Option Investor
Trader's Corner

More on Trendlines

HAVING TROUBLE PRINTING?
Printer friendly version

I got the following from a Subscriber and it seems that trendlines are still worth discussing for one more column.

SUBSCRIBER QUESTION:
"I enjoy your technical analysis insights and I read something recently (10/25) that I wondered if you could comment on.

Relating to the 30-minute charts of the Nasdaq and S&P 500, there was an observation that an uptrend had not yet formed on the SPX, but it had on the NDX. In comparing the two charts I see little difference except the channel is steeper on the Nasdaq.

If you place the bottom of the channel on the S&P 500 parallel to the line that is drawn through the rising tops it appears that it would roughly touch the lows of October 13th & 24th with the lows in-between cutting through the bottom of the channel but quickly returning inside the channel.

The S&P 500 only has 3 1/2 points to rise before it reaches resistance, whereas the Nasdaq has almost 17 so the Nasdaq allows for more room to run but both seem to be in a pretty well defined uptrend to me.

What am I missing?"

RESPONSE:
As far as the 'missing' element here, I would first note that your trendline question and discussion is somewhat backwards. An UP trendline is formed by a rising series of lows. The upper boundary of a rising uptrend price 'channel' is a line parallel to this (up) trendline. You started with an upper channel line and then drew a line parallel to it to make a point about the mid-October lows, rather than starting with the rising series of lows or a possible emerging uptrend and up trendline.

UP trendlines are formed by rising LOWS and DOWN trendlines by a series of declining rally HIGHS. Trend channel lines slant in the same direction (as up or down trendlines) and are lines running parallel to the underlying trendline. The upper or lower end of a price channel is secondary to the up or down trendline.

For example, an upper trend channel line is not usually a dominant resistance area; rather, it most often is an area where an index or stock may have reached a temporary high on the way up. Subsequent pullbacks to the up trendline ARE the key focus, as they often represent new or further buying opportunities.

I don't have the comments you refer to, so will just look at those charts and tell you what I think. On the 30-minute chart of the S&P 500 (SPX) BELOW, there are 3 points that form an up trendline, as noted by the 3 up green arrows on the chart below.

[Two points (2 lows in the case of an uptrend) are enough to begin to draw a trendline, but 3 points are preferable, less 'tentative' and more definitive usually; this makes for a trendline that is better 'defined' so to speak.]

There are 3 lows on the SPX 30-minute chart ABOVE that define an up trendline. Drawing a line parallel to the up trendline that touches the highest high makes for a 'tentative' upper trend channel line. If there is a subsequent higher future rally high in the area of, at or on this upper channel line, this trendline would start to (also) be better defined.

The other question on trendlines is HOW they are constructed, as the method (of construction)can lead to different interpretations of whether a trendline has formed or not. I tend to look for the predominate areas where an index or stock forms bottoms or tops and draw my trendline through these areas, on a 'best fit' basis.

An 'internal' trendline (not a 'standard' technical term) is one drawn through the MOST number of lows or highs; and, will usually cut through one or more extreme lows or highs as seen ABOVE in the case of the rising line connecting the SPX lows.

The Nasdaq 100 (NDX) half-hourly (30-minute) chart is seen below. The up trendline has a sufficient number of lows to construct it. This up trendline cuts through one low also. The upper channel line has better definition than the SPX upper channel line (in the chart above) with three connecting peaks. The 3rd and most recent high reversed from the upper channel line.

USE OF HOURLY CHARTS:
I strongly favor the use of hourly (60-minute) charts, rather than half-hourly (30-minute) charts, since I find that hourly charts better show short-term trends. For example and starting with the S&P 500 (SPX) chart below:

There is a DOWN trendline apparent on the hourly chart below and the second point (of/on that line) was made today as highlighted by the red down arrow. Not that this line would not also appear with the use of a 30-minute chart. Hourly charts do tend to better show the unfolding trend in my opinion.

The same down trendline does NOT appear on the hourly Nasdaq 100 (NDX) chart. The key technical aspect of the NDX hourly chart below is the up trendline intersecting currently near 1560. As long as this line is not pierced, at least not by more than a single 'bar' or single hourly low, the uptrend is intact.

In an uptrend we are most concerned about whether to stay with bullish trading strategies; and, where to buy on pullbacks. For example, the ideal place to buy index calls is on pullbacks to an up trendline.

You can watch to see if that trendline has 'held'; i.e., defined an area where buying interest again comes in. At that point, on pullbacks to an up trendline, we assume upside potential and the prospects of a rebound are better than average. And, this strategy allows use of a 'tight' protective or exiting stop point, at just under the trendline; e.g., 3 points under.

IF YOU CAN'T FIND A SIMILAR TRENDLINE ON ONE INDEX, LOOK FURTHER

If we've seen a down trendline on one of the S&P charts, such as was apparent in SPX and a similar trendline is NOT seen on the Nasdaq 100 (NDX), it's of potential interest to look at the related Nasdaq Composite (COMP) Index.

On the hourly COMP chart below, a down trendline intersects currently around 2145. This line intersects a progressive lower level over time of course. Such a down trendline should or may define a more stubborn area of resistance; a place where we would want to be alert to a trend reversal.

By the way, I would extend this comment and observation to looking also at the other principle S&P index, the S&P 100 or OEX. An even better 'defined' (a greater number of highs) down trendline is apparent on the OEX hourly chart. Today's downside reversal started right from (you guessed it!) this line. Imagine that.

Whether today's reversal means that the OEX will remain in a downtrend is not known. We can say is that the downtrend pattern in OEX remains intact; and is not reversed until there is an hourly close above 555.

In effect an uptrend has NOT been achieved until OEX pierces 555. In the case of the Nasdaq Composite Index chart (shown prior to this last one above), an upside breakout or reversal of the recent downtrend, is not achieved unless COMP rallies above 2145 current or wherever the down trendline intersects later on; e.g., 2140, etc.

** E-MAIL QUESTIONS/COMMENTS **
Please send any technical and Index-related questions for possible use in my next Trader's Corner article to Click here to email Leigh Stevens Support [at] OptionInvestor.com with 'Leigh Stevens' in the Subject line.

** Good Trading Success! **
 

Trader's Corner Archives