The Wheels Are Coming Off

It seems that the wheels are finally coming off this carefully managed market. I think we all know that the writing has been on the wall for a while now. In recent weeks the bulls managed to fumble several important inflection points and bounces near important lows have become weaker and more sporadic. That may be forgivable once or twice but at some point there will be a price to pay. We have a ton of material to go through today – I promised you a long term update and I’m actually glad I waited another day as we are at the cusp of a potential trend change – medium term most likely and perhaps even long term.

2014-10-02_weekly_stochastic

 

Let’s start with the easy (but reliable) stuff – our weekly stochastic on the SPX. I’m sure many of you use that indicator – but very few actually know what makes it tick. It’s rather simple – a stochastic follows the speed or the momentum of price. As a rule, the momentum changes direction before price. So it’s not so much about where the line is right now – it’s about how it correlates with price movements.

If you’ve been coming here for a few years now then you probably remember this chart and you probably also know that I rarely use neither a stochastic nor a MACD in my daily charts. I think they’re generally overhyped and almost always lag behind. On the weekly side however it’s been a great tool for confirming trend changes – it rarely fails.

The only times it did fail were actually earlier this year when the K% line touched the 50 mark twice (it’s an oscillator really not an indicator) and then bounced back higher. Very very rarely does this actually happen – in most cases we see more downside after that. Not always a touch of the 20 but always more significant downside. I am not going to resort to speculation or conspiracy theories here – that’s not my style. But that said – equities have had a lot of help in the past few years and these things are to be expected. They often however also point toward the formation of a medium term or even long term topping pattern.

Markets can not bubble higher forever – corrections are healthy and are needed. It is a fact of general market dynamic that many investors would like to ignore and often irrational exuberance can frustrate hardcore technical traders for longer they would care – or perhaps afford. We here at Evil Speculator may be hardcore but we have long learned that lesson and that has served us extremely well over the past few years. However, we must also not fall into the trap of recency bias – even on the long term side. So let’s consider what other evidence is on the table right now – and there happens to be plenty.

2014-10-02_SPXA50R_SPXA200R

So let’s move on to breadth – here’s the SPXA50 vs the SPXA200 – it shows us how many stocks in the SPX are trading above their 50-day SMA vs. the ones trading above their 200-day SMA. Basically you plot the 50 against the 200 in order to know when the 200 is falling behind. Some people have a problem understanding ratios but they are pretty simple if you think it through – on one hand – on the other they can also be complicated.

The 50 gets divided by the 200, right? So if the 50 is dropping and the 200 remains the same then then we know that stocks are still above their 200 but more are falling through their 50. For example if the 50 is at 1.0 and the 200 at 1.0 we get 1.0. Now what happens if the 50 drops to 0.8 and the 200 only to 0.9? Now we dropped to 0.89.

It’s not my intent to give you an algebra lesson, but my point is to start thinking of how momentum works. Because let’s say the 50 goes to 0.9 and the 200 remains at 1.0? That’s good isn’t it? More stocks above their 200 is a good thing, right? Well, not really – because now man of those sticks are approaching the 200 SMA. If you do the math the ratio comes out to 0.9, so technically we’re very close to where we were. Remember that the 200 is a lot slower than the 50 and initially the latter is easier to recover – as stocks draw lower however it becomes harder and harder.

The 50 is easier to recover after a quick fall – so sometimes you get a quick drop and a ton of stocks fall through their 50 SMA. The same stocks may be mostly still be above their 200 and after a few trading days they may manage to recover the 50. So all is good again, right? No – because we are now closer to the 200 on many fronts and the next time a good number of stocks drop again some of them will take out the 200 as well. So it’s a bit of a complex interplay between two moving averages. Just imagine in your mind the 50 gyrating above its 200 – both represent general smoothed price dynamic and the ratio between them tells us about the health of the market.

Another aspect of breadth our outliers – you may often have a core of outliers that keeps the indices at a certain mark – stocks like AAPL, AMZN, or most recently BABA. Their high valuations may distort the real story behind the remainder of this index’s underlying health and momentum – but breadth tells that story clearly.

2014-10-NYA50_NYA200

Here we play the same ratio game on the NYSE. I am having a harder time drawing any conclusions on this one but thing is clear: the dynamics of market behavior seems to be shifting. Just watch how the 2013 advance extended into early summer and then suddenly something broke. What we are now seeing could very easily be the beginning of a underlying shift in market dynamics. If your portfolio is still heavily leaning toward the long side (i.e. delta positive for option traders) then I suggest you start paying attention as to not outstay your welcome.

2014-10-02_NYDNV_NYUPV

Here we are looking at the NYSE declining vs advancing volume. Yes you guessed it – breadth again – same idea. But we are measuring NYSE volume this time and it tells us about the vehemence of the ongoing move, to the up- and downside. It’s been pretty contained in the past few years and even right now there’s no real sense of a panic. Complacency still rules the day.

2014-10-02_VIXV_VIX

On the VXV:VIX we measure 30-day vs. quarterly implied volatility. In essence this tells us how market makers feel about the next 30 to 90 days. It’s been a bit of a ping-pong game in recent years and the best I can tell you right now is that we are probably going to head down a bit further before we see a short term bounce.

2014-10-02_VIX_VXO

The VIX:VXO is more focused on the next few weeks and we also seem to have more downside momo available to us. So be very careful in picking lows here, you may be overwhelmed by unexpected market behavior which we have not seen in recent years. I’m not saying a bounce cannot happen here – I’m actually covering that further below. But don’t jump to conclusions and expect the same BTFD behavior as in recent years. Investors are clearly a bit rattled and it’s not business as usual as in recent years.

Alright more long term goodness below the fold – please step into my lair:


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Alright, all that ought to keep you guys busy for a while. Seems like it’s going to be a fun fourth quarter. Let’s get that money!

Cheers,

Working On Thor

I’m going to make this super snappy today as I am wading knee deep in code with the intent of releasing a beta version of Thor sometime next week. In case you haven’t guessed it already – Thor will be the automated equivalent of Scott’s HammerTime system which he runs on daily charts.

thor

Although I don’t think it’s going to be a major effort it will probably take me a few weeks to incorporate all the various changes Scott has made to the original Heisenberg system (which we both developed together for the past year). In essence it’s actually a bit simpler on the entry side but the campaign management aspects of it may have to be tweaked a few times before we get it right. In any case – unless I run into some kind of wall (always possible) I expect to release a very early beta sometime next week. I’ll keep you guys abreast on any changes.

2014-09-24_NQ_entry

I hope any of you took the NQ long setup I suggested yesterday. It’s not out of the woodworks by any measure but this is a very first good spike higher. You may want to watch the 100-hour SMA – quite frankly it’ll make or break there and 4070 needs to be put behind us asap. Any weakness on the way higher now will invite more whipsaw and I’m giving this a very short leash. Meaning, if it doesn’t look like the 100-hour holds I’m out with a tiny profit or break-even.

Two updates on yesterday’s entries below for my subs:


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By the way – another nice fractal attack earlier this morning at 10:00am EDT:

2014-09-24_1749

The current fractal has occurred 206 times in the past.
It ranks as the 24th most frequent fractal during the past 50005 bars.
The next candle has closed higher 123 times, lower 81 times, and equal 2 times.
Frequency of occurrence: 0.41%
Higher/lower ratio: 1.5
Lower/higher ratio: 0.7

Acceptable ratio (1.5 – my threshold) and more importantly sufficient frequency of occurrence (206 times).

2014-09-24_1746

Outcome positive :-)

You have been briefed and I’m back to coding. See you guys tomorrow.

Cheers,

Why You Should Care About Fractals

Judging by the thundering silents it seems that almost none of you realized the significance of being able to assess time series fractal statistics. Once again it falls on the lowly market mole to elucidate and reveal you the error of your collective ways. As you all know – if necessary I will drag you crusty butts kicking and screaming into the 21st century. If you still think that drawing lines on a chart gives you a competitive advantage then 1991 called -they want their MOTORAZR back. Sometimes I wonder why I bother…

2014-09-23_spoos_update

Anyway, before we get to all that a quick visit to the equities side – not looking so hot over there and it seems the spoos are going to take a b-line to the 100-day SMA. Today’s failure at the 25-hour SMA pretty much sealed the deal here. I don’t see a good entry opportunity except maybe if we see a bit of a bounce near the EOD:

2014-09-23_NQ_setup

The NQ has been pretty stubborn today and that’s why I would take a long on a breach of today’s highs tomorrow. It still enjoys support from below via the 25-day SMA and a daily NLSL at 4019 and a quarter. Let’s see if it can close the session above and then we talk. Until that happens I’m on stand-by mode on all things equities.

Alright, now let’s talk fractals, folks. So, why should you care about them? Well for one they can be pretty – see Mandelbrot et al. And they can be profitable - if harvested properly they offer us statistical edge – very simple. And that in turn leads to profits – ka-ching!

In order to prove it to you guys and myself of course I coded up some basic reporting based on the Fractal Monger code I put together last weekend. It was rather basic – all I needed is to parse through my list of 50,000 candles and sort all fractals into a sorted list. Each fractal entry contains is higher, lower, equal, and of course total closes. From that I can do some sorting and in the process extract the respective ratios – i.e. higher vs. lower closes and the inverse. Let’s take a look at what I found starting with the 60 minute ES futures:

2014-09-23_EURUSD.60minute.fractal.highers

Shown here is are the top scoring higher closing fractals – my cut off threshold is 1.5, meaning I want to see 3 higher closes for every 2 lower closes. That btw will be my filtering threshold for the Fractal Monger notification module starting next week. The fractal on the very top is a pretty sweet one and in the past eight years (50,000 hourly candles leads us back to roughly to September 2006) it has only stuck 46 times (total closes). It  closed higher 33 times and lower 13 times, giving us a ratio of 2.54 – I take those odds every time.

As you scan down the list the ratio slowly drops toward 1.5. In total we would have had 1665 entries in the past eight years – that’s roughly 420 weeks and that’s almost four per week! That actually struck me by surprise as this is only one direction on one symbol. Thus we may be able to scale it back to a ratio of 1.65 or higher.

2014-09-23_EURUSD.60minute.fractal.lowers

And here’s the lower equivalent. This time we are rating short fractals – meaning we would want to go short when they trigger. Top scoring has stuck 67 times – not bad and the total on the short side is 1622 – almost the same as the long side. So that puts as at 8 hourly fractal patterns per week for just one lousy symbol. Are you paying attention yet?

2014-09-23_ES.60minute.fractal.highers

Now let’s look at the EUR/USD – here we have a top scoring higher close fractal with a ratio of 3 – it’s a rare beast but when it hits I will be there to either go long or grab myself some binary options for a bet higher. The total number of high scoring fractals comes out to 1739 – almost 4.2 per week.

2014-09-23_ES.60minute.fractal.lowers

The short side is a bit weaker and we’re counting 1209 – about three per week. So if you count those two symbols together we are at about 15 entries per week on average. Obviously there is no reason to not run Fractal Monger on at least 20 symbols out there. This would probably allow us to crank up our ratio filter to around 1.7 or higher.

Now let’s take a look at one that was triggered on the ES futures during a few hours of testing the messaging system today. This is actually how the email looked like as I managed to get that HTML format working.

Current Fractal

2014-09-23_1607

The current fractal has occurred 62 times in the past.
It ranks as the 164th most frequent fractal during the past 50003 bars.
The next candle has closed higher 37 times, lower 23 times, and equal 2 times.
Frequency of occurrence: 0.12%
Higher/lower ratio: 1.6
Lower/higher ratio: 0.6

Pretty sweet, isn’t it? The higher ratio was 1.6 and that would have been above my desired 1.5 ratio threshold. And it DID close higher. Just one example – let’s see how we flow. For now I want to see how many of those we get. Then next week I’ll turn on the ratio filter of 1.5 and add more pairs and other symbols. This should be fun! :-)

By the way, I also switched to 5-digit fractals after some extended testing yesterday. I may also slightly modify the normalization algo to be a bit more precise..

Alright before I run – two more setups are waiting below for my intrepid subs:


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Cheers,




    Zero Indicator


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