I was asked in an e-mail today from an OI Subscriber, after being absent from this space last week a question that got me thinking about a technique I used to use to project potential support and resistance areas, as well as possible 'trend change' points ahead (future time projections), in ANY market, including those that have broken out to a new historical high or low. This topic is a reference to 'squaring price moves' (per WD GANN concepts) and included time duration projections, which I'll get into a bit today, with more to follow next week I think.
QUESTION: "How are you figuring how far this rally may take us? I am holding some distant calls currently. I've made good profits in expired options but am scratching my head on what's next. Like you said it keeps going and going."
Yeah, I compared this market to the Eveready bunny that just keeps traveling on, and on. This per my last Index Trader column, seen online only, with my Saturday article perused by clicking here.
Well, it's tough to project targets or projected resistance in a runaway move like this one, but I can take you through some ideas, concepts and techniques I use. Of course, options traders especially are needing in mind some possible projections for any move they are in. If in stocks and if you believe in the viability of the trend, hey just stay in them!
The following concepts, measurements and techniques are ones that I use in various ways to judge the staying power of a trend like the one we're in which I would call an accelerated if not runaway move. Certainly the angle of ascent or upside momentum has powered ahead in the last now, I count about 18 weeks.
DO TRADERS 'BELIEVE' THE TREND?!!
This is major. In the nothing new under the sun department, Charles Dow so long ago talked about how MAJOR trends don't die/reverse until there are a LOT of 'believers'. The way I measure this is by a 'sentiment' indicator using a simple equities call to put daily trading volume ratio plotted on a graph, as seen in this first chart. Some of the strongest moves come with less than obvious consensus on the outlook for stocks; i.e., the outlook for the trend in EARNINGS.
When there is disbelief or just caution in the staying power of a powerful move, the tendency is for that move to be longer, to go further and with fewer CORRECTIONS than traders especially anticipate. As traders we are used to trading less powerfully trending markets. Non-trending or 'trading range' markets (70% of the time) are more common than strongly trending markets (30% of the time).
If my sentiment indicator doesn't jump to an extreme, it's a good sign for the market trend continuing. This doesnt address the question of how high it can go on the next price swing or ultimately, but it's a good indicator or good indication to stay in the market.
My sentiment indicator is at the bottom, but I will refer back to the upper price portion of the chart in pointing out how there are some price projections implied by the upper and lower end of an uptrend channel such as I've drawn on the S&P 100 (OEX) chart below. This channel currently suggests that possible 'resistance' may be found up around 660 currently. Again, this projected resistance doesn't give me any ultimate long-term targets as we don't know at what point in this rising channel will an ultimate top be found.
And, even if the recent declines to the LOWER end of the channel had been pierced, so what! There's a pullback of some greater amount than we've been seeing in recent weeks, then the (up) trend takes off again. For judging where to buy pullbacks in a strong uptrend however, the use of this OEX trend channel was very useful.
The divergent trend in prices, with moves to ever higher highs, but without a concomitant trend in the RSI, means far less in a power move like we've been in. But, it's worth noting as signaling a degree of caution about piling on and continuing to buy every dip without closely watching how things unfold. Especially so with the recent jump in my sentiment indicator. Maybe we FINALLY got a huge bunch of bullish converts who are getting darn tired of watching this thing go up without them being on board; hey, why is 'everyone' else making money and not ME!
I've chosen to use the close-only line chart on which to measure retracements. I found the closing level of interest, in that the 66% or 2/3rds retracement in the 687 area, will be seen again in my discussion of so-called 'Gann square' projections further on. Back to PRICE PROJECTIONS: a rule of thumb on retracements I use is that if an index or stock exceeds a 38% retracement of a prior move, it can achieve (and my next target is) a 50% retracement. If a move exceeds a 50% retracement, my next price objective becomes the level at which the index or stock would achieve a 62% retracement and perhaps a bit more; i.e., a 66% retracement. If the index goes beyond a 66% retracement, I look for a potential move equaling 100% of the prior price swing.
CHANNELS AND RETRACEMENTS:
The Nasdaq 100 Index (NDX) got up to near the top end of its uptrend channel; if drawn only slightly differently, it would have touched this line. I noted that when NDX got to the 1800 area, some significant selling came in, which is not unusual at the these even 100 levels. Note the support found at the low end of the outlined NDX uptrend channel in my next chart. I knew that 1800 was of some potential significance also, as this level is where NDX finally retraced (just) 25% of the 2000-2002 bear market in tech stocks that laid waste to this market segment.
When you get these cross-referencing pieces of data, such as where the upper end of the price channel is also hitting potential resistance or at least a possible pause point because this price area is also a first or later retracement of a prior move, well, it would be enough for me to take the money and run on call profits. The problem of trading out of a position is whether we will have the guts to buy back in; and, what if the move just powers ahead?
The following chart is a crude, for example only, 'squaring' of 202 points in the OEX, which is the distance separating the July 2002 low and the early 2005 high at 587. If I then overlay some large squares going forward where the length and height of the subsequent large squares of a distance of 202 points are projected up and forward (in time), then I can draw certain conclusions: 1. a quarter, half, 3-quarters and 100% of 202, added to the 587 high gives me projected resistance points at 637.5, 688 (remember 687 from above: representing a 66% retracement of the 2000-2002 decline), 738.5, etc. are both projected targets and potential resistance points.
Moreover, the 45-degree angle lines which simply bisect the squares, are potential further support and resistance areas. AND, the center of the squares, where the lines intersect are possible 'trend change' points; i.e., projected points further ahead when there might be a change in the trend, which is often either an acceleration in the existing trend or a reversal in the trend.
Study of the weekly OEX chart below will provide illustration of some of these past events or future projections. Note that 660 appears again as potential OEX resistance, per the top of the trend channel on my first chart above. I would also note that the market has made a significant top in March in the two years prior to 2006.
Stay tuned next week for more on 'squaring a price range', which is probably one of the most, if not the most, useful techniques that I got from my study of a unique and very successful historical trader and colorful market figure, who employed highly unique and unusual techniques of figuring what to trade, when and for what kind of objectives. It would almost make you believe that future price trends and trend targets are 'contained' in what has already happened and the trends just unfold according to certain cyclical laws of momentum. (Elliott) Wave theory is like this too. If true, such a theory would put countless 'talking heads' out of the predicting, prognostication business, which means that such things as I describe here will remain pretty well hidden from public view.
GOOD TRADING SUCCESS!
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