The Magic of Moving Averages 0934380430, 8642980221

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THE MAGIC OF MOVING AVERAGES

Scot Lowry

TRADERS. PRESS, INC.(i} P.o. Box 6206 Greenville, S.c. 29606

Books and Gifts for Investors and Traders

Copyright © 1998 by Scot Lowry. All rights reserved. Printed in the United States of America. No part of this pUblication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher.

ISBN: 0-934380-43-0

Reprinted by agreement with the author, Scot Lowry Published April 1998

TRADERS PRESS, INC.® P.O. Box 6206 Greenville, S.C. 29606

Books and Gifts for Investors and Traders Please write or call for our current catalog.

1-800-927-8i22 FAX 864-298-0221 [email protected] http://www.traderspress.com

This book is dedicated to the following:

To Kim, for all your unselfish help. To Brian, for your assistance and patience. To Deena, for your creative input. To Juanita, for doing all the things behind the scenes that no one gets credit for. To Jim, see, I told you.

INTRODUCTION

The reason for writing this book is twofold: first, after years of studying charts, I have been able to identify an occurrence in market trading that can almost ensure high returns with minimal risk. This approach to trading is very clear and easy to understand. Which leads me to the second reason for writing this book. For a long time I have felt this system was too simple to warrant a book, but over time, I became increasingly convinced that the system that you are about to learn has been overlooked by the vast majority of people. I once asked a friend of mine, who was instrumental in my decision to write this book, why more people had not seen this. His response was, "more often than not, people do not see the forest for the trees". In other words, the trading plan you are about to see is so simple that it defies logic. It is not complicated, it is not time consuming, and it has no difficult formulas to try and understand. It is an easy, layman's approach to profitable trading in the futures markets.

As I mentioned earlier, I believe this approach to trading has been overlooked by many. On the other hand, it is so basic that it is hard to believe that it isn't being used by quite a lot of investors already. Here's why. As many of you already know, the basis behind any market move in a particular direction is founded ,upon one simple principle - there are either more buyers than sellers (in which case the market goes up), or there are more sellers than buyers (in which case the market goes down). So why do I believe that other investors are somehow arriving at the same area on the charts as I am to place buy or sell orders? Because, as you will learn, this trading strategy places orders above or below where a particular market is trading at that time. When the .market price finally trades at our price, the market has. a tendency to continue in that direction at a rapId pace, which tells me there are many other orders placed to buy or sell at the same price I have chosen; i.e., more buyers than sellers forcing the price up, or more sellers than buyers forcing the price down.

One more note to make before we embark on a short journey on how both experienced and novice futures traders can learn a very simple and successful approach to trading.

Chapter one is a brief overview of how futures and commodities trade. This chapter is

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devoted to those who have never dipped their hands into the excitement of trading futures. It will explain in simple tenus how and why futures trade as they do, and give you an understanding of tenus and phrases used in the markets. For those of you who have been trading in the past you may find this tiresome and may want to move on to chapter two.

It is to be rel~ted that all commodity and futures charts trades systems patterns etc., discussed in this book are for illustrative purp~ses oni y and ar~ no~ to b.e constJUed as advisory recommendations. There is the chance of ~u tantl;1 loss in futures trading and there exists no trading plan with a t~? ~ro:. system. Past performance is no indication of futures results with h~~i ra Ing syste~ or ~ny other. It should be further noted that the ideas and ng ~Iystems In thiS book are solely those of the author and do not necessan y retlect th OSe 0 f 0 ata Transmission . . Network the advertl'ser or anyone e Ise amI' t d . h " ' , la e Wit thiS book In any way. Futures trading is risky and trade d I rs 0 ose money . B" . . .In the futures market one should be e,ore investing aware 0 f the pote r I Ii . attempts should ~:adro Its and . Ioss~s Involved. Any trades that an investor scussed With hiS or her broker before implementing The ' " . InlormalJon contained h . h b ' . be reliabl . h . ereln as een obtained from sources believed to e, owever, It cannot be guaranteed.

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CHAPTER ONE

Before learning a trading strategy it is . rtant to have a general understanding of how hy we Impo d kn and why markets move. You nee to w have commodities markets and what their purpose is You need to fully understand how an~ when o~ders are placed and to know about the dlffer~nt orders that exist. Proper placement of an order With your broker is of the utmost importance; errors can become extremely costly.

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In the mid-1800's the first commodity exchanges opened to the public. They ~ere devised to keep prices stable; i.e:, to keep pnces from having exaggerated swings either up or dow~. If these trading arenas had not been open to t e ublic we would never know from one day to the ~ext what prices would be in the stores. Exchan~es were implemented to keep prices from skyrocketing one day and plummeting the next.

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How is this done? Let's first look at a commodity with which most people are familiar _ wheat for example. Wheat is used for many purposes throughout the world, but most people associate wheat with bread. So let's look at a world where there was no exchange to keep prices in check. Suppose that last year there was a drought in the wheat growing region. This would inhibit the growth of the wheat crop and would consequently mean a smaller crop. How would that affect prices of bread in the stores? The price would go up. Here are the reasons why: first, the farmers would have put just as much time and effort into raising a small crop as they would have into raising a large crop. Their costs were the same and they need to make the same amount of money in either event. So they will charge more for a bushel of wheat, driving up the price to the bread maker, which will eventually be passed on to the grocery store ~md ultimately to the consumer.

Second, if bread producers know there will be a shortage of wheat, they will be willing to pay a higher price to ensure that they receive the quantity of wheat needed to make as much bread as demand warrants. Again, higher prices are passed on to the ultimate bread purchaser. This is the basic law of supply and demand. If supply is short and demand is stable, price goes up.

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Now let's look at the other side of supply .. and demand - the scenario where bread prices would go down. Instead of a drought in the wheat fiel~s, we have perfect weather and the crop yield is qUlte large. In this hypothetical situation the farmer could have more wheat than he can sell. The bread producer only needs enough to make th~ same amount of bread he made last year (assummg the demand stays the same). The farmer doesn't want the costly task of having to store the excess wheat. He wants to sell it. So he is willing to accept a smaller amount of money per bushel to sell his cr?p. He also knows there are many other farmers trymg to sell their wheat. Now the bread producers ca? shop around and offer less money per bushel untIl they get the price they want. As farm~r after farmer lowers the price to sell his crop, pnce may well have dropped to the point the farmer is ~o ~onger willing to sell. Sometimes the offered pnce IS less than the cost to harvest.

Now let's speculate on what happens next in the supply and demand chain. W~ know the bread producer paid less per bushel for hIS wheat, an~ we are fairly certain the grocery store ~no~s thIS as well. So, at this point, my assumptIon IS that the grocery store and the bread producer will agree on a price per loaf of bread so that the grocery store can stock it's shelves. Now we can rest assured that the ~e cheaper price for a loaf of bread this year than next. We know the savings WIll ultimately be passed on to the consumer...

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Once again the laws of supply and ·demand take over. Assuming again that demand is the same, we have an overabundance of supply which forces price down. It is easy to see now why the price of bread could be very high one year and very low the next, or could change daily as the people involved speculate how the weekend rains or the temperatures overnight affected the crop.

These are hypothetical situations used to show what could happen to the price of bread (and every commodity in the world) if this were a world where no commodity exchanges existed. There would be constant and wild price fluctuations and the public would not know from week to week the price of a particular product.

The solution to the dilemma was to get the pUblic involved to help set the price of commodities. This was done through the development of the first commodities exchange _ the Chicago Board of Trade. CBOT was set up to control grain prices, which at the time, were the ~taple of American life. By getting the public InVOlved .(the people paying for the loaf of bread), it was eaSIer to keep the price of wheat from skyrocketing. The public could sell wheat on the excha~ge if the price went too high, thus forcing ~he pnce. down. Theoretically, the more people Involved In trading any particular commodity, the

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more price stability there will be, minimizing to some degree, wild price swings.

Let us look at how the futures market works. Futures and commodities trade today at what traders expect prices to be in the future. Each commodity trades in individual months. For example, wheat has contract months of March, May, July, September and December. These contract months specify at which time a delivery of that particular commodity is to take place. So let's say that today is August 23, and the price of December wheat is $3.83 per bushel. Let's also say that there has been a rumor that the wheat crop will not be very large this year. We just learned that if the crop is small, the price of wheat should go up between now and So today we buy a contract of December. December wheat at $3.83 per bushel. We have between today and sometime in December to sell that wheat contract. Since we bought today we hope the price goes up so that we can sell the contract higher than our purchase price. In this example we will assume the price goes up to $3.94 per bushel by September and we do not think it is going much higher. So we sell our wheat contract at that price. The difference between $3.94 and $3.83 is eleven cents. Since the value of wheat on the futures market is $50 for every one cent, our profit is $550. ($0.11 x $50.00 = $550.00) On the other hand, had we sold wheat at $3.83 in August and bought it back in September for $3.94 we

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would have lost $550 - which, of course, is not our objective.

But wait. How could we have sold wheat in August when we didn't own any? This is what is referred to as "shorting" the market - you sell first and. buy back later. This is sometimes confusing, so I wIll approach explaining it in as simple a fashion as possible. Using the above example let's assume the rumor we heard was the wheat crop was to be very large instead of very small. In this case we would surmise that the price would go down from the current $3.83 per bushel. In order to profit from that we would want to sell wheat rather than buy w?eat. To do so we must enter into an agreement With someone who is a buyer of wheat at that price. We tell th~ buyer, in our agreement (or contract), that we wIll sell him one contract of December wheat at $3.83 today. Now we have until December to. buy a contract of wheat from someone at some pnce. Our hope is that the price of wheat will drop between .now and December so that we can purchase It at a lower price. If the price drops to ~3.72 and we buy the wheat at that price we will a~e fulfilled the terms of our agreement to buy and ~eJlver the one contract of wheat. We also would $ ave made the difference of $3.83 per bushel and 3.72 per bushel, again it is eleven cents at $50 a cent, or $550.

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If you are still confused, try this example. Forget the chronology of time. Regardless of time we bought wheat at $3.83 a bushel and sold wheat at $3.94 a bushel in the first example. We bought wheat at $3.72 a bushel and sold wheat at $3.83 a bushel in the second example. It doesn't matter whether you buy first and sell second, or sell first and buy second. The bottom line is the difference between the two prices which represents your profit or loss potential. If you sell first, you want the price to go down. If you buy first, you want the price to go up. That is all you really need to know to be an effective, profitable futures trader.

As this book progresses you will learn a certain approach to trading. This trading program requires the use of two types of orders that will be placed with your broker. For our purposes these will be the only two types we will cover. Other fundamentals about trading are not necessary as far as we are concerned.

To understand the first type of order let's once again use the first wheat example. In that example, wheat is trading today at $3.83 per bushel. Since we think the price of wheat is going up we will want to place a buy order. As you will learn in a later chapter, we never buy anything at the current market price. You will also learn that there is a certain line on the chart that we will look for and we will place our ~ order ahDve. that line. So let's

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suppo~e this line we will be looking at is at $3 86

We wIll place our buy order ~ ~ ... ~ ..- th at I'me, say" at $3.91. That means we will not be b uymg . wheat '1 . untl the pnce . . of wheat gets to or ab oye $3 .91 per bus he.I ThiS. IS referred to as "buymg . on a stop" When th.e pnce of wheat does trade at that level, ou; order Will be executed and we will h b wheat. ave ought

To place this order with your broker yo '11 say to him, "Buy one (or more if you are bu ":1 more than one) contracts of D b uymg $3.91 on a sto "Th ec~m er wheat at th' p. e reason for thiS order is that if e pnce of wheat goes down from the of $3.83 per bushel instead f current price 0 up, we never got . th e market, because we will n . In e price goes to or above $3 91 ot bb b:yers untIl the want to buy wheat if the' . p~r u~ el. We don't want to bu a prIce IS gomg down. We market notYw ukr contracts on price strength in the , ea ness.

If we take the sec d are looking for th . on example of wheat, we current. e pnce of wheat to go A~ .. . _ The prIce of h ' uunn.. $3.83 per bushel : . ea~ 10 the s~cond example is chart that : gam there Will be a line on the bdmv Let~e WIllhlOOk for to place our sdl order $ . s say t at r . place our order t me IS at 3.80. We will then referred to as " 0 1~~11 at $3.78 per bushel. This is would place yo~; ~~ on .a stop". The way you er with your broker is "Sell

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one (or more) contracts of December wh~t at $3.78 on a stop." This time we will not be selhng wheat until the price of wheat drops to or below $3.78 p~r bushel. This time we are looking for weakness 10 the market, not strength. To reiterate, if the price goes up from $3.83 per bushel we never got involved in the trade. We only sell wheat when the price drops to our offered price of$3.78 per bushel.

This is the order you will use most often when trading this system; buying or selling on a stop. The next order you will learn is to be used only after you are very proficient at .trading, or you may never use it. I say that because tt ~an be a ve~ risky trade. It is not used when tradmg the bastc system you will learn, but it is used on other trades that will be shown at the end of this book. These will be trades that go against the grain of the market, which is why they can be quite dangerous, but when they work they are extremely profitable. They are not for the inexperienced trader.

The way this trade works is as follows. Let's say wheat looks as though it is close ~o making a high in price (referred to as atop) and wtll stop, tum around, and start going d.own - based ?n what you will learn later. We wtll at that pomt place an order to sell wheat at a speci~ed pr~ce or better. For example, let's say wheat tS tradmg at $3.95 per bushel. The line on the chart we are following is at $4.05. In this example we do not

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think the price of wheat will go above $4.15 per bushel. This is when we will place an order with our broker to se)) wheat at $4.05 or better, with a protective buy stop at $4.21, which is a price above which we do not think wheat wi)) go. That means that when wheat gets to $4.05 per bushel we are selling. This is dangerous because if the price of wheat continues upward we can incur heavy losses. Our losses would be the difference between $4.05 and $4.21 - the price of our protective buy stop. ($4.21 - $4.05 =$0.16, $0. I 6 x $50.00 = $800). $800 is a round figure because the losses could exceed that with slippage. Slippage is a term used when the actual price filled on your stop is worse than the price you have entered. This can occur in fast moving or thinly traded markets.

By the same token, if we think the price of wheat has reached a bottom and wheat is trading at $3.45 per bushel, we wi)) again find the line on the cha~ that .w~ are watching, at a price below $3.45. Let s say It IS at $3.38. At this point we will place an order with our broker to buy wheat at $3.38 per bushel or better. That means the price of wheat mu~t drop from $3.45 to $3.38, and we wi)) be bUYIng h ' . w eat In a falhng market. A protective sell :;~p would need to be entered below the $3.38 bel, .around .$3.30 per bushel. This is what I mean Y gOIng agaInst the grain of the market - you can '. see why th ere IS Inherent risk involved.

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Let me re-emphasize the fact that this second style of placing orders is not used in the basic trading system in this book, but is used for more risky trades that only an experienced trader should attempt.

I hope this general overview will give you enough understanding of how markets operate to get you started. This is by no means all there is to know about trading futures and commodities, but it should be enough to get you on your way using a basic trading plan that does not incorporate a lot of formulas, fundamentals, seasonals, etc. There are many topics written about such things and if your interest goes beyond basics then you will find a multitude of books from which to choose.

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CHAPTER TWO

There are so many trading techniques around now that it. is hard to choose one that seems to work consistently. When I first started trading in the futures markets I began using a system that worked so~etimes but more often than not it turned up losmg trades. I continued trading and found that whatever system I used worked one time but then failed the next. I spent years pouring over 'the charts and. reading market news each night as to why a partIcular market moved that day. Then, all of a sudd~n, it came together! A clear picture began forml~g and I was able to see a concise pattern occ~rnng over and over. The same formations contInued to happen before major market moves _ ?n every futures chart! I was astounded how could It be this simple and blatant? How couid this have ~een before my eyes every day and I had missed it? seemed there had to be more to it than this but ahfter years of watching and back testing I found out t ere Was . not more. It really was this simple. Do not mlsund t d h ers an me, I ave by no means figured d· . out the commo Ity markets In general, I don't think

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anyone ever will. What I have figured out is one series of events that occurs prior to a market move. And this one series of events allows you to place your buy or sell orders above or below where a market is trading at that particular time. It also tells you where to place your initial prote~tive sto~s. You will know roughly what your potential loss WIll be prior to your entry into the market. . The advantage to this trading system is that you ':111 not need to wait long to find out if you are nght or wrong in the direction the market will be moving. In most cases you will know within a few days. At that point you will either be able to move .your protective stop to lock in more profits or you WIll no longer be in the market because you were. stopped out with a loss. The latter is what we WIll try to avoid. Exercising patience in your entry order is extremely critical. At all costs, never try prior anticipation of the direction of the market after learning this trading system. I have already done that. Not only does it not work, it is quite costly. It's like trying to teach a pig to sing, it does not work. You must wait for the proper signals to act on before placing your trades.

around the world. Moving averages are already one of the most popular ways of trading, but by the time you finish reading this you will have a whole new outlook on them and how to employ them for maximum advantage. You will learn a new way to look at markets, and one thirty-second glance at any chart will tell you whether a market is worth trading or not. You won't get in at the bottom, nor will you get out at the top. But that is not necessary to be in on extremely profitable trades. This system will also eliminate guesswork on market direction.

For those of you who are not familiar with moving. averages, following is a brief explanation. A movmg average is the average of a specified amo~nt of prices divided by the total number specIfied. They change on a daily basis as the price of each m~rket changes. Here is a formula to use when figunng a moving average: MA=(P I + P2 + ... Pn)!n MA - represents moving average. PI - represents the price on the first day.

My system of trading involves something that has been around since the first hour of the first day the first market started trading. I. have ?one nothing spectacular. All I have done IS deVIse a different approach of using what already exists. What already exists are moving averages. These lines are used quite frequently by many traders

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P2 - represents the price on the second day. Pn - represents the last day in the series. n-represents the number of days in the series.

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A moving average is just what it says it i~, it moves from day to day. To calculate a movmg average, you must drop the first number of the sequence (P I) and add a new one to the ~nd. ~he new one added to the end would be the closmg ~nce for that particular day. So if you were calculatmg ,a four day moving average you would, at today s close, add today's price to the series and take away the closing price from four days ago. Then y~u would recalculate. Below is an example of how thIS is done.

December Cocoa

August 12 August 13 August 14 August 15 August 18 August 19 August 20 August 21 August 22 August 25 August 26

4dayMA

Four day MA

Close

Day

1515 1527 1516 1512 1563 1553 1569 1618 1601 1615 1653

(PI) (P2) (P3) (P4)

1517.5 1529.5 1536 1549.25 1575.75 1585.25 1600.75 1621.75

As these averages move on a daily basis you will see patterns emerge on the charts that will help you identify trends and show you opportunities to buy or sell. When looked at properly they seem to tell us in advance what will happen next. In a lot of cases they act as arrows pointing to the direction the market intends to go. You will also find that for whatever uncanny reason, the markets will quite often wind up in the "Danger Zone" in the days prior to a major news event - (The Danger Zone will be delved into later). In some instances the markets will emerge from this "Danger Zone" a day or two before the news is announced, giving us an indication of possible future market direction. I think this happens when somebody knows something he or she is not supposed to know. In any case, it can be quite helpful - unless they were wrong. It is always best to stay out of the markets until after the news breaks. Let's move on to what these moving averages mean.

For example: 1515+ 1527+ 1516+ 1512=1517.5 4

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CHAPTER THREE Throughout history, man has .searched for the ability to see into the future. ~Ise men who seemed to possess certain gifts of clairvoyance were called seers or prophets. In ancient Greece, at ~he temple at Delphi, priests attained almost god-hke status by teaching seekers to look ,:ithin to see what lay beyond. Centuries later, the pnests at the Oracle of Delphi are remembered as ~ome of the most reliable seers and prophets of all hme.

The basic trading system described in this book focuses on a series of events that o~cur to create a rare formation. No system that. predlc~s the future is 100 percent accurate, but this .part~cular formation not only indicates which dlrectt~n a market is headed, it gives the investor a. margm of safety as he or she enters the market. It IS a system of superb reliability. It is for that reason we borro:" from the past and name this occurrence the Delphic Phenomenon.

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Before we start into the trading aspects, I want to explain which moving averages I use and why. This system employs the use of three moving averages, the four day, the eighteen day, and the forty day. These work out the best and have the most consistency. Certain markets have different moving averages that are used by the traders of those markets, but the vast majority use these three and it is with these that I have found the most success.

The first example we will use is the 1997 July Soybean chart (page 23). I have chosen this chart because it contains virtually all aspects of criteria needed when capturing the beginning movement of the Delphic Phenomenon. Refer back to this chart as you continue reading. There will be other charts shown later which reveal the same patterns, but some will not be as "textbook" as this one.

The way I use these averages is quite simple. The first step is to wait for the eighteen day moving a.vera?e to cross over the forty day moving average (I.n either direction). For clarity, let's say the eighteen day moving average crosses from below the ~orty day moving average to above the forty day mhovm g average. At this point, the only thought you s ould hav . . Wh e IS to start lookmg for a buy signal. enever the eighteen day moving average is above the fort d . y ay movmg average we are looking

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for a buying opportunity. Once the eighteen day moving average is above the forty day moving average we will wait for the actual price of the market to go above the eighteen day moving average, and then drop below it, for the first time. This is our buy signal! This is what we are looking for. This is the stage in the Delphic Phenomenon that tells you what lies beyond. It is at this point that we call our broker and place a ~ order just ahID'.e the eighteen day moving average. If you get filled on your buy order, you will have your broker place a protective sell stop just below the forty day moving average. The difference in price between your entry point in the trade and the forty day moving average will be your initial risk in the trade. As the market moves up you will be able to move your protective stop up accordingly. You will continue to do this until such time that the market reverses direction, trades ,at your sell stop price and exits you from the trade. The reverse of the above example would be for a selling opportunity. In which case you will watch for the eighteen day moving average to cross from above the forty day moving average to hclo.w the forty day moving average. As soon as this happens you will be looking for your scll signal. That sell signal will come when the actual market price moves from below the eighteen day moving average to above the eighteen day moving average, for the first time. At this point you again call your broker, but this time you will be placing a.scll order

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just hcl.uw the eighteen day moving average. If the market drops and fills your order, you will then call your broker and place a protective buy stop ju~t above the forty day moving average. Once agam your initial risk for the trade will be the difference in price between your entry point and the forty day moving average. As the market price drops you will move your protective buy stop down to lock in more profits until the price changes direction and trades at your stop price.

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These last paragraphs are the essence of the Delphic Phenomenon trading system. Remember, you only place your trade the first time the market price goes inside the eighteen day moving average _ the eighteen day moving average crosses the \ forty day moving average. There will be other times the market price dips inside the eighteen day moving average, but I will rarely place a buy or sell order on the other side of the eighteen day moving average in those cases. The reason is that too many times the market run from that point is short lived. A good case in point is the area on the July 1997 Soybean chart ( page 23) at the upper left center. Around April 1st the market came out of the eighteen day moving average to the upside. It was the second time the market price had dipped inside the eighteen day moving average since the eighteen day moving average first crossed the forty day back in December. As you can see, the brief spurt was short-lived. Had your protective stop been of ample distance to give the market opportunity to move,

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your profits may not have been very high, if you realized any profits at all.

When I say that your protective stop was of ample distance to give the market room to move, almost everyone wants to know what "ample distance" is. Welcome to the hardest and most difficult question that ever existed in the commodities markets. I sometimes wonder if there ~s .an ~ccurate. measure of ample distance. Certainly It IS dIfferent m every market and it is different from day to day. I typically will place a protective stop half-.way between the eighteen day and forty day ~ovmg averages. This is what I use as "ample dIstance". Had that been done on the July Soybean ~h~rt (page 23), the second time the market dipped InSIde .the eighteen day moving average and rose above It, as described in the previous example the ~a.de would have produced small profits. The ~oint hemg, I don't think there is a perfectly safe place to ave y.our protective stops. No market proceeds along lIke clockwork.

protecti~~e s~:st ~Iace

I've discovered to place my average on .. /s below the forty day moving I~ I~ entry into the market in a buying situatio averag n~ an . Just above the forty day moving em sellIng·t . market b Sl uatlOns. I then like to give the .. a out one w k t ee 0 make up It'S mmd on it's

f.

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future direction. As the market moves in my favor after that approximate one week, I move my protective stop to about half the distance between the eighteen day and forty day moving averages. I continue to move it, on a daily basis, until I am eventually stopped out of the trade. In some cases that turned out to be a good time to get out of the market, and in others, staying in longer would have been better. This method of trailing a stop has had the greatest amount of success for me so far. Y.ou may want to play with that and see if you can arnve at a better means of gaining more ground. If you do , I would love to hear about it. You may wonder why I have chosen to wait for the market to go inside the eighteen day moving average before I place my buy order on the outside of it. You might say "Why not buy into the market as soon as the eighteen day moving average crosses the forty day moving average, or why not just bu~ as soon as the market crosses the forty day movmg average?" The answer is that quite often the mar~et price will jump across the forty day ~ovmg average, run up high enough to cause the elght~en day moving average to cross the forty d~y m.ovmg average, and then just go right down agam wlth~ut ever coming back up. Sometimes the market pnce will jump up above the forty day moving average and go right back down without ever having enough strength to stay long enough to pull the eighteen day moving average across it. Remember, it is no~ a buying situation until the eighteen day movmg

26

average is on top of the forty day moving average, and it is not a seJli~g situation until the eighteen day moving average IS below the forty day moving average. So the reason for waiting for the market price to go above the eighteen day moving average and dropping below it before we place a buy order is this: if the market continues down - we never got in the market at all. You will find that, in most cases, the first time the market crosses the eighteen day moving average after the eighteen day moving average. crosses over the forty day moving average, there will be enough buying pressure to send the market for a nice run. Your protective stop will be place~ on the ~ide of the forty day moving average OpposIte the eIghteen day moving average. If the market fails in its attempt to continue upward after crossing the eighteen day moving average, you will ~now what your losses will be and your stop order IS set below another crucial line of support. It is, in other words, where it should be - below the line of sU/J.port of a market. Market support is a term used to Identify where supposed buy orders are already in place, giving enough buying pressure to keep the market price from going lower. Market resistance is a term giv~n to an area where supposed sell orders already ex t .. th t . IS , gIvmg the market price a cap (or top) a pnce should not breach.

·t· the very essence of this trad· Therefore·,lIS 109 system th t . . a you wIll be 10 on a market move going· In Your fa all Th vor or you never got in the market at . e only other scenario is that you got in the

27

market and were stopped out with a loss. A loss you were willing to risk before you started.

Another point I'd like to make is that you must keep up with reports that will come out on different markets. For instance, there are crop reports, cattle on feed reports, unemployment reports, etc. I make it a point to be out of any markets the day before a report is issued regarding that market. The only exception to this rule is if I already have high profits on the trade and my protective stop order is well above my original entry level, I may then consider maintaining my position. The reason for this is that no matter how good things may look, a report can totally alter the course of any market if there is unexpected news.

I will mention options only once in this book. I do not trade them except on two occasions. The first is the day before a market news report. At that time I will place a trade only if the futures chart shows me I should be placing a buy or sell order based on the Delphic Phenomenon. If, for example, the com chart shows me that I should be placing a buy order above the eighteen day moving average tomorrow, and tomorrow is the day of the crop report, I will buy a com call option today. This, too, involves risk but the risk in options is usually much less than the risk in futures.

28

The second occasion in which I use an option is if the futures market I plan to trade requires a lar?e risk, based on how far away the forty day mOVIng average (where my protective stop w~1I be) ~s to my entry into the market. In that case I Will deCide at what price I would have placed my buy (or sell) order on the futures chart. I will then call my broker and tell him that when the futures ma~ket trades at that p.rice, to buy a call (or put) opt~on at. the market pnce. The strike price of the optIOn Will have been predetennined between my broker ." how . and me. I won't waste time expl aInmg optIOns w.ork, if you choose to use them your broker can explaIn them to you.

I try to avoid the use of options because you have two enemie . th The onl SIn. at game - price and time. futures t:ad~eal enemies in the commodities and are price a~~g isyste~ you have been reading about enemies is im ~'patJence - the greater of the two and sell basel~~e~ce. The~e opportunities to buy happen every d e DelphiC Phenomenon do not . J; ay. You must Watt lor them to develop. The old virtue has adage about patience being a tremendous I" Overzealousness '11 d app lcatlOn here. WI estroy an account in a very rapid fashion.

b' Now that you ha When you should I ve a aslC understanding of What to lOok DO ? ace your buy and sell orders and r In a chart we need to move on to

29

more specifics. Not every single time that the eighteen day moving average crosses the forty day, and the market drops inside of it do you place your buy or sell order. There are certain times. to d~ this and certain things to look for. The followmg WIll be critical infonnation needed to trade this system successfully. There will also be more charts to emphasize these criteria. Before you go to the next charts I want you to return to the 1997 July Soybean chart (page 23). Near June 1st, you would have been filled on a sell order had you followed this trading system. Your protective stop would have been placed above the forty day moving average. Note the proximity of the forty ~ay moving average to the eighteen day movmg average. They are not very far apart (compared to other charts you will see). Also, notice how quickly (eight days) the market price took to come back above the eighteen day moving average after the eighteen day moving average crossed below the forty day moving average. Critical!! These are the relationships you want to find. These are the ones with the best opportunities for successful sell trades: the eighteen day and forty day moving averages are close to each other, and a quick move of the market price down and then back up again, a?ove the eighteen day moving average. The OpposIte would apply for a buying situation. On the same chart, go back to the first week of February. Had you been trading this system at that time you would have placed your buy order above the eighteen day moving average. Your protective stop would have been placed below the forty day moving average.

30

It seems easy, and it is, when a chart shows such a clear pattern. Sometimes the charts will not be as specific.

J

The next chart shown is the 1997 October Live Cattle (page 32). In this chart you will see near the end of December the eighteen day moving average crosses above the forty day moving average. On this occasion the market did not make a quick drop inside· the eighteen day moving average. The market price did not drop inside the eighteen day moving average until the first week of February, twenty-five trading days later. That is usually too much elapsed time for me to place an order on the other side of the eighteen day moving average. Granted, you could have made profits on the trade in this case, but too often the following br~ako~t fr?m the eighteen day moving average at thIS pomt IS short lived. This is a situation that r~quires close attention. As stated before the best hm t . e 0. get ' m on. a Sizable move is when' there is fairly lIttle time between the eighteen day moving ~v~rag~ crossing the forty and ' the market going ~nsl~~ It. The opportunity stjJl exists, but this is a Fe~:slO? I would give serious thought to first. d 0 OWIll~ this upward move the market again a~ops, t~IS time pulling the eighteen day moving th erage elow the forty day moving average. When e market p' mov' nce went above the eighteen day IIlg average ld below th . ' we wou have placed sell orders middle ~ghteen da~ moving average (around the arch). ThIS trade resulted in a small

0;

loss. The Protective stop just above the forty day . average was elected and that took us out of mOVIng the trade in late March. The large move upward a ft er this pulled the eighteen day moving 0 average . above the forty day moving average. nce agam our opportunity an'ives to place a buy order above the eighteen day moving average after the market price drops below the eigh~een day m?ving average. About the middle of Apnl we are 1/1 the market again, after our buy order is filled. This resulted in a very profitable trade.

Going along the same chart we have a sell off in Live Cattle starting about the first of May, and the eighteen day moving average is pulled below the forty. The waiting begins. We are waiting for the market price to go above the eighteen day moving average before placing a sell order. This does not arrive for a long period of time, over twenty days since the market price first crossed below the forty day moving average. Too long in this case. This presents an opportunity to place a buy order at or below the eighteen day moving average. This will be explained in a later chapter. This is one of the ~a~gerous trades for experienced traders. The point IS, If there is too much space between the eighteen day mOVing average crossing the forty day moving av~rag~, and the market price dropping and then gOl/1g 1/1 hbetween placin . . the two ' it is not the time to be g t e tradItional order that you have learned What We are looking for is a rapid drop (or . nse) In the m k t . ar e pnce nght after the eighteen day

t~us ~ar.

32

33

moving average crosses the forty. Whe? there is a long gap between the eighteen day movmg average crossing the forty day moving average, and the market price going inside the eighteen, you. could be flirting with disaster if trying to emplo~ thiS system at that time. The number of days reqUlred between the market price dropping (or rising) abo~e (or below) the eighteen day moving average IS not etched in stone. It is based more on how the charts look at the time. If you take the time to study the harts in this book and pay close attention to the between the charts listed under "De!phic Phenomenon" versus "System Failure" the ~lanty of the entire trading system will eventually Jump off the page at you. When you understand t~e relationship of time to the occurrence of the Delp~l c Phenomenon you will have all you need to pick these formations out with a quick glance at any chart.

~ifference

You will find as you follow current charts ~r look into historical charts that the Delphic Phenomenon occurs quite frequently. It is a :~ry simple approach to trading futures and commodltl.es utilizing a system that will bring about substantial rewards while at the same time limiting risk. Th~re are times when this system causes us to miss entue . market moves because the market pnce 0f a . . 'd e the particular commodity does not go mSI eighteen day moving average in a rapid fashion after the eighteen day moving average crosses the forty day moving average, but these are few and far

34

between. Our goal, however, is not to be in on every market move, only to be in on the more certain and conservative trades in order to minimize risk while employing the Delphic Phenomenon system. We do not subject ourselves to potential large losses by simply jumping into a market that appears to be heading in a certain direction. The Delphic Phenomenon uses a very easy means of finding an entry point and a position to place our protective stop order. By so doing you are well aware of the potential losses existing in that particular trade. These locations are based on tangible spots in the charts and are based on points of inherent meaning. There will be shown , later, other ways to enter the market without using the Delphic Phenomenon. These are means of picking ke~ turnaround spots, and gaining exceptional entry pomts. Before we get to that let's look at a 1997 September com chart (page 36).

Here lies the same pattern as the Soybean chart. First focus on the time around the end of January. Just prior to that, the eighteen day moving average crossed above the forty day moving aver~ge. The market drops inside the eighteen day mOVing av h . thereafter. Our buy point is Just above erage th s. ortly h OUr prot t' e elg teen day moving average', and . ec Ive stop is placed below the forty day mOVlng avera ' " I We t'l ral OUr Pgettnltta · Iy. As the market moves up , the elg . hteen dro ecttve. stop order half-way between movin ay movtng average and the forty day g average. Around the middle of March, we

35

would have been stopped out of the trade with a ry handsome profit. When the market turns in the middle of April the eighteen day moving average goes below the forty day moving average. This time we wait for the market price to go above the eighteen day ~oving average before placing a sell orde~ below It. That day d?es not come until the mIddle of June. By usmg the Delphic Phenomenon to trade, we would have missed out on the entire move down. Employing other tactics at our disposal we would not have missed out at all. In a later chapter you will find out how we could have sold short in this market long before the eighteen day moving average ever crossed the forty day moving average.

~~wnward

I want to discuss one more chart before moving on to some of the more exciting things to look for while trading futures and commodities. That next chart will be the 1997 September cocoa (page 38). ' It will be fOllowed by other charts so that you will be able to find the formations for yourself As you can see, trading by the basic system alone can be very exciting because it is so simple and pr~fitable. It is incredibly easy, and one thIrty-second glance at a chart will tell you if the market is worth trading or not. The more exciting part of trading fu tures is yet to come.

. the I chose agam . hthe Cocoa chart to emphasize once POInt t at When a market makes an

36

37

tended run (causing a long gap) after the eighteen

~xy moving average crosses the forty, it is not time

~ ~

..

'.8

~.

:f

0

:8

~

.8 8

..!!

Q,

t: place an order above (or below) the eighteen day moving average. Near the first of March the eighteen day moving average crosses ab?ve the forty day moving average and the market pnce does not drop inside the eighteen day moving average until the first of April. This is usually too long, and the point is made clear by the brief burst over the eighteen day moving average around the end of April. Do not get sucked into these moves! Have patience. After that burst up, the market drops and the eighteen day moving average crosses below the forty. When the market price goes above the eighteen day moving average we place a sell order below. The situation around the middle of May is a hard call to make. If our sell orders were too close to the eighteen day moving average, we would have gotten into the market and · taken a loss when the market crossed the forty day moving average and hit our protective stop. Had our sell orders been farther away from the eighteen day moving average, below the low set on that one particular day, we would have never been involved in the trade .

That brings up an important question. How far from the eighteen day moving average should an order be? A .h . s WIt all stop orders, that's the toughest question in trading. There is no definitive a~f~wer. is different, and each day is I 1erent Each I' market . . ve tned a number of ways to find a

d

38

39

precise distance from the eighteen day moving average, including previous lows, retracements, different mathematical formulas, etc. After all the effort seeking a magical spot, I have found that i~ is best to simply place your stop order a few pnce ticks below the eighteen day moving average. You will see, as you study the charts in this book, that when the market price begins its run from the eighteen day moving average it has a tendency to really move. By placing your order. close ~o the eighteen day moving average you wIll be In for better fills as the market moves in your favor and, likewise, will reduce your losses if the market should reverse course on you.

come down. The higher and faster they go up, the harder and faster they will usually fall. Therefore, in situations like this r will trail my protective stop order half-way between the eighteen day moving average and the four day moving average. (See, we do use the four day moving average sometimes). By doing so, we would have been able to sell out of the market near the highs around the end of June, with tremendous profits. Study the following charts to test your understanding of this trading system. The more you stU?y them the clearer the Delphic Phenomenon ~III become. You will be given a quiz at the end of this book. If you fail the quiz, you will have to read this chapter over. Do your best.

The next move on this chart is to the upside and with it comes the eighteen day moving average, crossing the forty day moving average near the end of May. Around the first of June the market drops below the eighteen day moving average and we have the perfect scenario; a quick drop of the market price into the eighteen day moving average, as soon as the eighteen day rises above the forty day moving average. We place our buy order just above the eighteen day moving average and off we g? When a market moves at breakneck speed as thIS one did I use a different strategy for placing my protective stop. In almost all cases, any ",1ark~t th~t makes an extremely big move in one dIrectIon IS followed by the same on the reversal. Don't be fooled into thinking something will go up forever it doesn't! All markets that go up, will eventually

40

41

CHART KEY FOR THE DELPHIC PHENOMENON 1.

2.

~

N

II

3.

4.

5.

~

w

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for thefirst time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

CHART KEY FOR THE DELPHIC PHENOMENON 1.

2.

3. ~ ~

II 4.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average.

9. Place a protective stop just above the forty day movmg average.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

~

V'/

CHART KEY FOR THE DELPHIC PHENOMENON 1.

2.

3. ~

0\

II 4.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

5. Once the market begins moving in your direction, trail your stop halfuray between the eighteen day and forty day moving averages.

~

-..J

CHART KEY FOR THE DELPHIC PHENOMENON l.

2.

~

00

II

3.

4.

5.

~

\0

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.) Allow market price to drop below the eighteen day moving average,jor the first time. Place a BUY order above the eighteen day moving average. After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7.

Allow market price to rise above the eighteen day moving average,for the first time.

8. Place a SELL order below the eighteen day moving average. 9. Place a protective stop just above the forty day moving average.

CHART KEY FOR THE DELPHIC PHENOMENON l.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2. Allow market price to drop below the eighteen day moving average,jor the first time.

7. Allow market price to rise above the eighteen day moving average,jor the first time.

3. Place a BUY order above the eighteen day \Jl

0

II

moving average.

4. After confirmation of a fill from your broker, place a protective stop just below the forty day moving average. 5.

Vl

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

8.

Place a SELL order below the eighteen day moving average.

9. Place a protective stop just above the forty day moving average.

CHART KEY FOR THE DELPHIC PHENOMENON 1.

2.

3. VI N

II

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.) Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day mOVing average.

8.

Place a SELL order below the eighteen day moving average.

4. After confirmation of a fill from your broker, place a protective stop just below the forty day mOVing average. 5.

VI W

6. Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

9. Place a protective stop just above the forty day moving average.

CHART KEY FOR THE DELPHIC PHENOMENON 1.

2.

VI

~

II

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7.

Allow market price to rise above the eighteen day moving average,for the first time.

moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Allow market price to drop below the eighteen day moving average,for the first time.

3. Place a BUY order above the eighteen day 4.

s.

VI VI

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

CHART KEY FOR THE DELPHIC PHENOMENON \ l.

2.

3. VI

0'1

II 4.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

VI

"

CHART KEY FOR THE DELPHIC PHENOMENON 1.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2. Allow market price to drop below the eighteen day moving average,jor thefirst time.

7. Allow market price to rise above the eighteen day moving average,jor thefirst time.

3. Place a BUY order above the eighteen day VI

00

II

moving average.

moving average. 4.

5.

VI

\0

8. Place a SELL order below the eighteen day

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

9. Place a protective stop just above the forty day moving average.

CHART KEY FOR THE DELPHIC PHENOMENON l.

2.

3. 0\

0

II 4.

5.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages ,

0\

CHART KEY FOR THE DELPHIC PHENOMENON l.

0\ N

II

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2. Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,jor the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

3.

4.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

0\

Vol

CHART KEY FOR THE DELPHIC PHENOMENON 1.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

3. Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

2. Allow market price to drop below the eighteen

0\

~

II

4.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

s.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

0\

VI

9. Place a protective stop just above the forty day moving average.

CHART KEY FOR THE DELPHIC PHENOMENON l.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7.

Allow market price to rise above the eighteen day moving average,for the first time.

2. Allow market price to drop below the eighteen day moving average,for the first time. 0"1 0"1

II

3.

4.

Place a BUY order above the eighteen day moving average. After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages .

. . . . 3-BUY

0"1

-...l

8. Place a SELL order below the eighteen day moving average. 9. Place a protective stop just above the forty day moving average.

1.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day movmg average.

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average.

9. Place a protective stop just above the forty day moving average.

2. Allow market price to drop below the eighteen

3. 0\ 00

II 4.

5.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

0'1

\0

....

3-SUY ___

CHART KEY FOR THE DELPHIC PHENOMENON

-.l

0

II

l.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2.

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

3.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

4.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

8-SELl -..J

TKEYFORTHE 1.

2.

-...l

tv

II

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.) Allow market price to drop below the eighteen day moving average,for the first time.

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7. Allow market price to rise above the eighteen day moving average,for the first time.

3. Place a BUY order above the eighteen day 4.

Place a SELL order below the eighteen day moving average.

movmg average.

8.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

-...l W

PHIC PHENOMENON

1.

2.

-.l ~

II

3.

4.

s.

-.l

VI

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,jor the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

y~~

CHART 1.

2.

-....l

0"1

II

3.

4.

5.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average. Once the market begins moving in your direction, trail your stop halfway between the e~gbteen

-....l -....l

day and forty day moving averages.

9. Place a protective stop just above the forty day

moving average.

1.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

2. Allow market price to drop below the eighteen

-...l

00

II

3.

4. After confirmation of a fill from your broker, place a protective stop just below the forty day moving average. 5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

-...l

\0

9. Place a protective stop just above the forty day moving average.

1.

2.

00

3.

o

4.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the ei'i!,nteen da')' and fort')' day moving averages.

00

8 - SELL

1.

2.

3. 00

tv

II 4.

5.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

00

w

....

3-BUY - - -

HART l.

2.

00 ~

II

3.

4.

s.

00 VI

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,jor thefirst time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

TKEY l.

2.

3. 00

0\

II 4.

5.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the el.ghteen day and forty day moving averages.

00 -....I

TKEY 1.

2.

00 00

II

3.

4.

S.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

00 \0

l.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

2. Allow market price to drop below the eighteen

1.0 0

II

3.

4.

5.

1.0

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

1.

2.

3. \0 N

II

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

. 6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,jor thejirst time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8. Place a SELL order below the eighteen day moving average.

4.

5.

10

w

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average. Once the market begins moving in your direction, trail your stop halfway between the e~'i!."teen day and forty day tnoving averages.

9. Place a protective stop just above the forty day moving average.

c 1.

2.

\0

.+::-

II

3.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8. Place a SELL order below the eighteen day moving average.

4.

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average.

S. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day Ynoving averages.

1.0

VI

9. Place a protective stop just above the forty day moving average.

1.

2.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7.

Allow market price to rise above the eighteen day moving average,for the first time.

moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day movmg average.

Allow market price to drop below the eighteen day moving average,for the first time.

3. Place a BUY order above the eighteen day \0

0'1

II 4.

5.

\0 -....J

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

1.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

2. Allow market price to drop below the eighteen day moving average,jor the first time.

\0

00

II

3. Place a BUY order above the eighteen day movmg average.

4.

s.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average. Once the market begins moving in your direction, trail your stop halfway between the el.gbteen da)' and forty da)' moving averages.

\0 \0

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7.

Allow market price to rise above the eighteen day moving average,for the first time.

8. Place a SELL order below the eighteen day movmg average. 9. Place a protective stop just above the forty day moving average.

N 1.

2.

0 0

II

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

7.

Allow market price to rise above the eighteen day moving average,for the first time.

movmg average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average.

9. Place a protective stop just above the forty day moving average.

Allow market price to drop below the eighteen day moving average,for the first time.

3. Place a BUY order above the eighteen day

4.

S.

o

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

YFORT 1.

2.

3. 0 N

II

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

Allow market price to drop below the eighteen day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,jor thefirst time.

Place a BUY order above the eighteen day movmg average.

8. Place a SELL order below the eighteen day moving average.

4.

After confirmation of a fill from your broker, place a protective stop just below the forty day movmg average.

9. Place a protective stop just above the forty day moving average.

5. Once the market begins moving in your direction, trail your stop halfway between the eighteen day and forty day moving averages.

. . ".'

.,"~ ~~. 8

o

w

Eighteen day moving average crosses above the forty day moving average. (You are noW looking for a buying opportunity.)

1.

0

~

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

3.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day movmg average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

"

s.

VI

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2.

4.

o

6.

Once the market begins moving in your direction, trail your stop halfway between the e\gnteen day and fort)' day moving averages .

. . . . 3-8UY--

ON l.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

day moving average,jor the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

2. Allow market price to drop below the eighteen

0

0\

II

3.

4.

5.

o

-.J

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average. Once the market begins moving in your direction, trail your stop halfway between the ei.ghteen day and forty day moving averages.

9. Place a protective stop just above the forty day

moving average.

0 00

II

l.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2.

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,jor the first time.

moving average.

8.

Place a SELL order below the eighteen day moving average.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

3. Place a BUY order above the eighteen day 4.

5.

Once the market begins moving in your dit:ecti on, trail y out: stop h alfway between the e"~n\een day and forty day tnoving averages.

o

1.0

0

1.

Eighteen day moving average crosses above the forty day moving average. (You are now looking for a buying opportunity.)

6.

Eighteen day moving average crosses below the forty day moving average. (You are now looking for a selling opportunity.)

2.

Allow market price to drop below the eighteen day moving average,for the first time.

7.

Allow market price to rise above the eighteen day moving average,for the first time.

3.

Place a BUY order above the eighteen day moving average.

8.

Place a SELL order below the eighteen day moving average.

4.

After confirmation of a fill from your broker, place a protective stop just below the forty day moving average.

9. Place a protective stop just above the forty day moving average.

II

5. Once the m arket b egins moving in your

dlt:ectlon, tral\ yout: stop halfway between the e'l;!,b.,-een day and forty day moving averages.

iOlplementing this program. I explained that there was an order you would place that would be at a certain price or better. Here is where you will learn boW to use ,that. T~is, is what makes futures trading the fascinatIOn that It IS,

CHAPTER FOUR

We now embark on the fourth chapter, the one that is the most explosive and exciting, Chapters four and five will be the ones that show you the most fascinating things I've been able to discover in the futures markets. These chapters should intrigue all people who have traded futures in the past, and likewise, should awe those of you who have never traded before, In these chapters we will delve into the aspects of trading that will show you how to know when a market is going to make a major move, not just a small jump, but a long sustained move, one with speed and velocity, They will show you how to capture big reversal moves, even when the trend appears to be going the opposite way. They will also show you how to place orders when a market is trending one W~y only your orders will be to the opposite directIOn, In the previous chapters you learned how to tr~de s conservatively to make profits with limited n \ Now you will learn how to catch major points °d turnaround, and how to know when a very larg~ an I extended market move will occur. Earher , explained the types of trades you will use In

112

While studyin~ the basic trading system you learned that the most Important thing to look for is when the eighteen day moving average crosses the forty day moving average. That gave us the direction ?f the market, we knew at that point to start, lookmg for a buy signal if the eighteen day movmg average crossed above the forty day moving a~erage. Likewise, we also knew to look for a sell sIgnal whenever the eighteen day moving average cros~ed ,below t,he forty day moving average, That :rt IS SImple, nght? How about this scenario? All (th ee movmg averages converge on the same spot e .four day, the eighteen day and the forty da; m~llvllng averages). What happe~s then? Now you WI earn why th d ' speci I ' I' , e our ay movmg average has a Imp lCahons,

n

When this h ecstatic" Th" P enomenon occurs, I am system 'b' IS IS the essence of my entire trading , ecause by the £ ' wh en th'IS h appens and is followed SOrnethingo~a\lon o~ the Delphi~ ~henomenon, g eVent that can h S com~ng next. ThIS IS the biggest four, eighte appen In futures markets, When the COnverge en, and ' . forty d ay movmg averages

, We are

In

fior an exploslve ' move in that

113

commodity market. I don ' t know why t~e resulting ferocious move occurs. All I can equate It to is this' if you took a ten inch diameter water pipe that wa~ under pressure, and attached a two inch diameter adapter to the end of it, the water pressure Coming out of the end of the two inch adapter is extremely powerful. Any time you take something that is under pressure and condense it you create an explosive situation. When the three moving averages converge on a futures chart, the volatile market has been condensed and is ready to explode. All commodities are under pressure with extreme buying and selling going on constantly. The only time a commodity is not under much pressure is when that particular commodity is in a "channeling market condition" (or range-bound). When the three moving averages converge in a channel!ng situation this rule of an explosive move followmg the convergence will not apply. In all other situations, when the four, eighteen, and forty d~y . mov e IS moving averages converge, the resu1tmg dynamic. This indicat~s the market is. uI~1.er immense pressure and gettmg ready to blow Its . . the Since this trading system mvolves uSlllg . ges as a eighteen day and forty day movmg avera . the guide to indicate direction, we are left out m We cold when all three moving averages converge: k is . commg, . but the trIe know a big market move IS to figure out in which direction it will move.

114

Now is when you need to refer back to the 1997 July Soybean chart (page 23). If you had paid I se attention to what I have stated thus far you ~h~uld have been a little bit confused about one art. That is when I told you that what we want as a :ood buy (or sell) signal is when we have a very small gap between when the eighteen day moving average crosses the forty day moving average, and the market goes in between the two. So why did we place a buy order on the July Soybean chart in early February? The gap, between the eighteen day moving average crossing the forty day moving average, and the market price dropping inside is large. According to the basic system we would have had to give this trade a lot of thought before getting into it. Except for one thing! Look where the three moving averages were on January 1st. They had converged! We knew a huge move was going to follow. That was the reason for placing the buy order above the eighteen day moving average in early ~ebruary. Once the convergence occurred, the DelphiC Phenomenon formation followed right behind.

Using the same chart, look what happens arOund th t of May. The three moving averages e wenty-fifth . 10 k' agam converge. So once more we are Ing evOol . for the Delphic Phenomenon formation to Ve Imm d' I is now elate y thereafter. The only difference As stat ~e kn?w a very large move is in the works. occurs e earlier, When a very fast and strong move , Your protective stop goes between the four

115

day and eighteen day moving averages, In this case we would have been stopped out of the trade near the bottom of the chart, in the last week of June, This particular trade produced about 400% profit in four weeks,

On the July Soybean chart the three moving averages converged at key turnarou~d points, t,his makes things easy if we were followmg the trading system of the Delphic Phenomenon, What hap~ens when the three moving averages converge In a situation that doesn't fit this trading pattern? This is an interesting point to note! You have alrea~y learned the basic trading system of the Delphic Phenomenon - always keep this. in mind while trading. To try to simplify what to do wh,en t~e convergence occurs I have included charts m thiS chapter.

The three moving averages do not alwa~s , They wIll ' converge when markets reverse d IrectlOn, occur in strong upward or downward trend~, When they do converge in these situations it can distort the , Is, Do, chart patterns and give false revers a I signa , not fall for these false Signals, go b ack to the fbaSIC the trading system and look for the pattern 0 d eighteen day movi~g a~er~ge crossing the ~ort\:~k the market price gomg mSlde, and then commg , a out. If that does not occur, and we are aIrea dy IIIthe " then very strong bull (or bear) market condItIon,. ' tes es mdlca . convergence of the tree h movzng averag

I g e move in the same direction the market was a III h' , 'f h already going. T IS IS true even I t e market already looks overbought (or oversold), Go to the 1997 September Coffee chart (page 120), From the first of December this market was in a very strong upward trend, By the end of Fe~ruary it looked like it had run its course and was qUite overbought. As you follow the market through the end of March you see it drop, then go up, and eventually drop again, This drop finally brought the three moving averages together. It also pulled the eighteen day moving average below the forty day moving average, causing us to start looking for a sell signal. Once the market dropped below the eighteen day moving average and then went above it we would have had our sell orders below the eighteen day moving average, The market price never went below the eighteen day moving average again! This is ~ritical! When the three moving averages converge In a strong bull market and the basic trading system ha,s no follow through, (meaning that the market pnc~ never again went below the eighteen day mOVIng average after the eighteen day moving average crossed below the forty day moving average), what is left? What is left is the biggest UhPward t e th move of this bull market! In other words , if e D I h,re mOving averages converge, and the mear~ IC Phenomenon formation Occurs but the av et price never crosses the eighteen day moving it ~radgbe, then the market will continue on the Course a een on ' pnor to the convergence of the three mov' lUg averages,

116 117

CHART KEY FOR THE CONVERGENCE OF THE 3 MOVING AVERAGES

1.

3 Moving Averages converge signaling a very large move will follow.

2.

3 Moving Averages converge in an onward trending market signaling the biggest move is yet to come .

00

.·IfI.·bl,r~

\0

You will also learn later how to use the

~eekly charts to find out if the market is still in a bull (or bear) phase. This information will be critical in determining the overall direction of the market and which direction the market will be going after the convergence of the three moving averages.

Another example of the convergence occurring in a strong bull market is on the December 1997 U.S. Dollar Index chart (page 121). From the beginning of this chart we are in a bull market, heading gradually upward. Then the market drops near the end of April. The eighteen day moving average crosses below the forty day moving average. After the market price goes above the eighteen day moving average we should have sell orders below the eighteen day moving average (around the first of June), these orders would have never been filled. Shortly after these market conditions abate, the three moving averages converge (around the middle of June). We n?w know a huge move is coming, but in whIch direction? First, we have already experience.d "system failure", by that we know the market ~s going up - as you will read about further in thIS chapter. Second, we are in .a strong bul? mark~t. Third, the eighteen day movmg average IS alrea Y aimed like a directional arrow to cross above the · g for a forty day moving average. (We are 100 ktn buying opportunity two days aft er the conv ergence . average d0 es cross when the eighteen day movmg above the forty day moving average). So what does

134

all this tell us? ~t tells. us the market is going up _ ·t's time to buy mto thIS market. Where do we get ~n? With all this information at hand it looks ~o~fusing, but it really is not. You simply return to old faithful - the Delphic Phenomenon. Place your buy order above the eighteen day moving average since it has just crossed above the forty day moving average, and place your protective stop below the forty day moving average.

The method I use to find overall direction in a market is the weekly chart of each market. These give a much clearer indication of the market's trend, up, down, or stuck in a channel. By pulling up a weekly chart you can see in a glance which direction the market is heading, do not trade against this trend! That can present a problem though, because it is the daily charts that create the weekly charts. The daily charts materialize first and thus cr~ate the weekly's, so which comes first, the chicken or the egg? This is where you will employ some of the tricks you will soon discover in chapter five. They will help you determine when weekly charts could be ready for reversals. If you are in d~Ubt about the direction of a market on a weekly ~ ~rt, but see a formation you'd like to trade on the y chart, my advice to you is to leave it alone. I ,all Ve fou d' . move th n ' It . IS much more fun to miss a market \\fa a.n It IS to be in the market going the wrong \\fiILn~elll? in a market that is moving against you, re lIkely than not, ruin your day!

135

CHART KEY FOR REVERSAL MOVE FOLLOWING "SYSTEM FAILURE"

1.

The Delphic Phenomenon occurs, but no new lows are set.

2.

Place a BUY order ABOVE the 40 day moving average.

3.

Your protective stop will be placed BELOW previous lows.

4.

The Delphic Phenomenon occurs, but no new highs are set, place a SELL order BELOW the 40 day moving average.

s.

Your protective stop will be placed ABOVE previous highs.

Vol

0\

After learning about the convergence of the moving averages you must once again exercise three . mto . . ce before gettmg the mark et. T'Ime WI'11 patten h " gomg to tak e. . you the direction t e mark et IS gIve I ' . Y also will know a very arge move IS gettIng O~y to take place, so don't feel like you are going ~miss the boat by not being in the market soon e~ough. There will always be time to get in once this phenomenon appears. (For traders with experience, this is a great time to buy puts and calls simultaneously, because we know one will have great rewards. Don't forget - this does not work in a channeling market).

Before we move on to the more exciting and dangerous trades I think it is appropriate to explain now what is meant by "system failure". As with any trading system - nothing works 100 percent of the time. Nothing ever will! The best anyone can ever hope for is a trading system that has more winning trades than losing trades. This should result in overall net profits. So, as with all other trading systems, this one has its moments of failure also. The neat thing about a system failure with the Delphic Phenomenon is this - the opposite move OCCurs with a vengeance. Yes, you read that COrrectly. Using this situation, the eighteen day III . OVtng average crosses below the forty day moving average . drops, then goes ab ,an d the market pnce OVe the eighteen day moving average. This would n s~t the stage for a sell order to be placed below eIghteen day moving average. The whole

th th:

144

145

scenario is looking like a sell according to the Delphic Phenomenon. I refer to "system failure" when the market does one of several things, but all have the same results: I) The market never goes below th~ eighteen day moving average again, but. keeps gomg up and again crosses the forty day movmg average. 2) The market drops to the eighteen day moving average, stops, reverses and goes up, crossing the forty day moving average

3) The market drops below the eighteen day moving average, goes a short distance, st~ps and again reverses. This time it will keep gomg up, crossing back over the eighteen day and forty day moving averages.

. WI'11 be In all of these scenarios one thmg certain the resulting move up will be enonnous. (1ldn , situatton, . . move down wouder a reverse the resu Itmg be enormous). In each instance your buy or, g vtn should be placed just above the C10rty day mo the average. (A sell order would be place? be~ow) In . a reverse, sltuatwnh .t a forty day moving average m d t rmme w a example 3 above, the way to e e fi st droP "short distance" means, is to look at the Ir d the . crosse the market made after the mark et pnce back e it rose forty day moving average and b elore The . average. above the eighteen day movmg ' the criti caJ market set a low price there and that IS

146

area. If the market, when it drops out of the eighteen day moving average, does not go blasting past this point, it probably isn't going much further down and you need to be extremely careful. The likelihood of the market reversing in that zone can be pretty high if the market did not go zipping right through this previous low. Quite often the market price will stall out somewhere around the eighteen day moving average in cases like this; that alone should tell you the eighteen day moving average is a crucial pivotal point. This is the area where the market (or traders) decide the next course the market price will be going. This is the time, if you are in the market, you must be on your toes. This is when the market price usually takes off like a rocket - one way or the other. Be alert!

Be sure you fully understand the trading system and "system failure" before you move on to the next chapter. This may be a good time to go back and review the materials already presented before continuing.

d In the next chapter you will be shown the angerous ad '. n eXCIting trades. You will also learn how to us th rev e e weekly charts for direction and that ersals c ld b . does' ou e 10 the works - even when it n t seem logical.

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CHAPTER FIVE

Chapter five will be devoted to the more dangerous and risky trades. These are formations that I have found to occur with a high degree of reliability and they are quite profitable when. they work. When they fail, the losses are much higher than a conservative approach like the Delphic Phenomenon. These are trades I do not recommend employing unless you have the sto~ach for them. You must also identify the potential losses and decide if you are willing to risk the trades.

Parallel Lines This is something I have found that works ~n . . 1'£ or III most all cases. Remember, nothIng In Ie. trading commodities works all the . tI::~ Unfortunately the world was not created w~th d type of simplicity. On occasion we ~11l. fin something that has uncanny reliability. This IS °h~e Ii d t IS of those instances. Personally I have not oun on any · event (parallel lines) to occur at any t Ime. t the chart without having been able to predl c

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outcome. That does not ~ean it never happened the other way, it means that In the hundreds of charts I have perused, I have nev~r seen th~ outco~e to be different than the ones pnor. Here IS how It works; we will use the Weekly Deutschemark chart (page 170). Look what begins happening around June of 1995, the four day moving average drops and makes an upward tum just before it touches the eighteen day moving average. From that point the two lines (four and eighteen day moving averages) parallel each other in an upward movement, this is what you are looking for; the four day and eighteen day moving averages paralleling each other in either an upward or downward fashion. Whenever this pattern emerges on a chart, you will be looking to place an order going in the opposite direction oj the movement. Using the Weekly Deutschemark chart as a guide in this example, you will see that the lines are paralleling upward, which means you will be looking for a selling point. You will want to know where to place your sell order and where to place your protective stop. Placing the protective stop is the easy part, it will always go above the previous highs (or lows). In this case that would be above the highs set in April 1995. As for where y~ur sell order is to go, you can DO one of two thmgs. First, you could place it somewhere below the four day moving average, trying to catch the market When it breaks out of this pattern and drops. The problem is you never know when the break out will Occur. You could very easily be filled on your order at a low price and have to, in this case, wait mOnths for the break out. Second, you could place a

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solI order at one of the higher levels, above the four and eighteen day moving averages, and get a better entry point with your order. I like this method better for four reasons. First, it gives you a much better fill; i.e., a higher price when selling the market short. Second, it forces you to wait until such time you are convinced the two moving averages are paralleling. Third, by getting in the market at a higher price level you are reducing the risk on the trade substantially since your protective stop is above the previous highs. Fourth, sin~e yo~ have given the market time to form parallel lmes, It should not be much longer before the big drop occurs. Reasons one, three and four would be reversed for declining parallel lines in a buying situation.

This pattern of moving averages paralleling is extremely accurate. It also works whether the market is in an upward trend or downward trend: !t doesn't matter which moving average is on .to?, It IS only important that they are either inclImng ?r declining together in a parallel fashion. You WIll note that this always happens after a market .has . or a new Iow. 0 nce the hnes either set a new hIgh neW beg in to parallel , the market should noth'set d your highs or new lows, that is the reason be 10 . h hig s . d protective stop being above or below prevIOUS and lows. The market price will then reve~se ~n . h .t dIrectIOn make a striking movement 10 t e OppOSI e .' g Inchntn . of the paralleling movmg averages . 'Jl parallel moving averages (four and eighteen), WI

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lead the market price to a reversal that will force the market to go down. Declining parallel moving averages (four and eighteen), will lead the market to a reversal and the market price will go up.

In order for two moving averages to parallel each other it is necessary for the market price to fluctuate above and below the two moving averages constantly. There is no other way for this phenomenon to occur. Since this is the case, it leaves you with many opportunities to get involved in the trade. It also makes it very possible, if you choose to place your order below the moving averages (in an inclining situation), that you could very easily be filled on your order and taken for a long ride in the direction you don't want to go. Caution must be exercised here. The market should eventually tum your way, but again, nothing in this world is certain. My personal recommendation is that you either find a selling point well above the moving averages (in an inclining situation), or place a sel.l order at least halfway between the paralleling ~ovmg averages and the forty day moving average. n the latter, you won't make as large a profit.

th

Unfortunately, this rare occurrence is just Dat ~ rare. For instance, in the Weekly elutschemark chart (page 170), this event occurred on Y t · . Wice In three years. The second time on that ch art Wa . th s around December 1995. You WIll note at on the October 1995 Live Cattle chart (page

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171) .this event occurred only once for a very brief time. That was near the end of April. On the weekly Pork Belly chart (page 172) it occurred twice in three years. Once toward the end of 1995, and again about July of 1997 - only twice in three years. On the 1997 October Lean Hogs chart. (page 173) - two times, one around the end of Apnl, and the second around the end of June. You can see that this doesn't happen often, but when it does, the resulting move is sizable. You will certainly want to watch for this event.

The Forty To Eighteen Bounce The next exciting trade is one that is ~ot only risky, but is scary as well. You will be placmg a trade against what appears to be the tre.nd of ~he market. It usually occurs in a market that IS movmg fast and furiously· hence the risk and the danger. . ' that elt . her an ext en d ed bull or This trade reqUires bear run precede the event that you will see next. ;t does not work if that extended run did not prece .e . .IS Wh at makes thIs it. Do not lose sight of that, It trade work.

. be the 1997 The first example used WIll September Com chart (page 184). Th e fiIrst strong d of bull run seen on the chart began near the en age . d ay mOV}·ng aver January (right after the eighteen d the went above the forty day moving average, an

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market price dropped inside the eighteen day moving average. We will consider the beginning of the bull run on the breakout of the eighteen day moving average the Delphic Phenomenon incidentally.) What we are looking for in this trading plan is, after the strong bull (or bear) run is fully under way, for the market price to make a sudden drop (or rise) to the forty day moving average, and then bounce up (or down) and touch the eighteen day moving average. When this situation occurs in an upward trending market, a very strong downward move will likely result, and when this occurs in a downward trending market, a very strong upward move is likely. The way you will implement this trading plan is simple. For clarity a bull market situation will be used as an example. After the strong bull run occurs, and the market price makes a sudden drop to the forty day moving average area, you will place an order to sell at the eighteen day moving average or better. Your protective stop will be placed above the previous highs. The reverse would apply for a strong bear ~n. You would be placing a buy order at the eighteen day moving average.

18

Using the 1997 September Com chart (page 4), Com was already in a strong bull run when the ~ar~et took a sharp drop and touched the forty day '1I0 VlOg a as the verage ~round the end of March.. As soon average~arket t· . pnce touches the forty day moving da ~ IS tIme to figure out where the eighteen }' mOVing average is and call your broker. On the

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1997 "September Com chart the eighteen day moving average was at $2.93 on the day that the market price touched the forty day moving average. Until that time the previous high was $3.01 1/2, therefore, your order to your broker would read as follows, "Sell one (or more) contracts of September Com at $2.93 or better, if filled, place a protective stop at $3.04". Then you sit back and panic. You know what your risk is, you know the danger involved, so you wait until the market fills your order and drops like a ton of bricks. Then the panic goes away. In this case your order would have been filled on April 10, when the market hit a high of $2.94 112. Your protective stops should remain intact until the market clearly breaks below the forty day moving average. Once the market price goes through the forty day moving average your protective stop should be moved to that area. On April II, the market had a high of $2.99, that was the highest price seen for the remainder of that contract month. The rest is up to you, trailing your protective stop until you would finally be stopped out. If you followed the basic trading system for trailing stops, you would not have exited the market until sometime in July - with enormous profits.

Using the same chart you see that the huge e bear market that followed this trade resulted in th . . h b fthe cha rt same formation occurnng at t e ottom ~ It in July. The market took a big upturn In July .. g .c d y mo vtn bounced up and crossed th e 10rty a d its average. It then went back down and burnpe

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head on the eig~teen day moving average only to reverse with a nIce run up. As you can see, the market will not always cross completely over the eighteen day moving average before reversing. In this case it actually reversed at the exact same price as the eighteen day moving average on July 21, at a price of $2.40 112. Had you used the exact price of the eighteen day moving average you may not have been fil~ed on this. or~er. For that reason I typically use a pnce on the InSide of the eighteen day moving average, just a few ticks closer to the forty day moving average. This is not an exact science, so you must use your own judgment as to where to place your order. In this example, had you used a price of $2.41 112 as your buy point, you would have been filled on your order. The order to your broker should read as follows (and this would have been placed right after the market price hit the forty day moving average on July 15): "Buy one (or more) contracts of September Com at $2.4 I 112 or better, if filled, place a protective stop at $2 25" ~not?er point to make at this time is the fact· tha~ t ehelghteen day moving average is changing price eae day . S0 In · actua I·Ity, the eIghteen . day moving average Wa t $2 3 hI·t the fortys da . 9 .3/4 on the day the market price When I . ay movIng average. Keep this in mind p few t· aCIng your order with your broker. Allow a . aVe Icks to th e SI·d e 0 f t h e eIghteen day moving rage clos t h Out 0 h er 0 t e forty to be sure you don't miss n t e move.

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The next example uses the 1997 Decemb "Coffee chart (page 185). The obvious bull run ~~ coffee began at the lower left hand side of the chart This ploy of selling the eighteen day movin~ average after the mar.k~t p~ice touc~es .the forty day moving average exhibits Itself tWice m this chart. The first time this occurs is around the middle of March when the market price dropped quickly below the forty day moving average and then rebounded to cross the eighteen day moving average again. Attempting this trade at this time would have netted small gains as the market price stalled out once it got below the forty day moving average after having filled your order at the eighteen day moving average. In a situation such as this your protective stop would now be placed at the forty day moving average. In all cases using this trading technique, your protective stop should be moved to just on or above the forty day moving average after the market price drops below the forty day moving avera~e. With this particular trade, if you had been paymg close attention to what was happening on the chart ·· raBel at the time, you would have seen a dec Immg pa line formation developing - meaning the market ~as . h .te directIOn. preparing for a large move 10 t e OppOSI fit . h th pro I S It was time to get out of the market Wit e . t· n cornmg, · c ·th at hand. Had you not seen th IS lorma 10 · t de WI h you would have been stopped out of t IS ra ~ rtY small profits when the market re-crossed the 0 day moving average to the upside.

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The second time this event occurs on this chart is near the end of May. The market, after exhausting itself in a huge bull run, drops rapidly frorn its highs, and comes within a few ticks of the forty day moving average (remember, this is not an exact science, and this is close enough for me to call it touching the forty day moving average). The following day the market starts back up. This is when to call your broker and place an order to sell the eighteen day moving average or better. On June 9, the eighteen day moving average was at $197.40. This is the day after the market hit the forty day moving average. On this day, call your broker and place an order to sell one (or more) December Coffee contracts at $197.20 or better. The following day, June 10, the market hit a high of $198.50 and closed out at $175.25. This is a very larg.e ~ove in the coffee market. Yet it is only the begmUl.ng Of.a sizable downward run. Employing the baSIC tradmg system for trailing stops you would have rem ame · d m · th·IS market with magnificent ~rolfits (over $19,000 per contra~t), until the end of u y.

us.

I'll give . one more example of this trade

1~~ the S&P futures. The chart used will be the aho ~eptember S&P (page 186). What is not

Wn IS . off to the left of the h the s trong b.ull market that IS

been .c assu. . . In

art. At the hme of this writing the S&P has a h strong bull run for years. It is safe to . a strong bull mode Prior,"et t at the market was m Febru 0 the onset of this chart. Near the end of ary , th e market made a drop and touched the

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forty day moving average. So what do We do? We "call the broker and place an order to sell at the eighteen day moving average or better. In this caSe the market touched the forty day moving average on March 3. The following day, when the market reversed and went up, the eighteen day moving average was at $817.30, and the previous high Was at $835.70. The order to our broker would have been as follows: "Sell one (or more) September S&P's at $817.00 or better, if filled, place a protective stop at $838.00". The highest price the S&P hit before making a large drop was $831.30 on March 11. After that the market took a big slide, all the way down to $745.25 on April II.

Using the same market, but a different contract month, we look at the December S&P chart (page 198). When the market started its run .after crossing the forty day moving average on Apnl 29, it didn't stop again until it made a quick drop to the forty day moving average on August 8. . T~e following day brought another upward move III ~ e . . h teen d ay movtng S&P At this pomt the eig . . hi h was average was at $954.95, and the prevlO~s ;nother $979.60. On this day the broker receIves I ce how to p a phone call, you should, b y now, k now "Sell the order. Your order would read as follO W;'75 or one (or more) December S~P's at ~~985.00'" better, if filled, place a protectIv~ stop a 57 50 and On August 12 the market had a hIgh of $9 O· Well over the next few days dropped to $905.5 .

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over $20,000 in profits in less than one week _ per

contract!

When this trade works there are very large profits to be made. By the same token, if it fails there wiIJ be substantial losses. You will, of course, know from the outset what risks are involved by the placement of your protective stop above or below the previous highs or lows. In some cases the previous highs or lows are quite near the eighteen day moving average and make the trade worth risking. In other instances the previous highs and lows are so far away from the eighteen day moving average that the risk of loss outweighs the potential profits of the trade. The December Coffee chart (page 185~ is indicative of that. As usual though, the more fisk, the more reward. This is something that you must rationalize in your own mind. The charts exist and the risk is evident before you enter the trade.

Selling The Second Hump th t lOne more of the signals to watch for is one This l '" requ'1res curs In very strong bull market runs. It eight that the market price break out of either the \fer., eetn Or forty day moving average and make a -'J s rong d h Pauses an eated run up. The market then , and Usually drops, sometimes it is a

fo:"" atIon ~eferocto as ."selling the second hump".

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,:i11

sub..stantial drop - but never the market drop all the way to the forty day moving average - if it doe then you have to abandon this plan. Once th~ market has dropped it will reverse and make another upward run, this time it will set new highs. After the market has set new highs, place a sell order halfway between the four day moving average and the eighteen day moving average. Your protective stop will be above the previous highs. The four day moving average, along with the market price, will be your guide for identifying the "humps". They will point these out clearly to you. These humps are very reliable indicators on weekly charts. They let you know when a market that appears to be heading up with no end in sight, is ready for a reversal. This is of great help when seeing other formations occur on daily charts, such as those that look like sells in very strong bull markets.

This trade has two essential ingredients; first, the market, after crossing the forty or eighteen day moving averages, makes a huge bull run upward, and second, the market does not touch the . . b elore C the market forty day movmg average agam sets a second new high. (This works very well for day trading the S&P using one-minute bar charts).

The 1997 December Cocoa chart (page 200) the will be used for the first example. Near day beginning of March the market crossed the fo~Y run. moving average and entered a strong bu

160

Around the first of April the market dropped and touched the eighteen day moving average before again resuming its upward climb. This rise set new highs and the four day moving average clearly showed a second hump forming. This is the time to phone your br~ker with a sell stop order, halfway between the eIghteen day and four day. moving averages. In this case, on April 3, the four day moving average was at $1561, and the eighteen day moving average was at $1527. Halfway between the two is $1544, and the previous high was $1592, thus the order to your broker would have been to "Sell one (or more) December Cocoa contracts at $1544 on a stop, if filled, place a protective stop at $1600".

This phenomenon happened again on this chart near the end of June. When this bull run started in the first part of June (after the eighteen day .moving average crossed above the forty day ~ovmg average, the market dropped inside the eIghteen day moving average, and came blasting out - thehiDelphic Phenomenon - again) , the market set new h . . g as, consohdated enough to give the four day rnOVmg . verage Its first hump, and then streaked U PWard ag · 0 h drops am. nce t e market sets new highs and enough to show us the second hump , it be~m~t· Pri lrue to place the sell order. First, find the Ce of the fi d · h . in this OUr an elg teen day movmg averages; .......,peChvel ~ase theyThWere on June 30, $1736 and $1642 ' ... l'he preVIOUs . y. h · at h makes Our sell price at $1689. Ig was $1 775. So the protecti ve

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stop would be above that at $1 785. The chart tells you the rest.

Incidentally, this was also a good way to place your protective sell stop, had you been a buyer of this market in the first part of June as the Delphic Phenomenon indicated.

The 1997 September British Pound chart (page 201) has another clear picture of this event. When the market broke out of the mess it was in around the middle of June it set a new high, dropped, then touched the eighteen day moving average, and again shot up to new highs. Onc~ the four day moving average started to curl, formmg a second hump, it would have been time to figure ~he price of the four day and eighteen day movl~g averages. In this example, on July 11, they can:e In at $1.6852 and $1.6657, respectively. The prevIOuS high was $1.6960. Half t~e distance b~tween th5e four and eighteen day mOVIng averages IS $1.675 . The order to your broker goes in as follows: "Sell one (or more) September British Pounds at $1.6755 on a stop, if filled, place a protective sto~le~t $1.7000). On July 15 you would have been fi l ' . chart wh at came ne xt , short . ' Y Please note on thIS . f incitnmg after your order was filled, a paIr 0 . h no parallel lines which should have left you WIt it doubt as to ~hat w~s to foll~,:. The ch~rt s~~: a all, the biggest drop In the BrItIsh Pound 10 q

162

while. This huge drop was preceded by two clear sell indicators, back to back.

I will use another example of the "double hump sell", so you will have an idea how to use it in relation to a sell signal on a daily chart. The Weekly Soybean chart (page 202) shows the beginning stages of the double hump in early May 1997. (It should be noted that during this time period there were numerous advertisements to the general public to buy soybeans because they were going to $ lOa bushel). The price actually peaked out at $903 112 in the second week of May. It was not until the third week of May that the weekly chart showed signs of the four day moving average making its second curl - the beginning of the second hump. Just as this was occurring on the Weekly chart, the three moving averages converged on the ?ai~y July Soybean chart. As the weekly chart mdlcated a possible sell signal with the formation of the double hump, the daily chart performed the precise formation for a sell. Not only that but with th ' e convergence of the three moving averages, we knew there was to be a very large move. The second hump on the weekly chart already told us the ~ove was to be down, so it left no doubt of dlrectio h . n w en the three movIng averages Converged on the daily chart.

Although trading by the weekly charts should not be done because the prices are

163

aggregates of all daily charts, they ~re extremely important in giving us overall market direction. The weekly charts are used to give us trends, but the actual entry points for orders must be found on the daily charts to ensure more precise trading.

The Weekly Pork Belly chart (page 203) is next. This is to show that the second hump of the four day moving average does not necessarily have to occur without going inside the eighteen day moving average. For clarity, all moving averages in this book are referred to as "daily moving averages", and it should be surmised that on weekly charts the moving averages are actually weekly moving averages. As the chart indicates, the four day moving average goes in a virtual straight line from the time it breaks out of the eighteen day moving average in February 1996 until it forms the first hump in May 1996. The market then dr~ps rapidly, going inside the eighteen day. movmg average before reversing again and settmg n~w highs. When the four day moving average forms Its next curl in August 1996, we know it's time to start looking for sell signals on the daily charts.

The Weekly Crude Oil chart (page 204)1 is . one more clear picture of the second h ump. It a so . the market rna k shows that If es a ' smg Ie hump the without setting a new high, it's time to aban~O\art watch, or start over. The Weekly Crude Oil ~996. has a large upward run beginning in February

164

(Once again, note the convergence of the three moving averages in January 1996, followed by the Delphic Phenomenon, just prior to the enormous bull run). This would appear to be the first hump. What comes next, after the market price falls inside the eighteen day moving average, causes this to be negated as the first hump. Not only does the market drop down and touch the forty day moving average, but it comes out ~f t~e eighteen day moving average and falls back mSlde the eighteen without ever setting new highs. When this happens, the large upwa~d move, or hump, can no longer be establIshed as the "first" hump in the trading plan. Eventually though, the market makes another run at the highs, setting new ones in October 1996. After the four day moving average curls over and the marke~ drop~, we once again have a starting point ~or thiS partIcular trade, i.e.. , a first hump. This time. the market drops only to the eighteen day movmg average and turns upward again and sets another new high. As soon as the four day moving ave~age cUrls we have the second hump - time to gm bhe searching for sell signals in the daily crude oil Carts.

it· . In seeking out the second hump sell signals IS Import t t h . . c. lOUr day an . 0 watc for a. contInUOUS lIne of the · Iat movmg art ICU . . average. Picture it like this , a very sWee . e renditIon of the letter "m", one with a S p~ng hump on the second half of the "m" omehme th . . tha h s e second hump IS much much higher ntefitO h · · · ' rs . t er times It IS only slightly higher;

165

the height makes no difference. The only crucial point is that the second hump is higher than the first. The four day moving average is not erratic, it is formed in a nice flowing motion. When the four day moving average begins to show too many erratic signs in between the beginning and end of this "m", then something is wrong. You should be very careful and watch for other sell signals.

By utilizing these techniques on weekly charts as directional guides you will have much more success in trading with the daily charts. It is of the utmost importance that I stress the use of the weekly charts for direction at all ti~es . . T~ad~ng against the trend of the weekly chart IS. an InVItatIon for disaster. If, for example, a sell sIgnal were to occur on the daily chart but the weekly chart is still clearly showing signs of upward momentum, t~e drop will most likely be short lived and ~esul,~ In what I have described earlier as "system fmlure . I have found it wise to watch and wait on occasions such as this. If "system failure" does occur, you will be in a perfect position to place a buy (or s~ll) order on a breakout of the forty day movl~g average which as you have seen, usually result~ In " and strong move. Do not tra dea. galnst, a very fast · IS . Imp ' eratIve. the trend of the weekly charts! T hIS Never forget it. . Earlier in the book I mentIoned th e "Danger he Zone". This is the area in the charts between t

166

'ghteen day moving average and the forty day el ' der this the danger zone moving average. IconSI because this is the area on the charts where the market has no direction. It cannot make up its mind which way to go. If you scan through the charts in this book you will find that the market never makes a strong move in either direction until one of these lines is breached. That is obvious, of course, because the eighteen day and forty day moving average lock the market in a range until one of those lines is breached. A strong bull run requires that the market price be above the eighteen day moving average - not below it. If the market price is below the eighteen day moving average on a bull run, it stands to reason that one of the following is happening: either the market price is between the eighteen day and forty day moving average - in the danger zone, or the market price is below the forty day moving average but the eighteen day moving average is above the forty day moving average. In any of these cases, we do not want to be in the market. By the same token, if the market is in a strong bear run, the market price will be below the eighteen day moving average. If it is not, then again the market price has to be between the eighteen day mOVing average and the forty day moving average, or the market price is above the forty day moving average and the eighteen day moving average is ~elow the forty day moving average. Neither case ~ts the description of the basic trading system. lhere do exist trades, as mentioned earlier, that are P aced even When the criteria for the basic trading

167

system does not exist; however, these trades are clearly labeled (for a reason) as dangerous trades.

The "Danger Zone" has this label because you should never place a trade in this forbidden area while trading the basic system. After a quick glimpse of charts in this book you can easily confirm why the zone between the eighteen day moving average and the forty day moving average is off limits for placing trades. Only one of three things will happen: the market will break out to the upside, the market will break out to the downside, or the market will remain in a channel. We neither want to be in a channeling market, nor do we know from which direction the market is going to break. Thus, no trades should be placed in the "Danger Zone" while employing the basic trading system.

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