Accumulation Distribution

Accumulation Distribution uses volume to confirm price trends or warn of weak movements that
could result in a price reversal.
Accumulation: Volume is considered to be accumulated when the day's close is higher
than the previous day's closing price. Thus the term "accumulation day"
Distribution: Volume is distributed when the day's close is lower than the previous day's
closing price. Many traders use the term "distribution day"
Therefore, when a day is an accumulation day, the day's volume is added to the previous day's
Accumulation Distribution Line. Similarly, when a day is a distribution day, the day's volume is
subtracted from the previous day's Accumulation Distribution Line.
The main use of the Accumulation Distribution Line is to detect divergences between the price
movement and volume movement. An example of the Accumulation Distribution Line is
shown below in the chart of the Nasdaq 100 exchange traded fund QQQQ:




Volume Interpretation
The basic interpretation of volume goes as follows:
Increasing and decreasing prices are confirmed by increasing volume.
Increasing and decreasing prices are not confirmed and warn of future trouble when volume is
decreasing.
For more in-depth analysis of Volume (see: Volume).
High #1 to High #2
The Nasdaq 100 made an equal high (i.e. Double Top formation) at High #2; however, the
Accumulation Distribution Line failed to make an equal high, in fact it made a lower high. On
average, less volume was transacted on the move higher at High #2 than occured on the first
move higher at High #1; thus, this could be interpreted as there being less strength and
conviction behind the rally in the Nasdaq the second move higher. This failure of the
Accumulation Distribution Line signaled a strong bearish divergence.
High #3 to High #4
Again, the Accumulation Distribution line made a lower high, even though the Nasdaq 100 this
time made a higher high. This bearish divergence warned that the second move to make a higher
high in price lacked conviction.
Low #1 to Low #2
The bearish divergence from Low #1 to Low #2 confirmed the later bearish divergence of High
#3 to High #4. On average, more volume was occuring on down days than up days, even while
the Nasdaq 100 was making higher highs and higher lows, which usually is considered a sign of
strength.
In summary, the Accumulation Distribution Line is a very effective tool to confirm price action
and show warnings of potential price reversals. It is important to incorporate volume into price
analysis, and the Accumulation Distribution Line is one of many indicators to do just this. Other
indicators that include price and volume analysis and could be considered more accurate than the
Accumulation Distribution Line include the Chaikin Oscillator (see: Chaikin Oscillator), Money
Flow Index (see: Money Flow Index), and Price Volume Trend indicator (see: Price Volume
Trend).

Accumulative Swing Index
Developed by Welles Wilder in his popular technical analysis book New Concepts in Technical
Trading Systems, the Accumulative Swing Index (ASI) is mainly used as a divergence and
confirmation tool, but can be used for buy and sell signals as well. It was designed to be used
for futures trading, but can be used for stock trading and currency trading too. Basically, the
Accumulative Swing Index is a running total of the Swing Index (see: Swing Index).
The chart below of gold futures shows the Accumulative Swing Index:



Accumulative Swing Index as a Confirmation Tool
In the chart shown below, the Accumulative Swing Index confirmed Gold's downtrend.
Subsequently, when Gold broke the downward trendline, the Accumulative Swing Index
confirmed the trendline break as well.
Similarly, the upward move in the Gold futures contract was confirmed by the Accumulative
Swing Index and the upward trendline break was confirmed too.
Buy Signal - Accumulative Swing Index
Buy when Accumulative Swing Index breaks above a downward trendline or, in a price
consolidation period, above resistance.
Sell Signal - Accumulative Swing Index
Sell when the Accumulative Swing Index breaks below an upward trendline or, in a price
consolidation period, below support.
In summary, the Accumulative Swing Index is best used as a confirmation tool with other
technical indicators and charting patterns (see: Support & Resistance)
Advance Decline Line
The Advance Decline Line is used primarily to confirm price movement and detect
divergences. The calculation of the Advance Decline Line is quite simple:
New York Stock Exchange (NYSE) Advancing Issues - NYSE Declining Issues
The calculated number is then added to the previous day's Advance Decline Line. To illustrate,
say that todays advancing issues ($ADV or $NYADV) is 1,692 stocks. That is 1,692 stocks
closed the day with an increase in their share price. The declining issues ($DECL or $NYDEC)
is 1,311. At the NYSE, 1,311 closed the day with a decrease in their share price.
1,692 - 1,311 = +381
For the day, 381 more stocks closed the day higher than closed the day lower. This is a bullish
sign. To continue the example, yesterday's Advance Decline Line totaled 45,874. Today's
reading of +381 would be added to the total of yesterday. This would result in an updated total of
46,255.
Whether the total is positive or negative is irrelavent; what is relavent is the direction or the
trend of the Advance Decline Line. An increasing Advance Decline Line is bullish because
more stocks at the NYSE are closing the day with gains; whereas a decreasing Advance Decline
Line is bearish because more stocks are closing the day with losses.
The Advance Decline Line is a powerful confirmation tool and divergence warning tool. The
chart of the mini-Dow future contract of the Dow Jones Industrial Average or Dow 30 represents
these confirmation and divergence signals:




High #1 to High #2
The mini-Dow future contract made a higher high at High #2; however, the Advance Decline
Line failed to make a newer high, in fact it made a lower low. At High #2, less stocks were
participating in the rally; thus, there was less strength behind the rally in the Dow Jones
Industrial Average. This failure of the Advance Decline Line signaled a strong bearish
divergence.
High #2 to High #3
This is an example of the Advance Decline Line confirming the trend in price of the mini-Dow
future. The mini-Dow future made lower highs and likewise, the Advance Decline Ratio made
lower highs.
Low #1 to Low #2
Yet another bearish divergence occured from Low #1 to Low #2. The mini-Dow futures contract
made a higher low, an acknowledged bullish sign. However, the Advance Decline Line did not
confirm the mini-Dow future's ascent. In fact, during the entire rally of the mini-Dow from Low
#1 to Low #2, the Advance Decline Line was making lower lows. This bearish divergence
signaled that stock investors and index futures traders should be wary of the recent increases; the
market as a whole is not behind the recent move higher.
In conclusion, the Advance Decline Line is a very effective tool to confirm price action in
stocks and stock indexes as well as signaling potential reversals or weak price moves. Another
similar indicator is the Arms Index [TRIN], (see: Arms Index).
ADX Average Directional Index
ADX Indicator
1. ADX Average Directional Index
2. Interpreting the ADX
The Average Directional Movement Index (ADX) technical analysis indicator describes when a
market is trending or not trending. When combined with the DMI+ plus and DMI- minus (see:
DMI) the ADX can generate buy and sell signals.
However, the main purpose of the ADX is to determine whether a stock, future, or currency
pair is trending or is in a trading range. Determining which mode a market is in is helpful
because it can guide a trader to which other technical analysis indicators to use.
The chart of the E-mini Russell 2000 Index Futures contract below shows an excellent example
of the ADX in action:


ADX Shows Trend Strength
The first concept to remember is that the direction that the ADX moves doesn't depend upon
the direction of the underlying stock. All the ADX shows is the trend strength.
1. Strong upward trend of stock = Increasing ADX
2. Strong downward trend = Increasing ADX
As can be referenced from the chart of the E-mini Russell 2000 Index Futures contract above,
when the e-mini future was rising in a strong upward trend, the ADX indicator was rising.
When the e-mini futures contract moved into a non-directional consolidation phase, the ADX
decreased.
ADX is a Great Complement to Other Technical Indicators
The ADX is so popular because determining whether a stock, commodity, or currency market is
trending or not trending can help a trader avoid the pitfalls of some indicators.
Moving Averages
Moving averages and their variants are effective during trending markets; however, during
consolidation periods when prices go up and down, but in no direction, moving average
indicators have a tendency to give numerous false buy and sell signals that add up to trading
losses. During trending markets, use moving averages, trendlines, and other trend following
technical indicators.
Oscillators
Oscillators are extremely effective in non-trending markets. Buying low and selling high is
accomplished quite readily with oscillators. Unfortunately, during trending markets, oscillators
perform quite poorly, often selling short during a bull market run or buying during a bear market
downtrend, adding up to large losses. For periods of non-trending, use oscillators like Stochastic
Fast & Slow, RSI, or Williams %R and other range-bound indicators like Bollinger Bands or
Moving Average Envelopes.
The importance of the 20-level and 40-level, along with more examples of the ADX in action, is
covered on the next page.
nterpreting the ADX
ADX Indicator
1. ADX Average Directional Index
2. Interpreting the ADX
It is important to re-emphasize that the direction of price doesn't affect the ADX; it is the
strength of the stock, futures, or currency's trend that matters.
Below, we see the E-mini Russell 2000 Futures contract, but here the e-mini future is in a
downtrend, a strong downtrend. Note that the ADX is rising even though the price of the e-mini
future is falling.

Interpreting the ADX
Below 20: Non-trending market.
Crosses above 20: Signal that a trend might be emerging; consider initiating buy or sell short in
direction of prevailing stock, future, or currency price movement.
Between 20 & 40: If ADX is increasing between 20 and 40, then it is further confirmation of
emerging trend. Buy or shortsell in the direction of the current market direction. Avoid using
oscillator technical indicators and use trend following indicators like moving averages.
Above 40: Very strong trend.
Crosses above 50: Extremely strong trend.
Crosses above 70: "Power Trend"; very rare occurence
In his book, New Concepts in Technical Trading Concepts, Welles Wilder, Jr., the creator of the
ADX also created the DMI+ and DMI- indicators to generate buy and sell signals specifically for
the ADX technical analysis indicator. In fact the ADX is derived from the DMI+ and DMI-
calculations (see: DMI).
The most recent information on the ADX indicator is chronicled in the book ADXcellence by Dr.
Charles B. Schaap. More information can be found at ADXcellence.com.
ChartSmart
Market Thrust
Market Thrust
1. Market Thrust Defined
2. Market Thrust Divergences
The Market Thrust indicator is a powerful measure of the stock market's internal strength or
weakness. There are four components to this indicator:
1. Advancing Issues on the New York Stock Exchange (NYSE) - $ADV or $NYADV
2. Advancing Volume on the NYSE - $UVOL or $NYUPV
3. Declining Issues on the NYSE - $DECL or $NYDEC
4. Declining Volume on the NYSE - $DVOL or $NYDNV
The formula for Market Thrust is given below:
(Advancing Issues x Advancing Volume) - (Declining Issues x Declining Volume)
A chart of the mini-Dow futures contract is shown below:

When used for day-trading, the trend of the Market Thrust indicator is what is most important.
Rising Market Thrust Indicator: Bullish sign; Acts as a confirmation signal when
combined with a rising stock, index ETF, or stock index future's price.
Falling Market Thrust Indicator: Bearish sign; Acts as a confirmation signal of a
decreasing market price.
As will be shown on the next page, the Market Thrust indicator is a powerful divergence
indicator
Market Thrust Divergences
The Market Thrust indicator is a powerful tool for detecting divergences in trends. Divergences
occur when:
Price is trending higher, but the Market Thrust indicator is not moving higher or is even
going down.
Price is trending lower, however, the Market Thrust technical analysis tool is not trending
lower, it is either not trending or is trending higher.
An illustration of the Market Thrust indicator uncovering divergences in price trend is shown
below in the 5-minute chart of the mini-Dow Jones Industrial Average futures contract:

The first third of the day, the Dow futures contract increased quite impressively. However, the
Market Thrust indicator was falling - an equally impressive bearish divergence. In fact, the
Market Thrust line was lower when the Dow future made its high for the day, than the level of
the technical indicator was when it first opened the day.
The Market Thrust indicator is a powerful confirmation and divergence technical analysis tool. A
similar technical indicator is the Arms Index or TRIN (see: Arms Index TRIN)
Moving Averages
Moving Averages
1. Simple Moving Average (SMA)
2. Moving Average Crossovers
3. Exponential Moving Average (EMA)
4. Weighted Moving Average (WMA)
5. Adaptive Moving Average
6. Typical Price Moving Average (Pivot Point)
7. Triangular Moving Average
Simple Moving Average
The Simple Moving Average is arguably the most popular technical analysis tool used by
traders. The Simple Moving Average (SMA) is used mainly to identify trend direction, but is
commonly used to generate buy and sell signals. The SMA is an average, or in statistical speak
- the mean. An example of a Simple Moving Average is presented below:
The prices for the last 5 days were 25, 28, 26, 24, 25. The average would be
(25+28+26+26+27)/5 = 26.4. Therefore, the SMA line below the last days price of 27
would be 26.4. In this case, since prices are generally moving higher, the SMA line of
26.4 would be acting as support (see: Support & Resistance).
The chart below of the Dow Jones Industrial Average exchange traded fund (DIA) shows a 20-
day Simple Moving Average acting as support for prices.

Moving Average Acting as Support - Buy Signal
When price is in an uptrend and subsequently, the moving average is in an uptrend, and the
moving average has been tested by price and price has bounced off the moving average a few
times (i.e. the moving average is serving as a support line), then buy on the next pullbacks
back to the Simple Moving Average.
A Simple Moving Average can serve as a line of resistance as the chart of the DIA shows:

Moving Average Acting as Resistance Sell Signal
At times when price is in a downtrend and the moving average is in a downtrend as well, and
price tests the SMA above and is rejected a few consecutive times (i.e. the moving average is
serving as a resistance line), then buy on the next rally up to the Simple Moving Average.
The examples above have been only using one Simple Moving Average; however, traders often
use two or even three Simple Moving Averages. The advantages to using more than one Simple
Moving Average is discussed on the next page
Moving Average Crossovers
Moving average crossovers are a common way traders use Moving Averages. A crossover occurs
when a faster Moving Average (i.e. a shorter period Moving Average) crosses either above a
slower Moving Average (i.e. a longer period Moving Average) which is considered a bullish
crossover or below which is considered a bearish crossover.
The chart below of the S&P Depository Receipts Exchange Traded Fund (SPY) shows the 50-
day Simple Moving Average and the 200-day Simple Moving Average; this Moving Average
pair is often looked at by big financial institutions as a long range indicator of market direction:

Note how the long-term 200-day Simple Moving Average is in an uptrend; this is a signal that
the market is quite strong. Generally, a buy signal is established when the shorter-term 50-day
SMA crosses above the 200-day SMA and contrastly, a sell signal is indicated when the 50-day
SMA crosses below the 200-day SMA.
In the chart above of the S&P 500, both buy signals would have been extremely profitable, but
the one sell signal would have caused a small loss. Keep in mind, that the 50-day, 200-day
Simple Moving Average crossover is a very long-term strategy.
For those traders that want more confirmation when they use Moving Average crossovers, the 3
Simple Moving Average crossover technique could be used. An example of this is shown in the
chart below of Wal-Mart (WMT) stock:

The 3 Simple Moving Average method is usually interpreted as follows:
1. The first crossover of the quickest SMA (in the example above, the 10-day SMA) across
the next quickest SMA (20-day SMA) acts as a warning that prices are reversing trend;
however, usually a buy or sell order is not placed yet.
2. The second crossover of the quickest SMA (10-day) and the slowest SMA (50-day)
finally triggers the buy or sell signal.
There are numerous variants and methodologies for using the 3 Simple Moving Average
crossover method, some are provided below:
A more conservative approach is to wait until the middle SMA (20-day) crosses over the
slower SMA (50-day); but this is basically a two SMA crossover technique, not a three
SMA technique.
A money management technique of buying a half size when the quick SMA crosses over
the next quickest SMA and then the other half when the quick SMA crosses over the
slower SMA.
Instead of halves, buy or sell one-third of a position when the quick SMA crosses over
the next quickest SMA, another third when the quick SMA crosses over the slow SMA,
and the last third when the second quickest SMA crosses over the slow SMA.
A Moving Average crossover technique that uses 8+ Moving Averages (exponential) is the
Moving Average Exponential Ribbon Indicator (see: Exponential Ribbon).
Moving Average crossovers are important tools in a traders toolbox. In fact crossovers are
included in the most popular technical indicators including the Moving Average Convergence
Divergence (MACD) indicator (see: MACD). Other moving averages deserve careful
consideration in a trading plan:

Exponential Moving Average (EMA)
The Exponential Moving Average (EMA) weighs current prices more heavily than past prices.
This gives the Exponential Moving Average the advantage of being quicker to respond to price
fluctuations than a Simple Moving Average; however, that can also be viewed as a disadvantage
because the EMA is more prone to whipsaws (i.e. false signals).
The chart below of eBay (EBAY) stock shows the difference between a 10-day Exponential
Moving Average (EMA) and the 10-day regular Simple Moving Average (SMA):

he main thing to notice is how much quicker the EMA responds to price reversals; whereas the
SMA lags during periods of reversal.
The chart below of the Nasdaq 100 exchange traded fund (QQQQ) shows the difference between
moving average crossovers (see: Moving Average Crossovers) buy and sell signals with a EMA
and a SMA:

As the chart above of the QQQQ's illustrates, even though EMA's are quicker to respond to price
movement, EMA's are not necessarily faster to give buy and sell signals when using moving
average crossovers.
Also note that the concept illustrated in the chart above with Exponential Moving Average
crossovers is the concept behind the wildly popular Moving Average Convergence Divergence
(MACD) indicator; (see: MACD).
Since Exponential Moving Averages weigh current prices more heavily than past prices, the
EMA is viewed by many traders as quite superior to the Simple Moving Average; however,
every trader should weigh the pros and the cons of the EMA and decide in which manner they
will be using moving averages.
Nevertheless, Moving Averages remain the most popular and arguably the most effective
technical analysis indicator out on the market today.
Weighted Moving Average
The Weighted Moving Average places more importance on recent price moves; therefore, the
Weighted Moving Average reacts more quickly to price changes than the regular Simple
Moving Average (see: Simple Moving Average). A basic example (3-period) of how the
Weighted Moving Average is calculated is presented below:
Prices for the past 3 days have been $5, $4, and $8.
Since there are 3 periods, the most recent day ($8) gets a weight of 3, the second recent
day ($4) receives a weight of 2, and the last day of the 3-periods ($5) receives a weight of
just one.
The calculation is as follows: [(3 x $8) + (2 x $4) + (1 x $5)] / 6 = $6.17
The Weighted Moving Average value of 6.17 compares to the Simple Moving Average
calculation of 5.67. Note how the large price increase of 8 that occured on the most recent day
was better reflected in the Weighted Moving Average calculation.
The chart below of Wal-Mart stock illustrates the visual difference between a 10-day Weighted
Moving Average and a 10-day Simple Moving Average:

Buy and sell signals for the Weighted Moving Average indicator are discussed in depth with the Simple
Moving Average indicator (see: Simple Moving Average).

Adaptive Moving Average
Adaptive Moving Averages changes its sensitivity to price fluctuations. The Adaptive Moving
Average becomes more sensitive during periods when price is moving in a certain direction
and becomes less sensitive to price movement when price is volatile.
The chart below of the E-mini Nasdaq 100 Futures contract shows the difference between an
Exponential Moving Average (see: Exponential Moving Average) which weights current prices
more heavily than past prices and the Adaptive Moving Average which changes sensitivity based
on price volatility:

The advantage of the Adaptive Moving Average is show above in the e-mini chart in the center
where price became directionless and choppy. During that period the Adaptive Moving Average
maintained a straight line appearance; whereas, the Exponential Moving Average moved with
the choppiness of prices. However, when price trended, like on the far right of the e-mini chart
above, the Adaptive Moving Average kept up with the Exponential Moving Average.
The Adaptive Moving Average is definitely an unique technical indicator that is worth further
investigation.
Typical Price Moving Average
The Typical Price Moving Average combines the Pivot Point concept and the Simple Moving
Average. The Pivot Point (see: Pivot Points) calculation is shown below:
Pivot Point = (High + Low + Close) / 3
The calculated Pivot Point number is then inputed into the regular Simple Moving Average (see:
Simple Moving Average) equation; rather than the input of the closing price, the Pivot Point
calculation is used.
The chart below of the mini-Dow Jones Industrial Average Futures contract shows the slight
difference between a 10-day Simple Moving Average and a 10-day Typical Price Moving
Average:


The Typical Price attempts to give a more real representation of where price has been by
incorporating the high and low price into the most often used closing price. The Typical Price is
consequently seen as a more pure Simple Moving Average; nevertheless, as can be referenced by
the chart above of the mini-Dow Future, there is not much difference between either Moving
Average.
Buy and sell signals for the Typical Price Moving Average indicator are discussed in depth on
the Simple Moving Average indicator pages (see: Simple Moving Average).
Triangular Moving Average
The Triangular Moving Average is a Simple Moving Average that has been averaged again
(i.e. averaging the average); this creates an extra smooth Moving Average line.
The chart below of the E-mini Nasdaq 100 Futures contract shows the relation between a 10-day
Simple Moving Average and a 10-day Triangular Moving Average:

Generally, simple moving averages are smooth, but the re-averaging makes the Triangular
Moving Average even smoother and more wavelike.
Buy and sell signals for the Triangular Moving Average indicator are discussed in depth on the
Simple Moving Average indicator pages (see: Simple Moving Average).
Andrew's Pitchfork
Andrew's Pitchfork, otherwise known as median line studies utilizes the concepts of support,
resistance, and retracements (see: Support & Resistance). As is visually depicted below,
Andrew's Pitchfork consists of:
Handle
Resistance Trendline "tine"
Median Line
Support Trendline "tine"


Steps to creating a Pitchfork
1. Find a significant pivot or retracement (in the chart above, the lower left corner)
2. Find the next significant pivot or retracement (the dotted blue line connects the first pivot to
this second pivot)
3. Find the next retracement (in the chart above, the solid blue line starting from the left and going
down to the right)
Charting software finishes the pitchfork by creating the upper resistance "tine", the lower support
"tine", and the median line. Note: "tine" is the terminology used by the creator of Andrew's
Pitchfork, Dr. Alan Andrews.
Interpreting Andrew's Pitchfork
The same rules for support and resistance apply to Andrew's Pitchfork. Look to buy at support
and look to sell at resistance (see: Support & Resistance). Also, prices are thought to gravitate
towards the median line as depicted in the chart above of the S&P 500 exchange traded fund.
The chart above shows the long-term view (1 year 6 months) of the stock market; however,
Andrew's Pitchfork can be used for shorter time frames.
Arms Index (TRIN)
Arms Index
1. Arms Index Components & Interpretation
2. Arms Index Fundamental Problems
The Arms Index , also know as the TRIN - "TRading INdex", (ticker: $TRIN) is an important
volume-based confirmation indicator as well as overbought and oversold indicator. The
Arms Index has four components listed below:
1. Advancing Issues on the New York Stock Exchange (NYSE) - $ADV or $NYADV
2. Advancing Volume on the NYSE - $UVOL or $NYUPV
3. Declining Issues on the NYSE - $DECL or $NYDEC
4. Declining Volume on the NYSE - $DVOL or $NYDNV
The formula for the Arms Index is simply:
(Advancing Issues / Declining Issues) / (Advancing Volume / Declining Volume)
The intra-day 5-minute chart of the mini-Dow futures contract shows the $TRIN:



Interpreting the Arms Index
Neutral Reading = 1
Bearish Reading > 1
Bullish Reading < 1
The trend of the Arms Index is usually more important than whether or not the Arms Index is
above or below 1. As can be seen in the intra-day chart above, when the mini-Dow was falling in
price, the Arms Index was increasing. At 1.5, a very high Arms Index reading, a trader could
take a contrarian stance and buy at the 1.5 level. Of course it would be advisable to see a reverse
or bottoming of the Arms Index before taking such action. Also notice that when the mini-Dow
is increasing, the Arms Index is decreasing.
The Arms Index can be used from a longer term perspective. Some traders use moving averages
of the inputs into the Arms Index equation. To illustrate: (10-day Moving Average (MA) of
Advancing Issues / 10-day MA of Declining Issues) / (10-day MA of Advancing Volume / 10-
day MA of Declining Volume) or one could simply take the 10-day Moving Average of the
$TRIN.
There are fundamental problems with the Arms Index, and these probems are discussed on the
next page.
Problems with the Arms Index
There are mathematical oddities with the Arms Index. To begin, the basic formula of the Arms
Index is presented below:
(Advancing Issues / Declining Issues) / (Advancing Volume / Declining Volume)
According to the status quo interpretation of the Arms Index, a reading below one is bullish and
a reading above one is bearish. However, what if there was a truly bullish day. For this example,
twice as many stocks will be gainers on the day than will be losers. Likewise, twice as much
volume was transacted with the stocks that were gainers than was transacted with the losers of
the day. To recap, a very bullish day, gainers (Advancing Issues) outpace loser by a 2 to 1 ratio,
and institutions are heavily accumulating stock of those gainers by a ratio of 2 to 1, basically lots
of Advancing Volume. The calculation would be as follows:
(2/1)/(2/1) = 1.0
An Arms Index reading of one is supposed to be neutral, yet the example up above was
extremely bullish. Suppose Advancing Issues were 3 to 1 and Advancing Volume was 2 to 1.
This is yet another bullish scenario. This calculation is shown next:
(3/1)/(2/1) = 1.5
A reading of 1.5 is extremely bearish, yet Advancing Issues outpaced Declining Issues by 3 to 1
and Advancing Volume outpaced Declining Volume by a ratio of 2 to 1; very bullish inputs.
By reversing the previous scenario and making Advancing Issues stronger by a ratio of 2 to 1
and Advancing Volume stronger by a ratio of 3 to 1, the status quo interpretation of the Arms
Index is found.
(2/1)/(3/1) = 0.67
The result, 0.67, is a strong bullish reading confirming this calculation's bullish inputs of 2 to 1
Advancing Issues and 3 to 1 Advancing Volume.
What Does This All Mean?
The Arms Index emphasizes volume. In the first example, there was twice as many Advancing
Issues and twice as much Advancing Volume. Therefore, 67% (2 to 1 is equal to a 67% and 33%
split) of all NYSE issues were advancing, and subsequently 67% of all NYSE volume was with
Advancing Issues. For the Arms Index to give a bullish reading, the Arms Index would expect
there to be more volume poured into the advancing stocks, such as in the last example where
75% (3 to 1 is 75%) of all NYSE volume was in Advancing Issues.
Nevertheless, a person could legitimately question why 67% of all NYSE issues being gainers
and 67% of all volume being with winning issues could be considered neutral.
Arms Index Alternatives
Separating the two components of the Arms Index is a viable alternative.
(Advancing Issues / Declining Issues) is called the Advance/Decline Ratio
(Advancing Volume / Declining Volume) is called the Upside/Downside Ratio.
Another alternative to look into is creating an average volume per issue; this is shown below:
(Advancing Volume / Advancing Issues) / (Declining Volume / Declining Issues)
This version is more intuitive; it would be bullish above one because there would be more
average volume per up issue and the indicator would be bearish below one because there would
be higher average down volume per issue. The same type of problems could arise as those with
the Arms Index. In this case, very few issues could be gainers, but the stocks that were gainers
could have high amounts of volume. Thus the top half of the equation would be greater than the
bottom half, returning a bullish signal, even though very few stocks advanced that day.
Probably the best alternative to the Arms Index is the market thrust indicator (see: Market
Thrust); its formula is as follows:
(Advancing Issues x Advancing Volume) - (Declining Issues x Declining Volume)
With the market thrust indicator, the more advancing issues, the larger the market thrust value.
Similarly, the more advancing volume, the larger the market thrust value.
Of course, by using math and an imagination, a trader could come up with various other
combinations.
Moral of the story: It is important to be a knowledgeable trader and know what the strengths
and weaknesses of each technical indicator is; also, don't rely on just one indicator.

Aroon Indicator
Aroon
1. Aroon Indicator
2. Aroon Oscillator
The Aroon indicator is used to help traders know when a market is uptrending, downtrending, or
is in a range-bound, trendless market.
Knowing when a market is trending is very useful, mainly because trend following technical
analysis indicators are profitable during trending markets but cause losses during non-directional
markets. Similarly, oscillators are extremely profitable indicators during range-bound markets,
but perform very poorly during strong trending markets. The Aroon indicator can show which
mode the market is in.
The chart of the Nasdaq 100 shows the different modes of the market and how the Aroon
indicator reacts to these different market modes:

Interpreting the Aroon Indicator
When the Aroon Down indicator (in red above) is above the 70 line and the Aroon Up indicator
(in greed above) is below 30, then the market is trending downwards.
In contrast, when the Aroon Up indicator is above the 70 line and the Aroon Down indicator is
below 30, then the market is trending strongly upwards.
When the Aroon Up and Aroon Down indicator move towards the centerline (50), then the
market is entering into a consolidation period.
By varying the period length, the Aroon indicator can give long term indications of trend or
short-term indications of trend. By default, the Aroon indicator is 25-periods (shown in the chart
above), but a shorter time frame could be 10-periods.
Another version of the Aroon indicator that combines both the Aroon Up and Aroon Down is
presented on the next page.
Aroon Oscillator
The Aroon Oscillator is calculated by subtracting Aroon Down from the Aroon Up indicator. It is
interpreted as follows:
Above 50 is considered a strong uptrending market
Below -50 means that the market is trending lower;
Near 0 means that the market is in transition and not trending.
The chart below of the mini-Dow Futures contract shows both the Aroon indicator and the Aroon
Oscillator:

The chart below of the Gold futures contract shows how the Aroon Oscillator is interpreted:

A decrease of the Aroon Oscillator from above the 50 line shows that the uptrend is
consolidating and is reversing direction downward. When the Aroon Oscillator hovers around
the zero line over time, then the market is in a directionless period.
When the oscillator moves toward -50 from the zero line, the market is beginning to trend
downward. And when the Aroon Oscillator is below -50, then the market is in a strong
downtrend.
When the oscillator begins to move upward towards the zero line, the downward trend is slowing
down and beginning to reverse direction.
In addition, when the Aroon Oscillator moves higher from the zero line, then the market is
moving from a period of non-trending to a period of uptrending.
The Aroon indicator and Aroon Oscillator are extremely helpful tools for a trader to have and
use; the Aroon indicator helps traders to determine when best to apply trending following
indicators like Moving Averages (see: Moving Averages) and when best to use oscillator type
technical indicators like Stochastics (see: Stochastics).
Bollinger Bands
Bollinger Bands is a versatile tool combining moving averages and standard deviations and is
one of the most popular technical analysis tools available for traders. There are three components
to the Bollinger Band indicator:
1. Moving Average: By default, a 20-period simple moving average is used.
2. Upper Band: The upper band is usually 2 standard deviations (calculated from 20-
periods of closing data) above the moving average.
3. Lower Band: The lower band is usually 2 standard deviations below the moving average.
Bollinger Bands (in blue) are shown below in the chart of the E-mini S&P 500 Futures contract:

There are three main methodologies for using Bollinger Bands, discussed in the following
sections:
1. Playing the Bands
2. Bollinger Band Breakouts
3. Option Volatility Strategies
Playing the Bollinger Bands
Playing the bands is based on the premise that the vast majority of all closing prices should be
between the Bollinger Bands. That stated, then a stock's price going outside the Bollinger Bands,
which occurs very rarely, should not last and should "revert back to the mean", which generally
means the 20-period simple moving average. A version of this strategy is discussed in the book
Trade Like a Hedge Fund by James Altucher.
Buy Signal
In the example shown in the chart below of the E-mini S&P 500 Future, a trader buys or buys to
cover when the price has fallen below the lower Bollinger Band.
Sell Signal
The sell or buy to cover exit is initiated when the stock, future, or currency price pierces outside
the upper Bollinger Band.
These buy and sell signals are graphically represented in the chart of the E-mini S&P 500
Futures contract shown below:

More Conservative Playing the Bands
Rather than buying or selling exactly when the price hits the Bollinger Band, the more aggressive
approach, a trader could wait and see if the price moves above or below the Bollinger Band and
when the price closes back inside the Bollinger Band, then the trigger to buy or sell short occurs.
This helps to reduce losses when prices breakout of the Bollinger Bands for a while. However,
many profitable opportunities would be lost. To illustrate, the chart of the E-mini S&P 500
Future above shows many missed opportunities. However, in the chart on the next page, the
more conservative approach would have prevented many painful losses.
Also, some traders exit their long or short entries when price touches the 20-day moving average.
A different, and quite polar opposite way to use Bollinger Bands is described on the next page,
Playing Bollinger Band Breakouts.
Bollinger Band Breakouts
Basically the opposite of "Playing the Bands" and betting on reversion to the mean is playing
Bollinger Band breakouts. Breakouts occur after a period of consolidation, when price closes
outside of the Bollinger Bands. Other indicators such as support and resistance lines (see:
Support & Resistance) can prove beneficial when deciding whether or not to buy or sell in the
direction of the breakout.
The chart of Wal-Mart (WMT) below shows two such Bollinger Band breakouts:

Bollinger Band Breakout through Resistance Buy Signal
Price breaks above the upper Bollinger Band after a period of price consolidation. Other
confirming indicators are suggested, such as resistance being broken in the chart above of Wal-
Mart stock.
Bollinger Band Breakout through Support Sell Signal
Price breaks below the lower Bollinger Band. It is suggested that other confirming indicators be
used, such as a support line being broken, such as in the example above of Wal-Mart stock
breaking below support.
This strategy is discussed by the man who created Bollinger Bands, John Bollinger.
Bollinger Bands can also be used to determine the direction and the strength of the trend. The
chart below of the E-mini S&P 500 Futures contract shows a strong upward trend:






Bollinger Band Showing a Strong Trend
The chart above of the E-mini S&P 500 shows that during a strong uptrend, prices tend to stay in
the upper half of the Bollinger Band, where the 20-period moving average (Bollinger Band
centerline) acts as support for the price trend.
The reverse would be true during a downtrend, where prices would be in the lower half of the
Bollinger Band and the 20-period moving average would act as downward resistance.
Bollinger Bands adapt to volatility and thus are useful to options traders, specifically volatility
traders. The next page describes how to use Bollinger Bands to make better options trades


Bollinger Band Showing a Strong Trend
The chart above of the E-mini S&P 500 shows that during a strong uptrend, prices tend to stay in
the upper half of the Bollinger Band, where the 20-period moving average (Bollinger Band
centerline) acts as support for the price trend.
The reverse would be true during a downtrend, where prices would be in the lower half of the
Bollinger Band and the 20-period moving average would act as downward resistance.
Bollinger Bands adapt to volatility and thus are useful to options traders, specifically volatility
traders. The next page describes how to use Bollinger Bands to make better options trades
Option Volatility Strategies
Bollinger Bands
1. Bollinger Bands Defined
2. Playing the Bands
3. Bollinger Band Breakouts
4. Option Volatility Strategies
There are two basic ways to trade volatility:
1. Buy options with low volatility in hopes that volatility will increase and then sell back
those options at a higher price.
2. Sell options with high volatility in hopes that volatility will decrease and then buy back
those same options at a cheaper price.
Since Bollinger Bands adapt to volatility, Bollinger Bands give options traders a good idea of
when options are relatively expensive (high volatility) or when options are relatively cheap
(low volatility). The chart below of Wal-Mart stock illustrates how Bollinger Bands can be used
to trade volatility:

Buy Options when Volatility is Low
When options are relatively cheap, such as in the center of the chart above of Wal-Mart when the
Bollinger Bands significantly contracted, buying options, such as a straddle or strangle, might be
a good options strategy.
The reasoning is that after sharp moves, prices tend to stay in a trading range to rest. After prices
have rested, such as periods when the Bollinger Bands are extremely close together, then prices
usually will begin to move once again. Therefore, buying options when Bollinger Bands are tight
together, might be a smart options strategy.
Sell Options when Volatility is High
At times when options are relatively expensive, such as in the far right and far left of the chart
above of Wal-Mart when the Bollinger Bands were significantly expanded, selling options in the
form of a straddle, strangle, or iron condor, might be a good options strategy to use.
The logic is that after prices have risen or fallen significantly, such as periods when the Bollinger
Bands are extremely far apart, then prices usually will begin to consolidate and become less
volatile. Hence, selling options when Bollinger Bands are far apart, potentially could be a smart
options volatility strategy.
Chaikin Oscillator
The Chaikin Oscillator or Volume Accumulation Oscillator consists of the difference between
two exponential moving averages (usually 3 and 10-day) of the Accumulation Distribution Line
indicator and is used to confirm price movement or divergences in price movement. The
Chaikin Oscillator is more accurate than the On Balance Volume indicator (see: On Balance
Volume).
On Balance Volume: adds all volume for the day if the close is positive, even if the
stock closed only a penny higher or subtracts all volume for the day if the stock closes
lower.
Chaikin Oscillator: factors in the closing price in relation to the highs, lows, and average
price and determines the appropriate ratio of volume to be attributed to the day.
The main purpose of the Chaikin Oscillator is to confirm price trends and warn of impending
price reversals. The chart below of the Nasdaq 100 ETF QQQQ illustrates these confirmation
signals and divergence signals:



High #1 to High #2
The Nasdaq 100 ETF QQQQ made higher highs, usually a bullish sign. However, the Chaikin
Oscillator failed to mirror the QQQQ's advance higher and ended up making a lower low. This
bearish divergence forewarned of the impending price reversal.
High #2 to High #3
The QQQQ's made a significantly lower high. The Chaikin Oscillator confirmed the QQQQ's
downtrend by making a lower high as well.
Low #1 to Low #2
The Nasdaq 100 made significant lower lows, yet the Chaikin Oscillator made higher lows. This
bullish divergence signaled that the previous downtrend may have ended.
The Chaikin Oscillator is a helpful volume based technical indicator that helps confirm the
current price action or foreshadow future price reversals. Other technical indicators similar
to the Chaikin Oscillator is the On Balance Volume indicator (see: On Balance Volume) and the
Money Flow Index (see: Money Flow Index).
Commodity Channel Index (CCI)
The Commodity Channel Index (CCI) is a very popular indicator that gives easy to use buy and
sell signals; the CCI also is used to identify overbought and oversold areas of price action.
The CCI is calculated so that roughly 75% of price movement should be between +100
(overbought) and -100 (oversold).
An example of how to use the CCI for buy and sell signals is given below in the chart of the E-
mini S&P 500 Futures contract:


Commodity Channel Index Buy Signal
1. Commodity Channel Index (CCI) is below oversold line (-100).
2. CCI then crosses above the oversold line.
Commodity Channel Index Sell Signal
1. Commodity Channel Index (CCI) is above overbought line (+100).
2. CCI then crosses below the overbought line.
The Commodity Channel Index (CCI) is an ever popular technical analysis tool signaling
overbought and oversold conditions that lead to easily interpreted buy and sell signals.
Commodity Select Index CSI
The Commodity Select Index CSI is used to select the best commodity to trade by weighing the
volatility and trending characteristics of each futures market. The higher the Commodity Select
Index, the best risk-reward setup.
The chart below of the 100 oz. Gold Futures contract illustrates the Commodity Select Index:

Four main inputs to the Commodity Select Index:
1. Directional Movement
2. Market Volatility
3. Margin Requirements for the futures contract
4. Commission Costs
The Commodity Select Index is usually calculated over 14-periods and includes the ADXR (see:
ADX) in its calculation. The Commodity Select Index is yet another technical indicator created
by Welles Wilder and chronicled in his classic and ever popular book, New Concepts in
Technical Trading Systems.
Detrended Price Oscillator
The Detrended Price Oscillator attempts to filter out trend in order to focus on the underlying
cycles of price movement. To accomplish this, the moving average (generally 14-period)
becomes a straight line and price variation above and below the moving average becomes the
Price Oscillator. The Detrended Price Oscillator technical indicator can show overbought or
oversold levels and can also create buy and sell signals.
The chart of the S&P 500 E-mini Futures contract visually depicts the Detrended Price
Oscillator:

Interpreting the Detrended Price Oscillator
When the Detrended Price Oscillator is above the zero line, it means that price is above its
moving average, a bullish sign. Similarly, when the Detrended Price Oscillator is below the zero
line, it means that price is below its moving average, a bearish sign. There are two interpretations
of buy and sell signals:
Buy Signal
1. When Detrended Price Oscillator crosses above zero line.
2. When Detrended Price Oscillator is in a confirmed oversold area, as referenced by prior lows of
the oscillator, and the Detrended Price Oscillator and price both break the downward resistance
trendline.
Sell Signal
1. When Detrended Price Oscillator crosses below zero line.
2. When Detrended Price Oscillator is in a confirmed overbought area, as referenced by prior highs
of the oscillator, and the Detrended Price Oscillator and price both break the upward supporting
trendline.
The Detrended Price Oscillator is an effective tool for uncovering hidden cycles of overbought
and oversold conditions. For more information on Moving Averages and Moving Average
crossover, see: Moving Averages.
Directional Movement Index (DMI)
Part of the ADX indicator, the Directional Movement Index (DMI) consists of two lines, the
DMI plus line (DMI+) and the DMI minus line (DMI-), which generate buy and sell signals.
The chart below of the E-mini Russell 2000 Future shows an example of the DMI:

DMI Bullish Crossover Buy Signal
When the DMI+ crosses above the DMI-.
DMI Bearish Crossover Sell Signal
When the DMI- crosses below the DMI+.
Note: The DMI crossovers can generate many false signals, other indicators should be used
for confirmation of the DMI crossovers.
The Average Directional Movement Index (ADX) is an important addition to the DMI+ and
DMI- indicators. In fact, the ADX is calculated using both DMI lines. Click ADX to go to the
ADX webpage (see: ADX).
Ease of Movement
The Ease of Movement indicator is used to show the amount of volume that is necessary to
move price. Buy and sell signals are also generated by this indicator.
1. High Ease of Movement reading signals that prices rose on low volume and that little
volume will be required to change the price of the stock or futures contract in the near
term.
2. Low Ease of Movement reading signals that prices fell on low volume and that little
volume will be required to change the price of the stock or futures contract in the near
term.
3. Ease of Movement reading around zero signifies that much volume is required to move
the price of the stock or futures contract in the near term.
The Ease of Movement calculated value is usually smoothed with a 14-period moving average.
The chart below of the E-mini Nasdaq 100 Futures contract shows an example of the Ease of
Movement technical indicator, with buy and sell signals labeled:

Ease of Movement Buy Signal
Buy when the Ease of Movement indicator crosses above the zero line.
Ease of Movement Sell Signal
Sell when the Ease of Movement indicator crosses below the zero line.
As with most indicators, it is advised that a stock or futures trader use other technical analysis
indicators to confirm buy or sell signals.
Elliott Wave
Elliott Wave theory states that prices move in waves. These waves occur in a repeating
pattern of a (1) move up, (2) then a partial retracement down, (3) another move up, (4) a
retracement, (5) then finally a last move up. Then, there is a (A) full retracement, followed by a
(B) partial retracement upward, then (C) a full move downward. This repeats on a macro and
micro time frame. A visual illustration of the basic pattern of the Elliott Wave is given below. A
real life example of Elliott Wave in action is given further down:


Elliott Wave is based on crowd psychology of booms and busts, rallies and retracements.
Traders often use fibonacci numbers (see: Fibonacci) to anticipate where a retracement is likely
to end and thus the place where they should place their trade. The chart below illustrates the
Elliott Wave pattern applied to crowd psychology (i.e. S&P 500) and Fibonacci Retracements:


Trading the Elliott Wave
In the example above of the S&P 500 ETF, if the Elliott Wave theorist recognizes that he/she just
completed a the leg from (2) to (3) and the market is beginning to retrace, the trader might put a
buy order at the 38% Fibonacci retracement. In the example above, that trade would have failed
and the trader would have been stopped out of their long position. The trader then might consider
putting an order in at the 50% retracement. In the example above, that would have been an
extremely profitable trade, making up for the previous loss and more.
Next, realizing that the latest trend was the (4) to (5) upmove, the Elliot Wave theorist would
next expect a downward move to (A). This retracement is larger than the previous (1) to (2)
retracement and (3) to (4) retracement. A reasonable guess as to where the retracement (5) to (A)
will end is the 0.618, the golden fibonacci ratio.
Selecting the 61% retracement would have proved profitable for a little while, assuming the
trader didn't have extremely tight stop losses in place, but the retracement turned out to be a head
fake. Subsequently, the next often used Fibonacci retracement is 100%. This trade would have
been very profitable, given the S&P 500 retraced almost perfectly at 100% of the move from (4)
to (5).
A likely profit target to exit at least part of the trade initiated at point (A) is the 38% Fibonacci
level. This also happened to be the turning point for the next leg down from (B) to (C).
Suggested further reading is Fibonacci tools (see: Fibonacci).
Moving Average Exponential Ribbon
The Moving Average Exponential Ribbon technical indicator is simply numerous exponential
moving averages of increasing time period plotted on the same graph.
The number of exponential moving averages (EMA) to plot varies immensely among users of
this indicator; also, some users plot the simple moving average instead of the EMA. Likewise,
the lengths of the moving averages varies wildly as well. One must factor the time horizon and
investing objectives when selecting the lengths for the moving averages.
In the chart below of the E-mini S&P 500 Futures contract, eight EMA's were selected, starting
with the 10-day EMA and ending with the 80-day EMA:


Moving Average Exponential Ribbon Buy Signal
The buy signal for the Exponential Moving Average Ribbons is exactly the same signal as any
other moving average crossover; however, the difference is that there are numerous crossovers.
Decisions must be made as to how many crossovers must occur before a buy signal is officially
triggered.
A close-up of the numerous buy signal crossovers is presented below:

Moving Average Exponential Ribbon Sell Signal
The sell signal for the Exponential Moving Average Ribbons occurs when the moving averages
begin to crossover; however, determining how many crossovers must occur before a sell signal is
officially triggered is up to the stock, futures, or currency pair trader.
Overall, strong buy or sell signals are generated from the Exponential Moving Average Ribbons
indicator when all of the moving averages have crossed over one another.
Fibonacci
Fibonacci
1. Fibonacci Basics & Fibonacci Retracements
2. Fibonacci Arcs
3. Fibonacci Fans
4. Fibonacci Time Extensions
Fibonacci tools utilize special ratios that naturally occur in nature to help predict points of
support or resistance. Fibonacci numbers are 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, etc. The
sequence occurs by adding the previous two numbers (i.e. 1+1=2, 2+3=5) The main ratio used is
.618, this is found by dividing one Fibonacci number into the next in sequence Fibonacci number
(55/89=0.618). The logic most often used by Fibonacci based traders is that since Fibonacci
numbers occur in nature and the stock, futures, and currency markets are creations of nature -
humans. Therefore, the Fibonacci sequence should apply to the financial markets.


Fibonacci Retracements
Arguably the most heavily used Fibonacci tool is the Fibonacci Retracement. To calculate the
Fibonacci Retracement levels, a significant low to a significant high should be found. From
there, prices should retrace the initial difference (low to high or high to low) by a ratio of the
Fibonacci sequence, generally the 23.6%, 38.2%, 50%, 61.8%, or the 76.4% retracement.
For the examples of this section, the S&P 500 Depository Receipts (SPY) will be used based on
the logic that the S&P 500 is a broad measure of human nature, thus the Fibonacci sequence
should apply very well. Nevertheless, the Fibonacci sequence is applied to individual stocks,
commodities, and forex currency pairs quite regularly. The chart above shows the 38.2%
retracement acting as support for prices.
Note that a trendline was drawn from a significant low (beginning of trend) to a significant high
(end of trend); the trading software calculated the retracement levels.
The chart below of the SPY's shows that Fibonacci Retracements can be used to retrace
downtrend moves as well:

Notice after the bottom in the S&P 500, that price rallied to the 23.6% retracement level and then
was promptly rejected downwards. After breaking resistance a few months later, the 23.6%
retracement became support (see: Support & Resistance). Price rallied up to the 50% retracement
level, where it ran up against resistance. Price continued to fluctuate between the 38.2%
retracement level (acting as support) and the 50% retracement level (acting as resistance).
There are many other Fibonacci tools available to stock, forex, or futures traders. Fibonacci Arcs
are discussed next.
Fibonacci Arcs
Fibonacci Arcs are percentage arcs based on the distance between major price highs and price
lows. Therefore, with a major high, major low distance of 100 units, the 31.8% Fibonacci Arc
would be a 31.8 unit semi-circle.
The chart below of the S&P 500 exchange traded fund (SPY) shows an example of a Fibonacci
Arc:


As is seen in the chart above, after the significant bear market, the rally was stopped by the 50%
arc; the 50% arc retracement acted as resistance (see: Support & Resistance). The S&P 500 then
used the 38.2% arc as support, bouncing between the 50% arc and the 38.2% arc for many
months.
After price broke through the resistance arc at 50%, price moved up to the next significant
Fibonacci ratio, 61.8%, where it found a new resistance level. The prior resistance level at 50%,
after being broken, became a new support level. The next Fibonacci arc was at 100%, where
price met resistance.
Yet another helpful Fibonacci tool is the Fibonacci Fan, discussed on the next page.
Fibonacci Fans
Fibonacci Fans use Fibonacci ratios based on time and price to construct support and
resistance trendlines; also, Fibonacci Fans are used to measure the speed of a trend's
movement, higher or lower.
If prices move below a Fibonacci Fan trendline, then price is usually expected to fall
further until the next Fibonacci Fan trendline level; therefore, Fibonacci Fan trendlines
are expected to serve as support for uptrending markets (see: Support & Resistance).
Likewise, in a downtrend, if price rises to a Fibonacci Fan trendline, then that trendline is
expected to act as resistance; if that price is pierced, then the next Fibonacci Fan trendline
higher is expected to act as resistance.
The chart below of the S&P 500 exchange traded fund (SPY) shows an uptrend that retraced to
the 38.2% Fibonacci Fan:


The Fibonacci ratio is also used to predict areas of time in which price should change course; Fibonacci
Time Extensions are discussed next.

Fibonacci Time Extensions
fibonacci Time Extensions are used to predict periods of price change (i.e. lows or highs). For
example, after a downtrend, a reversal would be expected at a significant Fibonacci Time
Extension line. Similarly, after an uptrend, a reversal warning could occur if a Fibonacci Time
Extension was soon approaching.
The Fibonacci Time Extension tool is created by locating a significant high (low) and finding a
significant retracement or extension low (high). The major Fibonacci ratios are then calculated
and plotted by charting software.
An example of a Fibonacci Time Extension is shown below in the chart below of the S&P 500
exchange-traded fund (SPY):


Fibonocci Tools are very popular, possibly the very reason that they appear to work. Whether or
not a trader believes Fibonacci ratios work beyond nature and into the financial markets, traders
should be aware of Fibonocci Retracements (most often used) and the other Fibonocci Tools.
Because there are many traders out there who do believe that the Fibonacci ratios apply to the
financial markets, that means there are real supply and demand forces working on the markets at
these important Fibonacci junctures. This is important because, after all, supply and demand is
theconcept that moves the markets.
Gann Fans
Gann Fans, created by W. D. Gann, are based on prices moving in predictable patterns. Gann's
theory is based on time/price movements with the 1 time unit by 1 price unit (i.e. 1 x 1) being the
main angle (45-degrees). However, there are other angles such as the 1 x 2, 2 x 1, 1 x 4, 4 x 1,
etc. Gann Fans are drawn from major price peaks and bottoms and are used to show trendlines
of support and resistance.
The following Gann Fan (1 x 8) is shown on the price chart of Corn futures:



The price of Corn futures was held up by a support line that rose at a rate of 8 price units by 1
time unit (1 x 8).
The chart of Wheat below shows both an upward Gann Fan and a downward Gann Fan, both the
1 x 8 angle:

In the chart of wheat futures above, wheat prices were held up by the 1 x 8 support line. When
wheat prices peaked and subsequently began to fall, wheat was held down by the 1 x 8 resistance
line.
Gann Fanns are an art and involve intense study by potential users. The fact that the creator W.
D. Gann wrote most of his studies on Gann Fans and angles in a cryptic language doesn't help
the potential student of Gann Fans either.

Herrick Payoff Index (HPI)
The Herrick Payoff Index (HPI) uses volume, open inerest, and price to signal bullish and
bearish divergences in the price of a future or options contract. The use of open interest in the
calculation of the HPI means the indicator can only be used with futures and options. The HPI
is based off of two premises regarding open interest:
1. Rising Open Interest: When prices rise and open interest rises, this is a bullish and
confirming sign of recent price rises. Likewise, when prices fall and open interest rises,
this is a bearish and confirming sign of recent falling prices.
2. Falling Open Interest: When prices rise and open interest falls, this is considered to be a
bearish sign and signal of impending reversal. Similarly, when prices fall and open
interest falls, this is considered to be a bullish sign and is a potential reversal signal.
The following chart of crude oil shows HPI divergence signals:



High #1 to High #2
Crude oil made higher highs, yet the Herrick Payoff Index (HPI) made a lower low, which is a
bearish divergence. The logic behind the HPI indicator is that there was much trader excitement
in crude oil at High #1, characterized by increasing volume and open interest. Even though crude
oil prices made a higher high at High #2, volume and open interest changes did not match those
price increases on the second high.
The HPI indicator then retreated below the zero line, the bearish price action in crude oil was
confirmed. Traders should look for shortsell opportunities.
The HPI indicator then bottomed out and reversed course, soon advancing above the zero line.
The zero line crossover confirmed the bullish price action. Traders would be advised to look for
buying opportunities.
High #3 to High #4
In yet another bearish divergence, crude oil prices made new highs, yet the HPI indicator failed
to confirm the price action, making a lower high. This divergence is warning of a potential price
reversal.
The Herrick Payoff Index is an excellent technical analysis tool using volume and open interest
to confirm price movement and warn of potential reversals.
Keltner Channel
Keltner Channel
1. Keltner Channel Defined
2. Keltner Channel Overbought & Oversold
The Keltner Channel is a moving average band indicator whose upper and lower bands adapt to
changes in volatility by using the average true range. The Keltner Channel is used to signal price
breakouts, show trend, and give overbought and oversold readings.
There are many variations to calculating the Keltner Channel, but generally speaking a moving
average (10 or 20-period) of the typical price [(High + Low + Close)/3] is used to construct the
midline. Then the average true range is calculated over a time period (same as midline, 10 or 20-
period) and multiplied by a multiple (usually 1.5); the calculated number is then added to the
midline to form the upper Keltner Channel and subtracted from the midline to form the lower
Keltner Channel.
A chart of gold futures illustrates a Keltner Channel with a 20-day moving average and an
average true range multiplier of 1.5:


There are numerous, sometimes contradictory, ways to interpret the Keltner Channel. The first
method is price breakouts outside of the Keltner Channel.
Keltner Channel Buy Signal
When price closes above the upper band, buy.
Keltner Channel Sell Signal
When price closes below the lower band, sell.
Keltner Channels are sometimes interpreted the opposite way. Keltner Channel overbought and
oversold readings is next.
Linear Regression
Linear Regression
1. Linear Regression Channel
2. Linear Regression Line
3. Linear Regression Curve
This page is about the Linear Regression Channel. If you are interested in the Linear Regression
Curve or Linear Regression Line please select the links below:
Linear Regression Channel
Similar to the 200-day Moving Average, large institutions often look at long term Linear
Regression Channels. A Linear Regression Channel consists of three parts:
1. Linear Regression Line: A line that best fits all the data points of interest. For more
information, see: Linear Regression Line.
2. Upper Channel Line: A line that runs parallel to the Linear Regression Line and is
usually one to two standard deviations above the Linear Regression Line.
3. Lower Channel Line: This line runs parallel to the Linear Regression Line and is usually
one to two standard deviations below the Linear Regression Line.
The multi-year chart of the S&P 500 exchange traded fund (SPY) shows prices in a steady
uptrend and maintaining in a tight one standard deviation Linear Regression Channel:


The upper and lower channel lines contain between themselves either 68% of all prices (if 1
standard deviation is used) or 95% of all prices (if 2 standard deviations are used). When prices
break outside of the channels, either:
1. Buy or sell opportunities are present.
2. Or the prior trend could be ending.
Linear Regression Channel Buy Signal
When price falls below the lower channel line, a buy signal is usually triggered.
Linear Regression Channel Sell Signal
An opportunity for selling occurs when prices break above the upper channel line.
Other confirmation signs like prices closing back inside the linear regression channel could be
used to initiate buy or sell orders. Also, other technical indicators should be used to confirm.
Trend Reversals
When price closes outside of the Linear Regression Channel for long periods of time, this is
often interpreted as an early signal that the past price trend may be breaking and a significant
reversal might be near.
Linear Regression Channels are quite useful technical analysis charting tools. In addition to
identifying trends and trend direction, the use of standard deviation gives traders ideas as to
when prices are becoming overbought or oversold relative to the long term trend.
Linear Regression Line
A Linear Regression Line is a straight line that best fits the prices between a starting price point
and an ending price point. A "best fit" means that a line is constructed where there is the least
amount of space between the price points and the actual Linear Regression Line.
The Linear Regression Line is mainly used to determine trend direction. A chart of AT&T (T)
stock is given below:


Traders usually view the Linear Regression Line as the fair value price for the future, stock, or
forex currency pair. When prices deviate above or below, traders expect prices to go back
towards the Linear Regression Line.
As a consequence, when prices are below the Linear Regression Line, this could be viewed as a
good time to buy, and when prices are above the Linear Regression Line, a trader might sell. Of
course other technical indicators would be used to confirm these inexact buy and sell signals.
A useful technical analysis charting indicator that uses a Linear Regression Line is the Linear
Regression Channel (see: Linear Regression Channel), which gives more objective buy and sell
signals based on price volatility.
Linear Regression Curve
The Linear Regression Curve plots a line that best fits the prices specified over a user-defined
time period. Think of the Linear Regression Curve as numerous lines, but both extreme ends of
the lines are hidden, while the center portion is shown and is connected to other center portions
of lines. The Linear Regression Curve is used mainly to identify trend direction and is sometimes
used to generate buy and sell signals.
The chart of the S&P 500 E-mini Futures contract shows a 9-day Linear Regression Curve:

Many traders view the Linear Regression curve as the fair value for the stock, future, or forex
currency pair, and any deviations from the curve as buy and sell opportunities.
Generally, when price deviates a certain percentage or number of points below the Linear
Regression Curve, then a trader buys, thinking that price will revert back to fair value, which is
thought to be the Linear Regression Curve.
In a similar manner, when price moves above the Linear Regression Curve by a trader specified
percentage or point value, then the trader will sell, believing that price will return back to the
Linear Regression Curve.
Other variations of these buy and sell signals could be employed. Since the Linear Regression
Curve is great at identifying trend direction, if price is trending higher, a trader could only take
buy signals when price deviated below the curve. Likewise, during a downtrend, a trader might
only take sell signals, not wanting to fight the prevailing trend downward.
Arguably the most popular usage of the Linear Regression concept is the Linear Regression
Channel, often used by large institutions. (see: Linear Regression Channel).
MACD
MACD
1. MACD Defined
2. Moving Average Crossovers
3. MACD Histograms
4. MACD Divergences
The MACD indicator is one of the most popular technical analysis tools. There are three main
components of the MACD shown in the picture below:
1. MACD: The 12-period exponential moving average (EMA) minus the 26-period EMA.
2. MACD Signal Line: A 9-period EMA of the MACD.
3. MACD Histogram: The MACD minus the MACD Signal Line.

The MACD indicator is an effective and versatile tool. There are three main ways to interpret the MACD
technical analysis indicator, discussed on the following three pages:
MACD Moving Average Crossovers
The primary method of interpreting the MACD is with moving average crossovers. When the
shorter-term 12-period exponential moving average (EMA) crosses over the longer-term 26-
period EMA a buy signal is generated; this is seen on the Nasdaq 100 exchange traded fund
(QQQQ) chart below with the two purple lines.

Remember that the MACD line (the blue line) is created from the 12-period and 26-period EMA.
Consequently:
1. When the shorter-term 12-period EMA crosses above the longer-term 26-period EMA, the
MACD line crosses above the Zero line.
2. When the 12-period EMA crosses below the 26-period EMA, the MACD line crosses below the
Zero line.
Moving Average Crossover Buy Signal
A buy signal is generated when the MACD (blue line) crosses above the zero line.
Moving Average Crossover Sell Signal
When the MACD crosses below the zero line, then a sell signal is generated.
The prior buy and sell signals get a person into a trade later in the move of a stock or future. A
more common buy and sell signal is shown in the graph below of the Nasdaq 100 exchange
traded fund QQQQ:

Most Common MACD Buy and Sell Signals
MACD Buy Signal
A buy signal is generated when the MACD (blue line) crosses above the MACD Signal Line (red
line).
MACD Sell Signal
Similarly, when the MACD crosses below the MACD Signal Line a sell signal is generated.
The MACD moving average crossover is one of many ways to interpret the MACD technical
indicator. Using the MACD histogram and MACD divergence warnings are two other important
methods of using the MACD.
MACD Histogram
The MACD Histogram is simply the difference between the MACD line (blue line) and the
MACD signal line (red line). The MACD histogram is illustrated in the chart below of the
Nasdaq 100 QQQQ's:

Two important terms are derived from the MACD histogram and are illustrated above in the
chart of the QQQQ's:
Convergence: The MACD histogram is shrinking in height. This occurs because there is a change
in direction or a slowdown in the stock, future, bond, or currency trend. When that occurs, the
MACD line is getting closer to the MACD signal line.
Divergence: The MACD histogram is increasing in height (either in the positive or negative
direction). This occurs because the MACD is accelerating faster in the direction of the prevailing
market trend.
When a stock, future, or currency pair is moving strongly in a direction, the MACD histogram
will increase in height. When the MACD histogram does not increase in height or begins to
shrink, the market is slowing down and is a warning of a possible reversal. The graph below of
the E-mini Nasdaq 100 Index Future shows this phenomenon:

The letter "T" represents when the top or peak of the MACD histogram occurs. In contrast, the
letter "B" shows when the bottom of the MACD histogram occurs. Notice how closely the tops
and bottoms of the MACD histogram are to the tops of the Nasdaq 100 e-mini future.
MACD Histogram Buy Signal
When the MACD histogram is below the zero line and begins to converge towards the zero line.
MACD Histogram Sell Signal
When the MACD histogram is above the zero line and begins to converge towards the zero line.
Note: In the example above, three consecutive days of shrinking MACD histogram from top or
bottom served as the buy or sell signals shown with arrows. This is an agressive example. One
could wait until the MACD histogram went to zero, but that would be the same signal as the
MACD moving average crossover.
The MACD is not only good for buy and sell signals, the MACD can be used for warnings of
potential change in the direction of stocks, futures, and currency pairs.


MACD Divergences
Bearish divergence occurs when a technical analysis indicator is suggesting that a price should
be going down but the price of the stock, future, or currency pair is continuing to maintain its
current uptrend.
Bullish divergence occurs when the indicator is indicating that price should be bottoming and
heading higher, yet the actual price action is continuing downward.
These valuable divergences can signal to get out of a long or short position before profits erode.
The following chart of the E-mini S&P 500 Index Future shows some of these divergences:


High #1 to High #2
Looking at the E-mini S&P 500 future, from High #1 to High #2, the futures contract made
higher highs, which is usually viewed as bullish. However, the MACD moving average failed to
make a new high. This bearish divergence was an early warning sign of things to come with the
E-mini S&P 500 futures contract.
Low #1 to Low#2
In yet another bearish sign for the E-mini S&P 500 futures contract, the future made higher lows
from Low #1 to Low #2, which again is usually considered positive. Nevertheless, the MACD
technical indicator made a clear lower low from Low #1 to Low #2. This bearish divergence
warned of the impending downturn of the S&P 500 future and the market as a whole.
Low #2 to Low #3
In addition to bearish and bullish divergences, the MACD can confirm price movement as well.
The E-mini S&P 500 futures contract made a substantial lower low which was confirmed by the
MACD when it made a lower low as well.
As seen throughout the MACD sections, the MACD is a versatile tool giving clear buy and sell
signals and giving warnings of impending price changes.
Mass Index
The Mass Index is used to warn of a future price reversal. The theory behind the Mass Index is
that reversals occur when the price range [high - low] increases (i.e. more volatility).
The chart below of the E-mini S&P 500 future shows the Mass Index warning of an impending
price reversal:



The components for a Mass Index reversal of trend, "Reversal Bulge" as the creator of the Mass
Index, Donald Dorsey refers to it, are listed below:
1. Mass Index rises above the trigger line (set at 26.5) and the setup line (set at 27).
2. Mass Index then falls below the setup line. When the Mass Index falls below the trigger
line, then a reversal of the prior trend is expected.
The Mass Index is a useful technical tool that traders can use to time entry into bottoming
markets.
McClellan Oscillator
The McClellan Oscillator uses advancing issues and declining issues on the New York Stock
Exchange (NYSE) to gauge market breadth. The components are:
1. Advancing Issues - Declining Issues
2. Calculate both the 19 & 39-day exponential moving average (EMA) of [Advancing Issues -
Declining Issues]
3. Plot the result of the 19-day EMA minus the 39-day EMA
The McClellan Oscillator is shown next on the chart of the Nasdaq 100 QQQQ's:



Just like the MACD, when the short-term moving average crosses above the longer term moving
average, the plotted line crosses the zero line. Therefore, when the McClellan Oscillator crosses
above zero, the trend of the advance-decline issues is positive = bullish sign. In contrast, when
the McClellan Oscillator crosses below zero, the trend of the advance-decline issues is negative
= bearish sign.
Generally, above +70 is considered an overbought condition and below -70 is an oversold
condition.
McClellan Oversold Buy Signal
When the McClellan Oscillator crosses above the -70 oversold line.
McClellan Overbought Sell Signal
When the McClellan Oscillator crosses below the +70 overbought line.
The McClellan Oscillator takes market breadth data and creates an easy to use technical indicator
that generates clear buy and sell signals.

Momentum
Momentum
1. Momentum Defined
2. Momentum Divergences
The Momentum indicator compares where the current price is in relation to where the price was
in the past. How far in the past the comparison is made is up to the technical analysis trader. The
calculation of Momentum is quite simple (n is the number of periods the technical trader selects):
The current price minus the price n-periods ago
Hence, if the current price is higher than the price in the past, then the Momentum indicator is
positive. In contrast, when the current price is lower than the price in the past, then the
Momentum indicator is negative.
An example of the Momentum indicator is shown below in the chart of the E-mini Nasdaq 100
Future:



Potential buy or shortsell entries are shown above in the chart.
Momentum Buy Signal
When the Momentum indicator crosses above the zero line. The crossing of the zero line
implies that the price of the stock, future, or currency pair is reversing course, either by having
bottomed out or by breaking out above recent highs, a bullish signal.
Momentum Sell Signal
Momentum indicator crosses below the zero line. A cross of the zero line can generally mean
two things: the future, currency pair, or stock's price has topped out and is reversing or that the
price has broken below recent lows, either way, a bearish signal.
Momentum Exit Signals
Generally speaking the buy and sell signals discussed above are poor exits, either selling out of a
long position or buying to cover a short position. By the time the Momentum indicator returns
back to the zero line, most or all of the profits have probably eroded, or even worse the trader has
let a winning position turn into a losing position.
When the Momentum is reversing course and is heading back towards the zero line, that means
profits have been eroded. How much of a retracement back towards the zero line before an exit is
triggered is up to the trader. Another alternative is to draw a trendline; when the trendline is
broken, that could be the exit signal. Like most technical analysis indicators, interpreting them is
part science, part art form.
Buy and sell signals are not the only use of the Momentum indicator. The next page discusses
using Momentum to detect divergences, an important trading concept.
Momentum Divergences
Identifying divergences between price and technical indicators is important aspect of technical
analysis trading. Bullish divergences can signal a trader to exit their short position; similarly,
bearish divergences warn that prices could correct and it is advisable to exit any longs.
In the chart below of the S&P 500 exchange traded fund (SPY), Momentum divergences can be
seen:

The first bearish divergence occured when price formed a double top formation. The Momentum
indicator confirmed when price of the S&P 500 ETF failed to make a higher high.
The next divergence was a bullish divergence, where price made lower lows, yet the momentum
indicator made higher lows. This signaled that the recent downtrend was losing steam and that a
bottom could be forming.
The last divergence occured because the S&P 500 ETF was increasing, but at a decreasing rate.
The momentum indicator shows this perfectly, by making lower highs over the course of about
15 stock trading days.
Just because a stock trader or futures trader sees a divergence doesn't mean that they should
reverse their stock or futures trade. Divergences warn of potential reversals. A more concrete
signal, like a trendline break would have been a great signal in the last example. Nevertheless,
the Momentum indicator offered the stock trader plenty of time to reduce the size of their long
stock position.
The Momentum indicator is a simple yet effective technical analysis tool, offering suggestions as
to when to buy and sell and warning of potential price reversals. A similar, and arguably superior
tool for measuring momentum is the Rate of Change indicator (see: Rate of Change).

Money Flow Index
Money Flow Index
1. Money Flow Index
2. Money Flow Index Divergences
The Money Flow Index (MFI) uses price and volume and the concept of accumulation
distribution to create an overbought and oversold indicator that is helpful in confirming trends
in prices and warning of potential reversals in prices. The inputs to the Money Flow indicator are
given below:
1. Typical Price: (High + Low + Close) / 3
2. Money Flow: Typical Price x Volume
3. Positive Money Flow: The Money Flow on days where the Typical Price is greater than the
previous day's Typical Price.
4. Negative Money Flow: The Money Flow on days where the Typical Price is less than the
previous day's Typical Price.
5. Money Ratio: Positive Money Flow / Negative Money Flow
6. Money Flow Index: 100 - [100 / (1 + Money Ratio)]
The chart below of Google (GOOG) stock shows the Money Flow Index in action:

nterpreting the Money Flow Index
Below 20 is considered oversold; look for buying opportunities.
Above 80 is in overbought territory; look for sell signals.
In the chart above of GOOG, the downtrend in price was confirmed by the downtrend in the
Money Flow Index. Once the MFI entered the oversold area, traders would be advised to begin
to reduce their short sell positions and buy to cover.
Later, the price of Google increased, and the MFI indicator confirmed that increase. This is a
signal that the trend in Google still has buying pressure and that the stock trader should continue
holding their long position in the stock.
In additon to being an excellent confirmation tool, the Money Flow Index can warn of potential
price reversals. Money Flow Index divergences is next.
Money Flow Index Divergences
Money Flow Index
1. Money Flow Index
2. Money Flow Index Divergences
Since the Money Flow Index uses volume in its calculation, this indicator can prove effective as
a divergence indicator. The theory is as follows:
If price is rising, and the volume on up days is greater than the volume on down days, then this
is confirming of the price rise.
Likewise, if price is falling and the volume on down days is greater than the volume on up days,
then the recent downward trend in stock prices is confirmed.
In contrast, if prices rise, yet the volume on the up days is less than the volume transacted on
down days, then money is secretly pouring out of the stock; this is a bearish divergence.
And similarly, when prices fall, but the volume on the down days is less than the volume on up
days, then money is flowing back into the stock, a bullish divergence.
The chart below of Microsoft (MSFT) shows the effectiveness of the Money Flow Index in
detecting bullish and bearish divergences:

In the chart above, beginning on the left, Microsoft's stock price is in a downtrend; however, the
Money Flow Index is not going downwards, in fact, it is sloping upwards. This is a good
illustration of a bullish divergence.
On the second half of the chart, Microsoft is making new highs, yet the Money Flow Index is
making lower highs, a bearish divergence. Stock traders of MSFT would be advised to scale out
of their position because money is flowing out of Microsoft stock.
Later, the price of Google increased, and the MFI indicator confirmed that increase. This is a
signal that the trend in Google still has buying pressure and that the stock trader should continue
holding their long position in the stock.
The Money Flow Index is a valuable technical analysis tool due to its ability to incorporate both
price and volume into its calculations. The Money Flow Index is very effective in confirming
price action and warning of future price reversals.
Other technical analyis tools similar to the Money Flow Index, is the On Balance Volume
indicator (see: On Balance Volume) and the Chaikin Oscillator (see: Chaikin Oscillator).

Moving Average Envelopes
Moving Average Envelopes consist of a moving average plus and minus a certain user defined
percentage deviation. Moving Average Envelopes serve as an indicator of overbought or
oversold conditions, visual representations of price trend, and an indicator of price breakouts.
The inputs of the Moving Average Envelopes indicator is shared below:
1. Moving Average: A simple moving average of both the highs and the lows. (generally
20-period, but varies among technical analysts; also, a person could use only the close
when calculating the moving average, rather than two)
2. Upper Band: The moving average of the highs plus a user defined percentage increase
(usually between 1 & 10%).
3. Lower Band: The moving average of the lows minus a user defined percentage (again,
usually between 1 & 10%).
A chart of the Nasdaq 100 ETF (QQQQ) shows a 20-day moving average with both a 1% and
2% percentage bands:



Interpreting the Moving Average Envelopes
In the chart above of the QQQQ's, the price is not trending. During non-trending phases of
markets, Moving Average Envelopes make great overbought and oversold indicators.
Buy when the stock price penetrates the lower envelope and closes back inside the envelope.
Sell when the stock price penetrates the upper envelope and then closes back down inside the
envelope.
Price Breakout Indicator
When stock prices are done resting and consolidating, they breakout, in one direction or the
other.
When prices break above the upper envelope, then buy.
When prices break below the lower envelope, then sell.
An illustration of an upward price breakout is shown above on the chart of the QQQQ's. On the
right side, the QQQQ's gapped up above the 2% price band.
Price Trend Indicator
A new trend in price is usually indicated by a price breakout as outlined above with a continued
price close above the upper band, for an upward price trend. A continued price close below the
lower band would indicate a new downward price trend.
In the chart of the QQQQ's, after the price breakeout, the closing price continued to close above
the upper band; this is a good example of how a price trend begins. Soon after, the price will fall
back into the Moving Average Envelopes, but the Moving Average Envelopes will be heading in
a positive direction - easily identifying the trend as up.
Moving Average Envelopes is a helpful technical analysis tool for identifying trends and trend
breakouts and identifying overbought and oversold conditions. Other similar indicators such as
Bollinger Bands (see: Bollinger Bands) and Keltner Channels (see: Keltner Channels) that adjust
to volatility should be investigated as well.

On Balance Volume (OBV)
On Balance Volume (OBV) combines price and volume to determine whether price
movements are strong or are weak and lacking conviction. On Balance Volume is a simple
calculation, which is given below:
1. On an up day, the volume is added to the previous day's OBV
2. On a down day, the volume is subtracted from the previous day's OBV.
Volume is usually interpreted as follows:
Increasing or decreasing price accompanied by increasing volume, confirms the price
trend.
Increasing or decreasing price accompanied by decreasing volume, indicates that the
price movement is weak and lacking conviction.
The On Balance Volume indicator is used mainly to confirm price trends or warn of potential
price reversals because of divergences between the price and the OBV indicator. An example of
an On Balance Volume divergence is given below on the price chart of Merck (MRK) stock:


High #1 to High #2
Merck stock made higher highs, but the On Balance Volume indicator made lower lows. This
bearish divergence warned that price could potentially fall.
Since the On Balance Volume indicator adds volume when price closes higher than the previous
day's close, the OBV indicator could be interpreted as meaning that less volume flowed into
High #2 than flowed into making High #1. Less interest by buyers at High #2 signaled that the
price move higher was unlikely to continue.
High #2 to High #3
Again, the price of Merck stock increased, yet the OBV indicator warned that more volume was
occuring on down days than up days. This bearish divergence warned stock traders that the
recent price increases were lacking strong commitment by buyers.
Low #1 to Low #2
The stock price made higher highs, generally considered a bullish signal; however, the On
Balance Volume technical analysis indicator made lower lows. Volume on down days was on
average larger than volume on up days.
On Balance Volume is a valuable technical analysis tool that combines both price and volume to
confirm price action or warn of potential weakness or lack of conviction by buyers and sellers.
An arguably better measure than the OBV that combines volume and price movement is the
Chaikin Oscillator (see: Chaikin Oscillator). Also, the Money Flow Index (see: Money Flow
Index) uses price and volume in a more precise and realistic manner.

Open Interest
Open Interest
1. Open Interest Basics
2. Interpreting Open Interest
Open Interest (OI) is the number of contracts outstanding in the marketplace. Open Interest only
applies to futures and option contracts. Changes in open interest either confirms price action
or acts as a warning of a potentially weakening trend.
A hypothetical situation is given next to help grasp the concept of Open Interest:
A new futures contract expiration month is opened for trading. Currently, no one has bought or
sold a futures contract.
A trader (Trader #1) buys a futures contract, but in order for this to happen, someone has to sell
that trader the future. Therefore, for every buyer there is an equal and opposite seller (Trader
#2). When this transaction occurs, the open interest is increased from zero to one. There is now
one contract outstanding in the marketplace.
Trader #3 decides to sell a future and subsequently another trader (Trader #4) has to buy that
futures contract; therefore, open interest is now at two.
Trader #1 goes to the marketplace and sells his/her futures contract. Trader #3 decides to buy
back his/her short future. After the transaction takes place, Trader #1 no longer owns a futures
contract. Similarly, Trader #3 no longer owns a futures contract. Effectively, the marketplace has
one less futures contract outstanding. The open interest went down to one.

Generally open interest increases over the life of the futures contract (note: futures contracts
expire, same with options). When futures contract months or quarters transition from one month
or quarter to the next month or quarter, the future closest to expiration (called the "front month")
decreases in open interest and the next futures contract (called the "back month") increases. This
is shown with the chart of the E-mini S&P 500 Futures contract above.
The chart above of the E-mini S&P 500 Futures contract shows both the March S&P 500 future
and the June S&P 500 future as the futures near March expiration. Note how the March and June
futures contract open interest rises steadily over time; this is normal over the life of a futures
contract.
Also note the dramatic decrease in the open interest of the March S&P future as the contract is
nearing expiration. In contrast, note the dramatic increase of the June S&P futures contract as
futures traders "roll over" their futures positions to the next futures expiration contract (June).
Learning about Open Interest is important, but using it to help futures or options trading is better.
Interpreting Open Interest is up next.
Generally open interest increases over the life of the futures contract (note: futures contracts
expire, same with options). When futures contract months or quarters transition from one month
or quarter to the next month or quarter, the future closest to expiration (called the "front month")
decreases in open interest and the next futures contract (called the "back month") increases. This
is shown with the chart of the E-mini S&P 500 Futures contract above.
The chart above of the E-mini S&P 500 Futures contract shows both the March S&P 500 future
and the June S&P 500 future as the futures near March expiration. Note how the March and June
futures contract open interest rises steadily over time; this is normal over the life of a futures
contract.
Also note the dramatic decrease in the open interest of the March S&P future as the contract is
nearing expiration. In contrast, note the dramatic increase of the June S&P futures contract as
futures traders "roll over" their futures positions to the next futures expiration contract (June).
Learning about Open Interest is important, but using it to help futures or options trading is better.
Interpreting Open Interest is up next.
nterpreting Open Interest
Open Interest
1. Open Interest Basics
2. Interpreting Open Interest
Open Interest is a helpful tool in analyzing the strength of a price move. There are four main
interpretations of Open Interest:
If price increases and Open Interest increases, then their is strength behind the price move
higher.
If price decreases and Open Interest increases, then their is strength behind the price move
lower.
If price increases and Open Interest decreases, then their is weakness behind the price move
higher.
If price decreases and Open Interest decreases, then their is weakness behind the price move
lower.
The chart below of the Dow Jones Industrial Average mini-Dow futures contract illustrates two
examples of price increases with corresponding increases in open interest:

In the chart above of the mini-Dow future, there is a strong increase in price with an equally
bullish strong increase in open interest.
Notice that after the first sharp run up, open interest decreased during the price retracement.
There was not much strength behind the price decrease.
The second strong bullish green candle occured with a sharp increase in open interest, a strong
bullish signal that price increases will probably occur in the future.
Analyzing Open Interest is a helpful tool in an options or futures trader's toolbox for determining
the strengths and weaknesses of price trends.
Parabolic SAR
Parabolic SAR
1. Parabolic SAR
2. Parabolic SAR Stop Loss Placement
The Parabolic Stop and Reverse (SAR) indicator combines price and time components to
generate buy and sell signals. The Parabolic SAR is also effective as a tool to determine
where to place stop loss orders.
The chart below of the 100 ounce Gold futures contract is a good illustration showing buy and
sell signals generated by the Parabolic Stop and Reverse (SAR) technical indicator:


Parabolic SAR Buy Signal
Buy when the price closes above the upper Parabolic SAR. When the Parabolic SAR changes
from being above price to below price, then the stock, futures, or currency trader should "stop"
and buy to cover their existing shortsell and "reverse" direction and buy to go long.
Parabolic SAR Sell Signal
A sell signal is generated whent the price closes below the lower Parabolic SAR. At the time that
the Parabolic SAR changes from being below price to being above price, the trader should "stop"
and sell to exit their existing long trade and "reverse" direction and sell to go short.
One of the best uses of the Parabolic SAR is in determing where to place stop loss orders. How
to place stop losses using the Parabolic SAR is discussed on the next page.
Parabolic SAR Stop Loss Placement
An effective use of the Parabolic SAR is determining where to place stop loss orders to protect
profits or minimize losses. The chart below of Gold illustrates stop loss placement using the
Parabolic SAR indicator:

The Parabolic SAR is an effective stop loss placement tool for two reasons:
1. It acts as a trailing stop. Rather than putting in one stop loss below where a trader
entered a long position or above where the trader entered a short position, using the
Parabolic SAR as a trader's guide, the stop loss is gradually raised for a long position and
lowered in a short position, effectively locking in any profits.
2. It acts as a time stop. Time stops are used by traders because they enter in buy or sell
orders expecting a certain move to occur. If the expected move never occurs and the
reason the trader initiated the trade is no longer relavent, then the trader should exit their
trade. Similarly, the Parabolic SAR incorporates time into its calculation making sure a
stock, future, or currency trade is working for the trader, if the trade is not moving in the
desired direction, the Parabolic SAR will signal an exit.
In yet another effective technical indicator created by Welles Wilder and chronicled in his classic
New Concepts in Technical Trading Systems, the Parabolic SAR gives easy to interpret buy and
sell signals as well as creates an easy to follow methodology for entering stop loss orders.

Pivot Points
Pivot Points
1. Pivot Points, Support, & Resistance
2. Pivot Point Trade Examples
Pivot Points are used to project potential support and resistance levels. The main time periods
used are daily, weekly, and monthly pivots. The formula for the daily pivot point, support, and
resistance is shown below:
Pivot Point = [Yesterday's High + Yesterday's Low + Yesterday's Close] / 3
A 15-minute chart of the mini-Dow futures contract and the corresponding floor trader pivots are
shown below:


Support Levels
S1 = [Pivot Point * 2] - Yesterday's High
S2 = Pivot Point - Yesterday's High + Yesterday's Low
S3 = S2 - Yesterday's High + Yesterday's Low
Resistance Levels
R1 = [Pivot Point * 2] - Yesterday's Low
R2 = Pivot Point + Yesterday's High - Yesterday's Low
R3 = R2 + Yesterday's High - Yesterday's Low
To calculate weekly or monthly numbers, simply replace "yesterday's" with "last week's" or "last
month's" high or low.
Pivot Point Example
In the chart above, and going from left to right, Resistance Level 1 (R1) held and the Dow Jones
Industrial Average mini-Dow futures contract reversed course and headed downward.
After that, the next potential support was at the Pivot Point. However, the mini-Dow broke
through the Pivot Point. Notice that when the mini-Dow attempted to reverse course, it was
rejected by the Pivot Point now acting as resistance. An important technical analysis concept is
that when resistance is penetrated the prior resistance then becomes support. Similarly, when
support is penetrated the prior support then becomes resistance (see: Support & Resistance).
From there, the next support was Support Level 1 (S1). S1 held strong and the mini-Dow
reversed direction yet again.
The next resistance line was at the Pivot Point, which failed.
The trading day ended by the mini-Dow testing the Pivot Point, now acting as support, which
subsequently held. From there, the index rallied on into the close.
More ways to use Pivot Points is discussed on the next page.
Pivot Point Trade Examples
Pivot Points
In addition to giving buy and sell signals, pivot points give traders a good time to get out of their
trade. To illustrate, during a rally some traders will set their sell orders right below the next
resistance line. Thus, pivot point resistance and support lines can generate ready made profit
targets.
A 5-minute chart of the Nasdaq 100 ETF (QQQQ) is shown next:









In the 5-minute chart of the Nasdaq 100 ETF above, the QQQQ's opened the day downward, but
held steady at Support 2 (S2).
From there, the Nasdaq 100 ETF rallied past S1 and the Pivot Point. Eventually, the QQQQ's
found resistance at Resistance 1 (R1).
Next, the Pivot Point offered support initially, but then the QQQQ's meandered slightly above
and below the pivot point, until finally, the QQQQ's accelerated past R1 and then past R2.
The rally continued until one candlestick reached R3, where the bulls were promptly rejected.

Point & Figure Charting
Point & Figure Charting reduces the importance of time on a chart and instead focuses on
price movements. Point & Figure charts are made up of X's and O's, X's being new highs and
O's being new lows. There are two inputs to a Point & Figure chart:
1. Box Size: The size of movement required to add an "X" or an "O". For example, a stock at a price
of $20 may have a box size of $1. This means that an increase from $20.01 to a high of $21.34
means another "X" is added. If the high price only increased to $20.99, then another "X" is not
added because the stock didn't close another box size ($1) more.
2. Reversal Amount: The size of reversal before another column is added to a Point & Figure chart.
To illustrate, if the reversal amount is $3, then the $20 stock would have to fall down to $17
before a new column (in this example of O's) would be started.
One of the main uses for Point & Figure charts, and the one emphasized in this section, is that
Point & Figure charts make it easier for traders to see classic chart patterns. In the chart below of
the E-mini S&P 500 Future, the Point & Figure chart emphasized support and resistance lines as
well as areas of price breakouts:


The e-mini chart above illustrates the two bottoms of the double bottom pattern, as well as the
confirmation line that is pierced, resulting in a buying opportunity.
Point & Figure is a very unique way to plot market action. The strongsuit of Point & Figure
charting is that it eliminates the element of time and focuses on what is truly important - price.

Price Channels
Price Channels is a helpful technical analysis indicator to determine buy and sell signals based
on price breakouts.
Upper Price Channel: The highest high over a user-defined time period.
Lower Price Channel: The lowest low over a user-defined time period.
The user-defined time period is generally 20 periods. To further illustrate how a price channel is
created a chart of the Nasdaq 100 ETF (QQQQ) is shown below:



Price Channel Buy Signal
Buy when price closes above upper bands. This is like buying a breakout above resistance, the
resistance just happens to be whatever the highest high was of the past 20 trading days.
Price Channel Sell Signal
Sell when price closes below lower bands. This would be like selling a breakout below support,
but the support in this case is whatever the lowest low was of the previous 20 trading days.
Price Channels offer an easy to follow method of buying and selling stocks, futures, or currency
pairs.
Price Oscillator
Price Oscillator
1. Price Oscillator Defined
2. Price Oscillator as an Overbought & Oversold Indicator
The Price Oscillator uses two moving averages, one shorter-period and one longer-period, and
then calculates the difference between the two moving averages. The Price Oscillator technical
indicator can be used to determine overbought and oversold conditions as well as to confirm
bullish or bearish price moves.
The moving averages lengths are defined by the user. In the chart below of the E-mini Russel
2000 futures contract, the 9-day and 18-day moving averages are used:


When the 9-day moving average crossed over the 18-day moving average, the Price Oscillator
crossed over the zero line. When a short-term moving average crosses over a long-term moving
average, a bullish crossover occurs. Usually bullish crossovers are considered to be a good time
to buy.
Likewise, when the 9-day moving average crossed below the 18-day moving average, the Price
Oscillator crossed below the zero line. When a short-term moving average crosses below a long-
term moving average, a bearish crossover occurs. Usually bearish crossovers are considered to
be a good time to sell.
The Price Oscillator makes it easy to see moving average crossovers. The Price Oscillator is also
a means to detect overbought and oversold conditions; this is discussed on the next page.
Price Oscillator Overbought & Oversold
The Price Oscillator can be used to detect when a trend is slowing down and potentially could
reverse. This occurs when the Price Oscillator moves back towards the zero line. In contrast,
when the Price Oscillator is moving away from the zero line, the price trend is accelerating.
Moreover, the Price Oscillator can reveal areas of overbought and oversold, which is shown
below in the chart of the E-mini Russel 2000 Futures contract:


Price Volume Trend
Price Volume Trend combines percentage price change and volume to confirm the strength of
price trends or through divergences, warn of weak price moves. Unlike other price-volume
indicators, the Price Volume Trend takes into consideration the percentage increase or decrease
in price, rather than just simply adding or subtracting volume based on whether the current price
is higher than the previous day's price. How the formula is calculated is presented below:
1. On an up day, the volume is multiplied by the percentage price increase between the
current close and the previous time-period's close. This value is then added to the
previous day's Price Volume Trend value.
2. On a down day, the volume is multiplied by the percentage price decrease between the
current close and the previous time-period's close. This value is then added to the
previous day's Price Volume Trend value.
The Price Volume Trend is helpful in seeing divergences; examples of these divergences are
shown below in the chart of AT&T (T):



he Price Volume Trend indicator is usually interpreted as follows:
Increasing price accompanied by an increasing Price Volume Trend value, confirms the price
trend upward.
Decreasing price accompanied by a decreasing Price Volume Trend value, confirms the price
trend downward.
Increasing price accompanied by a decreasing or neutral Price Volume Trend value is a
divergence and is indicating that the price movement upward is weak and lacking conviction.
Decreasing price accompanied by a increasing or neutral Price Volume Trend value is a
divergence and is indicating that the price movement downward is weak and lacking conviction.
High #1 to High #2
AT&T stock made lower highs, but the Price Volume Trend indicator made higher highs. This
bullish divergence warned that bulls might be taking control of the stock and shorting AT&T
would not be advisable.
Since the Price Volume Trend indicator multiplies positive volume when prices close higher than
the previous day's close, the Price Volume Trend indicator could be interpreted as meaning that
more volume flowed into High #2 than flowed into High #1. More volume interest by buyers at
High #2 signaled that the price move higher had significant strength behind it and it probably
was going to continue.
Low #1 to Low #2
The stock price made higher lows, generally considered a bullish signal; the Price Volume Trend
indicator confirmed this move higher when it made higher highs as well.
Price Volume Trend is a valuable technical analysis tool that combines both price and volume to
confirm price action or warn of potential weakness or lack of conviction by buyers and sellers.
Other similar indicators that should be investigated further are the Chaikin Oscillator (see:
Chaikin Oscillator) and the Money Flow Index (see: Money Flow Index).
Rate of Change (ROC)
The Rate of Change (ROC) indicator measures the percentage change of the current price as
compared to the price a certain number of periods ago. The ROC indicator can be used to
confirm price moves or detect divergences; it can also be used as a guide for determining
overbought and oversold conditions. The formula for Rate of Change is expressed below:
[(Current Price / Price n periods ago) - 1] x 100
Generally, the Rate of Change is calculated based on 14-periods for input n, but of course can be
modified to any trader preferred period. A chart of the Nasdaq 100 ETF (QQQQ) is shown below
with the 14-day Rate of Change indicator:


Calculating Rate of Change
The right side of the chart of the QQQQ's shows how the Rate of Change is calculated. The
closing price on Day #14 was divided by the closing price 14-days ago on Day #1 which netted
1.0467. One was then subtracted to get .0467 and then it was multiplied by 100 to get 4.67. That
means there was a 4.67% increase in the price of the QQQQ's over the 14-day period highlighted
in the chart.
Numerous Uses of the Rate of Change Indicator
The Rate of Change indicator can be used to confirm price moves or detect divergences and can
be used as a guide for determining overbought and oversold conditions.
Rate of Change as a Confirmation Tool
An example of the ROC indicator confirming price action occurred from Low #1 to Low #2: the
stock price of the QQQQ's made higher lows, generally a bullish sign; likewise, the Rate of
Change indicator confirmed price action and made higher lows as well.
Rate of Change as an Overbought & Oversold Indicator
In the chart above, when the Rate of Change indicator surpassed the +3% mark, it would have
been inadvisable to buy, as prices were in an overbought area; looking for sell signals would be
more advisable. Similarly when the ROC entered oversold areas, it would not be smart to sell, as
most of the downward move had been made, rather buy signals should be sought.
The Rate of Change (ROC) indicator is a helpful technical analysis tool for confirming price
movements, detecting divergences, and determing levels of overbought and oversold. A similar
indicator that should be investigated is the Momentum indicator (see: Momentum).
To learn about applying the concept of Rate of Change to volume see: Volume Rate of Change.
Relative Strength Index (RSI)
Relative Strength Index
1. Relative Strength Index Defined
2. RSI Alternative Buy and Sell Signals and Divergences
One of the most popular technical analysis indicators, the Relative Strength Index (RSI) is an
oscillator that measures current price strength in relation to previous prices. The RSI is a
versatile tool, it can be used to:
Generate buy and sell signals
Show overbought and oversold conditions
Confirm price movement
Warn of potential price reversals through divergences
The chart below of eBay (EBAY) shows how the RSI can generate easy to follow buy and sell
signals:


RSI Buy Signal
Buy when the RSI crosses above the oversold line (30).
RSI Sell Signal
Sell when the RSI crosses below the overbought line (70).
Varying the time period of the Relative Strength Index can increase or decrease the number of
buy and sell signals. In the chart below of Gold, two RSI time periods are shown, 14-day
(default) and 5-day. Notice how decreasing the time period made the RSI more volatile,
increasing the number of buy and sell signals substantially.

There is another way the Relative Strength Index gives buy and sell signals. This, and how to
interpret RSI divergences, all contained on the next page.

RSI Divergences

An alternative way that the Relative Strength Index (RSI) gives buy and sell signals is given
below:
Buy when price and the Relative Strength Index are both rising and the RSI crosses above the 50
Line.
Sell when the price and the RSI are both falling and the RSI crosses below the 50 Line.
An example of this methodology for buying and selling based on 50 Line crosses is given below
in the chart of Wal-Mart (WMT):



For another interesting and under-utilized method for using the RSI indicator for buy and sell
signals, see: Stochastic RSI, which combines both the popular Stochastics indicator and the
Relative Strength Index.
Relative Strength Index Confirmations & Divergences
A powerful method for using the Relative Strength Index is to confirm price moves and forewarn
of potential price reversals through RSI Divergences.
The chart below of the E-mini Nasdaq 100 Futures contract shows the RSI confirming price
action and warning of future price reversals:


Low #1 to Low #2
The E-mini Nasdaq 100 Futures contract's price made a substantial move from Low #1 to Low
#2. The RSI confirmed this move, helping a trader have confidence jumping on board the price
move higher.
The break of trendline of the e-mini future was also confirmed by the trendline break of the
Relative Strength Index, confirming that the price move was likely over.
Low #3 to Low #4
A bullish divergence was registered between Low #3 and Low #4. The e-mini Nasdaq 100 future
made lower lows, but the RSI failed to confirm this price move, only making equal lows. An
astute trader would see this RSI divergence and begin taking profits from their shortsells.
High #1 to High #2
A bearish divergence occured when the e-mini futures contract made a higher high and the RSI
made a lower high. This bearish divergence warned that prices could be reversing trend shortly.
A trader should consider reducing their long position, or even completely selling out of their long
position.
The Relative Strength Index is a popular tool for generating buy and sell signals, confirming
trends, and warning of impending price reversals.

Standard Error Bands
Standard Error Bands show trend direction and price volatility around the trend. There are
three components to Standard Error Bands:
1. Smoothed Linear Regression Line: Generally a 21-period linear regression curve that is
smoothed by a 3-period simple moving average
2. Upper Standard Error Band: The linear regression line plus 2 standard errors.
3. Lower Standard Error Band: The linear regression line minus 2 standard errors.
Standard Error Bands are plotted on the chart of Wal-Mart (WMT) stock below:


Interpreting Standard Error Bands.
When price is trending and the Standard Error Bands are contracting, then the price has
strength and is expected to continue to trend.
When the Standard Error Bands begin to expand, then the trend is expected to end and either
consolidate into a non-trending market or reverse trend.
Standard Error Bands are helpful in determining strength of trend and potential reversals of trend
or consolidation of prices. Standard Error Bands are quite unique in their interpretation, but there
are other price-band concepts that are popular such as Bollinger Bands (see: Bollinger Bands),
Keltner Channels (see: Keltner Channels), and Moving Average Envelopes (see: Moving
Average Envelopes).

Stochastic RSI
The Stochastic RSI combines two very popular technical analysis indicators, Stochastics and the
Relative Strength Index (RSI). Whereas Stochastics and RSI are based off of price, Stochastic
RSI derives its values from the Relative Strength Index (RSI); it is basically the Stochastic
indicator applied to the RSI indicator.
As will be shown below in the chart of the S&P 500 E-mini Futures contract, the Stochastic RSI
gives more profitable buy and sell signals and overbought and oversold readings, than the
Relative Strength Index:

n the chart above of the E-mini S&P 500 Futures contract, the RSI indicator spent most of its
time between overbought (70) and oversold (30), giving no buy or sell signals. However, the
Stochastic RSI used the RSI indicator to uncover many profitable buy and sell signals.
How to interpret the buy and sell signals of the Stochastic RSI is given next in the chart of the
S&P 500 E-mini:

Stochastic RSI Buy Signal
Buy when the Stochastic RSI crosses above the Oversold Line (20).
Stochastic RSI Sell Signal
Sell when the Stochastic RSI crosses below the Overbought Line (80).
The Stochastic RSI is an effective and potentially profitable use of the popular Stochastic
indicator and RSI indicator. To read more about the Stochastic indicator and the RSI indicator.

Stochastics
Stochastics
1. Stochastics Fast & Slow
2. Stochastic Buy & Sell Signals
3. Stochastic Price Divergences
Stochastic Fast
Stochastic Fast plots the location of the current price in relation to the range of a certain number
of prior bars (dependent upon user-input, usually 14-periods). In general, stochastics are used to
measure overbought and oversold conditions. Above 80 is generally considered overbought
and below 20 is considered oversold. The inputs to Stochastic Fast are as follows:
Fast %K: [(Close - Low) / (High - Low)] x 100
Fast %D: Simple moving average of Fast K (usually 3-period moving average)
Stochastic Slow
Stochastic Slow is similar in calculation and interpretation to Stochastic Fast. The difference is
listed below:
Slow %K: Equal to Fast %D (i.e. 3-period moving average of Fast %K)
Slow %D: A moving average (again, usually 3-period) of Slow %K
The Stochastic Slow is generally viewed as superior due to the smoothing effects of the
moving averages which equates to less false buy and sell signals. A comparison of the two
stochastics, fast and slow, is shown below in the chart of the Nasdaq 100 ETF (QQQQ):

As will be shown on the next page, Stochastics offer clear buy and sell signals and help in
determining overbought or oversold price conditions.

Stochastics Buy & Sell Signals
Stochastics Buy Signal
When the Stochastic is below the 20 oversold line and the %K line crosses over the %D line,
buy.
Stochastics Sell Signal
When the Stochastic is above the 80 overbought line and the %K line crosses below the %D line,
sell.
Stochastic Fast buy and sell signals are illustrated below in the chart of the E-mini S&P 500
Future:


Stochastic Slow is presented below in the chart of the E-mini Russell 2000 Futures contract.
Notice how much smoother the %K and %D lines are and how many fewer false signals were
given by the Stochastic Slow than were given by the Stochastic Fast indicator.

In addition to giving clear buy and sell signals, the Stochastic technical analysis indicator is also
helpful in detecting price divergences and confirming trend.

Stochastic Price Divergences
Stochastics
1. Stochastics Fast & Slow
2. Stochastic Buy & Sell Signals
3. Stochastic Price Divergences
Stochastics can be used to confirm price trend. In the example below of the Nasdaq 100 ETF
(QQQQ), the Stochastic indicator spent most of its time in the overbought area. When
Stochastics get stuck in the overbought area, like at the very right of the chart, this is a sign of a
strong bullish run. Signals to sellshort would be ignored; however, before the signal not to short
was given, many losses unfortunately would have accrued from failed shorting attempts on the
left half of the chart.


A powerful and more common occurence is Stochastic divergences. The chart below of Gold
futures illustrates Stochastic divergences and confirmations:

Low #1 to Low #2
The Stochastic Slow confirmed the upward movement of gold futures prices by making a higher
low.
High #1 to High #2
Gold futures rallied to make a higher high; however, the Stochastic Slow indicator failed to make
a higher high, instead it made a lower high. This divergence coupled with a trendline break in the
price of gold would be a strong warning to futures traders that the recent rally had probably
ended and any long futures positions should be exited or at least scaled back.
Low #3 to Low #4
Gold prices continued its downward tumble, making a lower low at Low #4. On the other hand,
the Stochastic Slow indicator was signaling a higher low. This bullish divergence would have
warned traders to exit their shortsells, the price of gold had a strong potential of bottoming.

swing Index
The Swing Index is a technical indicator that predicts future short-term price action:
When the Swing Index crosses over zero, then a short-term price movement upward is
expected.
When the Swing Index crosses below zero, then a short-term price movement downward
is expected.
A few of the many buy and sell signals are shown below in the chart of the E-mini Russell 2000
Futures contract:


As can be noted from the chart above of the e-mini futures contract, numerous buy and sell
signals are given. The Swing Index was made for very short-term trading.
The Swing Index is best used in its later format, the Accumulative Swing Index (see:
Accumulative Swing Index).

Time Series Forecast
The Time Series Forecast uses Linear Regression to calculate a best fit line over a designated
time period; this line is then plotted forward a user-defined time period.
The chart below of the mini-Dow Futures contract shows the Time Series Forecast indicator:


The chart above illustrates how the Time Series Forecast line has been plotted forward (in the
example above, 7 days).
Generally, traders expect price to return back to the Time Series Forecast line when prices have
strayed. Therefore, a vague buy signal could occur when price is below the line and a sell signal
could occur when price is far above the line. However, how far price needs to vary from the line
is very subjective.
A similar and arguably superior technical indicator, is the Linear Regression Curve (see: Linear
Regression Curve).

Triple Exponential Average (TRIX)
The Triple Exponential Average (TRIX) is an indicator used to identify divergences and
overbought and oversold conditions, as well as give buy and sell signals. The TRIX is helpful
because it tends to filter out short-term noise.
A 9-day TRIX is shown below in the chart of the E-mini S&P 500 Futures contract:


TRIX Buy Signal
Buy when the TRIX crosses above the zero line.
TRIX Sell Signal
Sell when the TRIX crosses below the zero line.
The buy and sell signals are for entries. Using the above buy and sell signals for exits could
prove profitless. A trader could consider exiting a long entry when the TRIX enters the oversold
area and begins to turn downwards toward the zero line. Likewise, a trader could exit a short
when the TRIX enters the oversold area and begins to turn upward and move toward the zero
line.
Another valuable use of the Triple Exponential Average is to confirm price action or not confirm
price action through divergences.
TRIX Divergences
The Triple Exponential Average (TRIX) is an effective indicator used to identify divergences as
well as confirm price action.
Confirmation: TRIX is rising and the price of the stock, currency, or future is rising. Likewise,
when the TRIX is falling and the market price is falling.
Divergence: TRIX is rising or neutral and the market price is falling; or TRIX is falling or neutral
and the market price is rising.
Confirmations and divergences are shown below in the chart of the E-mini S&P 500 Futures
contract.
Ulcer Index
Ulcer Index
1. Ulcer Index
2. Comparing Investments Using the Ulcer Index
The Ulcer Index measures the "stress" of holding a trade or investment by measuring price
retracements. The Ulcer Index is based on the notion that downward volatility is bad, but upward
volatility is good.
Unlike standard deviation, the financial industry's benchmark way of measuring the risk of a
stock, which equally weights both violent increases to the upside (upside volatility) and violent
decreases to the downside (downside volatility), the Ulcer Index takes a more enlightened
approach that states that investors only care about the downside risk of a stock, not the upside
risk (upside risk is good, it is equivalent to profits. . . if you are long stock, that is).
The chart of Intel stock below shows various elements of the Ulcer Index:

Measuring Drawdowns
On the very left of the chart, Intel stock had a strong, sustained movement higher, marked by the
long string of green, bullish candlesticks. Notice that the Ulcer Index remained flat, well below
the safe level.
Above safe level (>5): Many downward retracements, investment will cause the investor ulcers,
stress, and/or difficult nights sleeping.
Below safe level (<5): A moderate to low number of price retracements to the downside;
relatively few ulcers, stress, and/or difficult nights sleeping.
A third of the chart from the left, there was a 14-day drawdown period; this drawdown period
was seen with the sharp increase in the Ulcer Index. Once the price of Intel was making new
highs past the drawdown period, the Ulcer Index fell.
The high price of Intel on the chart was marked by a large gap downward; the Ulcer reacted
sharply to this drawdown, rising above the safe level.
Another use for the Ulcer Index is shown on the next page: Comparing Investments using the
Ulcer Index.

Ulcer Index Investment Comparison
Finance theory states that "the greater the risk the greater the potential reward". As stated
previously, the Ulcer Index believes that it is only downside risk that is important to the risk-
averse investor. Therefore, a comparison of stocks, mutual funds, commodities using the Ulcer
Index could prove valuable.
A comparison of two stocks in the semiconducter sector is given below, Advanced Micro
Devices (AMD) stock on the top and Intel (INTC) stock on the bottom along with their
respective Ulcer Indexes:


Ultimate Oscillator
Ultimate Oscillator
1. Ultimate Oscillator Defined
2. Ultimate Oscillator Bearish Divergences & Sell Signals
The Ultimate Oscillator combines short-term, intermediate-term, and long-term price action into
one oscillator that gives overbought and oversold readings, buy and sell signals, and confirms
price action as well as divergences that warn of future price reversals. The creator of the
Ultimate Oscillator, Larry Williams, describes the need for different time periods:
Short-term: The short-term oscillator peaks earlier than price action peaks.
Long-term: The long-term oscillator is late in responding to price action reversals.
By combining three separate time periods, short-term (usually 7-period), intermediate-term
(usually 14-period), and long-term (usually 28-period), the Ultimate Oscillator tends to peak
when price peaks. Note that the intermediate and long-term include the short-term time period;
hence, the short-term period is weighted more heavily in the Ultimate Oscillator equation.
The Ultimate Oscillator is mainly used to identify divergences and give buy or sell signals based
on those divergences. The chart of the E-mini Russell 2000 Futures contract shows an example
of a bullish divergence and subsequent buy signal:


Ultimate Oscillator Buy Signal
The Russell 2000 E-mini made a lower low from Low #1 to Low #2. To the contrary, the
Ultimate Oscillator made a higher low from Low #1 to Low #2. This bearish divergence is the
first step of the buy signal. The second step occurs by drawing a line where the highest high
occured during the bearish divergence. Once the Ultimate Oscillator closes above the previous
high, then the buy signal is generated.
Interpreting bearish divergences and sell signals is given on the next page.
Ultimate Oscillator Sell Signals
Ultimate Oscillator
Sell Signal
1. Overbought Area: The Ultimate Oscillator must have reached overbought status (above 70),
before a sell signal can be given.
2. Bearish Divergence: When price makes a new high, but the Ultimate Oscillator makes a lower
high.
3. Ultimate Oscillator Breakout: When the Ultimate Oscillator closes below the lowest low during
the bearish divergence.
When both 1, 2, and 3 occur, then a sell signal is given. An example is given below in the chart
of the E-mini Russell 2000 Futures contract:

A sell signal given by the Ultimate Oscillator would be strengthed by a trendline break of price.
In the chart above of the Russell 2000 emini future, price broke support and consequently
crashed downwards with a very large bearish red candle.
The Ultimate Oscillator is a very effective tool for showing overbought and oversold conditions,
divergences, and buy and sell signals. Other oscillators to investigate are Stochastics (see:
Stochastics) and Relative Strength Index (RSI), (see: Relative Strength Index).

$VIX & $VXN Volatility Indexes
The $VIX is the 30-day annualized implied volatility of the S&P 500 Index Options. In addition,
the $VXN is the 30-day annualized implied volatility of the Nasdaq 100 Index Options. When
markets crash or move downward quickly, put options become popular. Traders bid up the price
of these put options, which manifests itself as an increase in the implied volatility level; thus an
increase in the $VIX and $VXN index. The basic relationship between stock and index prices
and the $VIX and $VXN is presented next:
When prices fall, the $VIX and $VXN Indexes rise.
In contrast, when prices rise, the $VIX and $VXN Indexes fall.
This basic relationship is summed up by a famous traders' saying: "When the VIX is high it's
time to buy; when the VIX is low it's time to go."
The following chart of the S&P 500 exchange traded fund (SPY), top half of chart, shows the
inverse relationship between it and the $VIX Volatility Index, bottom half of chart:


Notice how an uptrend in the price of the S&P 500 is accompanied by a downtrend in the level
of the $VIX.
The next chart of the Nasdaq 100 exchange traded fund (QQQQ) shows how great buying
opportunities are when the $VXN spikes higher:

VIX & VXN Buy Signal
When the $VIX or $VXN spike (usually they both spike during the same periods) buy. If history
repeats itself, which it has done often, buying $VIX and $VXN spikes has proven quite
profitable. Nevertheless, the Mutual Fund mantra applies: "Past performance is not indicative of
future performance".
The trend of the $VIX and $VXN Indexes can add another helpful level of analysis to price and
volume indicators. A technical indicator that might be of interest is the Volatility indicator (see:
Volatility).
Volatility
The Volatility technical indicator is helpful in seeing potential market reversals. This Volatility
indicator based on the true range of price is based on the premise:
Strong trends upward are marked by decreases in volatility.
Strong trends downward show a general increase in volatility.
Reversals in trend usually occur when volatility increases.
The chart below of the 5,000 ounce Silver futures contract illustrates the first point, that strong
trends usually have low volatility:

As the price in silver futures was increasing, the volatility was steadily decreasing. The change in
trend was characterized by increased volatility.
Bottom Reversals
When prices bottom, they are usually accompanied by increased volatility. An increase in the
Volatility indicator after a recent decline, could signal that the price is bottoming. Exiting or
reducing the size of short positions might be a good strategy. Other indicators would be used to
determine when to enter a long position.
The chart below of the S&P 500 Emini Futures contract shows an example of how bottoms are
usually marked by increases in volatility:


Due to the general inverse relationship of volatility and price, the Volatility indicator can prove
helpful in determing strong trends and potential price bottoms. Another similar tool is the VIX
and VXN indexes that measure the implied volatility of CBOE index options (see: VIX & VXN
Volatility Indices

Volume
Volume
1. Volume Defined
2. Volume Spikes & Blow-offs
Volume is one of the most important technical analysis tools to learn and understand how to
apply to price movements. Volume increases every time a buyer and seller transact their stock or
futures contract. If a buyer buys one share of stock from a seller, then that one share is added to
the total volume of that particular stock. Volume has two major premises:
1. When prices rise or fall, an increase in volume is strong confirmation that the rise or fall in price
is real and that the price movement had strength.
2. When prices rise or fall and there is a decrease in volume, then this is interpreted as being a
weak price move, because the price move had very little strength and interest from traders.
The chart below of Gold futures shows a strong trend being confirmed by a strong increase in
volume:


The chart above of Gold shows that when prices began making new highs, volume increased. As
the price of Gold increased, more and more buyers (buying pressure) jumped on board.
Likewise, if prices are heading downward and are making new lows and volume increases, the
sellers are becoming more and more interested as price falls (increased selling pressure).
Importance of Volume when Analyzing Price Movements
The following is an extreme illustration of the importance of volume:
A buyer places a market buy order after hours for 10 shares of stock. The transaction occurs one
dollar above the closing price. Therefore, the one dollar price move had 10 shares worth of
interest from a buyer.
A buyer places a buy order for 100,000 shares of stock. This transaction takes place at a price
that is one dollar above the current price.
Which example is more bullish? They both increase the last transaction price by one dollar. If a
trader didn't use volume, he/she would think that the move was identical from a price chart
perspective. Of course, the second example is more bullish because the one dollar more the
buyer of the 100,000 shares is willing to pay is significant (the buyer is bullish and is taking a
large bet to prove it); whereas, in the second example, 10 shares is insignificant.
Increases or decreases in price along with increased volume isn't always confirming of trend.
Volume blow-offs are discussed on the next page.

Volume Spikes & Blowoffs
Volume
1. Volume Defined
2. Volume Spikes & Blow-offs
Extreme increases in volume along with extreme rises or falls in price can sometimes be
interpeted opposite to regular volume analysis:
Sharp increases in price and sharp increases in volume can mean bulls have been exhausted, all
buyers have bought and there is no one else but sellers; the result is bearish.
Sharp decreases in price and sharp increases in volume can mean that everyone that wanted to
get out of the stock or future has; therefore, there are only buyers left - bullish sign.
The chart below of eBay (EBAY) stock illustrates a volume spike, defined as at least two times
the average volume:


Volume extremes occur at bottoms as well, which is shown below in the chart of the Nasdaq 100
QQQQ's:

A strong understanding of volume is an absolute necessary addition to price analysis. Knowing
when price increases or decreases have firm support or knowing when either buyers or sellers
have been exhausted is extremely useful when trading. Another way of visualizing volume is
Volume Rate of Change (see: Volume Rate of Change) and the Volume Oscillator (see: Volume
Oscillator).

Volume Accumulation
Volume Accumulation
1. Volume Accumulation Defined
2. Volume Accumulation Divergences
The Volume Accumulation indicator combines volume and a price-weighting that shows the
strength of conviction behind a trend; the Volume Accumulation indicator is a helpful tool in
uncovering divergences. The formula for the Volume Accumulation formula is shown below:
Volume x [Close - (High + Low)/2]
The formula only gives positive volume to the day if the close is higher than the midpoint of the
high and low. If the close is towards the lower half of the range of the price action, then volume
is negative for the day. A chart compares the Volume Accumulation indicator with the On
Balance Volume indicator that adds positive volume if the close is higher than the previous
close, even if the close is only a penny higher, is given next of the stock Citigroup (C):


As can be seen in the chart above, Volume Accumulation was giving a more realistic
representation of what the stock of Citigroup was doing - going downward. The logic behind the
Volume Accumulation technical analysis indicator is follows:
An up day on high volume is considered bullish, because volume is being transacted at
higher prices; for example, there is an imbalance of supply and demand, demand is more
than supply, therefore price increases. The fact that there is much volume shows that the
size of the supply and demand imbalance is large.
A down day on high volume is considered bearish, because volume is being transacted at
lower prices. With an imbalance of supply and demand, there being more supply than
demand, then prices will go down. Since their is high volume, this is a bearish signal
because there were many more stock traders and investors trying to get out of their
position and willing to do that by asking a lesser price.
An important use of the Volume Accumulation indicator is to confirm price movements and
show divergences between the indicator and prices, signaling a potential reversal in trend. This is
discussed on the next page.
Volume Oscillator
Volume Oscillator
1. Volume Oscillator Defined
2. Volume Oscillator Divergences
The Volume Oscillator consists of two moving averages of volume, one fast and one slow. The
fast volume moving average is then subtracted from the slow moving average. The Volume
Oscillator is interpreted using the same principles as volume analysis:
1. An increase or decrease in price accompanied by an increase in volume is considered a sign of
strength in the prevailing trend. Therefore, when the fast volume moving average (default 14-
period) is above the slow volume moving average (default 28-period), the Volume Oscillator is
above the zero line and is confirming price direction, whether it be up or down.
2. An increase or decrease in price accompanied by a decrease in volume is considered a sign of
weakness in the prevailing trend. Therefore, when the fast volume moving average is below the
slow volume moving average, the Volume Oscillator is below the zero line and is warning that
the price direction is lacking strength and conviction.
An example of the Volume Oscillator is presented next in the chart of the E-mini Russell 2000
Futures contract:

The fact that price is making higher highs and higher lows is a bullish sign. When the price
increases in the Russell 2000 e-mini is combined with the Volume Oscillator making higher
highs and higher lows, a double bullish sign is given.
The Volume Oscillator can be used as a confirmation indicator, as it was above with the Russell
2000 e-mini future, or it can be used to detect divergences, as will be discussed on the next page.
Volume Oscillator Divergences
Volume Oscillator
1. Volume Oscillator Defined
2. Volume Oscillator Divergences
Volume Oscillator divergences occur when there is an increase or decrease in price which is
accompanied by a decrease in volume. When this divergence occurs, the fast volume moving
average (default 14-period) is below the slow volume moving average (default 28-period) and
the Volume Oscillator is below the zero line. These divergences are warnings that the current
price direction is lacking strength and there is potential for a trend reverse.
An example of a Volume Oscillator divergence is presented below in the chart of the E-mini
Russell 2000 Futures contract:


When the price was increasing in the Russell 2000 e-mini, the Volume Oscillator was not
confirming the price movement because it was decreasing making repeated lower highs and
lower lows. This bearish divergence indicated that the recent price increases were not being
made with volume strength. The bearish divergence was confirmed when the e-mini future's
upward trendline support was broken.
However, when the Russell 2000 e-mini futures contract made its downturn, the Volume
Oscillator confirmed the price downtrend by making higher highs and lower lows, a signal that
volume was increasing and thus indicating that the trend downward had strength.
The Volume Oscillator is a helpful addition to any technical trader's toolbox. Analyzing volume
gives traders another viewpoint for analyzing potential trades. To learn more about interpreting
volume, see: Volume.

Volume Rate of Change
The Volume Rate of Change indicator measures the percentage change of current volume as
compared to the volume a certain number of periods ago. The Volume Rate of Change indicator
can be used to confirm price moves or detect divergences. The formula for Volume Rate of
Change is expressed below:
[(Current Volume / Volume n periods ago) - 1] x 100
Generally, the Volume Rate of Change is calculated based on 14-periods for input n, but of
course can be modified to any trader preferred period. A chart of the 100 ounce Gold futures is
shown below with the 14-day Volume Rate of Change indicator:


As the price of Gold was increasing, the Volume Rate of Change indicator was increasing as
well, indicating that there was buying interest as prices were rising. When Gold broke above
trendline resistance, the Volume Rate of Change indicator surged higher, showing that buyers
were extremely interested in buying Gold.
Using volume to confirm price analysis can help a trader make better trading decisions. The
section discussing how to interpret Volume would be an excellent addition to this Volume Rate
of Change section (see: Volume).
Williams %R
Williams %R
1. Williams %R Defined
2. Williams %R and Determining Trend Strength
Williams %R is an overbought and oversold technical indicator that can give easy to interpret
buy and sell signals. Williams %R is very similar to the Stochastic Fast indicator (see:
Stochastics) as the chart below will illustrate:


Like Stochastics, the Williams %R indicator gives easily interpreted buy and sell signals, as is
demonstrated in the chart below of the Nasdaq 100 exchange-traded fund QQQQ:

Williams %R Buy Signal
When the Williams %R indicator is below the oversold line (20) and it rises to cross over the 20
line, then buy.
Williams %R Sell Signal
Sell when the Williams %R indicator is above the overbought line (80) and then falls below the
80 line.
In addition to giving clear buy and sell signals, the Williams %R indicator can help identify
strong trends; this is discussed on the next page.


Williams %R and Trends

The Williams % R indicator is extremely useful and profitable during sideways, non-trending
markets. However, during trends, the Williams % R indicator does not fare as well, leading to
losses. Nevertheless, the Williams % R indicator does give tell tale signs of strong trends that can
easily be identified by traders for profit. The following chart of the Nasdaq 100 ETF (QQQQ)
illustrates Williams % R's ability to detect such trends:


As the chart of the QQQQ illustrate, when the Williams % R indicator stays in the oversold area
(below 20) and any bullish rally barely registers with the Williams %R (i.e. fails to go above 80),
then the downtrend is strong and a trader should not go long the market.
Similarly, when the Williams %R indicator stays in the overbought area (above 80) and any
attempt at a downturn fails to send the indicator into oversold territory (i.e. fails to go below 20),
then the uptrend is strong and a trader should not go short.
The Williams %R is a versatile technical indicator used by many; the indicator gives easily
intepreted buy and sell signals, and also informs traders whether or not a market is likely
overbought, oversold, or trending strongly. The Stochastic indicator (see: Stochastics) would be
a logical next step for investigation.
Zig Zag
Zig Zag
1. Zig Zag Defined
2. Interpreting the Zig Zag Indicator
The Zig-Zag indicator is extremely useful for determining price trends, support and resistance
areas, and classic chart patterns like head and shoulders, double bottoms and double tops. The
Zig-Zag indicators uses both swing highs and swing lows in its calculation:
Swing Highs: When a price (usually close) is both higher than the price previous to it and after it.
Swing Lows: When a price is both lower than the price prior to it and lower than the price
following it.
The Zig-Zag indicator can use both percentages or points in its construction. To construct the
Zig-Zag indicator, there must be a certain percentage or number of points between a swing high
and a swing low before a line will be drawn. The chart below of the E-mini Nasdaq 100 Futures
contract visually illustrates the difference between a price retracement Zig-Zag of 3% and a price
retracement Zig-Zag of 5%:


Notice how in the chart above that a Zig-Zag with a retracement percentage of 3% makes more
distinct lines than the Zig-Zag with a retracement percentage of 5%. The purpose of using a Zig-
Zag with a larger retracement percentage is to help eliminate price noise that is not significant for
the trader's analysis.
As will be shown on the next page, the Zig-Zag indicator is extremely effective at uncovering
stock cycles while screening out short-term price noise.

Zig Zag Interpretations
Zig Zag
1. Zig Zag Defined
2. Interpreting the Zig Zag Indicator
The Zig-Zag indicator is extremely effective in filtering short-term noise and identifying
significant trends and significant changes in market prices.
Below is a chart of the E-mini S&P 500 Futures contract that illustrates how effective the Zig-
Zag indicator was in finding areas of support and resistance and price breakouts:


he chart above of the e-mini uses a 5% Zig-Zag retracement value; therefore, only price changes
of 5% or greater are shown, helping a long-term trader or investor determine important areas of
support, resistance, and areas of price breakouts.
On the left of the chart, the S&P 500 was forming a triangle consolidation pattern. When prices
broke resistance, a long-term buy was generated. During the middle of the chart, the Zig-Zag
indicator was effective in illustrating that the S&P 500 was in an upward price channel. Buying
in areas where price touched the lower support trendline and selling when prices touched the
upper resistance line would have proved extremely profitable.
Using the Zig-Zag indicator for shorter-term trades can prove profitable as well. The chart below
of Intel (INTC) shows a classic chart head and shoulder pattern easily seen by the Zig-Zag
indicator ($1 retracement):

The easily identified head and shoulders pattern gave a sell signal when price on the right
shoulder broke the upward slanting trendline.
The Zig-Zag indicator is an excellent technical analysis tool for identifying classic charting
patterns. The Zig-Zag indicator is also effective in reducing noise and helping the technical
trader see the true market direction.