero line.above means index is projecting higher prices and open interest is rising along with prices.Below means funds are flowing out of the commodity being analysed. (d)The second of the 2 uses/ interpretations : another important interpretation is divergence and direction of TRENDLINE of index.The index may change direction days or weeks before price actually follows suit...so there will be a divergence while price is still going one way and index starts trending the other. (e)it is characteristic of index that it will cross above and below the zero line a several times before a longer lasting buy or sell is given....over weeks or even months this may happen, or perhaps even days on a daily chart. (f)the HPI like the demand index is most effective when used on weekly data ,as fewer false signals are evident. 4. Lazlo Bininyi: MONEY FLOW INDEX: this real time version of OBV tracks the level of vol on each price change in order to determine if money is flowing into or out of a stock.Takes a lot of computer power,and not readily available to most traders. e 5. More sophisticated versions of OBV generally do same thing as OBV ,check same thing.OBV does relatively good job though. VOLUME LIMITATIONS IN FUTURES 1. One day lag in reporting futures volume 2. Awkward practice of using total vol numbers to analyze individual contracts, intend of using each contracts actual individual volume.how does one deal with situations where some contracts close higher and others lower In same futures market on same day. There are good reasons though for using total vol, mentioned earlier in chapter. 3. Limit days , when markets are locked when prices reach Max limit and cease trading , when no of buyers so overwhelm sellers that this happens...a stock market rule it seems. These turn into usually light vol days artificially then from being locked, even though they should be heavy vol days to show a bull, so that is another oddity. INTERPRETATION OF OPEN INTEREST IN FUTURES Pic 7, 7.10 Pic 8 7.11 1. BULLISH : With prices advancing in uptrend, and total open interest increasing, new money is flowing into the market reflecting aggressive new buying, and is considered bullish. PIC 6 7.9 2.BEARISH : if however prices are rising and open interest declines,the rally is being caused primarily by short covering.money is leaving,not entering the market.considered bearish since uptrend will probably cease once shorts are covered. 3.BEARISH : if prices in downtrend, and open interest risng, shows aggressive new short selling, with this new money flowing into market.This action incr. chances downtrend will continue and is considered bearish. 4. BULLISH : Declining prices, with also declining open interest...caused by discouraged or losing longs liquidating their positions.Considered technically BULLISH, NOTE....cause it is thought once longs have finished liquidating ,once open interest has declined sufficiently to show that most losing longs have Completed their selling, the down trend will probably end...as selling pressure ceases.considered bullish signal. Other situations where open interest is important: 1. Toward the end of a major trend, where open interest has been increasing, a leveling off or declining in open interest shows a early warning of a change in price trend. 2. High open interest figure at market tops can be considered bearish if the price drop is very sudden....means all new longs established near end of uptrend now have losing positions, and their forced liquidation will keep prices under pressure until open interest has declined sufficiently. Happens if prices drop eg below Mnthly low.. All losing longs panic,nselling causes more price drop...CAUSES more of same. 2.1COROLLARY: to no 2 above : unusually high open interest in a bull market is a danger signal. 3. If Open interest builds up noticeably during a sideways consolidation , the ensuing price move intensifies once the breakout occours.( lot of traders of build up will be caught on wrong side of market after breakout.. Shorts or longs depending on direction. Rem every contract has a long AND a short, so all of shorts or all longs will be on losing side after a breakout, and will cause selling pressure when they try scramble to buy into market to offset loss..eg shorts covering by buying forces prices up in up break, or longs selling forces prices down in a down break.the early stages after ANY breakout is usually fueled by losing side selling or buying depending, so a high open interest means more intensive price move after breakout..like wood for a fire.Also winning side may even use accumulated paper profits to finance further positions in same...causing more pressure on price. 4. Increasing open interest at completion of a price pattern is viewed as added confirmation of a reliable trend signal.eg neck line break of head shoulders is more convincing if it occours on increasing open interest , as well as incr.volume.Analyst must be careful here though, because impetus following initial trend signal is often caused by those onnwrongbsideof market, sometimes open interest dips slightly at begin of new trend.This initial dip cn mislead the unwary chart reader ,and argues against focusing too much attention on very short term open interest changes . BLOWOFFS AND SELLING CLIMAXES. PIC 9. 7.12 page 176 20 Technical Analysis of the Financial Markets -Notes.
1. BLOWOFFS occour at major market tops..and selling climaxes at market bottoms.not sure if just for futures or stocks as well. 2. For BLOWOFFS, prices suddenly begin to rally after a long advance, accompanied by a large jump In Trading activity...volume..., then suddenly drop., visa versa for SELLING CLIMAXES. 2. In futures BLOWOFFS specifically are often accompanied by a drop in open interest during the final rally. COMMITMENTS OF TRADERS REPORTS 1. Report released twice a month by the commodity futures trading commission, 2. Details amounts traded by 3 categories of investor : (1)large hedgers, also called commercials, who use it primarily for hedging purposes. (2) large speculators, incl. commodity funds, who rely primarily on mechanical trading systems. (3) small traders, incl. genl public,nwho trade in smaller amounts. WATCH THE LARGE COMMERCIALS Pic 10 7.13 178 1. THE idea of the commitments report above, is the belief that the large commercial hedgers are usually right, while the 2 categories of traders are usually wrong. 2. So the idea is to place yourself in the same position as the hedgers and in opposite position to the other 2. Eg a bullish signal at a market bottom would occour when the commercials are heavily net long, while the large and small traders are heavily net short. OR. A warning of a possible top is when the commercials are heavily net short, but other 2 are net long. 3. Some charting services supply and chart on 3 lines the data of these reports for the last 4 years, so one can spot trends and compare. ..nick van der nice, of commodity trends service, palm beach gardens, fl. 4. Even if you don't use the cots(commitments of traders) report, it's not a bad idea to keep an eye on these 3 groups are doing. OPEN INTEREST IN OPTIONS 1. This chapter has been mainly about futures, but open interest can be used for options as well.While it may not be interpreted the same way for options, it tells us exactly the same thing..where the interest and the liquidity is. 2. Open interest figures are published each day for put and call options on futures markets, stock averages,industry indexes, and individual stocks. 3. Some options traders compare call open interest ..bulls..to put open interest ...bears...,in order to measure market sentiment. Others use option volume. PUT/ CALL RATIOS 1. Volume figures I options are broken down into call volumes ...bullish...and put volumes...bearish... 2. Analysts of options markets use these 2 to analyse the options markets: when the number of calls(bullish) to puts(bearish) is more , then the market is bullish and the put- call ratio falls, and visa versa. 3. The put call ratio is usually viewed as a contrary indicator. When the ratio is high it signals an oversold market, when it is low it signals a warning of an overbought market. COMBINING TECHNICALS WITH OPTION SENTIMENT. 1. Options traders use open interest and volume put-call ratios to determine extremes in bullish - bearish sentiment. These sentiment readings work best when combines with technical measures such as support, resistance and the trend of the underlying market. 2. Since timing is so crucial in options markets, most options traders are technically orientated. CONCLUSION 1. Volume is used in all markets, but open interest is used in futures and options markets. Next from the preceeding comes : CHAPTER 8 LONG TERM CHARTS
LONG TERM CHARTS

1. Long term charts are important because it provides a perspective over weeks & mnths that day bar charts cannot achieve. Anyone not using them is missing an enormous amnt of information.
SPECIAL CONTRUCTIONS CONTINUATION CHARTS FOR FUTURES

1. Since futures contracts have a life of only 1,5 yrs, it poses a problem with how to chart longer range trends for futures. The answer is Continuation Charts . The method used is to always use as follow up chart data from the last contract : to always use the price of the nearest expiring contract, when that one expires the next nearest expiring conract is the one plotted from there. This provides a long range chart over periods longer than 1,5 yrs for futures for trends etc. a. There are problems with this method though- sometimes the price of expiring contract is far differwent to next contract- how do you provide continuationhere -? And sometimes the exreme volatility experienced at expiry date
21
2.
by some spot contracts area causes wild price fluctuations the next contract wont have at its start time another problem. Alternative methods used : to bypass above problems etc a. Use 2nd or 3rd upcoming contact, not next expiring one b. Use nearest contract with highes open interest- on theory that expiry month (with highest open interest I think)is truest representation of market value. c. Some stop plotting a mnth or 2 before expiry to avoid expiry mnth volatility. d. By linking only a specific mnth- eg a November soyabean Continuation chart would be only historical data of each successive years nov soyabean contact are used-linked up, no otjher mnths.(favoured by Gann) e. Some average prices of several contracts\ f. Some contruct indices to smooth over changeovers, and adjust price premiums or discounts. g. The Perpetual Contract : very innovative by Pelletier ,Robert, of Commodity Systems Inc., Here a Time Series is constructed based on a constant forward time period, eg series would determine a value 3 or 6 mnths into the future time period chosen by user. The Perpetual contract is constructed then by taking a weighted average of 2 futures contracts that surround the time period chosen above so the value is a weighted avg of 2 other prices. It eliminates the need for using only the nearest mnth expiring contract and smoothes out delivery mnth distortions h. Normal nearest mnth continuation systems provided by charting services are good enough for most uses, but the special continuous time series are good for backtesting indicators & trading systems.
PATTERNS ON LONG RANGE CHARTS

1. DOUBLE TOPS AND BOTTOMS, HEAD SHOULDERS REVERSALS, TRIANGLES which are usually continuation patterns, ARE ALSO VERY COMMON. 2. Weekly & mnthly REVERSALS are also something funny that pop up often, eg new mntly followed by close below previous mnths close, often reperesem ts a significant turning point esp if it occours near a major support or reristance level. Wkly are also quite common these are the equivalent of key reversal day in daily charts, but on long charts carry vastly more significance.
ORDER OF STUDYING CHARTS

1. 2. 3. 4. 5. 6. IT IS VERY IMPORTANT TO FIRST study the long range charts, then only move to the short range dly and then only intraday chrts, so one gets the big picture first, spotting any major patterns occouring, before you zoom in and blot out the background completely. LONG RANGE CHARTS ARE NOT INTENDED FOR TADING PURPOSES: not suitable for timing of entry / exit points, and should not be used for that purpose. More sensitive daily and intraday charts are to be utilized for that. 1st chart to be considered: 20 YEAR monthly chart : look for major trendlines, support or resistance levels, and patterns . 2nd chart to be considered : 5 YEAR weekly chart : same proc ess repeated 3rd chart : 6-9 MONTHS on daily chart 4th chart : INTRADAY charts.
SHOULD LONG RANGE CHARTS BE ADJUSTED FOR INFLATION OR NOT?

1. SHOULD they be adjusted to account for inflation to compare years to each other : book says no, because the markets have already made the necessary adjustments a currency declining in value causes the commodities to incr in price and vis-vers.
PIC FIG. 8.1, PG 187 2. 3. 4. 5. LOW INFLATION NORMALLY CAUSES dropping gold prices and rising stock prices. Gold is worth less than half of its value in 1980- ?? check this..also see dow industrials chart PI above and research online- it is right , or is it gold or what Many markets fail at historic resistance levels SET YEARS BEFORE , and bounce of old resistance levels in same way. Even thoug inflation has caused a big change, these resistance levels did not seem to care which shows that the price discounts everything and markets have already made correction and built inflation etc into the price . EXAMPLES OF LONG TERM CHARTS
PIC PG 189 TO 194 ALL .
CHAPTER 9 MOVING AVERAGES

1. 2. 3. 4. DEFINITION: Moving Avg : an avg of a certain body of data : eg a 10 day mov avg of closing prices = total of 10 days / 10. Moving means only the last 10 days are taken , 1 day old falls away every new day. One of MOST VERSATILE AND WIDELY USED of all technical indicators. Because of way it is constructed and can be so easily quantified and tested, it is the basis of many mechanical trend following systems today These are more precise and can programmed into a computer, while chart patterns are subjective, and arguments whether volume favours bull or bear side are also subjective, but not moving avgs, they are objective. 22 Technical Analysis of the Financial Markets -Notes.
5.
Mov.Avg issues: a. How many days? b. Short or long term c. Is there a best mov avg for all markets or for each individual market. d. Is closing price best used e. Is it better to use more than 1 mov avg f. Simple linear or exponentially smoothed.
PIC 9.1A PG 196
CENTRING THE MOVING AVG :

1. THE statisticly correct way to plot a mvng avg is to place it in middle of the time period averaged.- so for a 10 day mov. Avg. day 5 is the correct day to place the plot on chart, but centring it has the flaw of giving a much later signal for trading. Therefore this method is used only for cyclic analysts to isolate underlying market cycles. Pic 9.1 b pg 198 1. Mvng Avgs work best in trending phases, but do not work very well in trendless sideways periods. In those periods Occilators work better. 2. It may be viewed as a curving trendline. 3. Lagging indicator. 4. Not a predictor but reacts. 5. Smoothing device. 6. A shorter avg like a 20 day would hug the action more than a 200 day. Time lag is reduced witjh smaller avgs, but can never be completely eliminated of course. 7. Short term avg more sensitive, more whipsaws etc, than a long avg. certain types of markets more advantageous to use a shorter avg, other more advantageous to use a longer avg. 8. Using shorter avgs provides signals earlier than long term in the move, and it also produces more trades but more commissions but also more whipsaws. If avg is too short it activates bad trend signals. Trick is to find avg that generates early signals but avoids random noise. 9. Long term avg is bad for reversal of uptrend signals- because it tracks from a great distance. SO SIGNALS COME LATE AND YOU COULD LOOSE out by remaining in the position too long. 10. The longer avgs work best while trend remains in force but shorter avgs work better when trend reverses.
MOV AVG : A SMOOTHING DEVICE WITH A TIME LAG
WHICH PRICE TO AVG , CLOSING OR OTHER?.

1. 2. 3. 4. Some use closing price this is the most commonly used price Some use midpoint price gotten by dividing trading day range in 2. Some add high , low and closing and divide by 3. Some construct price bands using high and low prices, get 2 separate lines one for low , one for high- that act as a sort of volatility buffer or neutral zone.
THE SIMPLE MOVING AVERAGE

1. 2. Or arithmetic mean, used by most tech ananlyists. Some issues ie: a. all days equal weight ie 10% weight each for 10 day or 20% each for 5 day avg, last day is not weighted heavier for that days reading on chart. b. Only period of avg is taken into account, ie the 10 days etc, rest ignored .
LINEAR WEIGHTED MOVING AVERAGE

PIC 9.2 PAGE 200 1. 2. 3. HERE PRICE is multiplied by day number , eg current day by 10, yesterday by 9 and so on, for eg. a 10 day moving average, then divided by total of numbers used eg by for 55 = 10+9+8.+1 that would be a 10 day moving avg. This is supposed to weight the current days heaviest, and so less to last day , and is supposed to give a more accurate moving avg line. This addresses 1 of 2 issues above- but leaves out only avg taken of 10 day etc period issue instead of entire chart length.
EXPONENTIALLY SMOOTHED MOVING AVERAGE

1. 2.
3.
4.
Addresses both problems above : weights the last day higher, and also includes ALL of the data in the life of the instrument in each point on chart. Assigns greater weight to most recent data. User can adjust weighting to give greater or lesser weight to most recent days price data this is done by assigning a % weight to last days price , which is added to 2 nd last days value also % weighted. So if 10% assigned to last day then * last day price by 0.1, and FULL RESULT plotted on chart from 2nd last day * 0.9, to give a total of 1 or 100%. So ALL lifetime of data is included in 2nd last days- solving issueno.2 above, , and weighted by 0.9, and last days is weighted by 0.1 and added to it the previous answer to give todays CHART PLOT. Then tomorrow todays becomes the 90% one and so on. Note: if last day is weighted by 10% , it makes the equivalent of a 20 day moving average. ( why not 10 day ie 100/10=10, I do not know, but thats what book says. AND if you use 20 % for last day and 80 % for previous days total chart plot,is is equivalent of a 40 day moving avg. ??? So, to get others like 200 day etc, work it out algebraicly from these 2 reference points why it is double the logical deduction from linear weighting result I do not know- just take it as such! COMPUTER makes it very easy for you- just choose 10 or 20 day mov.avg, then after that choose exponential, linear weighted or simple- and computer does the rest the book says so it makes it easy never mind question above.One can also have as many avgs and types as you want all shown on same page makes it easy to compare.
THE USE OF ONE MOVING AVERAGE

PIC 9.3 PAGE 201 PIC 9.4 PAGE 202 1. 2. Mov.Avg IS PLOTTED on same chart as price bars. TRADING : a. BUY signal: When closing price moves above mov avg, BUY signal is generated. b. SELL signal is generated when prices move below moving average. c. FOR ADDED CONFIRMATION : some traders like to see moving avg turn in direction of price CROSSING. If very short avg is used, 5 or 10 day, avg tracks prices very closely, and several crossings occour. Long term avg is bad for reversal of uptrend signals- because it tracks from a great distance. SO SIGNALS COME LATE AND YOU COULD LOOSE out by remaining in the position too long. The longer avgs work best while trend remains in force but shorter avgs work better when trend reverses.
3. 4. 5.
HOW TO USE 2 AVGS TO GENERATE SIGNALS

PIC 9.5 PG 204 Pic 9.6 pg 205 1. (TRY USING 10,20, 50 200 AND 500 DAY AVG ON SAME GRAPH.) 2. This technique is called the double crossover method 3. This means a buy signal is generated when the shorter avg crosses upward over the longer one, and a sell signal when it crosses downward over it. 4. This technique of using 2 avgs, lags the market a bit more than the use of a single moving average but produces fewer whipsaws. 5. 2 popular combinations: a. 5 and 20 day b. 10 and 50 day. c. 9 and 18 day for futures traders.
THE USE OF 3 AVERAGES OR THE TRIPLE CROSSOVER METHOD

Pic 9.7b page 207 1. POPULAR COMBINATIONS: a. 4 - 9 - 18 moving average combination : used mainly in FUTURES TRADING used as default for 3 mv avg in most charting packages, i. BUYING ALERT : when 4 day crosses both 9 and 18 day upward. ii. CONFIRMED BUY SIGNAL : when the 9 day also crosses the 18 day this confirms the alert , and gives the final buy signal. iii. SELLING ALERT : when 4 day crosses both 9 and 18 day downward. iv. CONFIRMED SELL SIGNAL : when the 9 day also crosses the 18 day downward this confirms the alert , and gives the final SELL signal. b. 5 -10 20 combination : used in COMMODITY CIRCLES 2. UPTREND : Some intermingling may take place during corrections and consolidations, but the general up-trend remains intact. Some traders may take profit during the intermingling process in an uptrend , and some may use it as a buy opportunity. There is a lot of room for flexibility here depending on how aggressive one wants to trade. 3. DOWNTREND : traders may use 4 day crossing 9&18 day ALERT as a reason enough to begin liquidating long positions already seems more prudent- , some may wait till 9 day also crosses 18 day in certain chart patterns etc . And also for 24 Technical Analysis of the Financial Markets -Notes.
some traders , when the 9 day also dips below 18 day after 4 day already has for both, a short sell signal is given- to also short the trend as well.
MOVING AVERAGE ENVELOPES.

PIC 9.8a Pic 9.8 b 1. 2. 3. 4. 5. Usefulness of a single moving avg is enhanced by surrounding it with % envelopes lines placed at fixed % s above and below the mov.avg line itself. This tells us when prices have strayed too far from their moving avg line , informs us when market has gotten overextended in either direction. Short term mov avgs : 21 day mov avg : use 3% envelopes Middle range : :10 week mov avg: use 5% envelopes Long Term range: :40 week mov avg: use 10% envelope.
BOLLINGER BANDS
PIC 9.9 a PIC 9.9 b 1. 2. 3. 4. 5. 6. 7. It is similar to an ENVELOPE but it is placed 2 Std. Deviations from the Moving Average instead of a % away. This means the Bollinger bands move wider apart and closer together based on the last 20 days volatility. Using 2 Std Dev. Ensures that 95 % of price data will fall between envelopes statisticly For Daily Charts : usually 20 day Mvmg. Avg used for Bollinger Bands. For Weekly Charts : usually a 20 Week Avg is used. touching lower line in strong uptrend signals a good buying opportunity. For Monthly Charts : usually a 20 Mnth Avg is used : wkly & mnthly both work very well. Bollinger Bands work best when combined with overbought / oversold OCCILATORS .
USING BOLLINGER BANDS AS TARGETS

1. 2. 3. 4. 5. Prices are considered OVERBOUGHT , on upside when they TOUCH the upper line , and OVERSOLD ON THE downside when they TOUCH the lower line, UNLESS there is about to be a reversal of trend to way below the line , Trading: IF PRICES BOUNCE OFF LOWER BAND AND CROSS OVER MIDDLE mov avg line as well, one must consider the upper band as the price target. A crossing below Mov. Avg from upper band into lower band would identify lower envelope line as possible price target. One can also buy on lower line and sell on upper line if it seems the trend will be continuing, unless it seems there will be a trend reversal - then of course dont buy. It seems on a VERY strong uptrend prices zig between upper and middle lines, and if then it crosses below mov avg line it warn of a possible trend reversal to the downside. On a strong downtrend it seems to also zag between middle and lower lines. Bollinger Bands work best when combined with overbought / oversold OCCILATORS .
BAND WIDTH MEASURES VOLATILITY :

1. 2. 3. 4. 5. While envelopes with %s stay a constant width apart , the Bollinger bands move wider apart and closer together based on the last 20 days volatility. The more volatility , the higher the Std Dev becomes and wider apart the lines move. The less volatility, the closer together they go. When bands are unusually far apart it is often a sign that the current trend may be ending. When bands are very narrow together, it is a sign that a market is about to initiate a new trend.(both per book exactly) Bollinger Bands work best when combined with overbought / oversold OCCILATORS .
MOVING AVERAGES TIED TO CYCLES.

1. 2. 3. 4. 5. MANY CYCLES OPERATE SIMULTANEOSLY IN MARKET, eg 54 yr kontradief cycle to short 5 day cycle. It is possible to forcast market tops & bottoms with cycles Cycles are related to their next longer or shorter cycle HARMONICLY- meaning next shorter is half its length and next longer is double this cycles length. The 4 week cycle may also explain the success of the 4 week rule and 2 week rule covered later in ch. The choice of Moving Avg to use has a definite relationship with cycles.eg: a. Mnthly cycle best known of commodity cycles- a mnth has 20-21 trading days b. Note: the populat 40 dy mov avg is DOUBLE month , the 10 day mov avg.e is half exactly of 1 mnth and 5 day Mov. Avg is half of that again. c. 4,9,18 day mov avg is closely related to the above by 1 day each time. 25 Technical Analysis of the Financial Markets -Notes.
d. 1. 2.
The 4 week cycle may also explain the success of the 4 week rule and 2 week rule covered later in ch.
FIBONACCI NUMBERS USED AS MOVING AVGS

This mysterious set of numbers such as 13, 21, 34, 55 and so on, covered in later chapter, seem to lend themselves very well to mov avg analysis. for weekly as well as daily charts both. 13 week avg is valuable, and 21 day avg is also popular and valuable.
MOVING AVGS APPLIED TO LONG TERM CHARTS

FIG 9.10 1. 2. 1. In stocks : 10 or 13 weeks mov avg , in conjunction with 30 or 40 week mov. Avg have proven invaluable for futures and stocks . The 10 and 40 week can be used to track the primary trend on weekly charts for futures and stocks. PROS : a. They trade in the direction of the trend- so they do one of the oldest maxims of successful trading trade in direction of trend, not against it ever. : mov avgs force one to do this. b. Let profit run and cut losses short : mov avgs force one to do this. c. In trending times mov avg cant be beat just switch prograsm to automatic. BUT in trendless times dont work well CONS : a. PERFORM BADLY IN TRENDLESS times which is 1/3 to 1/3 of the time anyway per book. ONE WAY to construct an occilator is by using 2 moving avgs eg MACD method. . The double crossover method takes on greater significance and becomes a even more useful technique because of this. It can be applied to virtually any data , incl. indicators + open interest + volume figures + on balance volume + ratios. + even occilators as well. This is an alternative to using mov avgss Used primarily for futures trading. HISTORY: a. As computers started to be used to analyse stocks, first simple mov avgs were used, then double & TRIPPLE CROSSOVERS, Then the averages were exponentially smothed and linearly weighted. all are primarily trend-following systems. With increased fascination, many of simpler methods were overlooked later eg weekly rule here, while they work very well still to this day. b. In 1970 traders notebook was published with test results for number of best known trading systems of the day. Mostsuccessful of al the systems was 4 week ruleMore recent work supports this , saysing that 1- channel breakout systems like 4 week rule and also 2- mov. Avgs came out on top.
PROS AND CONS OF MOV AVGS
2.
MOVING AVGS AS OCCILATORS

1. 2. 1.
APPLYING THE MOV AVG TO OTHER DATA:
THE WEEKLY RULE

1. 2. 3.
METHOD ; THE 4 WEEK RULE or WEEKLY RULE.

1. BASICLY : a. Cover short positions and buy long whenever the price exceeds the highs of the 4 preceeding full calendar weeks b. Liquidate long and sell short whenever the price falls below the lows of the 4 preceeding full calendar mnths. 2. Note the system is continuous in nature so the trader always has a position, either LONG or SHORT. 3. As a rule- continuous systems have a basuic weakniess- whipsaws in trendless areas. The 4 week rule can be modified to make it trendless by using shorter 2 week span for liquidating purposes, 4. Gurantess participation, follows maxim let profit run while cutting losses short, 5. Tends to trade LESS frequently, so total trade commissions are lower. 6. Main criticism: does not catch market tops and bottoms very well.-(book says but what system does?) 7. Performs at least as well as most other trend following systems, and better than many, plus added benefit of incredible simplicity. 8. ADJUSTMENTS TO 4 WEEK RULE ; a. Weekly breakouts can be used as a confirmimg filter for other techniques , such as moving avg. crossovers. b. Weekly signals can be used as just another tech indicator ..1 or 2 week rules functions a excellent filters. c. A moving acg crossover signal could be confirmed by a 2 week breakout in the same direction in order for a market position to be taken 9. SHORTEN OR LENGHTHEN TIME PERIODS FOR SENSITIVITY: a.
26
REM TO DO THE VIX NOTES FIRST FROM MAGAZINE-NNOT DONE YET!
27

Technical Analysis of The Financial Markets

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Technical Analysis of The Financial Markets

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TECHNICAL ANALYSIS OF THE FINANCIAL MARKETS : JJ MURPHY

EXTRA NOTES ADDED FROM OBSERVATIONS ELSEWHERE

THE VIX GENERAL

COURSE TEXT BOOK:

CH 1 : PHILOSOPHY OF TECH ANALYSIS

FUNDAMENTAL VS TECHNICAL FORECASTING

COMPARISON OF ANALYSIS OF STOCKS TO FUTURES

SPECIAL THINGS ARITHMATIC VS LOGARITHMIC CHARTS:

CONSTRUCTING A BAR CHART

FUTURES OPEN INTEREST:

CH 4 : BASIC CONCEPTS OF TREND

THERE ARE ONLY 3 TREND DIRECTIONS:

THERE ARE 3 DECISIONS A TRADER CAN MAKE :

Trend has 3 CLASSIFICATIONS:

SHORT/NEAR TERM Trend :

less than 2- 3 wks ,

SUPPORT & RESISTANCE

time length patterns, but occasionally on long term charts.

8. 9. 10. 11. 12.

THE MEASURED MOVE

CONTINUATION HEAD AND SHOULDERS

Technical Analysis of the Financial Markets -Notes.

CONFIRMATION AND DIVERGENCE

CHAPTER 7 : VOLUME AND OPEN INTEREST

LONG TERM CHARTS

SPECIAL CONTRUCTIONS CONTINUATION CHARTS FOR FUTURES

Technical Analysis of the Financial Markets -Notes.

PATTERNS ON LONG RANGE CHARTS

ORDER OF STUDYING CHARTS

SHOULD LONG RANGE CHARTS BE ADJUSTED FOR INFLATION OR NOT?

PIC PG 189 TO 194 ALL .

CHAPTER 9 MOVING AVERAGES

PIC 9.1A PG 196

CENTRING THE MOVING AVG :

MOV AVG : A SMOOTHING DEVICE WITH A TIME LAG

WHICH PRICE TO AVG , CLOSING OR OTHER?.

THE SIMPLE MOVING AVERAGE

LINEAR WEIGHTED MOVING AVERAGE

EXPONENTIALLY SMOOTHED MOVING AVERAGE

THE USE OF ONE MOVING AVERAGE

HOW TO USE 2 AVGS TO GENERATE SIGNALS

THE USE OF 3 AVERAGES OR THE TRIPLE CROSSOVER METHOD

MOVING AVERAGE ENVELOPES.

USING BOLLINGER BANDS AS TARGETS

BAND WIDTH MEASURES VOLATILITY :

MOVING AVERAGES TIED TO CYCLES.

FIBONACCI NUMBERS USED AS MOVING AVGS

MOVING AVGS APPLIED TO LONG TERM CHARTS

PROS AND CONS OF MOV AVGS

MOVING AVGS AS OCCILATORS

APPLYING THE MOV AVG TO OTHER DATA:

THE WEEKLY RULE

METHOD ; THE 4 WEEK RULE or WEEKLY RULE.

Technical Analysis of the Financial Markets -Notes.

REM TO DO THE VIX NOTES FIRST FROM MAGAZINE-NNOT DONE YET!

Technical Analysis of the Financial Markets -Notes.

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