CONTENTS Foreword Preface Introduction Chapter 1: Trading in a Global Economy One Constant Remains Market Evolution Brave New Exchange World Emerging Economic Forces Crises . and Opportunities Who Wins? Who Loses? Chapter 2: Technical Analysis for Today’s Markets Focusing On One Factor What’s the Market Trend? Play the Markets or Time the Markets? Strategies That Anticipate, Not React Typical Route to Technical Analysis 2 www.rasabourse.com Learning Painful Lessons Following the Herd Taking Off Technical Analysis Blinders Maintaining a Broad Focus Chapter 3: Chart Patterns: Building Blocks of Technical Analysis Charting The Action Different Looks, Same Analysis Chart Patterns Chapter 4: Technical Indicators: Enhancing Price Patterns Predictive Nature Trending Versus Momentum Moving Averages Moving Average Convergence Divergence (MACD) Stochastics Relative Strength Index (RSI) True Strength Index (TSI) Indicator Deficiencies 3 www.rasabourse.com Chapter 5: Using Intermarket Analysis to Gain an Edge Tapping A Different Data Stream Why Intermarket Analysis? Intermarket Analysis in Equities Intermarket Analysis in Futures and Commodities Futures, Equities Tied Together Market Leads and Lags Early Intermarket Analysis Failures Improving Your Vision Beefing up With Intermarket Analysis Chapter 6: Mining Intermarket Data With Neural Networks Playing the Hand You’re Dealt Enter Intermarket Data Enter Neural Networks A Model of the Human Brain The Learning Process Tailored for Each Market 4 www.rasabourse.com Caution: Don’t Overtrain Chapter 7: Using Intermarket Data for Predictive Indicators The Road to Reliability Predicted Neural Index Predicted Strength Predicted Moving Averages Predicted Crossovers Predicted Differences Beating the Lag Early Warning Actions Predicted Next Day Highs and Lows Predicted Momentum Indicators Putting Predictive Indicators to Work Playing The Odds Multi-Market Confirmation Chapter 8: Applying Predictive Indicators to Trading Strategies Trading Strategy Premises 5 www.rasabourse.com Breakout Strategies Momentum Trading Strategies Momentum Indicator Strategies Trading With Options Strategies: Final Words Chapter 9: The Synergistic Trader Accepting Technological Advances Maintaining the Push for Accuracy Suggested Reading Important Internet Sites About the Author and Market Technologies, LLC 6 www.rasabourse.com 7 www.rasabourse.com Copyright © 2013 by John Wiley & Sons, Inc. 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Some material included with standard print versions of this book may not be included in e-books or in print-on-demand. If this book refers to media such as a CD or DVD that is not included in the version you purchased, you may download this material at http://booksupport.wiley.com. For more information about Wiley products, visit www.wiley.com. Library of Congress Cataloging-in-Publication Data: 9 www.rasabourse.com FOREWORD I HAVE BEEN involved in markets and trading for nearly a quarter century. Starting out as a journalist on the trading floors of the futures exchanges in Chicago and New York was an excellent way for me to begin to learn about “the ways of the markets.” Being able to walk right up to floor traders in the trading pits, on a daily basis, and ask them all kinds of questions about markets and price action was an excellent—and rare—opportunity to learn the ropes. I took full advantage of that opportunity as a floor reporter on the exchanges, including attending as many trading seminars and workshops as my editors would allow. Not long after beginning my career on the rough-and-tumble futures trading floors, I realized that the floor traders often did have an edge over most retail traders in the futures markets because they were eyeball-to-eyeball with other traders and could see firsthand who was buying and who was selling. After all, they were filling orders for some of the biggest and best traders in the world. But those who traded for their own accounts had another advantage: They relied mainly on technical analysis to provide them with early clues about imminent trending price moves. Because technical analysis takes into account all the fundamental news that has or is expected to occur in a market, as reflected by the most recent price activity, these traders could see price patterns and movements that provided them with a roadmap for trading profits. To put it another way, if a 10 www.rasabourse.com trader decided to rely only upon fundamental analysis to analyze and trade markets, he or she would spend nearly all of his or her day studying past and present news events and supply and demand statistics, only to have all that information already digested by and factored into the market price structure. Today’s trading world is going more and more electronic, diminishing the importance of the face-to-face confrontations in the open-outcry pits. And with electronic trading and advances in communications technologies, markets have gotten increasingly more global, with factors that affect one market influencing what happens in other markets. Traders can no longer do a market-by-market analysis without considering what is happening in related markets. Technical analysis needs to adapt to global conditions. When respected veteran trader and trading software developer Louis Mendelsohn came to that realization more than two decades ago, he started to take technical analysis one step—or two or three steps—further. For more than 20 years he has advocated and developed an “intermarket” approach to market analysis and trading. Intermarket analysis theory (actually, trading professionals know it as fact) suggests that all markets are interrelated and behave in ways and patterns that are based upon other markets’ price behavior. I know intermarket analysis as fact and can illustrate it with several compelling examples. The first occurred very early in my career as a financial market journalist. I covered several markets a day while reporting on the trading floor for what is now the Dow Jones Newswires service. Among the markets I covered were stock index futures. In doing my pre-opening 11 www.rasabourse.com market call for stock indexes, I would ask floor traders about the likely price direction for the day. Nearly every day the response I’d get from the stock index traders would be, “Well, based upon what the bonds are doing in early trading, we expect the stock indexes to . .” And when I covered the grains, the pre-opening calls invariably would be based partly upon what the U.S. dollar, stock indexes, and precious metals had done in overnight trading. The same type of intermarket relationships was evident when I covered the precious metals, where traders looked to the value of the U.S. dollar for direction. More recently, there has been a defining example of the reality of intermarket behavior in what I have termed the “axis” markets: crude oil, gold, and the U.S. dollar versus the other major currencies. Because crude oil and gold are priced in dollars, those who produce these commodities are getting more paper but less value for their products when the dollar weakens, as was highlighted in many media reports about nations shifting or threatening to shift their currency reserves into euros or something other than dollars. In many cases, if the price of oil goes up, so does the price of gold while the value of the dollar declines, although the intermarket relationships aren’t quite that simplistic. These three markets combined have a powerful influence on daily price activity in grains and many other commodity markets. In fact, for a while the axis markets were the main factor driving prices. Then, of course, there has been the impact on many markets from issues related to the sub-prime mortgage debacle, which 12 www.rasabourse.com seems to have stretched its tentacles everywhere. Losses from these loans and the decreasing credit liquidity as banks tighten their lending policies have prompted government and Federal Reserve responses that have affected interest rates, stock indexes, currencies, and virtually every other financial market. The effect hasn’t been limited to U.S. financial firms but has had repercussions globally almost from the first day that the situation began to deteriorate.