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27

Trading By Tlie Boole - Part II

8712 8526 8408

8105 7919 7801 7615 7429 7311 7125

Figure 9 I also have a new opportunity with a l-ll-III high. If prices break below the nunnber II point, I will go short on a sell stop. In the meantime, ! had exited the trade due to a lack of follow-through to the upside. The market has gone into a congestive phase.

What weve seen here is the transition from a 1-2-3 low to a l-ll-lll high.



CHAPTER 5

The Offset Moving Average

So far I have shown the 1-2-3 low formation, and shown that the initial stop is placed just below the #3 point. The l-ll-III high formation is the opposite in that the initial stop is placed just above the #11! point. The initial stop is what I call a catastrophic stop. It offers some measure of protection while the trade develops. I want to move this stop closer, as soon as possible.

But what about the objective? Should I use some sort of projection to tell where the trade might go? I couid, and sometimes do use the same sort of projection as shown for Gold in Part I of the manual. It is a 1.00 projection of the latest A,B,C swing (i.e., -A -t- = objective}. But my own trading preference is to let the market take me out of the trade. That way my stop and my objective become one and the same thing.

Rather than try to predict the future, or where prices ought to go. I would rather use magnitude of move and gap alerts along with the and \/\/ formations to determine when to get out. and \/\/ tell me that the market is finished going my way for awhile. Until 1 see or \ /1 will not exit the trade, with one exception. I will exit when 1 see , \ or when prices at the close penetrate a moving average that has been offset forward by "x" number of bars. Whichever occurs first wil! cause me to exit a market. Ir the case of Bonds, I used a 7 day MA offset by 5 days. To the extent that 1 use an offset MA for entering or exiting a trade, 1 will utilize curve fitting. This moving average is shown in Figure 10.

Uh-oh, I have said a bad thing. Curve fitting is wrong, right? No its not! Curve fitting is right when it is used correctiy, its only wrong when its used incorrectly. Incorrectly means using it blindly without rhyme or reason. Incorrectly means using it all the time and building a trading system around it. Incorrectly means making it a standard and then suffering the consequences of having to live with that standard.

A market can reasonably be expected to behave in the near future in a manner somewhat similar to the near past. I always fit the moving average to what would have been the optimum MA in the last couple of swing legs that have moved in the direction that the market now appears to be headed. If a 4 x 3 fits best I use that. If a 25 x 5 fits best I use that instead. I always reserve the right to change the number of bars in the MA and the offset, and to adjust it as I go along. This is difficult to do by hand, but its quite easy with a computer.

The way I use it is to see which kind of MA best fits the market Im in, in the recent past. I then set that as my initial MA. If the market then changes its angle of ascent or descent, I change the accordingly. That way Im not stuck with an MA that blindly has to work all the time, t do not believe that there is a "holy" and perfect MA that will always work in al! markets at al! times. I do not believe that there is an optimum MA for all markets at all times. Markets change, and 1 want to change with them. Harmony is what Im trying to achieve.

I am continually amazed at how some traders always buy or sell when two different MAs cross each other, or blindly buy or sell when price penetrates an MA in one direction or the other as though those actions constituted some immutable law that would then make a market go their way.



Day 1 Closing price = 453.20 Day 2 Closing price = 450.80 Day 3 Closing price = 445.80

Moving average = 0 Moving average = 0 Moving average = 0

Total = 1349.80

Divide by 3 = 1349.90 /3 = 449.97,

Day 6 Closing price = XXX.XX Moving average = 449.97

An offset moving average has a number of benefits over that of a non-offset moving average.

« The main benefit is that it does a better job of visual containment, and thereby protects against whipsaw actions. Buy and sell signals can be taken from price penetration, but only vyiih greM caution. Penetration should be treated as you would a gap, it is an alert. A double penetration of the moving average by the price is an especially strongsignal of a failure. Another way it can be used is to take alert signals when a non-olfset moving average crosses an offset moving average.

Finally, an offset moving average keeps me much closer to the price action than a non-offset moving average, because it is projected forward in time. ,;

I use the 3 day moving average offset 3 days when a market is movingstecply. If a close penetrates the moving average it is a signal of imminent change. If it then turns around and re-penetrates in the opposite direction, then an extra strong signal is given to trade in the direction of the close.

For trading the daily charts, I favor offsetting the MA by 5 days. This moving average gives excellent containment of prices enabling me to stay with the trend for a longer time without being prematurely stopped out. The number of days in the MA wilt be my curve fitting technique.

Offset Moving Average of the Close

A moving average is at best a lagging indicator because It always is computed on history. Unfortunately, all of the things that we can compute in trading are based upon what has already happened. No one I know has yet figured out what tomorrows numbers wil! be. Yet it is possible for me to be forward-looking in my thinking. That is where the offset moving average comes into play. Although it is still a tagging indicator, it is forward-looking.

For the sake of ease, I will compute a three-day moving average and offset it three days in time. Here is how I compute it, and it is quite simple:



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