Candlesticks – Free Training Video

My charts are plotted as candlesticks because they highlight detailed movements around the open and close.   Candlesticks also present recurring patterns which aim to portend the price action and which I haven’t (yet) backtested.    However, since candlesticks are on the charts in my BackTesting Reports, videos, and software, I want to give everyone an opportunity to how they are interpreted by experts.

If you’re interested in learning more about candlesticks, check out this complimentary video from my affiliate partner INO.com:  Click Here to Watch Now

The video is titled “Advanced Applications of Candlestick Charting”.  When you watch, authors, software programmers, and co-founders of the International Pacific Trading Company, Gary Wagner & Brad Matheny will walk you through:

-History of candlestick charting

-How to interpret candlesticks

-How to merge techniques of Eastern & Western technical analysis together

-How to merge candlestick techniques with your current trading plan

-And more…

You’ll watch and listen as Wagner explains the importance of using this strategy. He says, in part, “Candlestick patterns are a mathematical formula which illustrate the psychological market sentiment. In other words, as a market reverses, or a market is moving in an up-trend, there are certain traits that can be distilled in terms of mathematical formulas that will reveal some very important information.”

This 100 minute complimentary video can be found on Trend TV. You don’t have to worry about watching the whole video at once. After you have a password, you can revisit anytime to watch the rest of a video, review a video, or watch other videos on Trend TV.

Click Here to Watch Now

Jack Schwager Market Wizards Lecture

market_wizards_by_jack_schwager I just watched a video lecture by Jack Swager, author of trading classics Market Wizards and The New Market Wizards.   If you haven’t heard of them, in each book Schwager interviews top traders and picks their brains about trading, the markets, and what made them successful.

The reasons these works are revered as classics is not because he gets the Market Wizards to reveal their “magic” strategies.  In fact not one says explicitly how to profit trading and they all have different methods.   What we do get is insight into what makes them tick.  See below for a partial list of traders mentioned in the video.  Its a very accomplished group.

In the lecture, Schwager pulls together the common traits of these elite traders and distills them into critical success factors.  All are important ingredients for success.  The one I want to highlight as critical is Schwager saying that none of the wizards would do something like “la-de-da today looks good to buy bonds”.   They all had some sort of pre-planned strategy, that strategy gave them an edge in the market, and they knew what to do with it.  Schwager also pointed out that by entering the market without a plan, the amateur trader can do worse than chance.

Schwager touches upon the paradox that trading seems easy yet requires a tremendous amount of work to master – I can definitely relate!

 The video (and the books) are somewhat dated.  I doubt the traders Schwager mentions are today getting chart books delivered to their homes on the weekends.   These days, the web and services like Market Club offer charts on about every market that moves so we can all pour over thousands of charts like the masters.   Or, we can program our computers to scan for us.   Schwager’s comments on computerized trading is another area that is outdated.

Even so, many of the traits and behavioral patterns that made these traders great can offer us timeless lessons towards success.    Here’s who I heard Schwager cite as Market Wizards: Jim Rogers, William O’Neil, Ed Seykota, Michael Marcus, Marty Schwatrz, Paul Tudor Jones, Monroe Trout, Linda Raschke, Van Tharp, William Eckhardt, Stanley Druckenmiller (worked with George Soros).

Click here to watch this complimentary video  

(Disclosure: BackTesting Blog is an INO.com affiliate and an Amazon Associate.)

Negative Divergences Abound

Since its not always easier keeping up with the market over a long holiday weekend, I thought to share my weekly “homework”.

Plenty of interesting red flags from my MACD Divergence Detector running on StockFinder®.   It found MACD and MACDH negative divergences on SPY, DIA, ISRG, BIDU to name a few.    Looking at the chart of SPY below, its clearly not the first negative divergence.

MACD Lines and Histogram do not confirm price action on SPY
MACD Lines and Histogram do not confirm price action on SPY (click to enlarge)

The other SPY negative divergences kicked off a slight decline, followed by a rally.   What’s to say that won’t be the case again?

First off, consider that the markets may very well rebound again.  It is, after all, a seasonally strong time of year.  I don’t want to make recommendations or predictions here, just share some observations.  See Truth About MACD BackTesting Reports  for data on the historical back test performance of MACD divergences.

The next observation to share is that breadth and New Highs / New Lows (NH-NL) exhibit extraordinary negative divergences of their own.   Here’s a chart with McClellan’s Summation Index to show what I mean.   (Note that I didn’t personally run a back test of McClellan’s Summation Index.   Tom McClellan told me he did.  I wish the strategies of other people who have told me that had performed better in my back tests.  Anyway, until I get around to doing the back test myself, I am taking McClellan’s word that the summation index that bears his name is a useful indicator to have in the toolbox.)

Red arrows highlight divergence between SPY (green) and McClellan Summation Index (yellow)
Red arrows highlight divergence between SPY (green) and McClellan Summation Index (yellow)

With these kind of negative divergences showing I am certainly not thinking of buying the dip!   In fact,  negative divergences are a signal to sell long positions in my book.    

If you are also standing near the door (so to speak), or working on your own stratgy for cutting losses and taking profits, you may want to take a look at the Exit Strategies series of BackTesting Reports.   They show back test results for various kinds of fixed stop losses, trailing stops losses, and profit targets.    That stuff isn’t as glamorous as buy signals but if you didn’t make a solid plan for when to sell before you bought, the next best time to think about these things is while the market is up.

MACD Divergence

MACD Divergence on SPY Weekly Chart
MACD Divergence on SPY Weekly Chart

MACD Divergence typically means a divergence between the MACD technical indicator and price.   The name MACD divergence is a little confusing and new traders are inevitably unclear about the definition of a MACD divergence or, most importantly, how to recognize one.  Once identified, the next question is how long after the MACD divergence signal does it remain a consideration in the analysis of price action.   Finally, or (perhaps initially to know why we might care) , what kind of performance might a trader expect from a MACD divergence — win rates, expectancy, drawdowns, tendency to jump stops – these are all important considerations to a trader selecting an indicator or strategy.

Naming

MACD spells out to Moving Average Convergence Divergence.   Adding another divergence on the end of all that may at first seem redundant but really it means that two sets of things are diverging.   The first “Divergence” built into the MACD acronym refers to the movements of the two moving averages that form the basis of the MACD.    (The MACD itself is the difference between two moving averages of price, usually the 12-day EMA and the 26-day EMA. )   The second “divergence” in MACD divergence refers to a disparity between the price action and the movements of the MACD indicator.

Identifying a MACD Divergence

 The basic characteristic of the MACD divergence is that the indicator does not confirm price action.  If the price makes a new low but the MACD indicator makes a higher low, that is called a positive MACD divergence.  

MACD Divergence
Positive MACD Divergence on IWM*

On the other hand, if price makes a higher high but the indicator makes a lower high, that is called a negative divergence.   Sounds simple enough but in practice there are subtleties such as the appropriate time between extremes of price.     Further, some traders will look for specific characteristics in the divergence such as minimum or maximum price differences between the price extremes or the slope of the price trend at the time of the divegence.    This adds complexity to the identification process.  

An efficient way to identify MACD divergences is to use a software scanner that can identify which stocks, ETFs, or other instruments are experiencing a MACD divergence at the right edge of the chart.

MACD Divergence on THS

Red arrows highlight the negative MACD divergence on this StockFinder chart of THS at right.

Another easy way to find macd divergences is to subscribe to divergence-alerts.com, which reports macd divergence signals on stocks, ETFs, and e-mini futures.
 

Persistance of a MACD Divergence

Some traders may look at a divergence as an occurrance that impacts an entire trend.   Others may consider that the MACD divergence is only in force until the MACD Histogram moves in the opposite direction.  One way to settle the debate among traders about how long a MACD divergence remains a factor is to back test different scenarios and compare them.

Performance of a MACD Divergence

For a high-level comparison of the historical performance of the MACD Divergence to other MACD signals, watch the free video at the Truth About MACD site.   Or you can read the BackTesting Report #8: Finding Big Bottoms with MACD Divergence, which is part of the Truth About MACD series, for the detailed historical stats from our large-scale back test.   Only with a solid understanding of the strengths and weaknesses of the MACD divergence can a trader  make the best use of it.

* IWM is the ETF of Russell 2000

SPY is the ETF of S&P500

Backtesting Introduction

backtesting_intro_jackie_ann_patterson

Click here for my Backtesting video interview at Moneyshow.   It gives an introduction to backtesting and covers two main topics:

What is Backtesting?

In short, backtesting is the process of testing a strategy by describing that strategy as a set of rules and applying those rules to historical price data.   It is often automated by using a software backtesting engine such as StockFinder or TradeStation.

Read this blog’s Backtesting Definition

How to Do Backtesting

Do it Yourself Manually

Tedious, tedious, tedious!   Error-prone too.    The plus side of backtesting manually is that you gain intimate knowledge of each historical trade by looking at it yourself.   The downside of manually backtesting is that it is so time-consuming that its not feasible to back test a large sample size

Automate with Computer Software

Using specialized computer software to do the backtesting speeds up the process considerably.   Automated backtesting is still hard work requiring advanced skills to get it right.   

Hire a Quant

This is the ideal way to get a strategy developed, analysed and backtested. It is the path taken by the large trading firms.    You will compete with them for talent, so you need to be able to pay the big bucks to go this route.

Read BackTesting Report

Backtesting Report  is the easiest, most cost-effective way to get backtesting results.   This is a report of the backtesting that I use to develop my own trading strategies so you know we strive very hard to get it right.   Offering electronic reports and video classes over the web helps keep the costs down to keep it in reach of the average trader or active investor.    To find out about specific Backtesting Reports to help you learn how to buy, sell and ultimately develop a strategy of your own, visit the Orders page.

Maximum Adverse Excursion

jackie_ann_patterson_maximum_adverse_excursion_moneyshow2

Click to view my Maximum Adverse Excursion video.  

The Maximum Adverse Excursion or MAE is a measure of how far a trade went against you.   Read this previous post for a definition.   BackTesting Reports measures MAE across thousands of trades, allowing you to use it as a metric to assess and compare trading strategies.

Of course the idea is to pick a strategy with a low Maximum Adverse Excursion.   You can also reduce the MAE (and risk) of a strategy by using a stop loss.

Free Email Trading Course by Adam Hewison

 I get Google alerts on every MACD blog posting which is quite a lot. Most are not noteworthy and some are downright off base, but every once and awhile, a really good post on MACD comes along. That happened most recently when I came across a well-done video by Adam Hewison using MACD and MACD divergence. I liked it well enough to see what else he had to offer and now have some goodies to share with you. See the guest blog post below from Adam Hewison. You can sign up for his free email trading course by clicking here.  I’ve taken the first lesson so far and thought it a succinct and timeless lesson. 

First of all I want to thank you for having me as a guest today!

My name is Adam Hewison. You might want to Google Me to confirm what I am about to share with you.

There are plenty of people out there that create “exclusive email courses” with little or no credentials to actually backup their teachings. So, I think it’s right that I share a little bit about myself with you before we even start.

I was a former floor trader on the IMM, IOM, NYFE and LIFFE as well as a risk manager of a large, multinational corporation in Geneva, Switzerland. I also have written books on forex trading and trend following. In 1995, I founded INO.com and later co-founded MarketClub. I’ve been in the trading biz for over three decades and have seen it all. I created this course as a way to give back and share trading tips and techniques that I still use in my trading today.

Click here to begin.

In my Free Mini Email Course, I will show and explain the tools and strategies you need to increase your success rate in the marketplace.

(1) The importance of psychology in price movement

(2) How to spot mega trends

(3) Understanding of technical price objectives

(4) How to picture price objectives

(5) How to trade with moving averages

(6) How to use point and figure trading techniques

(7) How to use the RSI indicator

(8) How to correctly use stochastics in your trading

(9) How to use the ADX indicator to capture trends

(10) How to capitalize on natural market cycles.

Plus, you will you will learn all about fibonacci retracements, MACD, Bollinger Bands and much more.

Just fill out the form and we’ll get you started right away.

Click here to begin.

Every success,
Adam Hewison
President, INO.com & Co-Creator, MarketClub

Profit Trading: How to Choose Buy or Sell Signals

jackieannpatterson_editor_backtestingreport_moneyshow

Here’s a short interview at the MoneyShow on the topic of choosing buy or sell signals in order to profit trading and reduce risk of loss. Click here to play video

To summarize:

Before risking any money in the markets, I want to know that I have a reasonable chance to profit trading.   With that in mind while choosing technical indicators to give buy signals and sell signals, I first evaluate them by whether I think they will yield a profit trading.   My preferred method is to backtest and then publish the results in BackTesting Report.

Trying to figure out whether it’s the buy signal or the sell signal which is the source of profit when trading brings a chicken-and-egg problem.   Is the trading profit due to the buy signal or is the trading profit due to the sell signal?   One  way to sort this out is to first backtest the buy signals as independently as possible and then later backtest several sell signals using the buy signal that showed the most potential trading profit.

Backtesting Report does this by setting a timed exit, meaning that the strategy will sell after a given number of days.    This is not meant for real trading, even if it does show a profit.   It is simply to get an idea if the buy signal is any good.  

Different types of traders favor different timeframes.    To make the hunt for a good buy signal more realistic, BackTesting Report models three different types of traders and reports the win rate or percentage of profitable trades.   A timed exit of:

  • 200 days models an active investor who may hold a position for a year – potentially getting favorable capital gains treatment for trading profits. 
  • 20 days models a position trader who looks for trading profit after a few weeks in each trade.
  • 2 days models a swing trader who looks for a quick trading profit almost immediately but is willing to hold a stock overnight if necessary to ride a profitable trade.

If you already know what timeframe you prefer you can just look at the results for that timeframe.   I have also found it useful to compare win rates across different holding periods to help me decide which timeframe I want to target to maximize trading profit.

After picking a buy signal, then it is time to choose a sell signal.   The BackTesting Reports compare several different exit strategies for the same buy signal to see which results in the best potential for trading profit.   The main criterion for measuring potential for trading profit at this stage is expectancy. The different types of sell signals in BackTesting Report are in these categories:

  • Timed – as discussed above
  • Symmetric – often a mirror-image of the buy signal.  For example if the buy signal is moving averages crossing upwards, the symmetric sell signal is moving averages crossing downwards.
  • With stop losses – setting a fixed price to cut losses and sell.  Another technique is a trailing stop loss which raises the stop price as stock price moves up and trading profit accumulates.
  • With profit targets – picking a price or indicator configuration in advance to take profits

Here again it’s useful to look at the amount of time each strategy held a position and match it up to your needs.    Of course, the main point is to choose a strategy with the highest potential for trading profit.   

Along with backtesting results, it’s also a good idea to do forward testing to confirm the choice of buy signal and sell signal.

Of course there is more to learn about how to profit trading than just picking a buy and sell signal.  You need to decide how to opportunities to trade and how to keep track of trading profits and losses, for example.    Most important, is deciding how to manage risk to be sure to stay in the game and hang on to your trading profits!

For more info on technical indicators tested as buy signals and sell signals, see BackTestingReport.com

MACD Divergences on SPY Since 2001

People at the MoneyShow and elsewhere ask me, “why MACD?”

The short answer is that seeing how MACD Divergences pointed out some very good times to buy stocks and ETFs motivated me to want to use MACD.  So I learned the basics, made some good trades and a little money.   It wasn’t all roses however and taking a few too many losses prompted me to do all this backtesting.

You can see how the MACD divergence signaled good times to buy in this 10 min. video and summary about the SPY.

Since not everyone will want to take 10 min to watch the video, here’s a brief summary:

The MACD positive divergence in Oct 2002 and the one in March 2003 originally got me interested in MACD divergence.  In the TradeStation screenshot below, you can see the green MACD technical indicator at bottom showing a divergence as price hits a new low but the MACD does not confirm with its own new low.   This is a classic MACD divergence.    The dark green line is the backtesting strategy registering a profitable trade between Oct 2002 when it got the MACD bullish divergence buy signal and Sept 2003 when it got the MACD bearish divergence sell signal. Click the charts to enlarge them.

spy_macd_divergences_2002

Another interesting MACD divergence on the SPY takes place in Aug 2004. The SPY had been choppy in a trading range when the MACD bullish divergence signaled that this Aug bottom might be different. Sure enough the SPY broke out of the range. See the TradeStation screenshot below of the trade taken by the backtesting engine.

spy_macd_divergences_2004

What has the MACD divergence done for us lately?  Check out this chart of a MACD divergence catching a good time to buy in March 2009.  This most recent profitable trade on the SPY (green line in the chart below) comes on the heels of three attempts to find a bottom during the credit crisis that didn’t work out.    So you can see from this chart that nothing is perfect and you can’t expect every trade to be a winner.  In fact, this is a sample size of only one — SPY.   You should not rely on this to be representative of future performance.  

spy_macd_divergences_2009

These charts and video show why I am interested in the MACD.    I want an objective signal of good times to buy like Oct 2002 and March 2009.  However, I learned the hard way that its not enough to just see a few good examples and then go trade.   This is the beginning of the research, not the end. 

Are you interested in using MACD to find good times to buy stocks and ETFs? If so, here’s three steps you can take today:

1. Find out the historical track record of various MACD divergence signals.   I recommend reading the TruthAbout MACD series from BackTesting Reports. You can either get the reports directly from this link, or visit the new truthaboutmacd.com for a free video and CD-ROM.   If you are serious about trading with the MACD, the performance data in the backtesting reports is a must-read.

2. Learn to recognize a MACD divergence when it happens at the right edge of the chart.  The BackTesting Reports have some example charts, and the “Power Tools” book has a chapter on the MACD, or get the original Master Class to see Gerald Appel explain the MACD himself.  

3. Get software to scan the market for MACD divergence conditions. These signals don’t come around all that often so it helps to be able to find them when/where they occur. The software I use to scan the US stock market for MACD divergence is available by clicking here.

( MACD stands for Moving Average Convergence Divergence.  SPY is the Exchange Traded Fund (ETF) of the S&P 500 which is often used as a proxy for the whole US Market.)

Updated 10/16/09 to fix typos.