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Archive for the ‘Mini-lesson tutorials’ Category

Hello all,

From time to time, I will be posting some a system that other coaches may have developed, heard of, or even tested. I want you to take the opportunity and test it yourself and see how it works on a particular pair of your choosing. As a word of caution, I want to point out that there is no guarantee that this particular system works in this type of trading environment but this system may give you an idea on how to set up a system of your own.

Some of you may have seen this system before or it may be new, I would suggest you read it, test it and re-test it and make it your own system. That way you will own it at that point and understand it. I ask one thing, post your findings in the comments section and share with others what you find. That way, others can learn from your findings. Have fun!!!

~ G

CCI and Simple Moving Average (50) System

The Commodity Channel Index (CCI) and Simple Moving Average (SMA) trading system is a simple approach to trading the currency market. The CCI is used to determine the entry point into a trade, while the SMA is used to filter the signals. The management of risk is accomplished by using a 100 pip stop loss. Winning trades are exited with a 100 pip profit.

The system employs a bracket approach to exiting winning and losing trades. Both the profit target and stop loss are 100 pips away from the entry point, which means that the system must achieve a high win/loss ratio in order to be profitable. The following table displays the rules of the system:

Timeframe: Daily Chart

Indicators: CCI (14); SMA (50)

Enter Long: When CCI crosses above -100 and SMA is greater than or equal to yesterday’s SMA value.

Enter Short: When CCI crosses below +100 and SMA is less than or equal to yesterday’s SMA value.

Exit Point: Set profit target of 100 pips.

Stop-loss: Set stop of 100 pips after entry.

Pairs Traded: EUR/USD, USD/JPY, USD/CAD, EUR/JPY

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backtoschoolsmall.jpgTime for another mini-lesson! A couple weeks ago we added some new studies to the ProphetCharts, among them the Ikimoku study. I’m in heaven – I’ve used it for quite a while and love it! Today’s we’ll look at this study, learn it, and use EUR/GBP as an example (since the euro is on fire, and that is the pair we’re doing our little experiment on)

What on earth is Ikimoku:

Ichimoku is a complex set of tools in one study. It is a matrix of momentum lines, trend filters and support/resistance areas … all built into one. Not only will you look sexy when you use it and sound exotic talking about it, you’ll also have a sweet set-up for excellent signals (I listed these in order of importance).

I’ll identify the Ichimoku components by simpler names than their difficult Japanese ones (labeled on the chart – please zoom in on the following charts as needed):

ikimoku1.jpg The dotted line: (I made it dotted – default is red and called Chikou) this thing usually hangs way over the price in an uptrend. It follows the price … 26 periods back! This determines trend direction. If today’s bar is higher than the bar directly below the end of the dotted line, the trend is up. Because it represents previous closing prices, it is also excellent support/resistance, used by drawing lines across from previous peaks in the dotted line (see chart to the left).

The fast blue line: similar to the fast line of MACD or stochastics. It’s computed measuring the average high & lowest low over the last 9 periods.

The slow pink line: same as the fast blue except 26 periods. One neat things about these lines, different than moving averages: because they represent highs and lows, the lines will at times be flat (representing trendlessness). These areas are support/resistance, especially the 26 period line. When the price exceeds the recent high, for example, the line will crook up again and stop being flat. Therefore, the slow pink line represents the short term trend.

The Ikimoku cloud: this is the funkiest part of the study. It’s calculated using the slow and fast lines, highest highs and lowest lows, some division, some time-shifting into the future 26 & 52 periods, bat wings and frog blood all mixed into a cauldron and spat out as the big, strange cloud hovering below price in an uptrend.

ikimoku2.jpg Cloud support and resistance: The cloud offers excellent support and resistance (ovals in chart on the left). The area of the cloud is like mud – initially there is some resistance and as you plow through it gets thicker and is harder to proceed. In an uptrend, the bottom of the cloud will be final and strongest support. The cloud is a bit like a price gap in this sense – a wide area of support/resistance. And the thicker the cloud, the stronger the support/resistance. The other neat thing is that the cloud expands and contracts with volatility.

The cloud also offers a view of price sentiment. If price is above it, sentiment is bullish and vice versa. Inside the cloud is like, of course, mucking in muddy no-man’s land, more of a neutral posture. The cloud can twist and flip-flop so the top part becomes the bottom: this too is a shift in trend sentiment.

Clouds often exhibit flat tops and bottoms. When price nears these areas, the cloud often exerts a gravitational pull and sucks the price in to it. You’ll notice on the chart above that many of the resistance tests were to flat cloud bottoms. A smart trader will be extra careful to not jump automatically in a breakout near a flat top/bottom.

Entries and exits: Stop losses are, surprisingly, often unaccounted for in this system, so you usually use them based on support/resistance etc. The traditional entry would simply be based on the fast line crossing the slow line. In context of the other components of the study, it works well. Exits can be crosses back the other direction.

Another method is a cross of price closing thru the slow line. This is perhaps a stronger entry signal than the fast crossing the slow line. Exits can be a cross back the other direction. This method includes a stop loss, maintained just below the line as you would under regular support.

Some traders trade the dotted (Chikou span) line crossing the price itself as a trade going in that direction. Other methods, better for longer term trades, are cloud breakouts and crosses when the top of the cloud twists and becomes the bottom and vice versa. I’ve always liked to use a slow Stochastics with it, which a Ikimoku purist would blanch at …

Remember that all of these entries and exits should be in context of the rest of the Ikimouk components (trend, sentiment bias, support/resistance) for you to be successful … and look sexy as heck doing it.

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backtoschoolsmall.jpg That’s right! Mini-lesson time! And you outta really like this. For some it’ll be old news with some small fresh new stuff thrown in. For many I hope this will be a real eye-opener.

Ever wonder what the real big, smart guys are doing? Aside from buying AND selling everything (and that’s why we have a market), there are definite patterns of posture (bullish or bearishness) toward the currencies by the “smart money” – controllers of huge positions. It’s not a silver bullet, but it actually is a veritable tea-leaf to be read by the savvy trader. And this coming from a no-BS realist…

Where do I go to see data on Institutional trading? There’s good and bad news here, folks. The bad news: none of us “normal” people are going to see who’s buying and selling how much of what (called “order flow”) which is the way to make money in this business. It’s kept private by banks and brokers for their own nefarious purposes.

The good news is we can at least see what institutions are holding and when, as a herd, they switch (albeit delayed). It’s called the Commitment of Traders (COT) report, found here (also linked above under Useful Organizations). Chicago Mercantile Exchange is what you want – just do short format, options and futures, although Chiacgo Board of Trade is good for stocks and bonds. The website explains how to read the report by the way.

Below is an example of the current COT, for the loonie:

cot1.jpg

Who’s who? What I call Institutional Trading they call Commercials. Commercials are basically the true big boys, the smart money. They trade a lot of money in the spot market (where most of us trade FX), but also, obviously, a lot in futures and that’s what we’re looking at. Non-commercials, well, that’s us. Call us the not-so-smart money, the weak hands, the gazelles that nimbly leap about the herd.

What to pay attention to: Basically the idea is that the non-commercials are wrong at big turning points. That is a major tenet of contrarianism by the way. This COT stuff is sort of contrarianism, though really we’re looking at Commercials. Spot the turns in Commercial positioning, which is either long (they’re buying) or short (selling). Remember that it is for a currency, not pair, so the currency in a pair may be denoted backwards (USD/CAD – CAD is going up as the pair goes down).

How it works: To understand this you have to understand dollar-cost averaging (DCA). When I ran my brokerage office we were big on this for retirement. DCA is consistent buying over time, like what someone does with their 401K.

Now, the “big money” thinks very differently than we do. Here’s the clincher: they DCA buy as they forecast prices going down, and they sell as prices go up. It’s a crazy world, I’m tellin’ ya! It’s like they are reducing their cost basis/taking profits, figuring it will eventually turn around. They do not time things like we do, they are long term in their investing, and they are pretty dang good at understanding where prices are going. Since they do not time, they can be weeks off on their moves, so if they start being bullish don’t expect it to turn around this week or the next.

What to do: If you see the big money reverse their position and start doing the opposite, maybe give it a week or two and then seriously consider adopting that posture, meaning start to look to get in/out of positions going that direction. Investools students have a serious advantage in that this data is charted and easy to read, so these decisions are technical in nature. Hooray for technicals! *note that we’ve already “translated” the DCA thing: the institutional line moving up for a currency really means institutions are selling, which means they are bullish! Follow that line!

Below is an example:

usdcadinstituionalsmall.jpg

Notice how the institutional money not only went up, but it crossed over the price on our chart here. We can call this a bullish divergence, gang. Currently the price has gone down a bit, without a hint of let-up from institutions … careful in getting too frisky about the loonie returning in force right now.

loonie.jpg

The COT website’s downfall: is that it is raw, current data, like a snapshot. We can’t see whether the amount everyone is short/long is high or low relative to historic prices. And we can’t see if the positions are rising or falling week to week. This is huge! The value of the data is limited unless you shell out money for software (usually over $100/month) that focuses on COT, or use the Investools website.

A final word, on open-interest: Open interest works like volume does for stocks: we prefer to see it rising as the price goes in a direction, because this indicates strength for that direction. The COT site only gives that snapshot of open interest, but there’s your heads up how that works.

Remember, no system is perfect right? Neither is this. The EUR/USD COT chart has been screaming bearish for months, but remember, they can be off in the timing by months and eventually something has to give and it’s likely not the big boys. So take it with a grain of salt and adopt this measure as a part of your posturing tools. No study, be it pivot points, MACD, RSI, etc. is perfect, and nor is this, but it is an awesome piece of the puzzle! Enjoy.

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backtoschoolsmall.jpg    One of you wrote in asking me this:

   Thanks for the review of the exotics. I’ve got a question for you: I’ve heard some of these currencies (the HKD, anyway, I believe) being referred to as “pegged” to the US Dollar. I’d appreciate it if you could talk about what this means, and how it might affect trading. I’ve no plans to trade exotics yet, I’m just curious.

 So summed up, what is a currency peg and how does it affect me harvesting vast sums of pips?

 

  Is it just me or is there all sorts of odd-ball stuff like this we hear in the FX world and wonder what it means? Well, let’s roll our sleeves up for a longer than usual post and do another little mini-lesson, more economic in nature, since this requires some explaining.

  • What it is: OK, a pegged currency (AKA “fixed exchange rate”) derives its value from something else: usually another currency or a basket of them, or something else that’s fixed like gold. So the currency’s value rises and falls according to that other thing. For example, many currencies are pegged to the dollar, meaning they rise and fall in value as the dollar does.

  I can think of a couple reasons off-hand why they do this.

  1. One is that the currency which is pegged to something else (like the dollar) represents a small economy. Imagine the harmful effects to that economy if the currency was free floating (not pegged) and somebody manipulated if by buying/selling tons of it, or if a certain element of the economy affected the currency in an unbalanced way.
  2. Some currencies peg to others (again, like the dollar) because they export heavily to the one they peg to and want to be able to continue selling to that country because it is vital to their economy. China does this – imagine the effect on China (which heavily exports, its lifeblood is manufacturing) if the dollar halved in value, and so Americans could only afford half as much goods from China, without a peg.
  • And so this affects me (a trader) …. how, exactly? Well, there’s been lots of talk lately about people abandoning their peg to the dollar because its been dropping in value. If there is a trend in unpegging, of course that will hurt whatever is being unpegged to. Like the buck. It’s been a vicious snowball effect: the dollar goes down, for whatever reason, and then it goes down more because some other governments start saying “whoah, that’s making our currency go down too much, too!”, they dump/threaten to dumb billions of USD, which causes the USD to fall further, making people more antsy yet, etc. etc. you get the picture.

   Soooo, pegs only affect our trades if they are being changed and we’re trading those currencies. News items that such-and-such government is unpegging from the buck with cause a spike down in the buck that day, and contribute the overall trend of dollar selling (for example), and any news of who may be the beneficiary (“forget that crummy dollar, we’re putting more money in the euro now!”) will bump up that other currency.

 

  Think of it all this way: peg-stuff is macroeconomic-stuff, and affects currencies accordingly: more over time than on an hour-by-hour basis. And usually this long-term trend will be reflected on the chart: thus, the glory of technical analysis … simply follow the chart!

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backtoschoolsmall.jpg     We now have pivot points in Prophet charts (finally, we have everything else) – our Investools charts kick serious butt! Let’s discuss how to use them on our charts, shall we? This is a longer post than usual, it’s a mini-lesson! I’ve seen write-ups on these over the years & I think they usually suck in explaining them; hopefully this will be clear.

What’s a Pivot Point?

    There’s a formula for how they’re figured, I laid it out in our Technical Commentary (go to the archives and go back a couple months). Basically, though, they are support and resistance levels based on the previous day’s high, low, etc. These are usually used for short term trading. And they are only relevant for a day! Wispy things, huh? After the day is finished guess what? You have new data to compute new PP’s on.

   Here’s the tricky part: you add the PP’s based on a time scale a couple up from where you’re trading. So:

 

  • If you trade the hourly chart, edit your PP’s to be a period of weekly.
  • If you scalp really short term, like 5 or 10 minutes, use the daily period for the PP’s.

    And if you trade the daily chart? Well, sorry Charley. I’ve never seen them used for the daily time scale, and our charts don’t support it – a weekly PP isn’t enough. Read no further unless you trade short-term.

How should we set them up on the chart

  Select “Pivot Points” in “Studies” by double-clicking, then Edit the study at the bottom. Choose your Period as mentioned above and unselect YH, YL, YC – no idea what that stuff is, to be honest.

Below is an example:

ppsetup.jpg

What the heck am I seeing on the chart now?

   The PO line in the middle is THE pivot point. Think of it as the baseline, main support/resistance. We’ll usually be on one side of it or the other heading away from it. Pivot point trades don’t usually happen until we pop thru R1 or S1 and beyond; let it waffle around PO all it wants (I’m just going off the most common way to use PP’s)

    The red lines are Resistance 1 (R1) thru Resistance 3 (R3). This is nothing more than three lines of defense. Same with the blue support lines (S1 – S3). You crash thru one trench and the defense falls back to the next – like Fibonacci lines.

     Below is an example: notice it is an hourly timescale, so the PP’s are figured based on the proceeding week. I circled in green the lines we are focusing on right now – I don’t give a rip what happened with the lines last week (the last set to the left) or before that, etc.

ppexamplelinessmall.jpg

How to use them:

   This is pretty typical support/resistance stuff. We look for bounces, and I’d say most traders use them for breakouts, starting with a breakout thru R1 or S1.. Example: price breaks thru R1, then you’re looking at R2 or R3 to raise stops, take some profit, exit etc.

     A typical strategy is to enter on an R1 or S1 break, throw your stop loss on just the other side of the last high or low you came from, or on the side of support/resistance you just came from (like, you broke S1 support now throw a stop loss just above the high of the bar that broke support or th bar before it), and gun for that R2 or S2 line. Take half your money off the table (called “scaling out”) and then when you hit the last line, R3 or S3, exit completely.

    Below is an example: the first chart of the current USD/JPY price action is the daily PP’s on a 10 minute timescale. The second chart is the EUR/USD using weekly PP’s on an hourly timescale.

ppexample1small.jpg

ppexample2small.jpg

    But! But, DO still use some sort of study for entry signals. Use one or two studies, like a stochastics, for your signal to enter the trade as always! 🙂

In summary:

   Clear as mud? No maybe? Practice them. And ask questions below (see “How to post comments” over on the right under Categories and Blogroll.) I like to shamelessly solicit for comments from time to time, but really, let me know if you have questions and I’m curious to see what any of you think about this format of a “lesson”.

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