New Research: Essay SIX (continued)
© Andrew Coles
MIDAS/AC Gen-4 Economic Curves
In Figure 2 below, we’ll next take a look at Gen-4 curves applied to economic datasets and in particular the Baltic Dry Index. The BDI, a raw materials global shipping index, is frequently cited as a barometer of global economic health and is assumed among other unfolding fundamentals to be a leading indicator in the business cycle and the Primary trend (typically two years) of the stock market. It is often studied in relation to large cap indexes such as the S&P 500.
The BDI is subject to the same requirement, namely that the dataset (a) possess fractal trend characteristics, and (b) not be coextensive with any direct stock market gauge. Point 1 in the upper pane highlights a RIP (out of reach inflection point), in this case a bottom in the Baltic Dry Index six months before the great 2009 bottom (here highlighted in the lower pane in the S&P 100). This of course is a positive divergence and it means that a Gen-4 curve could be launched from this RIP (bottom) to time the actual bottom in indexes such as the S&P 500, thus creating a vital advantage. This is the first illustration of what on the previous page I referred to as the Dipper Setup so it would be a good idea to define it here.
MIDAS/AC Dipper Setup
The Setup occurs when a separate dataset satisfying conditions (a) and (b) positively or negatively diverges from the price trend. A positive divergence is present if the financial asset creates a lower low while the indicator diverges to create a higher low. Similarly a negative divergence is present if the financial asset creates a higher high while the indicator diverges to create a lower high.
When a positive divergence occurs, the Gen-4 curve is launched from the absolute low of the indicator to time the creation of the higher low. In parallel, when a negative divergence occurs, the Gen-4 curve is launched from the absolute high of the indicator to time the creation of the lower high. Every trader knows that divergences are amongst the most reliable signals in the markets but that timing them has always been a problem. Here the MIDAS/AC Dipper Setup finally resolves this intractable problem. We’ll see more examples of the Dipper Setup in the momentum indicators below.
Figure 2: A MIDAS/AC Gen-4 Economic Curve on the Baltic Dry Index with a positive divergence and the Dipper Setup
MIDAS/AC Gen-4 Momentum Curves
Momentum curves are another extremely important extension of Gen-4 curves because of their association with HIPs (hidden inflection points) and RIPs (out of reach inflection points). Momentum curves can be applied to bound oscillators such as Wilder’s RSI but work better with unbound oscillators such as Gerald Apple’s Moving Average Convergence Divergence (MACD). Unbound oscillators work better precisely because their fractal trend characteristics aren’t normalised (bounded) and thus constrained in space.
RIPs are particularly important for momentum curves because the RIPs are the actual launch point of the curve and thus the start of the setup that creates the movement of the curve on the divergence of the momentum oscillator. Without RIPs, it would be impossible to create the Dipper Setup.
Figure 3 below illustrates Gen-4 curves on Gerald Apple’s Moving Average Convergence Divergence (MACD). In Figure 3 of the weekly DAX 30 cash index we see that the key signal again involves the Dipper Setup, both on positive and negative divergences. Divergences are well-known as a robust and trustworthy signal but until now timing them has been a major issue. Because of the effectiveness of the Gen-4 curve, timing divergences is no longer a problem.
Figure 3: Another example of the Dipper Setup on a weekly chart of the DAX 30, this time involving RIPs on the unbound MACD oscillator
Figure 4 below illustrates Gen-4 curves on Welles Wilder’s RSI indicator. As noted above, although unbound oscillators generally work better with Gen-4 curves, some bound momentum oscillators also possess fractal trend characteristics and so make acceptable datasets for Gen-4 curves. Note again the RIPs that allow the curves to be launched to time the negative and positive divergences.
Figure 4: More Dipper Setups and RIPs on Wilder’s bound RSI oscillator with the Nasdaq 100 cash index
MIDAS/AC Gen-4 Relative Strength (RS) Curves
The application of Gen-4 curves to Relative Strength (RS) lines is one of the main focal points of this essay because RS lines provide extensive and compelling examples of RIPs and HIPs. As such, RS curves applied to RS lines provide outstanding market timing opportunities and should form a key basis of trading systems that exploit intermarket relationships.
Relative Strength lines – not to be confused with Welles Wilder’s RSI momentum oscillator – are also sometimes known as Ratio or Spread lines. They have been especially popularised by John Murphy,† Murray Ruggiero,‡ Martin Pring,* and more recently by Ashraf Laidi in his book Currency Trading and Intermarket Analysis (2009).
Beginning on the next page, I’ll take a detailed look at applications of Gen-4 curves to RS analysis and will include sector rotation as well as intermarket studies covering bonds, commodities, and currencies.
† With regard to John Murphy see in particular Intermarket Technical Analysis: Trading Strategies for the Global Stock, Bond, Commodity and Currency Markets (1991), Intermarket Analysis: Profiting from Global Market Relationships (2004), Technical Analysis of the Financial Markets (revised edition, 1999), The Visual Investor (2009), and most recently Trading with Intermarket Analysis: A Visual Approach to Beating the Financial Markets Using Exchange-Traded Funds (2013).
‡ Murray Ruggiero, Cybernetic Trading Strategies (1997).
* Martin Pring, Technical Analysis Explained (various editions from 2002).
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