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83

6.00-

5.50

\ « \

Reversal nouHbn

A h7

B. /3

Move/

\ MoveAMove

No lettera: uniiy

S.00-

\ /

4.50--- -

these points rarely occur with exactness, but proportions serve as a valuable guideline. The principle is one of reaction in relationship to an obvious preceding action.

Trident

The Trident Commodity-Trading Sjstem received its fair share of publicity when it was introduced at the beginning of 1975. An article in the 1977 Dowjones Commodities Handbook had an excellent review of the background of the sjstem and some of the conflicts surrounding its presentation and subsequent successes and failures. The sjstem itself is not unique in concept but in its implementation. It is based upon the principle of price action and reaction with formations similar to the waves of R.N. Elliott. For each price move, there is a point of undervalue and overvalue with subsequent reaction, or adjustments, in price as it moves irreguiarty in the direction ddermined by the ultimate balance of supply and demand

The object of the sjstem is to trade in the direction of the main trend but take advantage of the reaction (or waves) to get favorable entrj and exit points. The concept of trading with the trend and entering on reactions is discussed in the context of commodity technical analjsis as earty as 1942 by WD. Gann and in the preceding section on action and reaction. The goal is to predict where the reactions will occur and what profit objective to set for each trade. Tridents approach is easj to understand: Eadi wave in the direction of the main trend will be equal in length to the previous wave in the same direction. The taiget is calculated by adding this distance to the highest or lowest point of the completed reaction. As with Elliotts principle, the determination of the tops and bottoms of the waves is dependent on the time element used; the complex form of primary and intermediate waves wouid hold true with Trident (Figure 12-6).

Because there are inaccuracies in the measurement of behavioral phenomena. Trident emphasizes the practical side of its theory by offering latitude in its choice of entry and exit

FIGURE 12-6 Trident enfrj-exit



Targei

Average Recommended SelLng (Exit) 31 759 Level

Average Recommended Buy (Eriry) ai 25% Level

points. By entering after ISo of the anticipated move has occurred and exiting ISo before the target, there is ample time to determine that the downward reaction has ended before your long position is taken and enough caution to exit well before the next reaction. A critical point in each main trend is midway between the start of the move and the target, if the midpoint is not reached, there is a change in direction of the main trend causing a reevaluation of the main trend and the reactions. A change of direction is considered conclusive if a reversal equal in size to ISo of the lasi reaction occurs during what was expected to he an extension of the main trend. That 25" value becomes the trailing stop-loss on any trade in the event the obj ective is not reached.

This discussion is not intended to be a complete representation of the Trident System, but a brief description of its essential ideas. The actual sjstem has substantial refinements and subtleties in target selection for major and minor trends and corrective moves; it includes points to reverse positions based on the trailing stop.

In a later bulletin to Trident users, it was suggested that a modification to the sjstem be implemented with respect to money management. Using a technique similar to the Martingale Sjstem, each loss is followed by an increase in the number of positions traded. The trader only has to continue to extend his positions and stay with the sjstem until he wins. A comprehensive version of this classic gambling approach can be found in the section "Theory of Runs," in Chapter 17. The Trident concepts are all reasonaUe and generally accepted by experienced traders. They include advance and rehacement, trade the trend, dont pick tops and bottoms, take the center out of each move, and use a trailing stop

Rethinking Retracements

Interesting observations were made by Tom DeMark about identifjing the price move that serves as the basis for measuring retracements. if the maiket is currently at a low, rather than judging the distance of this drop from the most recent swing high, he chooses to look for the highest point that has occurred since the last time the market traded at this low level. He then finds the most likely rdracement points using the Fibonacci ratios .618, and I.6I8, plus Fibonacci alternatives .382,30,1.382, 2.236, and 2.618 applied to the difference between the hi and low, added to the current low price.

" Tom DeMaric, "Retracing your steps," Futures (November 1995). Also see Chapter 2 of DeMark The New Science of Technical Analjsis (John Wiley & Sons, 1994).

CHANNEL BREAKOUT

The classic channel is formed by drawing a straight line along the bottom of an upward frend (or the tops of a downfrend), then constmcting a parallel line that touches the esheme high price of that same time interval, forming an envelop, or channel, around a price move. It is easj to do this with a chart and a riUer, but not as simple to tranafer this concept to a computer program. Because the concept of a channel breakout is basic to charting, an automated version



may prove useful for identifjing key market fuming points. The steps to creating a program are as follows:

1. Create a swing chart to identify key higli and low points. A constraction of a swing chart was discussed in the first section of tliis chapter, "Finding the Swing Higli and Low Points." This method used a minimum swing value, MSV, to identify a swing high or low. For exanpie, once a price had declined from its recent higli by the MSV, that previous higli becomes the iast swing higli. The swing higlis and lows are therefore oniy found after-the-fact. When a larger MSV is used, the points identified as swing highs and lows become farther apart and are considered more important, or major swings. By creating two swing charts using a small and a large minimum swing value, we can show both major and minor market price swings (see Figure 12-7).

2. Find a straigbt-iine frend. Beginning with the iast swing high or swing low, use the least-squares linear regression to find the straight iine through the center of prices that have occurred since that high or low:

Straight-line value Y= a x date + b

3. Draw channel bands. Beginning at the previous swing high or low, calculate the value Y of the linear regression iine at ali points up to the most recent date, and find the two prices that are the farthest above and below the regression iine. These prices will define the upper and lower channel bands:

Hiest relative price H max = Ht - (aPt + b)

Lowest relative price L max = (aPt + b) - Lt

FIGURE 12-7 Major and minor swings.

where a and b are the linear regression slope and y-intercept. The channel band is found by adding or subtracting H max and L max from the linear regression sh-aightiine formula:

Upper channel band = aPT + b + H max

Lower channel band = aPt + b - L max

4. Project the bands one period ahead. To know whether the next price has broken the channel, indicating a change of frend, we project the channel one period ahead using the slope value, a.

Projected upper channel band t + 1 aPt + b + H max + a

Projected lower channel band t + 1 aPt + b - L max + a



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