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Alexander Elder - Trading For A Living | ||||
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free download links about online stock trading, forex, futures, stock investing, market, trading systems Most people conduct their lives as if they intend to live forever—with no review of the past, no real planning for the future, and minimal learning from past mistakes. Freud showed that the unconscious mind does not have a notion of time. Our deep-seated wishes remain largely unchanged throughout life. When people join crowds, their behavior becomes even more primitive and impulsive than when they are alone. Crowds pay no attention to time even though they are affected by its passage. Individuals are ruled by the calendar and the clock, but crowds have no notion of time. Crowds act out their emotions as if they had all the time in the world. Most traders focus only on changes in prices and pay little attention to time. This is just another sign of being caught up in mass mentality. The awareness of time is a sign of civilization. A thinking person is aware of time, while someone who is acting impulsively is not. A market analyst who pays attention to time is aware of a dimension hidden from the market crowd. Cycles Long-term price cycles are a fact of economic life. For example, the U.S. stock market tends to run in four-year cycles. They exist because the ruling party inflates the economy going into the presidential election once every four years. The party that wins the election deflates the economy when voters cannot take revenge at the polls. Flooding the economy with liquidity lifts the stock market, and draining liquidity pushes it down. This is why the 2 years before a presidential election tend to be bullish, and the first 12 to 18 months following an election tend to be bearish. Major cycles in agricultural commodities are due to fundamental production factors, coupled with the mass psychology of producers. For example, when livestock prices rise, farmers breed more animals. When those animals reach the market, prices fall and producers cut back. When the supply is absorbed, scarcity pushes prices up, breeders go to work again, and the bull/bear cycle repeats. This cycle is shorter in hogs than in cattle because pigs breed faster than cows. Long-term cycles can help traders identify market tides. Instead, most traders get themselves in trouble by trying to use short-term cycles for precision timing and predicting minor turning points. Price peaks and valleys on the charts often seem to follow in an orderly manner. Traders reach for a pencil and a ruler, measure distances between neighboring peaks, and project them into the future to forecast the next top. Then they measure distances between recent bottoms and extend them into the future to forecast the next low. Cycles put bread and butter on the tables of several experts who sell services forecasting highs and lows. Few of them realize that what appears like a cycle on the charts is often a figment of the imagination. If you analyze price data using a mathematically rigorous program such as John Ehlers' MESA (Maximum Entropy Spectral Analysis), you will see that approximately 80 percent of what appears like cycles is simply market noise. A human mind needs to find order in chaos—and an illusion of order is better than no order for most people. If you look at any river from the air, it appears to have cycles, swinging right and left. Every river meanders in its valley because water flows faster in its middle than near the shores, creating turbulences that force the river to turn. Looking for market cycles with a ruler and a pencil is like searching for water with a divining rod. Profits from an occasional success are erased by many losses due to unsound methods. If you are serious about trading with cycles, you need a mathematical method for finding them, such as MESA or Fourier analysis. Fourier analysis searches for cycles in very large data samples, but MESA takes a different tack. It searches for evidence of orderly cyclical movement in a relatively short data window (Figure 36-1). Unlike other packages, which give nonstop trading signals, MESA tells traders that no valid cycles are present about 80 percent of the time. It aims to recognize cycles as they emerge from market noise and tells you when a cycle begins to fade. Indicator Seasons A farmer sows in spring, harvests in late summer, and uses the fall to get ready for winter. There is a time to sow and a time to reap, a time to bet on a warm trend and a time to get ready for a cold spell. The concept of seasons can be applied to the financial markets. A trader can use a farmer's approach. He should look to buy in spring, sell in summer, go short in the fall, and cover in winter. Martin Pring developed the model of seasons for prices, but this concept works even better with technical indicators. Indicator seasons show you where you are in the market cycle. This simple but effective concept helps you buy when prices are low and sell short when they are high. It tells you when an indicator signal is likely to be strong or weak. It helps you stand apart from the market crowd. The season of any indicator is defined by two factors: its slope and its position above or below the centerline. For example, we can apply the concept of indicator seasons to MACD-Histogram (see Section 26). We define the slope of MACD-Histogram as the relationship between two neighboring bars. When MACD-Histogram rises from below its centerline, it is spring; when it rises above its centerline, it is summer; when it falls from above its centerline, it is autumn; and when it falls below its centerline, it is winter. Spring is the best season for going long, and autumn is the best season for selling short When MACD-Histogram is below its centerline but its slope is rising, it is spring in the market. The weather is cool but turning warmer. Most traders expect the winter to return and are afraid to buy. Emotionally, it is hard to buy because the memories of a downtrend are still fresh. In fact, spring is the best time for buying, with the highest profit potential. Risk is low because a protective stop can be placed slightly below the market. When MACD rises above its centerline, it is summer in the market — and most traders recognize the uptrend. It is emotionally easy to buy in summer because bulls have plenty of company. In fact, profit potential in summer is lower than in spring and risks are higher because stops have to be farther away from the market. When MACD-Histogram is above its centerline but its slope turns down, it is autumn in the market. Few traders recognize the change and they keep buying, expecting summer to return. Emotionally, it is hard to sell short in autumn — it requires you to stand apart from the crowd, which is still bullish. In fact, autumn is the best time for selling short. The profit potential is high, while risks can be limited by placing a stop above the recent highs or using options. When MACD-Histogram falls below its centerline, it is winter in the market. By then, most traders recognize the downtrend. It is emotionally easy to sell short in winter, joining many vocal bears. In fact, the risk/reward ratio is rapidly shifting against bears. Potential rewards are getting smaller and risks are high because stops have to be placed relatively far away from prices. Just as a farmer pays attention to the vagaries of weather, a trader needs to pay attention to the vagaries of the markets. An autumn on the farm can be interrupted by an Indian summer, and a market can stage a strong rally in autumn. A sudden freeze can hit the fields in spring, and the market can drop early in a bull move. A trader needs to use his judgment and apply several indicators and techniques to avoid getting whipsawed (see Section 43). The concept of indicator seasons focuses a trader's attention on the passage of time in the market. It helps you plan for the season ahead instead of jumping in response to other people's actions. Retracements Many traders watch price retracements. For example, if a market rallies 120 points, traders try to add to long positions when the market retraces 50 percent of the preceding move and declines 60 points from the top. Many floor traders look for a trend to reverse after it retraces 61.8 percent of the previous move. This number is based on the Fibonacci number series. This idea of measuring retracements can also be applied to time. It pays to measure how long each rally and decline have lasted. For example, rallies in a bull market are often interrupted by declines that last approximately half as long as the preceding rallies. If you discover that rallies tend to last 8 days and declines 5 days, that knowledge encourages you to look for a buying opportunity 4 days into a decline. The Factor of Five Analysts often feel confused when they look at charts in different timeframes and see that the market is going in several directions at once. The trend may be up on the daily charts but down on the weeklies, and vice versa. Which of these trends will you follow? This becomes even more complex if you look at intraday charts. Most traders pick one timeframe and close their eyes to others — until a sudden move outside of "their" timeframe hits them. The factor of 5 links all timeframes. If you start with monthly charts and proceed to the weeklies, you will notice that there are 4.5 weeks to a month. As you switch to daily charts, you will see 5 trading days to a week. As your timeframe narrows, you will look at hourly charts —and there are approximately 5—6 hours to a trading day. Day-traders can proceed even further and look at 10-minute charts, followed by 2-minute charts. All are related by the factor of 5. The proper way to analyze any market is to analyze it in at least two time- frames. They should be related by the factor of 5. When you analyze the market in two timeframes, the shorter of them has to be five times shorter than the longer one. If you want to analyze daily charts, you must first examine weekly charts, and if you want to day-trade using 10-minute charts, you first need to analyze hourly charts. This is one of the key principles of the Triple Screen trading system |
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