DOW And VIX

VIX (in Red) has broken down of its symmetrical triangle. It is now at 23 level. There seems to be less fear in US market now compared to a few weeks ago.

The Dow has rebounded and is close to testing the upper limit of its symmetrical triangle as well.


USDPJY is also refusing to go below the 21 day exponential average (in Green).

This is also good for the Dow as a strong USDJPY usually coincides with a rebound in Dow.

Seems like we will see more strength from US this week. But keep your fingers crossed as there are important economic data coming out from US this few days including PPI, Initial Claims and Consumer Confidence.

Elder Ray Indicator - Shanghai Index

The Shanghai Index dropped by 177.75 points to end at 4192.53. A slight divergence is emerging for the Elder Ray indicator as shown in the chart above.

The divergence that is developing now is not as great as the one we saw on Dec 2007. So my personal view is the index will not stage a strong recovery.

Elder Ray Indicator Case Study - Wing Tai

Elder Ray Indicator

This is an indicator that is covered in many of Dr Alexander Elder’s books. The Elder Ray formula is given below:

Bull Power = High – Exponential Moving Average (EMA)
Bear Power = Low – Exponential Moving Average (EMA)

This indicator uses the high and low price to gauge the power of the bulls and bears respectively.

Let’s look at this indicator being applied to Wing Tai holdings. This is a property counter listed in Singapore.




The Red histogram is the Bear power and Green histogram is the Bull power. For this chart, I am using 22 day EMA.

You can see that at region A, when the price cuts below the 22 day EMA, the price rebounded to test the 22 day EMA again. This gives opportunity for the Bears to short the market. The scenario repeated itself in region B.

There is currently a divergence which means that there may be a reversal once the price goes above the 22 day EMA.

Let’s look at one case when a divergence occurs and what happen after the price breakout of the 22 day EMA.



We see that at region E, the price of Wing Tai made a lower low. However both the Bull and Bear Power did not make a lower low. A very obvious divergence occurred.

Once the price breakout from the 22 day EMA, it went all the way until Jul 07.

For more information on Elder Ray indicator, you can refer to the book Come Into My Trading Room

Nikkei 225 Chart

Today Nikkei 225 rebounded from yesterday's sell off. It is now at a critical level.

The resistance that it has to clear is 13889. Notice that it rebounded from 61.8% retracement level. If it clears 13889, the Fibonacci objective level is 14240. That will be very close to the upper end of the downtrend channel.

The current trend is still down. But it has made a higher high so if it break 13889, it will make a higher low. This is positive for the market according to Dow theory. So maybe we are seeing a trend reversal. But it is safer to wait for a break above the downtrend channel.

MACD And CandleStick Case Study - FibreChem

http://stockstudent.blogspot.com/2008/02/macd-and-candlestick-case-study.html

USDJPY

This is just an updated on the USDJPY price. Today US market is closed for business so there will be no guidance from DOW tonight.

I have plotted the USDJPY price together with its 8 day exponential moving average (red line) and 21 day exponential moving average (green line).

The red line has crossed the green line for around 3 days now. Normally, the longer the red line stays above the green line after a crossover occur, it will mean that the price will most likely go higher.

For this case, if you were long USDJPY, you will be looking at cutting loss at 107.46 which is the 21 day exponential moving average value.

A strong USDJPY is good for the DOW based on historical performance.

DOW And VIX

There is a saying in the market that goes like this. When the VIX is high it is time to buy and when the VIX is low it is time to sell.

VIX is a volatility index created by The Chicago Board Options Exchange in 1986. It is an important gauge of market volatility.

VIX measures the implied volatility of SPX options hence it will go up when traders expect volatility to increase.

You can treat the VIX as a fear indicator. When traders are afraid that market will drop sharply, VIX will go up. The reverse is true. When traders are more complacent, thinking that market will continue to go up, VIX will be low.

In the chart, the red line is the VIX and the candlestick chart is the DOW Jones Industrial Index.

You can see that when the VIX spikes up in Aug 07, Nov 07 and Jan 08, the market managed to stage a rebound.

The VIX is now at 25.02, not a high value based on the past year data. It is now forming a symmetrical triangle pattern which means that market can either spike up or down. If the VIX is able to go below 25.02 next week, it will be a good sign and DOW should stage a rebound.

If the VIX goes down to around 20, then it is time to be more cautious.

My personal view is VIX should go below and test the 20 region again.

MACD And CandleStick Case Study - FibreChem

I have received comments on whether we can use MACD crossover to trade directly instead of combining it with Candlestick pattern.

My personal view is if you use purely the MACD crossover to trade, there will be too many trading signals. And the quality of the trading signals may not be good.

I have chosen to do a case study for Fibrechem Technologies just to illustrate this point.

Price data is from Aug 19 2004 to Feb 15 2008

Firstly, let’s do a pure MACD crossover trade. The rules are as follows:

Entry Rules:

1. MACD histogram crosses above the zero line


2. Buy on the next day at 1 bid above the current day’s high


3. Set the stop loss at 1 bid below the current day’s low


4. Set the profit target to be 10% above the entry price

Exit Rules:

1. Stop loss price has been hit or


2. MACD histogram crosses below the zero line or


3. Profit target has been hit

The following trades were made:

Now we put in the Candlestick Inside Day pattern and see what the outcome is. The rules are:

Entry Rules:

1. MACD histogram > 0


2. High of current day < class="MsoNormal">Low of current day > Low of previous day


3. Open of current day < class="MsoNormal">If conditions 1 to 4 are met, buy on the next day at 1 bid above the current day’s high.


4. Set the stop loss at 1 bid below the current day’s low


5. Set the profit target to be 10% above the entry price

Exit Rules:

1. Stop loss price has been hit or


2. MACD histogram crosses below the zero line or


3. Profit target has been hit

The following trades were made:

You can see that reduces the number of trades. With the Inside Day Candlestick pattern, there were only 4 trades made. Without the Inside Day Candlestick pattern, we have 17 trades.

With the Inside Day Candlestick pattern, probability of win is at 75% compared to 47% for the case where there Inside Day pattern is not used.

You can also experiment with different Candlestick pattern to see if it helps to filter out non-profitable trades.

MACD And Candlestick Case Study - Midas

I received a request to do a case study on MIDAS Holdings. The data that I am using is from 23 Feb 2004 to 15 Feb 2008.


The same trading rules apply. The trades done are shown below:


The result is similar to Ferro China. 6 trades hit the profit target of 10%. There were 4 losses. However, losses were small when compared to the gains.

As a whole, this shorting method is still profitable when applied to MIDAS Holdings.

MACD And CandleStick

Candlestick chart originated in Japan a few centuries ago and has been used by Traders to identify profitable trading opportunity.

One way of using candlestick is to put it together with trend or momentum indicator such as MACD. MACD is an indicator derived from 12 day and 26 exponential moving averages of a stock price.

A candlestick pattern that is of interest to traders is the inside day bar. Inside day bar occurs when the current price bar is completely engulfed within the range of the previous price bar.

Let’s do a case study on Ferro China, a company listed in Singapore. I will consider the short selling strategy for this study. Data is from May 19 2005 to Feb 14 2008.

Entry
1. High of current day < High of previous day
2. Low of current day > Low of previous day
3. Open of current day > Close of current day. The current day is a black candle.
4. MACD histogram is < 0
5. If conditions 1 to 4 are true, short sell the next day at price below the current days low.
6. Set the stop loss price to the current day high
7. Set the profit target to 10% above the entry price

Exit
1. Stop loss price has been hit or
2. MACD histogram is > 0 or
3. Profit target has been hit

The following trades were made


5 trades hit the profit target of 10% and there were 3 losing trades. Probability of win is 62%.

One advantage of using the inside day bar to set entry and exit point is that the risk is usually small compared to the potential upside.

DOW And USDJPY

USDJPY hit the 108 region today. This is bullish for the DOW as explained in my earlier post.



The USDJPY is rebounding from the lower end of its downtrend channel. We are less than half way to the upper end of the downtrend channel

The 8 day EMA has just cross the 21 day EMA for USDJPY. This also suggests that USDJPY has a high chance to move up. For more information on 8 day EMA and 21 day EMA crossover, you can refer to the book Mastering The Trade by John F Carter

Mastering the Trade (McGraw-Hill Trader's Edge)

AD RSI Update

AD RSI trade is not performing well this time. Although STI index rebounded to close at 2926, it is still below my entry point

Both opened trades are now about 4% below the entry point. DOW is now up by 67 points. Lets see if it can close higher today.

I still have 4 and 8 trading days for the STI to go above my entry point.

YangZhiJiang Force Index Update

I received several requests for an update on force index indicator for YangZhiJiang Ship Building. This is just an update based on closing price on 11 Feb 2008.



The force index is now at -229,454. The condition for short position is not there yet. The 22 day EMA of the closing price is still showing a downtrend.

For those traders that want to short this stock, it is probably safer to wait for the force index to go above the zero line.

You can refer to my earlier post for description and performance of force index on this stock.

STI Max Drop Investment Concept

Today is a down day again for STI. Not a good start to the year of the Rat.

I have received some emails on testing the max drop investment concept on the STI. So this is actually a continuation to my previous post on buying DOW Jones Industrial Average when it drops by 20%.

Instead of DOW, we are using STI index instead. Data is from June 10 1992 to Feb 11 2008.

The rules are:

Entry

1. Compute the highest price for the past 60 days. Lets call this H1
2. Note the lowest price today. Lets cal this L1
3. D1 = (H1-L1)/H1.
4. If D1 > 0.20 and there is no buy signal for the past 20 trading days, buy at the opening price on the next trading day
   

Exit

1. If position is showing a gain of 30%, close the trade or
2. If position has been open for 765 trading days (assuming 255 trading days per year), close the trade

The trading result is shown below:

The draw down in this case ranges from -0.87 to -50.5%. There were 11 cases where the 30% profit target was reached before the end of the 3 year holding period. The range of the draw down is too great for comfort. But do note that the probability of making a profit is still quite high at 85% if you ignore the trade that is still opened.

The trade made on 17 Jan 2008 so far has suffered a draw down of -11.3%. If we based on past statistics, maybe it will hit a draw down of -20%. This will imply a value of 2478.

Dow Maximum Drop Investment Concept

A forum contributor in Channel News Asia Market Forum by the nickname of Puntfast has suggested the following:

• Buy when DOW drops 20%
• Exit when DOW rebound 30% from entry price or
• Exit after 3 years in the trade

I have modified the rules slightly so that it can be tested based on historical data from yahoo. Data is from Feb 2 1940 to Feb 9 2008.

The rules are:

Entry

1. Compute the highest price for the past 60 days. Lets call this H1
2. Note the lowest price today. Lets cal this L1
3. Compute D1 = (H1-L1)/H1.
4. If D1 > 0.20 and there is no buy signal for the past 20 trading days, buy at the opening price on the next trading day
   

Exit

1. If position is showing a gain of 30%, close the trade
2. If position has been open for 765 trading days (assuming 255 trading days per year), close the trade
   

The trading result is shown below:

The draw down in this case ranges from 0 to -29%. There were 14 cases where the 30% profit target was reached before the end of the 3 year holding period.

If you were to apply this simple concept to an exchange traded fund that tracks the DOW Jones Industrial Average, you would have made on average 26% (before expenses) with average holding period of 1.5 years.

I still like the method based on FED rate cut because the range of the draw down swing (from 7% to 9%) is much lesser.

The probability of win is 100% for this case. I think that is why people always say that if you can hold on to your investment and time is on your side, the chances of making money is very high if you invest in equities.

FED Rate Cut Studies

I came across an interesting headline regarding FED rate cut effects on the stock market. The argument was whether to buy equities when FED starts to reduce or increase its Federal Funds Rate. Since I am not a subscriber of that article, I thought maybe I could do a study based on freely available information.

I did a simple study based on data from Federal Reserve Board website [http://www.federalreserve.gov/fomc/fundsrate.htm]. The data is from 1990 to present.

Strategy 1
Let’s say we buy into stock market when FED begins to start cutting rates and exit the stock market when FED starts to increase rates. For the purpose of this study, I will use Dow Jones Industrial Average to represent the equity market.

This will be the outcome:


On average, the gain is about 20% with maximum draw down of 16%.

Strategy 2
If we were to do the opposite, that is, we buy into the equity when FED starts to increase rates and exit when FED starts to reduce rates.

This is the result:


The result shows that on average the return is 17% with maximum draw down of 9%

Comparing the 2 strategies, I like Strategy 2. That is I will buy equities when FED starts to increase rates and exit when FED starts to reduce rates. This is because the draw down is much lower. Strategy 1 although is able to give a higher average return, the draw down is also much higher.

This contradicts with the general belief in the market that the best time to buy equities is when FED starts to cut rates.

Of course, the data sample is not large enough to reach a strong conclusion. If anyone has a more complete historical data of FED rate decision prior to 1990, please contact me so that I can do a more complete analysis. Thanks!

And for those who celebrate Lunar New Year, have a happy and prosperous Lunar New Year. May the year of the rat brings in more profit for everyone. Gong Xi Fa Cai.

Max Gain & Draw Down

Received a comment on Max Gain % and Draw Down %. The question is how these 2 values are computed and how to use them.

Lets take Boeing as an example.

If we were to buy Boeing (http://finance.yahoo.com/q/hp?s=BA) at the open on 31 Jan 2008. The entry price is 81.78. On every trading day, you take the day high to calculate the gain your open trade experienced. Similarly, you use the day low to calculate the loss that your open trade experienced.

You do this everyday until you closed the trade.

The Draw Down % will then be the maximum loss experienced while holding on to the trade.

The Max Gain % will be the maximum gain experienced while holding on to the trade.

So if you opened a trade for Boeing on 31 Jan 08 and hold it till 4 Feb 08, the Draw Down % is 1.198% and Max Gain % is 2.702%

Some traders use the Max Gain % and Draw Down % to set your stop loss or profit target.

How to use this depends largely on a trader's trading style and methods adopted.

AD RSI Trade Updates

The 13 day AD RSI for STI is now at 44.65. This is slightly higher than the previous peak of 43.79.

Few days back, I posted the chart of DOW versus USDJPY. You can see the same relationship with STI.



And with STI rebounding from around its 50% retracement region, hope that it can hit its Fibonacci objective of 3384 in the next few weeks.


The STI index is now 0.11% and 0.7% above our entry points.

Force Index Oscillator Case Study - YangZhiJiang

Force Index Oscillator

The market has moved down tremendously since the beginning of 2008. Investors that are keen to profit from down moves can make use of options, warrants or CFD to profit from any downward movement in prices.

Today I will introduce to you an interesting indicator developed by Dr Alexander Elder. This is the Force Index Oscillator.

By definition,

Force Index Oscillator = (Close[today] – Close[yesterday]) * Volume[today]

I have applied the following rules:

Enter Short Position :

1. Price must be lower than 22 day exponential moving average of the daily closing price today.



2. The 22 day exponential moving average of the daily closing price must be decreasing for the past 2 days.



3. The 13 day exponential average of the force index oscillator crosses the zero line today



4. If condition 1 to 3 is true, open a short position at the market open on the next day.

Exit Short Position :

1. If position is showing a loss of 10%, close the trade or


2. If the 13 day exponential average of the force index oscillator is less than zero, close the trade
   

Let’s do a case study. I have chosen YangZhiJiang, a ship building company listed in Singapore Stock Exchange http://sg.finance.yahoo.com/q?s=BS6.SI&d=t

The system identified 6 trading opportunity and 5 of them were profitable.

All trades have been closed.

For more information on Force Index Oscillator, please read the book Come Into My Trading Room: A Complete Guide to Trading

AD RSI Trading Updates

The 13 period AD RSI is now at 38.394.

FTSE STI index closed on 1 Feb 08 at 3007.8 and is now 2.15% and 1.57% below my entry points of 3073 and 3055 respectively.

DOW closed at 12743.19 on 1 Feb 08, up by 92.83 points.

The 13 period AD RSI for DOW is now at 55.63.


DOW is looking more promising.

Lets see if STI can follow DOW next week.

DOW And USDJPY Relationship

Today I will do a little study on the relationship between Dow Jones Industrial Index and the USDJPY.

There is a saying in the market that when JPY carry trade unwinds, stock market goes down.

From the chart above, we see that USDJPY is in a well defined down trend since Jul 07.

It seems that whenever the USDJPY hits the down trend channel, we have some sort of reversal.

On Aug 16 07, 26 Nov 07 and 24Jan 08, USDJPY hits the lower end of the down trend channel and DOW made a recovery.

On 14 Oct 07 and 27 Dec 07, USDJPY hits the upper end of the down trend channel and DOW weakens.


Now we are seeing the USDJPY near the lower end of the down trend channel. Even after FED reduces the interest rate by 50 basis point, JPY did not strengthen much.

If the market behaves according to the last few instance, we may see the DOW bounce up and USDJPY to test the upper end of its down trend channel again.