Conditional Formatting and its Application to Technical Analysis (AMEX Gold BUGS Index as an Example)
Carl Swenlin stated "Technical analysis is a wind sock, not a crystal ball". This is probably one of the most eloquent and precise definitions I have ever seen because it goes deeper than the sentence itself. Provided the wind is blowing from the north, the windsock will indicate that until the wind changes direction. When the wind direction changes, individuals can note this and be confident that the wind hitting their house is coming from a direction specified by the windsock. The further one moves from their house, the variability of the wind pattern changes, but can be tracked using satellites to provide a somewhat accurate idea about the bigger picture for determining where the cloud system/ wind system is traveling. Think of the individual home with the windsock as a lower Degree in the placement of the weather system and the satellite images being many Degrees higher in the big picture. Weather forecasters can zoom to different Degrees of resolution to get a closer picture of the weather system at any location or simply pull out again. Relating this to stochastics, having short-term to longer-term settings provide a similar view to lower Degree and larger Degree "views" of the market. Keep the definition about "Degree" in mind because it will be tied together with other presented concepts at the end of the article.
Conditional formatting (CF) is the basis for very simple computer programming. Statements such as "If", "and", "or", "then" are the basic commands which can be linked through a series of different strings in order to provide an instruction map for what route to go to if certain commands are true or false. The commands are noted to be positive with a "1" and negative with a "0", depending upon the defined term. Trading programs have simple CF commands, which link complex algorithm outputs to become triggered if certain defined variables are true or false.
CF has its application in Elliott Wave with respect to preferred and alternate counts. A preferred count is a count the market technician feels has that most of the rules and principles are being followed. The alternate count becomes activated "if" the preferred count is invalidated. For anyone who does not have a copy of "Mastering Elliott Wave" by Glenn Neely, I would strongly recommend it, since it is one of the most important books on the subject. There is an article I wrote last year titled "The Technical Palette" describing the methodologies that I follow. Whenever major rules are broken e.g. upside price objectives, trend line breaks etc., a count that becomes invalid should have an alternate count in place to keep the defined trend flowing. Nothing in life is 100% certain and lies within the realm of statistical probabilities. Just like a storm front may carry rain, chances are it will miss some locations due to influences from some local land structures or pressure differentials. As with the market, defined trends can easily be seen, but the lower Degree nuances that happen are based upon the culmination of news and how it influences people.
The news today is rapidly disseminated to practically anyone that has a computer. This automatically can cause a rapid shift in market sentiment therefore attributing the wild swings seen on a daily basis. Over 70% of stocks are traded on black box models, so Elliott Wave structures as most market moves appear to be stretched to nearly the maximum upside or downside targets. A state of disregard or panic can be mathematically triggered, which then cascades all the way to the whites of people's eyes. As such, navigating in today's market place is a totally different beast than it was even 20 years ago.
To summarize the above thoughts, I thought it would be appropriate to use the AMEX Gold BUGS Index (HUI) as an example. I was hoping to use a different index I cover (S&P 500 Index, AMEX Oil Index, US Dollar Index, 10 Year US Treasury Index) but none of them had a conclusion yet to illustrate the failure of a preferred count. Figure 1 below shows the preferred count I had from a few weeks back. The wave structure at the time suggested there was one further leg up in wave 5.(1) before topping out; the caveat for the preferred count being correct was that the height of wave 5 could not exceed wave 3, since wave 1 was the extended wave of the pattern (time and complexity). The HUI continued to rise above 413, thereby invalidating the wave structure and required re-analysis. The trend was long in the tooth and traders would not have affected their trading stance, aside from not adding to any positions. Investors who average into positions were advised to wait until a decline to 390-400 occurred before entering any new longer-term positions.
The revised count from last week is shown below. The preferred count is shown in colour and the alternate count is shown in grey. The alternate count is nearly identical to last week's chart, except the termination point of wave 4 was higher, thereby raising the maximum allowable height of wave to 427.5. The preferred count differed from the alternate with the thought a potential running correction formed. For the running correction scenario to be correct, the HUI could not close beneath 400; it would have broken the alternate count trend line indicating it was in fact the correct pattern. The HUI would have made a rocket move to 600-700 with the preferred count before the end of January, whereas the alternate count required the HUI to remain below 427.5. Either pattern could have been valid, but the short-term market forces changed direction thereby altering the count. Wave (1) took approximately 6 weeks, so wave (2) in theory should take an equivalent period of time or slightly longer. By having a preferred count and alternate count side by side, it allows the reader to see what trend is likely to develop in the event of a change in. It is important to know all the possibilities any particular index will take because it helps to minimize losses and define appropriate entry/exit points.
I have had numerous requests of late to provide a daily service for tracking the S&P 500 Index. I am too busy tracking 5 indices and a number of stocks, so I have to pass since that in itself would be a full time endeavor.
Writing a piece on technical analysis is slightly different than what I usually present, but occasionally a thought comes to mind that requires defining.
At www.treasurechests.info, once per week (with updates if required), I track the Amex Gold BUGS Index, AMEX Oil Index, US Dollar Index, 10 Year US Treasury Index and the S&P 500 Index. Captain Hook the site proprietor writes 2-3 articles per week on the "big picture" by tying in recent market action with numerous index ratios, money supply, COT positions etc. We also cover some 60 plus stocks in the precious metals, energy and base metals categories (with a focus on stocks around our provinces).
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