FuturesTechs Blog

Our clients are short the miners and banks - are you?

Over the last few weeks our viewing of the Technical Analysis charts has seen us increasing our bearish slant on the FTSE, mainly citing Financials and Miners as the sectors looking most vulnerable.

Last week we issued short trade recommendations in BHP Billition at 2125, Xstrata at 1198, Barclays at 365 and the FTSE Index at 5632.

Incidentally some of our best results in April were trades in the Finance Sectors, where we were long. We are not just banging one drum. We use Technical Analysis to tell us which way the market’s heading, and we issue our trades accordingly.

We’re still running the short trades mentioned above, as are many of our clients who follow our service. In situations where trades start to make good money we cover half the position, usually for a 5-8% profit, then run the balance by adjusting stops and targets, allowing Technical Analysis to manage trades for maximum profit potential.

Our daily reports have been increasingly warning of a pullback and our next target for the FTSE is 5340.

Why would you not want to access this invaluable, independent analysis?

As part of our continued efforts to explain the major technical indicators to our clients, what follows is a simple explanation of the Stochastics momentum indicators often used in our analysis.

Originally devised by George C. Lane in the 1950s, the Stochastic oscillator is one of the easiest indicators to interpret. It tells us where the price sits in relation to its recent trading range, in a fixed 0 – 100 range and using different degrees of smoothing to provide some stability. Coming in a few different versions, their interpretation rests on the sensible assumption that price pressure is on the upper end of the range in an uptrend, and on the lower end in a downtrend.

Before we create a Stochastic oscillator, we need to decide what time parameter to use. Ten periods is our preferred choice for our daily charts, capturing the range of the previous two weeks.

The simplest one, the Fast Stochastic, has two lines: %K and %D, calculated as follows:

•    %K = [close – low (N-range)]/[high(N-range) – low(N-range)]
•    %D = SMA (%K)

So %K is the position of the most recent close in the range of the last N days; if the close was the low, we get 0, while if the close was the high, we get 100. And %D is the simple moving average of this series (we also need to choose a period for this moving average; typically, we use 3).

Fig 1. Fast Stochastics

It’s always helpful for an indicator to be bounded in a constant range, such as this is between 0 and 100. For one thing, we don’t need to worry about long-run matters like inflation: you’d get a similar pattern for an uptrend in the Dow whether you were looking at it in 1950 or 2000, without any need to rescale it. This means we can easily look for recurring patterns in a market over a period of decades.

It also means that we can easily use the indicator for intermarket analysis. Since the oscillator is bounded as it is, the patterns have the same size regardless of whether you’re watching a stock that trades for £1.00, £20.00 or £50.00, a currency pair or an interest rate future!

Getting back to the main topic, the only major problem with the Fast Stochastic is the lack of smoothing. Note how jagged the %K (blue) line is in the FTSE Index chart above. It reaches extreme readings quite frequently, jumping about and making it hard to interpret.

The solution is easy: we use the smoother red line of the Fast Stochastic as our blue %K line instead, and then average it and use the new average as our new red line! So the new red line is the average of the average of the old blue line (simple, isn’t it?!) And this is how we construct the “Slow Stochastic”.

Fast Stochastic:

• %K = position in N-range
• %D = SMA (%K)

Slow Stochastic:

• %K = %D (Fast Stochastic)
• %D = SMA (%D (Fast Stochastic))

Fig 2. Fast Stochastics vs. Slow Stochastics

We can compare the different Stochastics in the chart above. Observe that the slower red line in the Fast Stochastic is identical to the faster blue line in the Slow Stochastic.

Now we can see the advantage of the Slow Stochastics: they don’t reach the overbought/oversold levels so easily, meaning that we are whipsawed less frequently.

What are these overbought and oversold levels? Generally, we consider anything above 80 to be overbought, and anything below 20 to be oversold.

This system of lines provides a bunch of easily observed buy/sell signals. The simplest of these is simply to take a buy signal when % K crosses the slower % D line from below and a sell signal when it crosses from above. However, this generally happens much too frequently to provide useful signals.

The solution most commonly used is to wait until the slower %D line makes it into one of the extreme overbought/oversold regions, and only use crossovers which occur there. This gives us fewer false signals, with those we do get more likely to be at genuine market turning points.

Another technique, which Stochastics have in common with other indicators, is divergence: when the oscillator moves in the opposite direction to price. This is a warning sign that a trend is running out of momentum. So, for example, if we have an uptrend on the price chart with a sequence of higher highs being formed, but the Stochastics are forming a sequence of lower lows, then we can say that the uptrend is losing momentum and that we will give extra weight to any argument that a reversal is underway. The chart below illustrates one of those divergence scenarios with a resultant sell-off.

Fig 3. Divergence of Price and Slow Stochastics

As with other oscillators, the biggest danger when using it is to assume that a reversal is imminent simply because it is at an extreme measurement. This isn’t necessarily true! Price pressure will remain on the upper end of the range, and hence the Stochastic will stay at elevated levels, for as long as the market is trending.

Fig 4. Sustained “overbought” Stochastics measurement.

In the Soybeans futures market recently, for example, the Slow Stochastics remained in the overbought region from May 6th to June 11th. Why wait for a reversal through all of time, instead of just running with the trend? The Stochastic crossover signal is an excellent counter-trend signal, but that’s not much use when the market just keeps on trending.

This would have been a better market to trade with the Stochastics:

Fig 5. Ranging market with useful Stochastic signals.

We weren’t so strict as to wait for the %D (red) line to get into overbought/oversold territory before we accepted a signal, but most of them worked pretty well. The two signals in red font weren’t successful (we were mostly flat after the red buy signal, and the market rallied after the red sell signal), but six of the eight crossovers were followed by decent moves in the direction of the signal.

The lesson: always adapt your indicators to the market you’re trading, and remember that even when it appears to be working, no signal is infallible!

Graham Neary MSTA (graham@futurestechs.co.uk)

We always welcome feedback from clients and free trialists here at FuturesTechs, so we can strive to provide the best possible service to aid your trading decisions.

I thought I’d use the Blog to answer publicly a few questions we have been asked of late, so here goes with one:

Dear Clive,

Re buying Technical Analysis, I always find myself thinking the same question: “If it were that easy/obvious……’we’ve been bullish almost right from the start of the recovery’……….’gearing up for a sell-off’…… why do analysts like yourself not just make loads of money trading futures or spreadbetting?

If I found it that easy/made so much money I wouldn’t bother selling my levels…

Regards,

RJ

This is a question I’m often asked, especially at Seminars. People are, quite rightly, confused that I appear to be so well equipped to trade the markets, yet I don’t.

I think there are several reasons why I don’t trade, so let’s try and go through a couple.

1. It could be argued that YOU wouldn’t want me trading, because then I would be skewing my comments and ideas around my own position. If the market was clearly going down but I’d been caught with a long position I might be trying to talk it up, convinced that my position was right, and the market was wrong. The problem with this is that the market’s never wrong! But I am a human being, so I am subject to emotions just like you, and fear of cutting a wrong or losing position is one of the most powerful (negative) emotions in trading. The flip side to this argument is also pretty valid, though. The idea that an analyst should be able to trade their views put their money where their mouth is has merit, sure. The problem I’ve found with this is that good analysts generally don’t make good traders. I’ll come back to this notion in point 4.

2. I don’t have time. I run a growing company that’s trying to reach out to all sorts of traders, through seminars, increasing product breadth, and finding new delivery methods to take the product to a wider audience. Not only that but the day-to-day analysis takes a good chunk of time each day as well, starting nice and early at 5.30am each morning (although I’m not on my own, it must be said!). So I don’t feel I have the proper amount of time to devote to trading. I don’t think this is something you can do properly with 20 minutes work a day, and if you believe in those ads that tell you this then maybe you should think about the old “if it sounds too good to be true, then it probably is” rule.

3. I haven’t made (consistent) money before as a trader. I have had a go at trading a few times. In 2001 I worked in a Trading Room in the City for a year. It was a “Prop” room with a bunch of short term traders doing “high frequency” trading. These guys were happy to make a tick on a trade, and did at least 50 trades a day. Whenever I had a position on in the Bund Futures that was more than 5 ticks onside the rest of the guys couldn’t believe I was still in the trade. I wanted to run it for another 10 or 20 ticks, but found myself taking the smaller profit. In other words I allowed what was going on around me to affect my trading decisions - Bad mistake. The other problem was that my trading was fitted around writing the analysis. I would write the analysis from 5.30am to 8am, then trade until 10.30am, the write the analysis from 10.30am ‘til midday, then start trading again. - Oh dear! The result? I broke even, so lost money over the course of a year, when taking into account expenses like the cost of the desk and the professional trading software.

Then in 2005 I put some money into an account to have a go at trading UK Equity CFDs, all the while continuing with my daily analysis, as well as providing stock tips for a CFD firm. I lost most of my stake because I was long of a bunch of stocks one week in a nasty bear move, when my FuturesTechs FTSE report was as bearish as it could be… So I was bearish in my view, but bullish in my positions. Pretty dumb, huh?!

I closed this account down, deciding that trading wasn’t for me, which brings me on to my final point, because so far, re-reading what I’ve wrote, it sounds like a bunch of lame excuses. There is a much more important reason why I’m not a trader.

The main reason I don’t trade?

4. I don’t enjoy it, or maybe I’m just not cut out for it. I am an emotionally highly charged person. I am extremely passionate about what I do. I am also extremely self-critical. I hate it when I get the market wrong when I’m writing about them, and I’m 10 times worse when I’m trading. I turn into a total pain in the butt, and my wife likes me even less than usual! During the two stints when I was trading I found my mood swings to be unpredictable, I found my home life was affected; snapping at the kids, and finding a quiet corner of the house to have a sulk when my P&L wasn’t going the way I wanted to. I don’t like being this person. While I care passionately about the markets, about Technical Analysis, and the FuturesTechs product, I don’t wish to jeopardise things that are far more important.

So my own personal journey of discovery has led me to make the firm decision that trading’s not for me, and that I am far better cut out to analyse the markets, and continue to aid real traders (who can manage their emotions!!) to trade the markets using Technical Analysis, one of the most powerful tools available to anyone who wishes to make a success of trading.

I’m happy to admit that I’m not a good trader then, which is possibly why I’m doing okay as an analyst, because there is a school of thought that a good trader will never be a good analyst, and vice-versa, just because we’re all “wired up” differently.

Next time I’m going to talk about some more technical stuff; we’ve had a few questions from readers about gaps, and how to trade them.

In the meantime if you are a FuturesTechs member and have any questions that you think would be suitable for a “public” answer then feel free to ask away!! (Click here).

If you wish to have a look at our service please click here to request a free trial.

We included the RSI and Parabolic SAR indicators in the new levels sheet available in our Members Area, so thought that it would be worthwhile to briefly introduce them to anyone who might not be familiar with how they worked or how to use them.

Fig 1: The New Levels Sheet. (Click to enlarge)

RSI (Relative Strength Index)

One of the most popular oscillators, the Relative Strength Index was first introduced by J. Welles Wilder in his popular, now-classic book, “New Concepts in Technical Trading Systems” (Trend Research, 1978).

The calculation might not look intuitive, but it really isn’t too complicated:

where RS is the “Relative Strength” of up days versus down days over the period being used (typically fourteen).

As originally calculated by Welles Wilder, the strength of up days is calculated as follows: for each day, “Up” is recorded as: the difference between the close and the prior close if there was on increase, or as zero if there wasn’t. “Down” is recorded similarly: the size of the difference between the close and prior close (always a positive number) if it decreased, or zero if it didn’t. The exponential moving averages of “Up” and “Down” are calculated, with the EMA of “Up” then divided by EMA of “Down” to give us the Relative Strength.

RSI is bounded in the range 0-100, and the use of the exponential moving averages makes it reasonably smooth, solving two issues which often arise with oscillators (for example: the simple Momentum indicator - the difference between latest close price and the price n periods ago - is neither smooth nor bounded, making for volatile swings which can’t be compared across markets).

The key takeaways from RSI are:

The ideas that hold true for oscillators in general hold true with the RSI. The oscillator will frequently turn around before the price does – for example, a price still rising that is accompanied by a falling RSI produces a bearish divergence between price and oscillator, a major warning that the up trend is running out of steam (see Fig 2 below).

Fig 2: NASDAQ Futures, September 1999 – May 2000. Divergence between price and RSI at the height of the bubble. (Click to enlarge)

It’s worth reinforcing that extreme RSI readings do not by themselves constitute buy or sell signals. For example, the most that a high RSI, even one above 70, can indicate is that if the market is ranging, it is now due for a correction. The sell signal won’t actually be produced until RSI starts declining back toward neutral levels, and if the market is trending instead of ranging, then it could stay at elevated levels for extended periods of time. As with any indicator, trader discretion is advised.

When looking at our levels sheets, simply checking whether the RSI is above or below 50 tells you something about the internal strength of that market. Additionally, we highlight the figure in yellow if it is in one of the extreme overbought/ oversold zones. A cluster of extreme overbought/oversold markets in the same sector of our equities, commodities or Forex sheets provides interesting information about general market trends, while also helping us to identify specific opportunities.

Parabolic SAR

Another invention by Welles Wilder, the Parabolic Stop-and-Reverse is designed as a trailing stop system with a difference. Originally called the Parabolic Time/Price System, the stop is calculated as function of price and time.

The SAR alternates between providing stops for shorts and longs, switching as soon as a stop is activated. In the chart above, the blue marks are the stops for shorts, with the red marks the stops for longs. As you can see, this system is “always in”, meaning that it always indicates an uptrend or a downtrend (depending on which type of stop was the last one to be activated), so that somebody who focused exclusively on it would always have a position in the market. This makes it unsuitable for ranging markets, where a trader using it would be constantly whipsawed (see Fig 3 below).

Figure 3: NASDAQ Futures, January - May 2009. Whipsawed until mid-February, and then helpfully following the trends. (Click to enlarge)

The stop is calculated by:

Today’s SAR = (Yesterday’s SAR) + (Acceleration Factor)*(Yesterday’s Extreme Price – Yesterday’s SAR),

where yesterday’s extreme price is the high in a downtrend, or the low in an uptrend, and the Acceleration Factor is a fraction which increases incrementally each day up to a maximum value, providing the distinctive parabolic shape (this is the part of the formula incorporating time).

The recommended use of the Parabolic SAR is as a stop in a trending market where other, primary tools of analysis have originally motivated the trade. The stops which it provides won’t rush to the price action too quickly at the start of a serious move, thus giving it some initial time in which to develop. However, the increasing “Acceleration Factor” means that it will pick up speed when it isn’t activated, until it races quickly towards the price. This means that when the trend does eventually lose momentum, it will quickly catch up with the price and close out the trade.

Our levels sheets provide the SAR stop in green if it’s the stop in an uptrend, or in red if it’s the stop in a downtrend. Again, simply browsing which sectors are predominantly in uptrends or downtrends according to the SAR provides useful information, even if you aren’t using the stops in trading a specific market.

A Note on Parameters

Note that as with all indicators, the parameters of the RSI and the Parabolic SAR can be tailored to suit the individual markets under consideration. Our levels sheets use the most commonly used parameters for each indicator (14 periods for the RSI, an acceleration factor of .02*(t) up to a maximum of .2 for the Para SAR), for the same reason that we look at 10, 20 and 50-day moving averages: besides being reasonable parameters to use most of the time in their own right, they are the parameters that a majority of people automatically use anyway, and therefore gain technical significance purely on that basis.

Other Indicators, Other Markets?

The levels sheets are there to assist our members and if there are particular indicators and/or markets which you would like to receive automated levels for, please let us know and we’ll do our best to include them. While automated indicators and levels are never going to be a trader’s panacea, when incorporated into an overall strategy they are a key ingredient of successful trading.

Graham Neary (graham@futurestechs.co.uk)

Neither, I suspect, is the answer to the above question, at least not as far as where we are at this very moment is concerned:

We have been bullish since early March, and have seen the market “climbing the wall of worry” as we predicted, with no-one quite believing the rally. We are not doing the “Harry Hindsight/told you so” bit here. Just ask one of our clients, or feel free to check our “Media” page on our website and listen to what we’ve said on CNBC in recent months.

But just now everyone (else) we seem to see and hear on CNBC and Bloomberg TV is getting bullish. So we’re starting to think we’re near a top for now on that basis (when too many people are getting bullish it’s time to find the exit!), and the last few days have seen some pretty uncertain price action to back this up.

When I say “starting to think we’re near a top” I don’t mean the top of a bear market rally, though. We think there will be a pullback some time soon, which may well last the whole summer (“Sell in May and go Away” is a pretty watertight strategy if you don’t take it completely literally, and if you exercise some finesse or process re timing your “sell”!). During this time you will see many commentators saying “told you so” with respect to the bear market rally story (probably the same guys who this week have been saying we’re going up; Hmmm…).

But we will not make a new low. In fact we don’t think the S&P will drop below 766, or the Dow below 7240 , and we will look for the FTSE 100 to hold above 4000 or at worse 3850 on any retracement move. The sell off will only go on long enough to get the weak longs panicking out, and only long enough to have the “bear market rally” camp saying “told you so”. THEN we will start to rally again, and we will end 2009 in fine fettle.

Our customers will benefit from knowing if and when our views change, because we WILL happily change our skew if we are proved wrong, such is the flexibility of a short term approach utilising Technical Analysis.

For now I am preparing to “Sell in May…” and it will be interesting to see what happens this week, prior to my appearance on CNBC on Thursday evening (May 14th). For now key supports are holding and we’re still short term Bullish, but this could change very quickly, and evidence is mounting in favour of a pullback.

I have been bearish of this market for a good while now and it’s proved fruitful, but today I am thinking that shorts should be covered.

Why, when the Dow has just printed it’s lowest price since 1997, would I suddenly start to think bullish thoughts?

Because I read the papers and listen to the financial news channels, and upon making this new multi-year low the world seemed to collectively shrug it’s shoulders. Ambivalence is the order of the day? Dow to 6000? Yeah, why not (you hear people say in a resigned tone).

(The FTSE is faring slightly better, holding above last years low for now, and when I trawl through the FTSE 100 stocks I see many stocks that are nowhere near making new lows compared to last years)

If you are regular readers of this Blog you’ll recall the “Sentiment Cycle” chart we posted back in October. Here it is again.

This was first published in a book called “The Nature of Markets” by a New York based Technical Analyst, Justin Mamis, back in 1991.

Note that the bottom of the cycle, when markets ultimately bottoms out, is “Discouragement” - -I think that’s what it feels like now…. and I think we’re hitting bottom.

Remember, when everyone’s sold who’s gonna sell, when everyone’s short who can be short, there’s no one left to sell it, and the market cannot go down any more if there aren’t any sellers left!

Have we got the banner headlines of doom, gloom and despair on the front cover of things like Newsweek and the like? Are Taxi drivers telling you that the Stock Market is finished? Let me know!!!

Be Safe,

Cheers,

Clive.

For this blog post we welcome a guest writer, Stephen Desborough, who has worked in the Futures industry for many years as a trader and is now a Performance Coach. He has helped many traders with his in depth knowledge of methods like NLP, approached from a traders point of view.

stephen@performance-coach.co.uk is his e-mail address if you wish to contact him.

Thanks for your contribution, Steve, and Season Greetings to you all!

Cheers,

Clive.

_____________________________________________________________

As the nights and the year draw in, it is a perfect time to reflect back on 2008. As you look back, hopefully you will be able to relish in your accomplishments and the growth that you have made both professionally and personally.

Did you set any goals for 2008? Did you achieve all of the goals that you set for yourself? If for some reason you’ve fallen short, then ask yourself, “why?”. Is there something that you could have done differently, or is there something that you should have done, but for whatever reason you didn’t?

During this special time of festivities, and a well deserved break, spend some time brainstorming the past year and the year ahead. What do you want to achieve in 2009? What is important to you? What are your goals? How are you going to achieve them?

In 1953, researchers surveyed Yale’s graduating seniors to determine how many of them had specific, written goals for their future. The answer: 3%. Twenty years later, researchers polled the surviving members of the Class of 1953 — and found that the 3% with goals had accumulated more personal financial wealth than the other 97% of the class combined.

Some of the reasons that many of us do not set goals:

• Not being serious about your goals. Until you become completely serious about your goals, your chances of success are limited.
• I don’t know how to clearly set out my goals. “As I don’t know how to do it or what I really want. I wont bother”
• The fear of failure. “What happens if I do not achieve my goals?”
• The fear of success. “How will I cope with success and will other peoples perception of me change”

If you have no goals, you are not going anywhere. This is a key reason why people do not achieve their full potential.

So it is important to GAIN DIRECTION IN YOUR LIFE AND DEFINE YOUR DESTINATION.

Even people who do set goals, do not always get the result that they intended. Here is a technique that will help you towards setting and achieving your goals. The SMART criteria.

• S. The more SPECIFIC, that you make your goals the more chance you have of it happening.
• M. What has to happen ? what do you have to see, feel, to know, so that you can MEASURE your success ? Make sure that your goals are MEANINGFUL to you.
• A. State your goal in the present tense. AS IF you are already living the ACHIEVEMENT of the goal.
• R. Make sure that your goal is REALISTIC to you. What degree of certainty do you have to make this goal happen.
• T. Have a precise TIME of when you will have achieved the goal. Make sure that your goal is what you do want as opposed to what you don’t want. eg. “I don’t want my business to struggle next year”. change to “I want my business to flourish next year”. This is stating your goal TOWARD what you want to achieve.As your coach, it is my goal to help you achieve your goals. If you are serious about what you want in 2009 please contact me. stephen@performance-coach.co.uk

Whether you’re trading direct market futures, or CFDs or Spread Betting, the lessons you need to learn to become a successful trader are the same, and they’ve been learnt, usually the hard way, by the best traders in the world. The reason they make money trading isn’t anything to do with the type of product they trade, it’s to do with the lessons they’ve learnt, and their day to day disciplined application of those lessons.

Why have I started today’s blog posting along this line? Because it’s the beginning of September, and we’ve just come out of a tough month. August can often be a tough month for traders, as I suggest in the “PS” from my last blog posting. The other reason I’m talking about this is because we’ve lost a few of our newer “individual” customers this month (which is unusual), and the main theme seems to be that they have lost money in August.

Why is August such a tough month? Because half the market participants go on holiday, and the lack of volume can wreak havoc. There are two very different conditions that can ensue:

The market can suddenly become extremely volatile, with moves making little sense. Moves also tend not to last too long, which can be a real problem for analysts like us and traders like you, who rely on sustainable trends unfolding.

Or the market can just go very very quiet and crab sideways with very little interest shown either way. Again this is problematical for many traders, as there are no big moves to get on.

We find it frustrating to talk about these sort of markets as we feel people don’t want to hear “the market not really going anywhere”. But if that’s what’s happening, then that’s what’s happening! This introduces a use for the FuturesTechs service that I’m not sure our newer customers are fully utilising. We will do our best to get you on the right trends at the right time and keep you in a solid move by sticking with the trend, but if things become messy and confused then we will tell you, and if you’re looking for a solid trend it’s time to step away from the screen. Either look at a different market, or catch up with that pile of paperwork that you’ve been meaning to deal with.

The best traders in the world abide by one word more than anything; and I’ve already mentioned it once today: DISCIPLINE. One very important discipline is to make sure you don’t over-trade, you don’t trade because you’re bored, you don’t trade because you need to make X amount by the end of the month. If there’s no clear trend then you are only going to give your money to the market, and there’s plenty of willing takers of your hard earned lolly.

So always be aware of market conditions, and on this note be aware that we are now entering a very interesting period of the year. The run it to Christmas is usually a time when there are strong moves in the market. Between now and November I’m sure we’ll identify plenty of big moves that can be jumped upon and provide profitable trading opportunities.

We may already have the first of these, with Oil selling off through key support (around $110 in Brent Crude) first thing this morning, and Gold Futures failing at key resistance (850) towards the end of last week.

We’ve been in these markets for years, and been analysing them for professional traders since 2000. We’re giving you the chance to share this wisdom on a daily basis, for just 50 quid a month. Can you afford to pass up this opportunity? Do you want to make money trading, or become another one of the 80% who fail?

You decide.

www.futurestechs.co.uk/subscribe/

Cheers,

Clive.