What does everyone want to get out of trading?
For most people they want to get rich quick. Of course that’s a hell of a lot easier said than done. The only way to get rich quick in this game is to use massive leverage. The problem of course is with massive leverage it’s very easy to get poor quick.
I’m talking about options for the most part, but the same principles apply to the 3X ETF’s.
I see people posting they are taking options trades all the time. At every DCL or potential DCL, and even in the middle of cycles. Unfortunately the only time options really work well is during a strong trending move. The problem is those kind of moves are rare. They only come around maybe once or twice a year and sometimes an entire year can go by with no trending moves anywhere. This is why option sellers usually make money, and option buyers usually lose money. Only rarely do the conditions fall into place to make any real money on option trades.
Here’s what happens to most option traders:
I say I think a market is going up.
They take that to mean it’s open season on call options. So they go all in buying out of the money calls. The market then proceeds to wiggle around for a few weeks, not making any real headway. Those out of the money call options can lose 50% or more of their value on a very slight wiggle in the wrong direction. A wiggle doesn’t mean one has the wrong trade on, usually the market does end up moving in the direction I anticipate. But the problem is almost no one can survive the agony of watching their portfolio get cut in half or worse even though the underlying security really isn’t doing any thing wrong, and ultimately you probably have the correct trade on. They end up panicking and selling at the bottom of a wiggle and then several days or weeks later the security starts going up and you beat your head against the wall because you couldn’t hang on.
Here’s another scenario that often happens. Let’s say you survive any initial wiggles, and your trade starts to make money (or we get lucky and it starts moving up immediately). Then you get a move down into a HCL, or just a 2-3 day pullback. You watch as all your profits evaporate and your profitable trade turns negative, maybe deeply negative. You again sell at the bottom of the correction because you can’t risk having the trade go against you and losing everything. A 2-3 day pullback doesn’t mean the trend is reversing, but without a crystal ball you can’t possibly know whether it is or isn’t. You sell. Then what happens? The trend resumes and if you could have held on you would have made money.
Markets that have lots of wiggles back in forth are an option buyers nightmare. It’s next to impossible to make any sustainable gains trading options in choppy environments, and unfortunately this is the pattern most of the time for all market’s. They are stuck in ranges, or in very choppy trends. These markets are heaven for option sellers, but hell for the fools that are buying.
If you are one of those people constantly trading options, understand that 90-95% of the time you are going to lose money simply because most of the time the conditions for making money with options aren’t present. So adjust your position size accordingly and expect to lose money anytime you buy an option. Every once in awhile the conditions will pop up for option sellers to get destroyed and option traders to make a killing.
The best time to take option trades is at ICL’s. But as we all know during an ICL it always looks like price is going lower, and usually it does go lower as most traders buy too early. So despite the fact that this is the best time to back up the truck with leverage it’s not easy to do in real time.
Bet small with options because only rarely do the conditions set up to make money with option trades. Expect to lose and only bet what you can afford to lose.
HCL = half cycle low
DCL = Daily cycle low
ICL – Intermediate cycle low
YCL = Yearly cycle low
BoW = Buying on weakness
SoS = Selling on strength
“T1 pattern” is my abbreviation for the first technical rule on the trading rules link.
A move followed by a sideways range often precedes another move of almost equal magnitude in the same direction as the original move. Generally, when the second move from the sideways range has run its course; a counter move approaching the consolidation zone may be expected.
Here is an example of a T1 pattern. This is a very long term example but they also occur on much shorter time frames.
The Sperandeo 1-2-3 reversal is a technical method to determine if the odds are good that a trend whether long, intermediate or short term has changed.
First the trend as defined by a line drawn from the last two preceding low points (for an uptrend) must be broken. That constitutes #1 Break of the trend. 2 is the test of the recent high or low as the case may be. 3 is a close below the initial break of the trend and confirmation that the trend has now changed to up. Reverse for down trends.
Sometimes the test will form what is known as a 2b reversal. This is when the stock or index trades below or above the preceding top or bottom but then closes back above or below that point. This is often a very good sign that buying pressure or selling pressure was not strong enough to continue the trend and it often signals the exact bottom or top.
4 day rule and 4 day corollary
The 4 day rule and 4 day corollary can also be used to spot tops and bottoms of long intermediate trends.
The 4 day corollary states that after a long intermediate move the first day counter to the trend following 4 or more days in a row often signals a trend change.
The 4 day rule states that 4 or more days in a row counter to a long intermediate trend is often confirmation of a trend change.
Bollinger Band Crash Trade
The rules of the Bollinger band crash trade are to buy on the open after any day that the market or stock closes below the lower Bollinger band (10;1.9). Sell on any close that’s profitable or after 15 days whichever comes first.
A word of caution, the Bollinger band crash trade does not have a positive expectancy on individual stocks, and is best used on indexes only, and preferably at or near daily or intermediate cycle bottoms.
The rules for the VTO trade are as follows. Buy when the 5 day RSI closes at or below 30. Sell when the 5 day RSI closes at or above 70. A safer but probably less profitable method would be to sell when the 5 day RSI closes above 50.
T4 pattern “Crawling”
This is an example of technical rule #4. Watch for “crawling along” or repeated bumping of minor or major trend lines and prepare to see such trend lines broken.
Money Flow (Buying on Weakness (BoW)/Selling on Strength (SoS))
Occasionally I will call attention to the money flow data in the Wall Street Journal. I’ve found that inflows and outflows of capital in the SPY ETF & GLD have significant predictive value, especially when it occurs near the timing band for intermediate cycle tops and bottoms.
When smart money senses a top is near they will sell the SPYDER’s and the opposite is true at intermediate bottoms. Let me be clear this isn’t a perfect timing tool as it often occurs several days if not weeks in advance of a top and usually occurs several days prior to a bottom. It is a pretty reliable warning device to let us know when to start looking for topping or bottoming signs.
The other warning I would make is that I haven’t found anything other than the SPYDER’s & GLD to have predictive value. Heavy selling in the QQQ, IWM, Diamonds or individual stocks is meaningless. Individual stocks in particular are usually just one or two hedge funds changing positions.
Here is the link to a money flow page. You can get to the current data from here. http://online.wsj.com/mdc/public/page/2_3022-mflppg-moneyflow.html?mod=topnav_2_3000
The largest cycle in stocks is the larger 4 year cycle. This cycle runs anywhere from 3-5 years (although I think quantitative easing policies have now stretched this to a 7 year cycle).
As you can see from the chart our last four year cycle ran very long (the second longest in history). Often these long cycles will be followed by a short cycle. The 82-87 cycle was also stretched and it was followed by a short cycle into the 1990 bottom that only lasted three years.
The Fed actually aborted the left translated 4 year cycle that started in March 2008 so the phasing of the latest 4 year cycle low was moved to March of 2009.
The next shorter cycle is the yearly cycle. This cycle normally runs 12 months but it’s not unusual for a cycle to stretch or shrink one year to shift the yearly low from spring to summer, or summer to fall.
The next smaller cycle is the intermediate term cycle. This is the cycle I’m most interested in trading. On average this cycle lasts roughly 18-25 weeks. However during periods of quantitative easing it’s not unusual to see an intermediate cycle run 30 weeks or longer.
Finally the shortest cycle is the daily cycle lasting roughly 35-45 days. In unmanipulated markets this cycle tends to run about 35-38 days most of the time. However, again during periods of QE, this cycle can stretch to 50-60 days.
Often, but not always, the daily cycle is broken by a half cycle low around day 20-25. This dip will usually establish the daily cycle trend line.
Usually we will get 2 and sometimes 3 complete daily cycles nested within one intermediate term cycle. Two intermediate term cycles in a yearly cycle, and four yearly cycles in one four year cycle. (Six intermediate cycles now that the four year cycle is morphing into a seven year cycle.)
Next I want to touch on the concept of left and right translated cycles.
Cycles can take two forms, left or right translated. In the chart below I give an example of both. When I say a cycle is left translated it means that it tops left of center. (So in the case of an intermediate cycle whose average duration is 22 weeks, a left translated cycle would top on week 10 or earlier.)
Left translated cycles tend to form a pattern of lower lows and lower highs (A downtrend).
Left translated cycles tend to produce the worst declines in total percentage terms.
Right translated cycles top out right of center and are associated with a rising market (higher highs and higher lows).
Right translated cycles tend to produce shorter but sharper corrections as they tend to get stretched further above the mean and trigger sharp profit-taking event’s
I’ve marked the half way point of the three large multi year year cycles with the blue line. You can see the 02 cycle topped left of that half way line and the last cycle topped to the right of center as is the current long cycle. Cycle translation applies to not only long duration cycle but also to intermediate and daily degree cycles.
Since I’m mostly concerned with trading the intermediate term cycle, I want to be aware of any intermediate cycles that are left translated. Since the average duration is 20 weeks any cycle that tops in less than 10-11 weeks would be considered a left translated cycle.
Before the Fed began its QE infinity programs left translated intermediate cycles were usually a sign that a bear market had begun. Now however it’s clear that the Fed can abort, at least temporarily, a bear market.
The largest gold cycle is the 8 year cycle. It lasts on average about 7 1/2 to 8 years. As you can see from the chart, gold moved into the last 8 year cycle low in November of 08.
The next larger cycle is the yearly cycle. This cycle has been occuring in the fall the last several years.
The next smaller cycle, and the one most important to us as gold traders is the intermediate cycle. The intermediate cycle lasts on average 18-25 weeks.
The smallest cycle is the daily cycle. This cycle usually runs about 28-40 days.
The major long term cycle in the dollar is the three year cycle. Average duration is 3 to 3 1/2 years.
The intermediate and daily cycles are roughly the same as gold and tend to run inversely to risk assets.
Intermediate cycle: 20-25 weeks
Daily cycle: 25 to 35 days
I often talk about swing highs or swing lows, both daily and weekly. A swing low is simply a sign that selling pressure has declined, and the stock or index has moved above the previous intraday high. A swing high is just the exact opposite. The following chart is an example of a daily swing high and low. Notice that it can take more than one day to complete the swing and it’s not necessary for the close to be above the swing for it to be valid.
Golds A,B,C,D wave pattern
After a major correction the first move out of that bottom is the A-wave advance. This rally tends to be powerful as it’s usually coming out of an extreme oversold condition. The A-wave is driven by traders memory of, and expectation of a return to the big and easy gains achieved during the previous C-wave advance. Often we will see an extreme bullish Blees rating on the COT spreadsheet as a D-wave bottom forms and an A-wave advance gets underway. The A-wave however almost always runs out of steam before making new highs. The A-wave is just the beginning stage in a multi-month consolidation period that precedes the next leg up in the overall secular bull market.
The B-wave is a corrective move that usually lasts about 4-10 weeks (although now that we are getting deep into the secular bull the B-wave will probaby last several months instead of weeks as all waves are expanding) and retraces some if not most of the A-wave advance. The B-wave tends to dampen the bullish sentiment that gets built up during the powerful A-wave. This is often the “wear you out” phase where investors lose their position from boredom and multiple whipsaws. We often see an extreme bullish Blees rating at B-wave bottoms also.
This is were the real action happens. The C-wave is where gold moves to new highs. Usually to big new highs. The longer and deeper the D-wave is the bigger the C-wave is that follows. The tendency has been for this advance to unfold over a considerable time frame. The last three running 12,18 & 28 months respectively. Another characteristic of a C-wave is for some kind of midpoint consolidation during this lengthy move. Usually about half way through the move gold will start to get stretched above the 200 DMA. A sideways move of up to 3-4 months isn’t unusual as gold consolidates this initial move to let the 200 DMA catch up. Often a C-wave will end with an exhaustion move that pushs gold 25-35% above the 200 DMA. The top in September of 2011 stretched 28% above the 200 day moving average.
As the secular bull market progresses I expect later C-wave tops to get stretched further and further above the 200 day moving average. The final bubble phase C-wave may stretch 100% or more above the 200 DMA.
The D-wave correction
The final wave is the D wave. This is usually a vicious move to correct some part of the entire C-wave advance. A D-wave will almost always correct at least 50% of the preceding C-wave and even as much as 62% is not unusual.
The most recent D-Wave correction was typical in that it corrected back down to the previous C-wave top (roughly $1025), which most D-waves have tended to do. I expect the next D-wave will unfold as a collapse from a parabolic bubble top.
If you have any questions please contact [email protected]