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The Stiffness
Indicator
How stiff are your stocks? 8
The V-Trade
Part 9: Trading examples 14
Diamonds Are
A Trader’s
Best Friend
A deep dive into diamond
patterns 28
INTERVIEW
Trading the headlines
with Kathy Lien 32
NOVEMBER 2018
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XVI
Featuring the NEW Explorer
Discover the latest features at metastock.com/whats-new
The editors of S&C invite readers to submit their opinions and information on subjects trend reversal to the upside.” In Figure
relating to technical analysis and this magazine. This column is our means of communi- 5 we can see the weekly stochastic is
cation with our readers. Is there something you would like to know more (or less) about? overbought at the beginning of April
Tell us about it. Without a source of new ideas and subjects coming from our readers, this and in a downtrend. But we can see there
magazine would not exist. is no reversal to the upside and it keeps
Email your correspondence to Editor@Traders.com or address your correspondence going down.
to: Editor, Stocks & Commodities, 4757 California Ave. SW, Seattle, WA 98116-4499. All Wei Chen
letters become the property of Technical Analysis, Inc. Letter-writers must include their full
name and address for verification. Letters may be edited for length or clarity. The opinions Author Vitali Apirine replies:
expressed in this column do not necessarily represent those of the magazine.—Editor Thank you for your comments and
questions about my article. I’ll respond
to each.
As to your first example, ideal indica-
RevisitING Double Bottoms results despite using different data and tors (such as moving average crossover
Editor, different methods. Good job, Pawel, and whipsaws, failed price patterns such as
I enjoy articles most I hope to see future articles by you! triangles, and so on) simply don’t exist.
when I learn some- Tom Bulkowski The same signals can carry different
thing, and I learned messages. Signals represent the pos-
from Pawel Kosins- Thomas Bulkowski is a Contributing sibility that something will occur, but
ki’s September 2018 Writer to Technical Analysis of Stocks technical analysis is not a crystal ball.
article “Double Bot- & Commodities magazine and the au- In your second example, I used a 200-
toms Revisited.” thor of Encyclopedia Of Chart Patterns day simple moving average (SMA) and
I used my double and Chart Patterns: After The Buy, support/resistance lines for additional
bottom data (3,388 double bottoms among other books.—Editor confirmation or nonconfirmation of
found manually in 1,080 stocks, some trend reversal.
of which no longer trade, from 1991 to Weekly & Daily Stochastics As with all technical indicators, it
2018). My results show no performance Editor, is important to use the weekly & daily
difference for the bottom-to-bottom I found the article by Vitali Apirine in stochastic in conjunction with other
price variation or volume, but do show the September 2018 issue, “Weekly & technical analysis tools like support/
that tall patterns perform substantially Daily Stochastics,” quite interesting. But resistance and moving averages.
better than short ones (using the median I would like to say that his explanation in
height-to-breakout price as the boundary the article is more or less contradictory Traders’ Tips code
between short and tall). and makes for confusion. Editor,
To that data, I applied most of the For example, he writes: “Oversold I trade CFDs on IG.com using ProReal-
trading rules outlined in his article. I was readings in the daily stochastic during Time software, and I script using their
able to match his findings that perfor- an uptrend are often considered to be ProBuilder language. S&C’s Traders’
mance improves when the left bottom’s long trade opportunities.” But elsewhere Tips section is a great help to many trad-
price is above the right one, and when in the article he writes: “The chart ers. I would appreciate it if S&C could
the right bottom’s volume (using the in Figure 3 (uptrend) ... The oversold add ProRealTime entries to benefit the
average volume of two days before to 14-day stochastic reading (red ellipse) many traders who use PRT.
two days after a bottom, five days total) in mid-September foreshadowed the Looking forward to hearing from you
is above the left. index’s decline.” This means one should regarding whether this is possible.
I removed his 100,000-share mini- go short. Jarl Lidén
mum breakout-day volume because As another example, he writes: “Over-
that rule reduced the sample count from bought readings in the weekly stochastic Thank you for writing. We have ex-
over 2,000 to 164. I also found that if during a downtrend can signal a possible tended an invitation to ProRealTime to
you remove the price range restrictions contribute and hope that they will do
of excluding stocks priced below $5 or so.—Editor
over $500, the improving performance
trend of short (worst) to middle (better) READERS’ CHOICE AWARDS
to tall (best) pattern matches my find- Voting is now underway for our 2019 Readers’
ings, at least for the three sets of ranges Choice Awards. Visit traders.com to log in
Kosinski used (0–10%, 10%–20% and and vote for your favorite products, services,
more than 20%). websites, and articles!
Kosinski wrote a terrific article, proved
what he said, and I could reproduce his
6 • November 2018 • Technical Analysis of Stocks & Commodities
TRADING ON MOMENTUM
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From Volatility Comes Momentum AI TRADING SOFTWARE
Wide-Range Winner
Chart Breakouts
16 years
in a row!
Skip the narrow, choppy trading ranges low range to qualify. So the low of the Build powerful
and look for a chart with enough range chart might be $16 with the high of the
to have some momentum behind it. chart at $20.
trading systems in
But here’s the challenge. Traders and MINUTES
O
by Ken Calhoun technical analysts get into trouble when
they overthink trading signals on charts
without coding
ne of the most important that have narrow, relatively choppy, small
considerations you should ranges. These are exceptionally difficult
take into account when it to trade with any consistency. I urge
comes to stock selection is everyone to spend more time looking ®
Trading Wide-Range
Charts
You can define a wide-
range chart in differ-
ent ways, depending on
the time interval. This
month, I’ll feature a
15-day chart of Renew-
able Energy Group Inc.
(REGI) (Figure 1), that
has a nine-point range on
a $26 stock, roughly 30%.
I would consider 20% the
minimum trading range
you should scan for on a
15-day chart using this
technique. For example,
a $20 per share stock
esignal
would need a minimum Figure 1: Wide-Range Chart Breakout. Here you see a wide-range chart that has a lot of profit potential due to its strong
of ($20 × 20%) = $4 high/ uptrend and nine-point trading range.
T
he FAANG acronym, standing for those well- Introducing the stiffness indicator
known companies Facebook (FB), Amazon The stiffness indicator basically attempts to recog-
(AMZN), Apple (AAPL), Netflix (NFLX), nize strong price trends by counting the number of
and Alphabet (GOOGL), may be familiar to times price was above the 100-day moving average
you. Over the past five years, the FAANG five have (MA) during the indicator period. The premise is the
returned 42.7% annualized compared with a 10.3% fewer number of times price penetrates the MA, the
annualized gain of the Standard & Poor’s 500 stock stronger the trend. This suggests less erratic future
index. In fact, only 20 stocks—or four percent of price movement as well.
companies listed on the S&P 500—constitute about I also introduced a volatility threshold that excludes
70% of the index’s return. minimal penetrations of less than 0.2 standard devia-
If you could identify these stocks early on, you too tions. The default MA is 100 days and the indicator
could accumulate impressive profits. But what do the period is 60 days.
FAANG or similar stocks have in common? Look- The stiffness indicator is calculated as follows:
ing at the charts of these stocks, you can observe the Multiply the number of times price closed above the
trend is typically made up of several legs, separated by MA during the indicator period by 100 and divide
shallow and short corrections (Figure 1). The uplegs by the period. Thus, the higher the indicator value,
are tradable, as they last from four months to a year, the stronger the price trend. The maximum indicator
on average. Notice also that during the uplegs, price value is 100 and suggests a strong trend that occurs
almost never (except at the trend’s beginning) pen- in the case of no or small penetrations of less than
etrates the 100-day moving average (MA). An obvious 0.2 standard deviations.
(in retrospect) strategy would
be to buy the dips as long as
you can correctly identify the
correction’s bottom.
An alternative and safer
strategy is to trade them af-
ter a strong and high-quality
trend has been established.
In my June 2018 S&C article
(see Further Reading at end),
I introduced the stiffness
coefficient, which improved
amibroker
tering out weak price trends. Figure 1: Three-year chart of Amazon.com. You can see that short and shallow corrections (shaded in gray) are
In this article, I will use this followed by stiff uptrends.
by Markos Katsanos
November 2018 • Technical Analysis of Stocks & Commodities • 9
Figure 2: Chart of Align Technologies (ALGN) from early 2016 to June 2018. In the upper window you see the 60-day stiffness indicator. Periods where
the indicator is over 90 are shaded in light gray. The blue line in the lower window is the 100-day moving average (MA) and the red line below it is the 100 MA minus 0.2
standard deviations.
In the chart of Align Technologies (ALGN) in Figure 2 you Buy condition 1: Stiffness (100,60) crosses over 90
see that during the last 30 months depicted in the chart, the Buy condition 2: EMA (SPY,100) > EMA (SPY,100)
stiffness indicator reached the maximum value (100) twice and Sell condition 1: Stiffness (100,60) crosses under 50
correctly identified both tradable trend legs: The first one in Sell condition 2: Bars since entry ≥ 84 (four months)
2016 produced a profit of 17% in six months, and the second
one from the end of April 2017 until April of 2018 produced I confined the backtest to the S&P 500 stocks. A problem in
a profit of 110% in a year. The trends are shaded in gray in backtesting was the prolonged bull market, which favored the
the chart. buy & hold method. To include a wide sample of market condi-
tions, I extended my test to the previous 10 years. The initial
Testing method capital was $200,000 and the trade size $10,000. Signals were
To evaluate the usefulness of the stiffness indicator, I designed executed the next day at the open and commissions were $0.01
and tested a simple trading strategy with the following rules: per share. The AmiBroker AFL code for the stiffness indica-
tor, test system, and an exploration can be found in the sidebar
• A long position is initiated when the stiffness crosses “AmiBroker AFL Code.”
over 90. To evaluate the efficacy of the stiffness strategy, I compared its
• When it comes to trading strategies for stocks, what is performance with the standard benchmark buy & hold system,
more important is the market index. However good your which involved buying and holding an equal dollar amount of
strategy is, the odds are you are going to lose money in the SPY ETF for the last five- and 10-year test periods until
July of 2018.
10 • November 2018 • Technical Analysis of Stocks & Commodities
Traders take many paths to reach their destination.
Can your platform get you there?
Futures, foreign currency and options trading contains substantial risk and is not for every investor. Only
risk capital should be used for trading and only those with sufficient risk capital should consider trading.
Despite the prolonged bull
market during the last five
years, the system managed to
beat the buy & hold investor,
producing 44% more profits
with 25% less drawdown.
During this period, the buy & hold investor suffered a dev-
astating 48% drawdown versus a manageable 15% drawdown
of the system. This system is only profitable for about 60% of
the trades, which is enough to make money consistently.
Figure 3: 3D optimization chart of the S&P 500 stocks from July 2008 Using stiffness in a trading strategy
to July 2018. The system was optimized for values of the moving average from 50 The system presented in this article is not a complete trading
strategy. It was designed to assess the efficacy of the stiffness
to 120 days on the x-axis and stiffness period from 30 to 80 days on the y-axis. The
profit factor is plotted on the z-axis. Parameter combinations producing a profit factor
> 2.1 protrude above the waterline (blue horizontal plane). indicator. However, you can further improve the accuracy of
the current system if you use it with other noncorrelated indi-
5 Year 10 Year cators or patterns.
Performance
Buy & Hold Stiffness Buy & Hold Stiffness
You can accomplish this by adding an oversold/overbought
indicator such as the relative strength index (RSI) and only take
Net Profit $136,000 $195,600 $234,000 $492,000
trades when the short-term (three- to six-day) RSI is oversold
Annual Return 10.90% 14.60% 8.06% 13.20%
and turns up while the stiffness indicator is bullish.
Trades 1 430 1 1030 Once you enter a long position, your next concern should
% Profitable N/A 60.9% N/A 63.4% be to apply an exit strategy. In the current test system, I used
Max % Drawdown -14.3% -10.7% -47.9% -15.5% only the stiffness indicator, but there is absolutely no reason to
Reward/Risk 3.60 5.33 2.37 6.8 use the same indicator for exits. In fact, the stiffness indicator
Profit Factor N/A 2.50 N/A 2.6 generally provides lagging exit signals and I would therefore
Max Duration (months) 60 4 60 4
advise traders to use a faster indicator such as Wilder’s parabolic.
I’ve also tested a few stop-loss schemes and found that they all
Stocks Tested SPY SP-500 SPY SP-500
reduce yield without any significant drawdown improvement.
Figure 4: evaluating the system. You can see here the system performance Tight stops increase the number of prematurely aborted trades,
during the last five- and 10-year period until July 6, 2018.
while wide stops lock in large losses. This can be attributed
partly to the market’s long-term tendency to rise.
For this test, I used the default parameters, that is, 100 days On the other hand, the profitability improved by adding a
for the MA and 60 days for the stiffness period. In the 3D volatility-adjusted profit target six to 10 times the average true
optimization chart in Figure 3, you can see the strategy was range (ATR).
profitable for a wide range of MA periods from 70 to 110 days
and stiffness periods from 55 to 65 days. Notice also that for The bottom line
higher values of stiffness periods, the system is only profitable Momentum trading has always been a
for higher values of MA greater than 100 days. profitable and reliable method not only
because it has worked well in the past but
System evaluation also because of human nature. After all,
In the table in Figure 4, you can see the test simulation results everybody loves a winner. The problem
of a five- and 10-year backtest. Despite the prolonged bull with momentum strategies is they are
market during the last five years, the system managed to beat complex to model.
the buy & hold investor, producing 44% more profits with 25% The performance tests presented in
less drawdown. this article have convinced me that the
The true potential of the stiffness concept, however, became stiffness indicator can be used to en-
apparent during the 10-year test, where the system produced hance the probability outcome of such
profits double that of the buy & hold with a third of the risk. a momentum strategy.
12 • November 2018 • Technical Analysis of Stocks & Commodities
Markos Katsanos is the author of Intermarket Trading Strate- Further reading
gies and is a Stocks & Commodities Contributing Writer. He Katsanos, Markos [2008]. Intermarket Trading Strategies, John
can be reached at markos.katsanos@gmail.com or through his Wiley & Sons.
website, http://mkatsanos.com. [2016]. “Which Trend Indicator Wins?” Technical Analy-
sis of Stocks & Commodities, Volume 34: October.
The code given in this article is available in the Article Code section [2018]. “A Technical Method For Rating Stocks,”
of our website, Traders.com. Technical Analysis of Stocks & Commodities, Volume
36: June.
See our Traders’ Tips section beginning on page 48 for commentary Kaufman, Perry [2014]. “A Better Trend,” Technical Analysis
and implementation of Markos Katsanos’s technique in various of Stocks & Commodities, Volume 32: April.
technical analysis programs. Accompanying program code can be ‡AmiBroker
found in the Traders’ Tips area at Traders.com. ‡See Editorial Resource Index
†See Traders’ Glossary for definition
//STIFFNESS
MA2=MA(C,MAB)-NSTD*StDev(C,MAB); Stiffness exploration
CLMA=C>MA2; //STIFFNESS EXPLORATION
PENS=Sum(CLMA,PERIOD); //Copyright Markos Katsanos 2018
STIF=PENS*100/PERIOD; STIFFNESS=EMA(STIF,SM);
Plot(stiffness,"STIFFNESS",colorRed ,styleHistogram ); MAB=100; // MA DAYS
Plot(STIFFCRIT,"STIFFCritical",colorGreen,styleThick); PERIOD=60;// STIFFNESS PERIOD
STIFFCRIT=90;// STIFFNESS CRITICAL
The V-Trade
price and lower top in the indicator
pushes price down for correction
wave 4 to the 161.8% Fibonacci
support and the middle line of the
Part 9: Trading Examples volatility band.
SILVER DOLLAR: ROMAN SIGAEV / SILVER YEN:KAVALENKAVA / WAVE ART:
In this ninth part of a multipart series, we look at some example trades using the complete wave 5-(5) when it reaches
V-Trade trading rules. the 261.8% Fibonacci target. This
creates a double downward brick and
by Sylvain Vervoort a negative divergence—higher top in
My
price vs. lower top in the indicator.
objective of the V-Trade article series is to explain the techniques If you consider this the possible
I apply to make manual and automatic buy & sell decisions, or a end of an up-moving impulse wave,
combination of both. But before I move on to the V-Trade tools avail- does it comply with the uptrend-to-
able in the expert system, I want you to use what you have learned downtrend reversal rules?
in the technical analysis part of this series and practice the V-Trade • We expect a downward first
by applying the V-Trade buy/sell rules.
14 • November 2018 • Technical Analysis of Stocks & Commodities
TRADING SYSTEMS
correction wave A or 1.
• Price is at the top of the volatility band.
• The last move up is a completed impulse wave.
• The SRSI indicator is coming down from the top with
a negative divergence.
• Price is at resistance of the 261.8% Fibonacci tar-
get.
• Price shows an upper wick at the double reversing
red renko brick.
MetaTrader4
Closing the short trade at the end of
correction wave A FIGURE 1: 10-PIP MODIFIED RENKO CHART OF USDJPY. All signs point to the
Figure 2 shows the correction for the A-wave down. At the completion of impulse wave (5).
red dotted vertical line marked 1, we opened the short trade
at the close or the open of the next bar, after the double red
bar down at a price of ¥111.10. Soon after, double green
bars show up at the vertical dotted gray lines 2 and 3. Does
that mean a possible reversal already?
At these points, we are not complying with the retrace-
ment and continuation rules. For a reaction, it is too small.
This looks like a short-term reaction to the support at 2,
resistance at 3, and volatility channel middle line. Also,
there is no reversing signal visible in the indicator; it con-
tinues its move down. The next reversing signal comes a
couple of days later (marked “4” with the vertical green
dotted line). Are we reaching the end of correction wave
A? Is this a reversing point?
You expect a pullback wave B. The USDJPY moved
beyond the 50% retracement of the full previous impulse
wave up. There is also price support, and price reaches the
61.8% Fibonacci retracement level. Price is at the bottom
of the volatility band with a positive hidden divergence
between price and indicator. Complying with the V-Trade
rules, we close the short trade at ¥109.80. That is a profit
of 130 pips or a value of ¥130,000. FIGURE 2: END OF CORRECTION WAVE A. Once the end of wave A looks very likely,
the short trade is closed.
A profitable wave C
Figure 4 shows the wave C down. On the way down, a first
double green brick appears (marked as wave a). Could this
be the end of the ABC correction move?
Looking at the downtrend-to-uptrend reversal rules, this
might be the case except that price is not reaching passive
or active support. Another point is that wave A and C usu-
ally are of the same size, which is not the case here. You
will have to decide to either take profit or risk some of the
profit staying in the trade, expecting a smaller abc zigzag
correction within wave C. There is resistance at the end of
wave A level and the middle line of the volatility band. I
continue to stay in the trade but if price moves beyond the
middle line resistance I will close the trade.
After another single green bar up for correction wave
b, price turns back down against the volatility channel Figure 4: Auto-closing the wave C short trade. The short position is closed
middle line resistance. Before the next double green bar when price reaches the 161.8% Fibonacci target over wave B.
is completed at the vertical dotted green line,
the short position is closed when price reaches
the 161.8% Fibonacci target over wave B. The
profit is 103 pips, which is the equivalent of
¥103,000. Total profit is now ¥233,000. This is
likely the end of wave C and wave (A) correc-
tion of a higher degree. The last up move of 680
pips (wave 5-(5)) helps to infer the completion
of wave (A). If this is a wave (A), you can now
expect correction wave (B).
The expected up correction (B)-wave is ini-
tially a correction for wave C and if larger, it’ll
be a correction for the complete ABC downward
zigzag wave. Resistance for this move up is
given by the top of wave b, the upper side of the
volatility band, and the 200-bar average (green).
Most likely, this will be a V-wave correction with
a smaller abc correction. Is it worth opening a
long trade? In general, it is good practice not to Figure 5: Waiting for the end of correction wave (B). The 161.8% Fibonacci projection
trade against the trend unless you are awaiting over wave (B) gives a price target of 108.43. At the same time the magenta 161.8% Fibonacci projection
a larger move. So you wait for the end of this over the first wave A gives the same price target.
16 • November 2018 • Technical Analysis of Stocks & Commodities
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LAS VEGAS
NOVEMBER 12-14, 2018
Pa r i s / B A L LY ’ S R es o r t s
WOMEN IN TRADING
BACK TO THE FUTURES
CRYPTO INTELLIGENCE
ALL-STARS OF OPTIONS TRADING
LIVE TRADING: FUTURES, CRYPTO, & EQUITIES
If you’ve tried to make profits out of option decay, you may You may be flat versus the expected gain or you may even
have found yourself waiting patiently to eek out even a bit of have a loss versus today’s P/L.
profit. Find out what some pros have to say about this. How can that even happen? What gives? Where’s my theta?
Why isn’t the market paying me my due? I did everything
Y
by John A. Sarkett “right”!
If you’ve tried a time or two or more to make profits out
OPTURA DESIGN/SHUTTERSTOCK /COLLAGE: CHRISTINE MORRISON
ou are sitting there admiring your freshly executed, of options “decay,” you likely have had this unnerving ex-
income-generating options strategy. What a beau- perience, unnerving because you soon learn to distrust the
tiful risk curve. “graphic instrumentation,” a.k.a., the risk curve. To help get
You have positive theta (options decay) com- to the bottom of it, I asked some seasoned options pros about
ing your way from one or more of the following: this phenomenon, that is, the difference between what you
calendars, butterflies, short calls, short puts, short see and what you get. Here’s what they said.
verticals, short strangles, or short straddles.
Your brokerage platform’s “risk profile” tells you to expect a 1. Options are more like quantum physics than
significant markup in your profit & loss (P/L) tomorrow. And classical physics.
an even bigger amount the next day. Terrific! Think of options as “quantum” entities, the modern realm of
Only it never arrives, at least not the next day. Or the next. physics that puts more stock in change and probabilities than
24 • November 2018 • Technical Analysis of Stocks & Commodities
options
rigid rules. Quantum physicists consider where an electron is 6. Market-wide risk is always lurking in the background,
going to be versus where it is now. Taking a page from their even in today’s ever-upward market.
esoteric approach, risk curves may show where you’re at in this What about the other side of the coin—what if the market is
moment, but not where you’ll be in the next. There are many crashing and volatility is exploding? “When markets have a
sub-nuclear particles flying around here, if you will, that make ‘volatility eruption,’ it has the same effect as extending the
this happen, foremost of which is vega (greek shorthand for days to expiration (DTE) in a trade, which affects the rate of
volatility). [Greeks are the sub-derivatives that go into making decay of the time premium, depending on how far from the
the price of an option, including delta (change), gamma (ac- current market price the strikes are,” says Tom Nunamaker.
celeration), vega (volatility), theta (time decay), rho (interest He is founder of aeromir.com (previously founder of Capital
rates)]. They all play their role, especially vega. Discussions, and before that one of the key team members of
Sheridan Mentoring).
2. The map is not the territory.
Dan Sheridan, founder of Sheridan Mentoring, comments: 7. Theta expectation is more reliable early
“First, one position where theta doesn’t materialize like we in a position versus late.
dreamed it would does not a trend make. We would have to Joseph Cusik, director at Options Industry Council (OIC) and
study the phenomenon over a year or 18 months to determine former executive at optionsXpress brokerage, added these
what is really happening. However, having said that, a risk thoughts: “When I was at oX, we did not do too much analysis
curve is a theoretical model. It is the best we have, but it is back then on the accuracy of theta decay expectations. The
theoretical, not real. It is an estimate, a projection, and only long and short answer to your question is time. What I can
that.” say from experience is that the absolute level of theta decay
Tom Sosnoff, who founded thinkorswim before it was did increase as the positions got closer to expiration. What I
acquired and who is now head of Tastytrade and Tastyworks have found is that when looking at the P/L from the start of
brokerage, concurs: “Any model is going to be more rigid a trade to the expiry, realized P/L was higher than expected
compared with the reality of how things move. And vega is P/L and that the reliability of theta expectations tends to be
definitely going to play a role with respect to theta.” stronger at the front end of the expiration timeline, as opposed
to the end.”
3. Vega will make or break you.
Aric Forsythe was one of the designers of the thinkorswim 8. Then, there’s the little matter of execution.
platform. He expands on the Sosnoff comment on vega: “‘Why Options trainer Sheridan adds: “If you pay $2 for a spread that
doesn’t the extrinsic value of an option erode as fast as the really has a truer value of $1.70, you will affect your theta.
models predict?’ The short answer to that is implied
volatility.”
High theta positions, such as calendars, are also high The VIX
in positive vega. That means if volatility increases, the
position profitability likely will, too. But the converse is The VIX Index, a trademark of the Cboe, is short for Cboe Volatil-
also true. If you put on a calendar when volatility is high, ity Index and is derived from S&P 500 Index (SPX) option prices.
and then volatility declines, your long position farther in According to Investopedia.com:
the future than your short position will likely lose more
The Volatility Index, or VIX, is an index created by the Chicago
than you expect. What was a risk curve riding high above Board Options Exchange (CBOE), which shows the market’s ex-
the zero line may sink, sink, sink below it. pectation of 30-day volatility. It is constructed using the implied
volatilities on S&P 500 index options. This volatility is meant to
4. Supply and demand are the final arbiters of be forward-looking, is calculated from both calls and puts, and is
options value, not risk curves. a widely used measure of market risk. The VIX is often referred
Forsythe adds: “Market participants are valuing holding to as the “investor fear gauge.”
… Introduced in 1993, it was originally a weighted measure of
the options. Supply and demand override the models …
the implied volatility of eight S&P 100 at-the-money put and call
just like the models do not account for why there is a options. Ten years later, in 2004, it expanded to use options based
skew.” This is expressed in the option’s implied volatil- on a broader index, the S&P 500, which allows for a more accurate
ity, all other things being equal. view of investors’ expectations on future market volatility.
5. Your options may not mirror the VIX. Regarding just how the VIX Index is calculated, the Cboe states
But if the VIX is going down, I should be collecting on its website: “The VIX Index estimates expected volatility by
theta in my short options, you say? Forsythe says maybe aggregating the weighted prices of S&P 500 Index (SPXSM) puts
not: “The IV of the option you are holding may or may and calls over a wide range of strike prices. Specifically, the prices
not track with the VIX, which is a specific calculation used to calculate VIX Index values are midpoints of real-time SPX
on certain SPX options.” option bid/ask price quotations.”
FIGURE 2: …THE RISK CURVE IS PUSHED DOWN. Profit declines to $130.72. The converse would also be true. A position that is “heavy” in vega, when put on in
a low-volatility environment, can increase in profitability should volatility rise.
The trader must watch the spread trade before taking action. Other factors he cited (as did most respondents): volatility
Many just jump in, and they regret it, as in the saying, ‘make (vega), and supply–demand of various options. See Figure 1 and
haste quickly, repent at leisure.’” Figure 2 for what could happen when volatility is adjusted.
Next month: three more (rather complex) reasons, and some
9. Anomaly weekend pricing. conclusions on how to capitalize on all 12 reasons.
Another factor: the weekend, which can make for an options
pricing phenomenon. “Market makers start marking options John A. Sarkett has written for Stocks & Commodities
down for the weekend as early as Thursday afternoon,” Sheri- since 1995. He is also the author of Option Wizards: Real
dan says. “As a result, you can get decent theta on Thursdays, Life Success Stories From The Financial Markets, and Mar-
Fridays, but as an options seller, you may not realize the theta ket Mentors, volumes found on Amazon.com and at http://
you expect to receive over the weekend. We see that, and hear option-wizard.com.
that, a lot.”
Further reading
CBOE, “How is the VIX Index calculated? retrieved online
9/5/2018, http://www.cboe.com/products/vix-index-volatil-
An option’s risk curve is a ity/vix-options-and-futures/vix-index/vix-faqs#2.
theoretical model. It is merely Investopedia, “VIX—CBOE Volatility Index,” retrieved online
an estimate or a projection. 9/5/2018, https://www.investopedia.com/terms/v/vix.asp.
Diamonds Are
A Trader’s Best Friend
The diamond pattern is a classic chart formation yet it is variety of reading choices and of what seems like plenty of
often misunderstood and underestimated. Here’s a deep dive useful information readily available for market practitioners of
into diamonds. any kind, those books and other sources of information are often
D
full of misconceptions and factual errors. The information pro-
by Igor R. Toshchakov vided can be inaccurate, shallow, and sometimes misleading.
ozens or perhaps even hundreds of books have Through thick and thin
ILEYSEN/SHUTTERSTOCK
been written and published over the last several Among the classic pattern formations, the diamond pattern
decades depicting classic technical analysis pat- is one of the most misunderstood and underestimated. While
terns and their practical application for trading many resources are dedicated to such technical formations as
in various financial markets. Despite such a large head & shoulders formations, the double (triple) top (bottom),
28 • November 2018 • Technical Analysis of Stocks & Commodities
chart PATTERNS
Diagram 5 Diagram 6
Possible diamond shapes
From a geometrical perspective, diamond formations look like a the breakout occurs in the direction opposite to the di-
rhombus. They are composed of two triangles bound together: a rection of the main diagonal. Because of its distinctive
broadening triangle is formed first and is immediately followed shape and the extended period of time usually required
by a regular triangle. Both triangles are often symmetrical to form such a pattern, it is relatively easy to project, in
but not necessarily so, and sometimes they can be shifted or advance, the next move’s direction, and to take a market
tilted in one direction. Contrary to general assumption, there position before the pattern gets fully formed.
is no such thing as a “typical” diamond formation.
There are at least four major kinds of diamond shapes • Two-diagonal diamonds have two subsequent main
and each has its own meaning. These shapes differ by the diagonals of relatively similar sizes. They can also be
sequences and lengths of the moves inside of a particular either “straight” or “inverted.” All types of two-diagonal
diamond pattern. diamonds can work as continuations (diagrams 3 & 4)
According to my own classification,
diamonds can be either “single-diagonal”
or “two-diagonal.”
• The single-diagonal diamond is a
rhombus in which the pattern’s top
and bottom are directly connected by
the longest single line, while all the
other price swings are substantially
shorter than the main one (diagrams
1 & 2). Whether the diamond will
become a continuation or reversal
depends on the main price move’s
ESIGNAL & FUTURESOURCE
FIGURE 2: DIAMOND IN THE DOW JONES INDUSTRIAL AVERAGE. Note how the single-diagonal diamond Examples of diamond
pattern that formed from 2014 to 2016 was an indication of the continuation of the bullish trend. formations
Single-diagonal diamonds
Diamonds occur frequently, can be formed
on any timeframe chart, and in any financial
market. When diamonds form on bigger-
scale charts such as weekly and monthly,
they often define the direction of the fol-
lowing medium- and even longer-term
trend. Figure 1 depicts a single-diagonal
continuation diamond that formed on
the weekly chart of USD/CHF. After the
breakout occurred, USD/CHF continued
its trend.
To see diamonds in action, take a look at
the weekly chart of the Dow Jones Industrial
Average in Figure 2. On September 1, 2018,
the index was trading near its historic high.
On its way to this level, the index formed a
FIGURE 3: Single-diagonal reversal diamond on EUR/USD weekly. As expected, the breakout single-diagonal diamond in 2014–2016.
occurred in the direction opposite to the direction of the main diagonal. Given that such continuation diamonds
are usually formed mid-trend, you can fig-
ure out that the measured objective target
for the trend that started in 2009 should be
at around the 27,250 level. Such a situation
is a clear sign the US stock market is about
to run out of steam. A minimal correction
(which is a must under the circumstance)
should be back toward the diamond and to
at least the 19,300 area, which is the 38.3%
Fibonacci level, before the index possibly
enters a consolidation period. However, it
is unlikely that new historic tops will form
over that time period. Breaking below the
lowest point of the diamond (15,370 level)
is likely to lead to further losses if the index
retests the 2009 lows by dropping below
the 6470 level. Is it possible that a sizeable
FIGURE 4: Straight two-diagonal reversal diamond on GBP/JPY monthly. Notice how it correction is in the cards?
can easily be mistaken for a head & shoulders pattern. In Figure 3, you see single-diagonal
30 • November 2018 • Technical Analysis of Stocks & Commodities
reversal diamonds on a larger timeframe. Note that the
breakout occurred in the direction opposite to that of the
main diagonal. A single-diagonal type of
diamond may be easier to
Two-diagonal diamonds trade since it has a distinctive
Although two-diagonal diamonds can be a continuation or
reversal pattern, more often than not they are reversal patterns appearance and the breakout
that form at the top or bottom of a trend. Straight two-diagonal can be projected even before
diamonds are similar to head & shoulders formations but the the pattern is fully formed.
presence of an identifiable broadening triangle on the left
side of the formation can usually help identify whether it is
a diamond or a H&S.
Figure 4 shows an example of a straight, two-diagonal forms immediately after the main one with stops above or
reversal diamond on a monthly chart of the GBP/JPY. below the top or bottom of the main diagonal. This trading
In Figure 5, you see a unique situation: Three different types technique is riskier than the conservative one but can offer a
of diamonds are visible on the weekly chart of the USD/JPY much better risk/reward ratio.
from 2001 to 2005. A large, straight, two-diagonal reversal The most common complications and problems when trad-
diamond is immediately followed by a smaller-size inverted ing diamonds include:
two-diagonal continuation diamond, which is followed by a • Incorrect pattern identification by the trader
single-diagonal continuation diamond.
• The pattern’s exact borders can’t be precisely drawn
Trading diamond formations before the breakout occurs
From the examples provided, you may have assumed that • The profit target can’t easily be set or projected in ad-
diamond formations are common in the currency markets. vance. That is because, contrary to general perception,
But this isn’t their only advantage. Unlike most other chart the diamond formation doesn’t have a measured objective
patterns, diamonds: target after a breakout. More often than not, it exceeds
the height of a diamond measured from the breakout
• Can usually be identified in advance
point by far. Trailing stops may not be as effective as
• Often have distinctive and relatively accurate borders you would want them to be.
• Have a low failure rate and a low rate of false breakouts.
This gives traders enough time to prepare for the im-
minent breakout and plan each trade without rushing Your best friend
or added psychological pressure. All possible pitfalls of diamonds are relatively minor. Once
you start to experience the practical application of the
One point to keep in mind is that when you see a broadening
triangle on any of your charts, there is always a chance it can Continued on page 36
eventually turn into a diamond.
If you want to be conservative, you can
wait till the breakout occurs before entering
a position in the direction of the breakout,
and place stops above the extreme of the
last minor diagonal. This is especially
true for two-diagonal diamonds. With
single-diagonal diamonds, it may be a
different story.
A single-diagonal type of diamond may
be easier to trade since it has a distinc-
tive appearance and the breakout can be
projected even before the pattern is fully
formed. Since a sophisticated trader can
correctly identify such a pattern while it’s
still in progress, it might make sense to
consider entering a position in the direc-
FIGURE 5: MORE THAN ONE? It’s a unique situation when three different types of diamonds can be seen on
tion of the projected breakout a bit earlier. the same screen on the USD/JPY weekly chart. A huge, straight two-diagonal reversal diamond is immediately
Such a position can be taken closer to the followed by a much smaller-size inverted two-diagonal continuation diamond, which in turn is followed by a
top or bottom of the next diagonal that single-diagonal continuation diamond.
November 2018 • Technical Analysis of Stocks & Commodities • 31
INTERVIEW
Kathy, the last time we est round of tariffs has not yielded a
I consider myself a trend
spoke to you was in July further decline in the Australian dollar. trader, and currency
2012. A lot has happened It hasn’t really had much of an impact markets generally trend.
since then, but more on the Chinese yuan. I think it’s be- So I prefer to pay attention
important, there’s a lot cause investors are starting to expect
going on globally—the tariffs, Brexit, this type of attack from the president.
to indicators that help me
Canada-US trade relations. In your They also see that so far, we haven’t participate in trends.
view, how do these events impact the seen a meaningful negative impact on
currency markets? the US economy.
First and foremost, there’s a significant But China is running out of op- pose a risk to the global economy and
amount of headline risk in the currency tions. During the first round, they were are concerns that other central bankers
markets these days. We’ve seen volatility not able to meet the tariffs dollar for like the ECB and the Bank of England
increase significantly and you can trans- dollar because they don’t import nearly have expressed.
late that into a lot of unexpected intraday as much as they export to the US. So I think it’s going to come back and
increases in trading ranges and general they’re much more exposed on that front. haunt the markets. It’s potentially going
volatility. So that’s the new norm that a Investors are hoping that with China an- to cause a decline in US equities, which
lot of investors have to adjust to, which nouncing a smaller tariff on US goods, haven’t really seen much of a drop yet,
is that stops need to be wider as a result maybe they won’t be poking the dragon and it’s also going to weigh on some of
of all these headline risks. as much and risking as much retaliation these currencies that are just beginning
In terms of the tariffs themselves, it’s from the US. to see recoveries. The bottom line is that
something that’s been hanging over the At the end of the day, though, the even though we’re seeing the market
entire market. And what’s interesting is trade war isn’t going anywhere. And we shrug off of some of these latest rounds
that we’ve seen three rounds of tariffs still don’t have a resolution between the of tariffs, the issues aren’t going away
on China and it has had quite a bit of a US and Canada. We don’t have updates anytime soon. As a result, I think a lot of
Semisatch/SHUTTERSTOCK
negative impact on the Australian dollar on how the trade talks between the US these values could invite sellers.
and the commodity currencies and even and the European Union are going, and
some of the other majors. But the market President Trump is talking about possibly It’s interesting that so far, the markets
is starting to look past that and this lat- turning his focus to Japan. All of these haven’t felt any impact. How would
32 • November 2018 • Technical Analysis of Stocks & Commodities
Chart
Scan
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Further reading
Gopalakrishnan, Jayanthi, and Bruce
Faber [2012]. “Kathy Lien Of
BKForex.com,” interview, Technical
Analysis of Stocks & Commodities,
Volume 30: September.
Lien, Kathy [2011]. The Little Book
Of Currency Trading, John Wiley
& Sons.
toShChaKoV/dIaMoNdS
Continued from page 31
When you see a broadening
triangle on any of your charts,
diamond pattern, you can overcome the pitfalls. The bottom there is always a chance it can
line is that diamond patterns are common, have a distinctive
and identifiable shape, and have a relatively low failure rate. eventually turn into a diamond.
These characteristics make the diamond the king of all the
known technical patterns. They can be extremely profitable
and fun to trade.
‡TradingView.com, ‡eSignal, ‡FutureSource
Igor R. Toshchakov (a.k.a. L.A. Igrok) is a professional ‡See Editorial Resource Index
trader of forex and other financial markets, analyst, and fund
manager since 1993. He is also the author of Beat The Odds
In Forex Trading: How To Identify And Profit From High
Percentage Market Patterns (Wiley, 2006).
36 • November 2018 • Technical Analysis of Stocks & Commodities
S&C Digital Edition
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your losses and maximize your profits while invest-
ing for maximum growth.
As
by Leslie N. Masonson rising income streams. On the other hand, consumer staples
consist of manufacturers, drugs, food, beverages, tobacco,
they say in football, defense is as important and household and personal products which typically excel
as offense, if you expect to have a win- during economic and stock market contractions. There isn’t
ning season. Similarly, investors need to a 1:1 perfect correlation, but historical data has shown this
know when to play defense to protect their trend to be true.
principal from decaying during a major I will compare these two ETF sectors and provide guidance
market decline, and swing or position as to when to switch from one to the other. Figure 1 lists the
traders need to know when to buy or sell ticker symbols and names of popular ETFs in each sector. All
to make consistent market profits. these ETFs have some common characteristics: an open-ended
As of August 22, 2018, we are experiencing the longest bull investment company; listed on NYSE ARCA; and are passively
market in history (as measured from the March 9, 2009 low), managed, except FXG, which uses an enhanced strategy.
according to most observers. Investors should not become
too complacent and should have a strategy in place to hit the Consumer discretionary comparison
exits before the next bear market mauls their profits. By using Figure 2 provides a comparison of six consumer discretionary
a handful of confirming technical indicators (for example, ETFs based on data from xtf.com. Clearly, the overwhelm-
MACD, RSI, stochastics, and a 50-day moving average), you ing leader of the pack is SSGA Funds Management’s XLY
MIKHAIL LEONOV/SHUTTERSTOCK
could avoid the brunt of the bear market. with the most AUM at $14 billion, the highest daily trading
Interestingly, another way to assess the market’s potential volume of 5.5 million shares, the earliest inception date at
turning point is to compare the relative price performance of 12/16/1998, the lowest average bid-to-ask ratio of 0.01%, the
the consumer discretionary (also known as cyclicals) sector to best annualized performance over three years of 14.3%, and
consumer staples (also known as noncyclicals), which represent the second-best performance over one year. Its annual expense
offensive and defensive market sectors, respectively. ratio of 0.13% is less than that of three other funds. Moreover,
The discretionary sector contains components such as it is the only one to have both options and futures available.
38 • November 2018 • Technical Analysis of Stocks & Commodities
WHY TRADE ETFS?
Also, as I write this, it had the highest XTF rating of 9.6 (a CONSUMERY DISCRETIONARY ETFs Ticker
proprietary calculation explained on their website). The only Consumer Discretionary Select Sector SPDR Fund XLY
negative factor was the $1.22 billion of outflows over the Fidelity MSCI Consumer Discretionary Index ETF FDIS
past one year, and $1.14 billion over three years. Both FDIS
Vanguard Consumer Discretionary ETF VCR
and VCR picked up about $250 million and $315 million in
inflows during those two periods. iShares US Consumer Services ETF IYC
The second and third best ETFs in that category are FDIS Invesco S&P 500 Equal Weight Consumer Discretionary ETF RCD
(Fidelity) and VCR (Vanguard), as they both have similar VanEck Vectors Retail ETF RTH
characteristics—lower expense ratios than XLY of 0.08% and CONSUMER STAPLES ETFs Ticker
0.10%, respectively; about 128,000 to 88,900 shares traded a Consumer Staples Select Sector SPDR Fund XLP
day, respectively; a 13% annualized three-year performance; Fidelity MSCI Consumer Staples Index ETF FSTA
0.04% to 0.05% average bid-to-ask spread; and a solid XTF Vanguard Consumer Staples ETF VDC
rating of 9.4 and 9.2. FDIS with $640 million in AUM was
Invesco S&P 500 Consumer Staples ETF RHS
born on October 21, 2013, the newest ETF in this category.
VCR, on the other hand, came into existence on January 30, iShares U.S. Consumer Goods ETF IYK
2004 and now has a respectable $3 billion in AUM. First Trust Consumer Staples AlphaDEX Fund FXG
The other three ETFs in the category—IYC, RCD, and FIGURE 1: CONSUMER DISCRETIONARY AND STAPLES ETFs. Here you see
RTH have expense ratios that are more than three times six ETFs in each category that you can use for comparison purposes.
the prior three (ranging between
0.35% to 0.44%), substantially XLY FDIS VCR IYC RCD RTH
XTF Rating 9.6 9.4 9.2 7.4 4.3 6.8
less daily trading volume below Expense Ratio 0.13% 0.08% 0.10% 0.44% 0.40% 0.35%
31,000 shares, and a lower XTF Market Cap $14B $640M $3B $906M $114M $92M
rating ranging between 4.3 to 7.4. Avg. Daily Volume 5,526,702 128,257 88,810 30,086 11,625 10,964
IYC and RCD had lower overall Annual Yield 1.11% 0.93% 1.13% 0.83% 1.3% 1.35%
performance, but RTH had the best Inception Date 12/16/1998 10/21/2013 01/30/2004 06/28/2000 11/07/2006 12/20/2011
annualized one-year performance Avg. # of Components 82 343 367 162 82 26
of the group at 34.6% and five-year Options / Futures Y /Y N/N Y/N N/N N/N Y/N
performance of 15.5%. Investment Metric rank 76% 76% 72% 64% 48% 77%
NAF - 1 Year $-1.22B $264.93M $314.60M $65.23M $23.36M $0.36M
xtf.com
ETFs are from SSGA, Fidelity,
Annualized Period Return 14.27% 13.1% 13.08% 11.93% 5.86% 12.75%
3 Years
and Vanguard—XLP, FSTA, and FIGURE 2: CONSUMER DISCRETIONARY ETF COMPARISON. XLY, FDIS, and VCR are the leading ETFs in this
VDC. They are the most note- category.
worthy and suitable for interested
investors. These ETFs had the XLP FSTA VDC RHS IYK FXG
highest XTF ratings, two of the XTF Rating 8 6.6 8.2 5.5 5.2 4.7
three had the most AUM, they all Expense Ratio 0.13% 0.08% 0.10% 0.40% 0.44% 0.62%
had the highest annual yields at Market Cap $9B $320M $3B $491M $539M $373M
Avg. Daily Volume 14,485,882 84,521 134,486 35,708 40,099 59,907
2.53% and above, the most daily Annual Yield 2.73% 2.72% 2.59% 2.03% 2.13% 1.27%
trading volume, and the lowest Inception Date 12/16/1998 10/21/2013 01/30/2004 11/07/2006 06/12/2000 05/08/2007
annual expense ratios. VDC had Avg. # of Components 34 94 96 34 108 36
the best three-year performance, Options / Futures Y /Y N/N Y/N N/N N/N Y/N
but only by about 50 basis points. Investment Metric rank 33% 24% 38% 19% 17% 29%
Moreover, the three ETFs all had Perf. - 1 Year -0.72% 0.17% 0.75% 3.96% 1.19% 2.32%
positive net asset flows over the last Perf. - 3 Years 14.37% 14.63% 15.08% 20.94% 17.30% 7.23%
one to three years. The remaining NAF - 1 Year $981.95M $24.28M $267.65M $-9.86M $-124.68M $-87.70M
ETFs—RHS, IYK, and FXG—all NAF - 3 Years $516.22M $100.69M $1.14B $98.91M $-245.97M $-2.54B
Structural Integrity rank 96% 84% 94% 75% 73% 62%
had negative flows (except for RHS, Avg Bid Ask Ratio 0.02% 0.11% 0.03% 0.03% 0.03% 0.05%
which had $98 million positive Standard Deviation 3 Years 11.96% 11.77% 11.77% 12.19% 12.17% 12.93%
returns over three years). None Dividend Yield 1 Year 2.73% 2.72% 2.59% 2.03% 2.13% 1.27%
of these three are recommended FIGURE 3: CONSUMER STAPLES ETF COMPARISON. XLP, FSTA, and VDC are the leading ETFs in this cat-
purchase candidates. egory.
FIGURE 5: XLP BEAR MARKET PERFORMANCE. During this pronounced bear market, XLP was down less than 50% the amount of XLY and the S&P 500 index.
WHAT IS “FIRST NOTICE DAY”? • First notice day (FND): The day on that comes with it—traders who are long
What exactly is “first notice day” and which a trader who has purchased a futures contracts must offset their hold-
why does my broker require I offset futures contract may receive a delivery ings (that is, get out of their position) by
positions ahead of it? notice from the exchange. The ex- the close of the day before FND. Traders
Although most futures market partici- change assigns delivery to those who who are short the futures contract beyond
pants are speculators who hope to take have held their long position from the FND don’t face the risk of being forced
advantage of price changes without the earliest entry date and proceeds from into the delivery process if they offset
hassle of ever making or taking deliv- there. In other words, holding a long their obligation with the exchange before
ery of the underlying commodity, each position into first notice day opens the the close of trade on the LTD.
futures contract represents that exact trader up to the risk of being assigned
process. At least this is true of futures that a delivery notice. Delivery notices can • Last trading day (LTD): The day
are written against deliverable commodi- on which the futures contract ceases
ties such as corn, wheat, and soybeans. trading on the close of the session.
A trader buying a December 2018 corn I recommend that Traders who fail to exit their position
futures contract is purchasing an agree- futures traders make it prior to the closure will be expected
ment to take delivery of 5,000 bushels a habit of rolling their to partake in the delivery process
of corn in December. Of course, most for physically deliverable contracts
traders offset their obligation prior to
positions into the next or will see their account credited or
expiration by selling the futures contract contract month at least debited the amount of the profit or
before being forced to accept delivery of two days prior to FND loss based on the exchange’s (arguably
the corn, but it is important to be aware (or LTD for cash-settled arbitrary) calculated settlement price
of what lies at the end of the road for for cash-settled futures contracts.
each futures contract.
products).
There are some futures contracts that In my opinion, it is never a good idea
are cash-settled; such commodity futures to hold positions until the end. I recom-
contracts simply expire. Any trader mend that futures traders make it a habit
holding a cash-settled futures contract of rolling their positions into the next
into the close on the last trading day will contract month at least two days prior
simply see a cash debit or credit in their to FND (or LTD for cash-settled prod-
account the following day to account for ucts). Doing so will potentially save the
the profit or loss on their holding. trader from a headache that comes with
The futures exchanges list two impor- accidentally partaking in the delivery
tant dates for physically settled contracts be issued at any time on FND through process. Further, futures contracts often
(corn, soybeans, wheat, etc.); first notice the LTD. A trader receiving a delivery experience random and swift volatility
day (FND) and last trading day (LTD). notice isn’t necessarily obligated to going into FND and LTD; it is generally
Those trading cash-settled contracts will take delivery of the commodity. In- a good idea to avoid being a part of the
notice the exchange merely lists the LTD. stead, he can retender the obligation in price frenzy occurring at the end of a
This is because the FND doesn’t apply another marketplace, but the result is futures contract life.
for those futures contracts that are not hefty fees and an expensive lesson. Further, being short a futures contract
eligible to facilitate a cash market trans- beyond FND day is generally playing
action of the underlying asset. These two To avoid receiving a delivery notice—
dates are defined as follows: and all the expense and inconvenience Continued on page 45
42 • November 2018 • Technical Analysis of Stocks & Commodities
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Stocks & Commodities from 1982 through the present. used as starting points when trying to decide what values to
The articles can be read in your browser or download to input into your charting software. Search for a certain symbol
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Got a question about options? Jay Kaeppel has over three decades of experi-
ence in the options markets. He was a head trader for a CTA firm, an options
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management firm. He also spent several years writing a weekly column titled
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Volatility, And Timing; and Seasonal Stock Market Trends. Send your ques-
tions or topic suggestions to Jay Kaeppel at jaykaeppel@gmail.com. Selected Jay Kaeppel
questions will appear in a future issue of S&C.
WHAT ARE THE GREEKS AND WHY • Greek variable values can be calcu- you hold has its own delta value. For
DO THEY MATTER? lated for each given option. example, if you buy 10 ATM calls with
I’m learning more and more about op- • The greeks can also be calculated a delta of 50, the net option position now
tions trading, but I keep hearing that I for any given net option position. For has a delta of 500 (10 contracts times 50
have to learn “the greeks.” I’ve tried to, example, if you buy 10 calls, then the deltas each).
but they are still “Greek” to me. Can greek values for that particular option Okay, so now we know delta is a num-
you help me understand what the option are simply multiplied by 10 to arrive ber, but what does that number mean?
greeks are and why they matter? at the net position values. However, The easiest way to think of delta is as
Absolutely. It is important to know the if you enter into a spread involving the “stock share equivalent.” A delta of
purpose of greek values. In a nutshell, two or more options, then the greeks 100 implies that the position is roughly
greek values give you information re- for all individual option positions get equivalent to holding 100 shares of the
garding how much or how little the value combined into one net position value underlying security. For example, if the
of a given option or option position will for each greek variable. underlying stock goes up $1 in price to-
change based on changes in the under- day, then an option position with a delta
lying security’s price, volatility and the of 100 would be expected to gain roughly
passage of time. $100 in value based solely on that price
One way to think of the greeks is like
Greek values give you movement. Conversely, a delta of -100
the instruments on an airplane dash- information regarding implies that if the underlying stock goes
board. At first, they can be intimidating how much or how up $1 in price, then that option position
and not make any sense. Then when you little the value of a will lose roughly -$100 in value.
look more closely, you realize that one So in the end, you can view delta as an
tells you your altitude, another tells you
given option or option approximation of how much an option
how fast you are going, another whether position will change (or option position) will gain (or lose) in
you are flying level or not, and one more based on changes in the dollars if the underlying security rises
tells you if you are running out of gas. underlying security’s $1 in price.
When you break things down that way,
things can make a lot more sense. So
price, volatility and the Gamma: Gamma is often a difficult
here goes: passage of time. concept for traders to wrap their heads
around (in no small part because before
• The first thing to note is that the you can understand gamma you first
greeks are calculated by an option With all of this in mind, let’s define have to understand delta). But in reality,
pricing model such as the Black- the individual greek variables: the meaning of gamma is pretty simple.
Scholes model. The gamma value for a single option
• The second thing to note is that greek Delta: Delta can be confusing to people simply tells you how many deltas the
values can and will change as price at first because it can be viewed in dif- option will gain (or lose) if the price of
and/or volatility changes and/or as ferent ways. Each call option has its own the underlying security rises $1 in value.
time goes by. In other words, today’s delta value ranging from zero to 100 [zero If a given stock is trading at $25 a share
greek values aren’t static and will is far out of the money (OTM), 100 is and a given call option has a delta of 40
change from day to day. deep in the money (ITM), and 50 is at and a gamma of 4, this implies that if the
• The primary greek values are re- the money (ATM)] and each put option stock’s price goes up from $25 to $26,
ferred to as delta, gamma, vega, has its own delta value ranging from zero then the delta will increase from 40 to
and theta. to -100. In addition, each option position 44. Likewise, if the underlying security’s
44 • November 2018 • Technical Analysis of Stocks & Commodities
Explore Your Options
price declines from $25 to $24, the delta volatility will hurt Greek Approximates
will decrease from 40 to 36. your position and a Delta $ gain/(loss) per $1 rise in underlying price
decrease in volatil-
Gamma # of Deltas gained/(lost) per $1 gain in underlying price
Vega: Vega is a little different than delta ity will help your
Vega $ gain/(loss) for 1 percentage point rise in implied volatility
and gamma in that the vega value for a position.
given option or option position represents Theta $ gain/(lost) from one day’s passage of time
an actual dollar amount. The vega for a Theta: Like vega, the FIGURE 1: Summary of option greeks. Here’s a rundown of what
the basic greek variables are and what they represent.
given option or option position tells you theta value for a given
how much of a gain or loss in dollars will option or option posi-
occur if implied volatility rises one full tion represents a dollar amount. Theta is • If you are long premium (that is, if the
percentage point. So if a call option has pretty straightforward. The theta value net value of any option you bought
an implied volatility of 25% and a vega for a single option tells you how much exceeds the net value of any option
of $30, then if the implied volatility rises the dollar value of that given option will you sold), then you will have a nega-
from 25% to 26%, the dollar value of the decline with the passage of one day’s tive theta. This means the passage of
call option will rise by roughly $30 and time. Consider a call option trading at time will hurt your position as time
that if implied volatility declines from $1.25 with 45 days left until expiration decay works against you.
25% to 24%, the dollar value of the call and a theta of -$4.00. The current value • If you are short premium (that is, if
option will decline by roughly $30. of this option is $125 (100 underlying the net value of any option you sold
Each option position also has a net shares x $1.25). A theta of -$4 tells you exceeds the net value of any option
vega value. One important thing to keep that if everything else (underlying price/ you bought), then you will have a posi-
in mind regarding vega is: tive theta. This means the passage of
time will help your position as time
• If you are long premium (that is, if the Greeks can help you to decay works in your favor.
net value of any options you bought maximize your potential
exceeds the net value of any options when considering It’s a lot to digest, but if you consider
you sold), you will have a positive each greek variable one at a time, and
vega. This means that an increase
trading opportunities. what it represents, not only do greeks
in volatility will help your position make a lot more sense, but they can
and a decrease in volatility will hurt implied volatility) remains unchanged help you to maximize your potential
your position. for one day, then the option will lose when considering trading opportunities.
• If you are short premium (that is, if approximately $4 of value by tomorrow Figure 1 provides a simple synopsis of
the net value of any options you sold based solely on time decay. each of the four greek variables just
exceeds the net value of any options Each option position also has a net discussed.
GARNER expiring contract. Those left trading the this happens to you, the consequences
Continued from page 42 soon-to-expire futures contracts will do could be surprisingly expensive. I have
so with less than ideal liquidity condi- witnessed traders who have shorted mini
with fire. Although the risk of receiv- tions. Even worse, if you are doing so in grain futures beyond FND forced to pay
ing a delivery notice is nonexistent, the a market that is thinly traded to begin $0.40 to $0.80 over the fair price to exit
chance of getting stuck in a position due with, such as the mini grain futures, the position!
to a lack of liquidity is real. Once FND you might find yourself being one of
passes, speculators migrate to the next a handful of traders in the market. If
SO WHAT’S NEW? that people need. of those are you using? Most likely, none.
There is nothing new under the sun. Unfortunately, as I look out at the Again, adoption is key.
I have grown weary of all the hype, technology landscape, I see a lot that is Tech companies can fail for many
buzz, defenders of opinions rather than lacking. I did learn from SU that many reasons, not just lack of adoption. When
of empirical evidence, disrupters who new technologies go through a cycle of they debuted, early adopters, traders,
disrupt for disruption’s sake, innovators excitement, disillusionment, maturity, investors, and customers had no idea
who have no real innovation, “hodlers” and eventual adoption or replacement that in a few short years they would be
crying in the crypto wilderness. by something else. Technology can dis- replaced by other tech companies. Some
I’m not a bitter person, nor have I lost appoint or can be different from what failed technologies set the stage for
any funds in the crypto or alt-world, but users believe the benefits of the product products and services to spring up, like
rather, I think I’m just tired of all the or service should be. a Phoenix rising from the ashes. There
beating drums and noise makers. Then they may abandon it altogether. may be more tech companies that have
The saying I used at the start is some- While the product or service may con- come and gone in the last 30 years than
thing that is widely quoted from the book tinue to exist and mature, users may currently exist. The giants have learned
of Ecclesiastes in the Christian bible: have moved on. from it all, have acquired other compa-
nies as they could, and appear to keep
What has been will be again, what has on growing. Keep in mind, though, that
been done will be done again; there is When looking into it is possible for the giants to be replaced
nothing new under the sun. newer technologies, by something else in the future, just as
we have seen happen in the past.
Or, for an alternative translation (ac-
we may have to track We appear to be in a time where the
cording to my Internet search on that product or service worldview of many young people is
age-old saying): adoption. Without that the past doesn’t matter, history has
adoption and user no value, and only the future matters. I
History merely repeats itself. It has disagree that only future outlook matters.
all been done before. Nothing under
retention, there may be We have only a dim view of the future
the sun is truly new. no real value there. because we evaluate what it will look like
based on the present trends. When we
Maybe new things do exist or maybe arrive at that point in the future it may
not, but my thought here is that many When looking into the fundamentals be different than models, sentiment, or
things these days are being called new, of retail companies, we can explore in- opinion may have predicted.
innovative, and ground-breaking, but ventory turnover numbers. When looking I think a balance is necessary.
are they? into newer technologies, we may have To learn from the past, to be reminded
I am thankful to be an alumnus of to track product or service adoption. that history can repeat, to be humble in
Singularity University (SU) located at Without adoption and user retention, that there isn’t a lot of new stuff under this
the NASA research facility and I have there may be no real value there. “big hard sun” (referencing a song lyric
established relationships with many out- Pause for a moment and look at all the by Eddie Vedder), is to have balance.
standing people there. This has allowed apps on your phone. How many of them Let’s revisit some of the buzzwords:
me insights into what true innovation can do you use? Maybe less than 5% of what
or should be, and how the focus of tech- you have installed? • Artificial intelligence (AI)
nology can be to bring about beneficial Despite that, think of how many tech- This term is thrown around as though
change to many. Instead of the greed sur- nologies and services the smart phone machines have already replaced humans.
rounding scarcity, and instead of every device itself has replaced. Dozens come Fortunately or unfortunately, we have
effort to monetize things, maybe more to mind. not yet arrived at artificial general
effort should be placed on demonetizing Have you installed any of the newer intelligence, which in theory would
and making more abundant the things blockchain-related “dApps”? How many enable a created object of some sort
46 • November 2018 • Technical Analysis of Stocks & Commodities
Trading Perspectives
to understand, reason, make decisions I know we will continue to progress rosy outlooks, only to be disappointed
throughout uncertainty, and carry out a in AI, machine learning, blockchain, by something or someone.
large range of tasks. and smart contract uses, and we will This is very much like all the shiny
From my perch, the current implemen- find the right types of applications for tech objects. They create excitement,
tation of artificial intelligence doesn’t it all. I believe we can be innovative and flood our minds with dopamine, and we
contribute to “intelligence,” but rather improve many areas of life and society. I look forward to all the problems they
increases the probabilities of an expected will not trust in decentralizing or disrupt- will solve, only to be surprised and even
outcome and therefore the accuracy of ing everything as a solution, but we need shocked when they don’t pan out.
prediction. to borrow the good from the past to plan Nevertheless, there are many trading
opportunities surrounding all the hype.
• Blockchain Keep your professional hat on, observing
This term is being used by many com- Artificial intelligence, the greed, the irrational exuberance, and
panies in various industries to make the fear. You can look for mean-reverting
them appear more relevant, current, and
as currently used, opportunities between companies, and
secure. The reality is that the premise increases the trade the spread. You can be informed
for the use of blockchain technology is probabilities of an and reserve skepticism for the shiny
often wrong and that nothing new has expected outcome and objects while taking advantage of the
been created. In fact, things could end fluffy opportunities. I caution about
up less secure. Trust isn’t indemnified
thus, the accuracy of being stubborn and inflexible though,
using the blockchain. There is always a prediction. since the market can be irrational for
weak or vulnerable point of trust in any longer than we may think or for longer
transaction. I challenge anyone reading than we may like.
this to think about whether all trust issues for and create a better future. It may be true that there is not much
are resolved with a blockchain voting The reason I wrote this column as we new under the sun and we do often
app, or inventory control app, or supply approach the holiday season, with its see history repeat itself. However, the
chain app, or any other blockchain app. family reunions and dinners around the insights that history produces are mean-
Rather, smart contracts must be writ- Thanksgiving table and such, is to bring ingful and can be used to act on for your
ten, validated, and since they are meant up the idea of expectations versus reality. next timeframe, increasing your odds
for a two- or more- sided transaction, Readers are familiar with this concept of success.
the purchasers still must validate the and during the holiday season it can be
contents. a familiar theme: Many of us will have
FURTHER READING
Masonson, Leslie N. [2018]. “XTF.com,” Quick-Scan, Tech-
nical Analysis of StockS & commoditieS, Volume 36:
February.
[2017]. “All-Inclusive ETF Websites,” Technical Analy-
sis of StockS & commoditieS, Volume 35: September.
November 2018 • Technical Analysis of Stocks & Commodities • 47
For this month’s Traders’ Tips, the
focus is Markos Katsanos’ article
in this issue, “The Stiffness Indica-
tor.” Here, we present the Novem-
ber 2018 Traders’ Tips code with
possible implementations in various
software.
The code for the following Traders’ Tips selections is
posted here:
• Traders.com Home–S&C Magazine
Traders’ Tips
At Traders.com you can also right-click on any chart to
open it in a new tab or window and view the chart at a
much larger size.
The Traders’ Tips section is provided to help readers
implement a selected technique from an article in this is-
sue or another recent issue. The entries here are contrib-
uted by software developers or programmers for software Figure 1: TRADESTATION. The stiffness indicator and strategy are applied to a
that is capable of customization. daily chart of ALGN.
Threshold( 90 ) ;
variables:
F TRADESTATION: NOVEMBER 2018 TRADERS’ TIPS CODE MAValue( 0 ),
MACorValue( 0 ),
In “The Stiffness Indicator” in this issue, author Markos NumAboveMA( 0 ),
Katsanos introduces a new indicator to help the trader iden- Stiffness( 0 ),
tify trading opportunities where strong trends have been StiffnessEMA( 0 ) ;
established. The indicator evaluates the quality of the trend MAValue = Average( Close, MALength ) ;
by counting the number of times price was above a moving MACorValue = MAValue - .2 *
average. In the article, Katsanos describes a trading strategy StdDev( Close, MALength ) ;
NumAboveMA = CountIf( Close >
that incorporates the new indicator and provides an example MACorValue, StiffnessLength ) ;
of a backtest of the strategy on the basket of S&P 500 stocks. Stiffness = NumAboveMA *
TradeStation provides a complete set of backtesting tools MALength / StiffnessLength ;
StiffnessEMA = XAverage( Stiffness, 3 ) ;
including TradeStation Portfolio Maestro, where you can
backtest your strategies on a symbol list of your choice. Plot1( Threshold, "Threshold" ) ;
The TradeStation EasyLanguage code for both the indi- Plot2( StiffnessEMA, "Stiffness" ) ;
cators and strategy based on the author’s work are shown Indicator: Corrected Moving Average
here. // The Stiffness Indicator
To download this EasyLanguage code, please visit our // Markos Katsanos
// TASC Nov 2018
TradeStation and EasyLanguage support forum. The files
for this article can be found here: https://community.trades- inputs:
tation.com/Discussions/Topic.aspx?Topic_ID=152631. The MALength( 100 ),
StiffnessLength( 60 ),
filename is “TASC_NOV2018.ZIP.” Threshold( 90 ) ;
For more information about EasyLanguage in general,
please see http://www.tradestation.com/EL-FAQ. variables:
MAValue( 0 ),
A sample chart is shown in Figure 1. MACorValue( 0 ),
This article is for informational purposes. No type of trading NumAboveMA( 0 ),
or investment recommendation, advice, or strategy is being made, Stiffness( 0 ),
given, or in any manner provided by TradeStation Securities or its StiffnessEMA( 0 ) ;
affiliates. MAValue = Average( Close, MALength ) ;
MACorValue = MAValue - .2 *
Indicator: Stiffness Indicator StdDev( Close, MALength ) ;
// The Stiffness Indicator
// Markos Katsanos Plot1( MACorValue, "MA COR" ) ;
// TASC Nov 2018 Plot2( MAValue, "MA" ) ;
inputs: Strategy: Stiffness Strategy
MALength( 100 ), // The Stiffness Indicator
StiffnessLength( 60 ),
Stiffness strategy:
SYSTEM TEST NOTES
F eSIGNAL: NOVEMBER 2018 TRADERS’ TIPS CODE 21-day inactivity stop suggested.
For this month’s Traders’ Tip, we’ve provided the Stiffness 4 optimization variables are used. Suggested values are:
Opt1 - Moving Average periods - suggested range: 50-120 with a
Indicator.efs study based on the article by Markos Katsanos step of 10
in this issue, “The Stiffness Indicator.” This study attempts to Opt2 - STIFF periods - suggested range of 40-80 with a step of
determine if markets are in a strong price trend. 10
Opt3 - STIFFCRIT - suggested range of 90-95 with a step of 5
The study contains formula parameters that may be con- Opt4 - STIFFSELL - suggested range of 50-60 with a step of 10
figured through the edit chart window (right-click on the
chart and select “edit chart”). A sample chart is shown in Buy Order
MAB:= Opt1; {MA days: suggested range of 50-120 with a step
Figure 2. of 10}
To discuss this study or download a complete copy of the tp:= Opt2; {STIFF PERIOD: suggested range of 40-80 with a step
formula code, please visit the EFS library discussion board of 10}
STIFFCRIT:= Opt3; {STIFFCRIT: suggested value of 90 or 95}
forum under the forums link from the support menu at www.
esignal.com or visit our EFS KnowledgeBase at www.esig- s1:= Security("ONLINE:SPY", C);
nal.com/support/kb/efs/. The eSignal formula script (EFS)
November 2018 • Technical Analysis of Stocks & Commodities • 49
MA2:= Mov(C,MAB,S) - (0.2*StDev(C,MAB)); VOLUME
PENS:= Sum(C>MA2, tp);
STIF:= PENS*100/ tp; Column C
STIFFNESS:= Mov(STIF,3, E); Column Name: V / AvgV
Formula:
Mov(s1,100,E)>=Ref(Mov(s1,100,E),-2) AND ma1:= Mov(V,2,S);
Cross(STIFFNESS,STIFFCRIT) ma2:= Mov(V,50,S);
denom:= If(ma2=0, -1, ma2);
Sell Order If(denom=-1, 0, Mov(V,2,S)/denom)
MAB:= Opt1; {MA days: suggested range of 50-120 with a step
of 10} Column D
tp:= Opt2; {STIFF PERIOD: suggested range of 40-80 with a step Column Name: RSI
of 10} Formula:
STIFFSELL:= Opt4; {STIFFSELL: suggested value of 50 or 60} RSI(6)
Stiffness exploration:
EXPLORATION NOTES F THINKORSWIM: NOVEMBER 2018 TRADERS’ TIPS CODE
Columns reported are: We have put together a study for thinkorswim based on
Markos Katsanos’ article in this issue, “The Stiffness In-
1- Current Price
2- Current Volume dicator.” The study is built using our proprietary scripting
3- Volume divided by Average Volume language, thinkscript. To ease the loading process, simply
4- RSI go to http://tos.mx/7WDQE0 and then click open shared
5- Stiffness
6- Profit Target item from within thinkorswim. Choose view thinkscript and
name it “Stiffness.”
COLUMN FORMULAS To add the strategy, go to http://tos.mx/cV8My6 and then
Column A
Column Name: Price open shared item from within thinkorswim. Choose view
Formula: thinkscript and name it “StiffnessStrategy.” These can then
C be added to your chart from the edit study and strategies
Column B menu within thinkorswim.
Column Name: Volume Figure 3 shows the study added to the lower portion of
Formula: a one-year daily chart of Apple with the strategy plotted in
50 • November 2018 • Technical Analysis of Stocks & Commodities
Figure 4: WEALTH-LAB. This shows a set of typical trades using the strategy on
a chart of Goodyear.
using System;
using System.Collections.Generic;
F WEALTH-LAB: NOVEMBER 2018 TRADERS’ TIPS CODE using System.Text;
The accompanying WealthScript C# code demonstrates how using System.Drawing;
using WealthLab;
to implement a trading strategy based on the rules described using WealthLab.Indicators;
by Markos Katsanos in his article in this issue, “The Stiffness using TASCIndicators;
Indicator.” Here they are:
namespace WealthLab.Strategies
{
• Buy high when the stiffness indicator crosses above 90 // Dow 30 Y2K stocks included AA AXP BA C CAT CVX DIS
and SPY’s EMA is rising, or GE GM GT HD HWP IBM INTC IP JNJ JPM KO KODK MCD
MRK MSFT PG PM SHLD T UTX WMT XOM
• Buy pullback if the close price is above the 100-day
SMA, the stiffness indicator is at or above 90, SPY’s public class TASCNov2018 : WealthScript
100-day EMA is rising, and short-term RSI turns up {
private StrategyParameter slider1;
from below 40 private StrategyParameter slider2;
• Sell when the stiffness indicator crosses below 50, or private StrategyParameter slider3;
• Sell after 84 days in a position.
Figure 7: AIQ. Here is a sample equity curve (blue) for the strategy compared to Figure 8: NINJATRADER. The stiffness indicator and strategy are displayed on
the NDX index (red) using NASDAQ 100 stocks from 1/1/1999 to 9/13/2018. ALGN between June 2016 and June 2018 with default settings.
F MICROSOFT EXCEL: NOVEMBER 2018 Broker code sidebar in the article and for this spreadsheet.
TRADERS’ TIPS CODE Figure 10 shows the stiffness indicator and several buy
In “The Stiffness Indicator” in this issue, Markos Katsanos & sell signals. All of the sell points (red circles) shown here
presents an indicator that can show us when a trend has dem- are due to the duration exit criteria. Notice that in several
onstrated “legs”—a trend that is “strong and of high-quality,” instances, a buy was initiated one bar later (the slightly off-
as Katsanos puts it. center blue dot). Conditions were still correct for a buy.
The stiffness indicator is designed to analyze and qualify Figure 11 zooms in on one of the trades, as this spread-
uptrends. A few tweaks and you would have an indicator to sheet allow you to adjust the time period displayed.
provide similar analysis and qualification of downtrends. It would be interesting to alter the duration exit logic to
If you are long or short a given stock or index, or using something like: “Once we have exceeded the bars-in-trade
calls or puts against the underlying, this sort of information criteria (and for each succeeding bar-in-trade), exit the trade
would be very useful for your trading decisions. only if conditions are no longer valid for entry.”
While validating this indicator, Katsanos set up a simple, In the overall list of trades (Figure 12), older trades can
four-rule trading system based on this indicator to use in be found that exited due to stiffness dropping below the sug-
backtesting. Using the optimizing facilities available in Ami- gested stiff exit threshold of 50.
Broker helped to arrive at the various default parameter set- As Katsanos points out near the end of his article, the
tings used in the “Stiffness exploration” section of the Ami- simple exit rules he used for testing do not constitute a ro-
FIGURE 11: EXCEL, EXAMINING THE TRADES. By adjusting cell A12, you can scroll the charting window back to the appropriate dates (see Figure 12) to see the pricing
action leading into and out of these stiffness exit trades (days in trade: less than 84).
FIGURE 12: EXCEL, transaction summary tab. The transaction summary • Right-click on the Excel file link, then
tab is built to accommodate at least 270 transactions but could be extended. • Select “save target as” or “save as” to place a copy of the
spreadsheet file on your hard drive.
bust system. He offers a couple of ideas that we might use to
replace or augment the stiffness exit criteria. —Ron McAllister
Excel and VBA programmer
To keep this spreadsheet to a manageable download size
rpmac_xltt@sprynet.com
(it’s already over 4 MB), I reduced the capacity to 1,000 bars
on the ComputationsAndCharts tab. A thousand bars trans-
TRADING ON MOMENTUM
T
rading liquidity is often over- very high volumes. The greatest number three-year period. Thus, all numbers in
looked as a key technical of dots indicates the greatest activity; this column have an equal dollar value.
measurement in the analysis futures with one or no dots show little Columns indicating percent margin
and selection of commodity activity and are therefore less desirable and effective percent margin provide
futures. The following explains how to for speculators. a helpful comparison for traders who
read the futures liquidity chart pub- Courtesy of CBOT wish to place their margin money ef-
lished by Technical Analysis of Stocks ficiently. The effective percent margin
& Commodities every month. is determined by dividing the margin
value ($) by the three-year price range of
Commodity futures contract dollar value, and then multiply-
The futures liquidity chart shown be- ing by one hundred.
low is intended to rank publicly traded
futures contracts in order of liquidity. Stocks
Relative contract liquidity is indicated Trading liquidity has a significant ef-
by the number of dots on the right-hand fect on the change in price of a secu-
side of the chart. rity. Theoretically, trading activity can
This liquidity ranking is produced by serve as a proxy for trading liquidity
multiplying contract point value times All futures listed are weighted equally and equals the total volume for a given
the maximum conceivable price motion under “contracts to trade for equal dol- period expressed as a percentage of the
(based on the past three years’ historical lar profit.” This is done by multiplying total number of shares outstanding. This
data) times the contract’s open interest contract value times the maximum pos- value can be thought of as the turnover
times a factor (usually 1 to 4) for low or sible change in price observed in the last rate of a firm’s shares outstanding.
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Decision-Making:
Why Is It So Difficult?
The answer may be simpler than it seems. Here’s what you and see how this works in the real world, because it turns out
should be doing to make trading decisions less stressful. that details matter.
W
As I write this article, I have a trade on and I have already
hether we like it or not, we have to make deci- decided to close the trade before market close. This trade is a
sions all the time. Some decisions are easy and daily swing trade, and at the time I entered the trade, all the
some are difficult. When it comes to trading, components of my strategy had a checkmark next to them.
decision-making is a skill that you must have The stock symbol is MRO (Marathon Oil Corporation), and
under your belt. And even then, it can still I went long on March 16, 2018. I’ve described my trading
present a challenge. I’ll take a closer look at style in previous articles in this magazine, but as a refresher,
what causes the discomfort in it and what to I divide my position into thirds and scale out at predefined
do about it. targets based on the average true range (ATR) for the first and
second third, leaving the last third for trend-following with
What’s in a decision? a trailing stop. Figure 1 shows a weekly chart and Figure 2
The process of making a decision contains a cognitive shows a daily chart. I always look at the weekly chart first
component—let’s call it the knowledge part—and a psycho- before moving on to the daily.
logical component—we’ll call it the emotional part. As a This trade has been a very profitable one, in fact, the most
trader for more than two decades, it’s been my experience profitable trade in my daily swing account for 2018 so far.
and observation that it’s the emotional component that gives So why did I struggle a little with closing the trade that day?
us the most trouble. For insight into that, I’ll look at the knowledge component
Why is that so? The answer may be simpler than it seems: first—that is, the trading plan. I traded according to my plan,
ETIAMMOS/SHUTTERSTOCK
The trouble spot is the feelings evoked by the decision itself. respecting the trading strategy fairly well. No issues here. So
In trading, every decision you make has probable outcomes but why am I second-guessing myself?
never certain outcomes. So when you open a trade, you may The reason is because even though the trade was working
be afraid of a possible loss. If you are already in a profitable very well, I closed the trade without waiting for the hard stop to
trade and you are faced with the decision to close it or raise the
stop, you may be thinking about the possible profits that could
be left on the table. In this way, feelings of loss—which are
uncomfortable feelings to have—will play in the background
In trading, every decision you
of every trading decision you make. make has probable outcomes but
Is there a remedy? Yes. The solution is a well-thought- never certain outcomes.
out plan that includes all the components of a good trading
strategy. That may sound good in theory, so let’s get “muddy”
60 • November 2018 • Technical Analysis of Stocks & Commodities
at the close
TradeStation
In the table in Figure 3, you
can see the results of my trade.
The three different exits reflect FIGURE 1: MRO, weekly. I always look at the weekly chart first before moving on to the daily.
my approach of dividing my
position into thirds and scaling
out at different target prices to 3 Exit
protect profits and reduce the
stress of decision-making.
at claudiodemb@gmail.com.
Further reading
Demb, Claudio [2017]. “The Pernicious Effect Of The Loss
Of Opportunity,” Technical Analysis of Stocks & Com-
modities, Volume 35: May.
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