Friday, December 22, 2006

Merry Christmas & Happy New Year

This will be our last post for this year. We will start up again with our daily posts after the New Year.

We would like to wish you a very Merry Christmas and a very prosperous Happy New Year.

Embrace and share the spirit of Christmas and the New Years holiday with everyone you meet.

Ho ho ho! Happy Holidays To All!

Invest2Success.com

PE Ratios

When it comes to investing in the stock market, one measurement stands out above the rest; how much did the investor earn at the bottom line and in turn, how does that earning compare to the price. Traders use many tools to help determine their stock trading plan, but the most common tool for assisting an investor is price to earnings ratio, or P/E ratio. Price to earnings ratio is an example of stock fundamental analysis; this is the method of examining businesses at the most essential levels. This process of review evaluates many key ratios of a business to attempt to determine the stability and financial health of a company and to determine the value of its stock.

It is safe to say that the number one ratio investors cite when discussing fundamental analysis is price to earnings ratio. This number is raised aloft like it possesses an authority above all others. It is, in fact, only one of many examples of fundamental analysis that successful traders should use before implementing trades. The price to earnings ratio evaluates the relationship between the price of a stock and the company’s earnings; it is the most widely used metric in fundamental analysis but far from being the only one that a trader should use. When reviewing the price to earnings ratio, it is wise for the investor to consider other ratios as well as using a stock trading system to search for the most complete information on a stock and its trends.

Simply put, to calculate price to earnings ratio, divide the share price by the company’s earnings per share (EPS). For example, if a company has a share price of $50 and an EPS of 10, the price to earnings ratio is 5. While a higher P/E ratio is generally considered a good thing, to some investors it signals an overpriced stock. It is very important that the trader views the P/E ratio only as a stock market trading tool to help draw an overall conclusion. Using a method such as candlestick analysis, an investor is better able to understand the dynamics of a stock before deciding to purchase or not.

So what does the price to earnings ratio tell the investor? It gives an idea of what the stock market is willing to pay for a company’s earnings. While it is generally accepted that a high P/E ratio is favorable and a low P/E ratio isn’t, even that conclusion isn’t accepted by all investors; therefore, it is wise to view the price to earnings ratio as a tool for helping to identify a potential stock purchase. When used with a stock investing system and other analysis ratios, it can help the investor to determine the best stock market investing strategy possible.

As always, the ultimate number an investor can analyze is his or her bottom line. Does the investor consistently make money investing in stock? Have the principles contained in the stock trading plan been successful? Success in the market depends on making good judgments and making good judgments depends on using good fundamental and technical analysis tools and practices. The price to earnings ratio is one of the tools that can help lead a trader down the road to successful trading and investing.

Getting ready for Christmas now . . . gotta go.

Thursday, December 21, 2006

EURUSD: Volatility, Anyone?

Here’s what one forex trader with 11 years of experience – once told me:

“I rarely trade in December. Many traders are off on vacations; others have already made their profits for the year and are sitting tight, refusing to take any risk in the remaining weeks. As a result, the forex markets thin out, making it easier for big players to push the prices around. Trading a trendless market is very difficult, so come December, I scale way back.”

Well, another December is upon us, and once again I see my friend’s point. Over the past three weeks, the EURUSD has covered an incredible distance of 600 pips: from $1.2750 all the way up to $1.3350 (and counting). It's now just 2 cents away from its all-time high of two years ago.

Of course, after hitting that all-time high of $1.356 in December 2004, the EURUSD tumbled down for a whole year. Things are different this time around, say forex analysts. Maybe, but that's not the point. Regardless of whether or not the euro can hold its recent gains, one thing's for sure going forward: volatility. Remember how wildly the EURUSD swung last December? Some days it would easily cover 100+ pips in each direction, and this year should be no different.

Strong volatility is all the more reason to rely on Elliott wave analysis this time of year. Prices may swing more than normal, but wave patterns in the markets remain intact. Case in point: the EURUSD forecast our Currency Specialty Service published last night (Dec. 4). "Topping" was the key word we used, and for good reason: See how the ongoing rally shows only 3 waves so far?

Click For Larger Chart

As you know, an Elliott wave impulse has 5 waves. That's why, if our analysis is correct and wave 3 is indeed nearing completion, what should come next is a strong pullback in wave 4. Just how far could it drop? We do have a few Fibonacci-calculated targets in sight for the EURUSD, but since volatility will likely persist as the year-end approaches, this is a time for caution.

Click the EURUSD: Volatility, Anyone? header link above to check out a Elliott Wave Trading Software that provides low risk high reward trade identification and management.

Good day and good trading.

Fundamental Analysis

Fundamental Analysis - Investing Success.

When it comes to investing in the stock market, one measurement stands out above the rest; how much did the investor earn at the bottom line. Traders use many tools to help determine their stock trading plan, but the best tool for assisting an investor is basic stock fundamental analysis. Stock fundamental analysis is the process of examining businesses at the most essential levels. This method of review evaluates key risk reward ratios of a business to attempt to determine the stability and financial health of a company and to determine the value of its stock.

Many investors use stock fundamental analysis alone for their determination of future stock purchases. While stock fundamental analysis is a powerful practice, it should be an important part of an investor’s overall stock trading plan. This plan should include stop loss strategies, as well as a stock trading system such as Japanese Candlesticks. Such a trading system, coupled with basic fundamental analysis can provide the trader with a valuable insight into the murky waters of the stock market.

Basic fundamental analysis helps an investor to know how much money a company earns. This is the ultimate measurement of its success, both currently and in the future. Earnings can be difficult to calculate, but that is to be expected when dealing with the stock market. When a company is growing and profitable, its stock generally increases; earnings create higher stock prices and in some cases, regular dividends and successful trading. Lower stock value can have the opposite effect, making the market bearish on the stock. By evaluating a stock with stock fundamental analysis, it is possible to look for basic candlestick chart formations and determine the direction of a stock. When the direction is known, an investor can implement stock market strategies which reflect either a bullish or bearish approach.

In addition to understanding a company’s earnings, there are a number of ratios involved in basic fundamental analysis that help the investors to evaluate the worth of a company’s stock. These ratios focus on earnings, growth and value in the market. Evaluating these dynamics together can provide unique reflections on the value of the company. When a company can be identified by basic fundamental analysis, its stock can be tracked using candlestick chart analysis. With this information, an investor can move confidently to make a trade.

Stock fundamental analysis is a key component in any trading plan. Investors can find patterns and trends in the stock price history and use this information to help make decisions about a company’s value and the value of its stock. Incorporating a stock trading system such as Japanese Candlesticks teams up with stock fundamental analysis to form a powerful team in evaluating stock.

The bottom line is the ultimate measure of the success of an investor. Using basic fundamental and technical analysis, a stock trading plan and a stock investing system, an investor increases the possibility of moving from the hope of being a good trader to the reality of becoming a highly successful trader.

Click the Fundamental Analysis header link above for an investing board game that will teach you about best investing time, energy and money.

Good day and good investing.

Wednesday, December 20, 2006

Holy Grail of Trading

Understanding the Holy Grail of Trading

By Van K. Tharp, Ph.D.

Chapter two of my book Trade Your Way to Financial Freedom is about judgmental heuristics. Basically, we have a limited capacity for processing information. In fact, consciously we can hold 7 (+ or - 2) chunks of information. And that dramatically reduces under stress when the blood flow is diverted from the brain to the major muscles of the body to deal with approaching danger. But in today’s world, the danger is usually mental and being able to run faster doesn’t help us deal with any trading dangers.

Every year the total amount of information we have to deal with as traders doubles but our capacity stays the same. As a result, we’ve developed a number of shortcuts (i.e., heuristics) to processing information. In fact, psychologists have been documenting many of them over the years and have been calling them judgmental heuristics.

The overall conclusion is that we as human beings are very inefficient at processing information. In fact, some economists have begun to move away from the “efficient market” camp into the idea that “markets are inefficient” and the reason that they are inefficient is because humans are inefficient decision makers.

This conclusion is excellent, but what they’ve done with it is not excellent. What’s happened is that a new school of economics has sprung up, called behavioral finance. And what the economists are trying to accomplish is to say, “Well, if markets are not efficient because humans are inefficient, then how can we use what we now know about human inefficiencies to predict what the markets will do.” In my opinion, this is lunacy.

In fact, you might call what I do “applied behavioral finance.” But I take a different approach. I say that if most human beings are inefficient in how they process information, what would happen if you start to make them efficient? Let’s say, a human being is 5% efficient in dealing with market information (and this is probably a high estimate for most people). What would happen if I could make that person 25% efficient? What would happen if I could make that person 50% efficient? Or what would happen if I could make that person 100% efficient?

Well, the results might surprise you. In previous tips, I’ve talked about how trading systems might be consider to be a distribution of R-multiples with a mean (i.e., expectancy) and standard deviation that characterizes the distribution. And if you don’t understand that, go back and read some of my earliest tips or, better yet, go buy Trade Your Way to Financial Freedom.

Let's say you have a system that gives you an expectancy of 0.8R and it generates 100 trades each year. And, as I've said before in prior tips, such a system is not unrealistic. I've seen much better systems. That system, on the average, will generate a return for you of 80R per year.

And if you were to risk 1% per trade, you could probably make 100% per year trading it (i.e., 1% gets bigger as your equity grows which is why you could make 100% and not 80%).

However, because of behavioral inefficiencies, such as those discussed in chapter two of my book, most people will make lots of mistakes. And what's a mistake worth? I don't know for sure, because we need to collect a lot of data to figure that out and it'll be different for everyone. However, for now, let's say a mistake is worth on the average 4R.

If that's the case and you make one mistake each week, then you'd have 208R worth of mistakes, and you'd lose money trading that system that could potentially give you 100%. But let's say that you only make a mistake per month and most profitable traders probably do that. How about you? If you make a mistake a month, that's 48R lost out of 80R, leaving you 32R in profits. During a severe drawdown in the system, you might totally give up on the system, not thinking it was a good system.

And now let's look at the trader who makes one mistake a month. Our system generates about 7-8 trades per month, so we could say that he one makes one mistake per 8 trades in executing his system or he's 87.5% efficient. But in terms of profits, he's only made 32R out of a potential 80R, so it looks like he's only 40% efficient.

So what would happen if he could become 60% efficient, or 80%, or more? The return increase would be phenomenal. So perhaps it's time to read about some of the common inefficiencies that we as human being have and learn how to become more efficient as a trader.

Click the Holy Grail of Trading header link above to learn more about Van Tharp's excellent trader training courses. Try Van Tharp's free Trading Game too.

Good day and good trading.

High Profit Trades

Traders can spend too much time scanning for trades. It almost sounds paradoxical; an investor needs good trades to be profitable, but spending hours in vain searching for the “needle in the haystack” typically produces nothing but another bad trade. It is actually quite easy to pick stocks. Who hasn’t looked back and said something like, “I knew to buy Microsoft when it was $2.00 a share.”? The pick is easy; for most, taking a position is the hardest part. While it is easy to sit back and hope for stock market tips, a proactive investor will combine a stock trading plan with a proven stock trading software to form a channel for locating and buying good stocks.

A stock trading system is fundamental to every trade and something that the investor establishes prior to moving in the stock market. A stock trading system, such as candlestick analysis stock market investing is the method of interpreting movements in the stock market. Scanning for trades using stock scanning software is the final critical piece needed to help the investor to make his or her own trading tips.

There are many software programs available for scanning for trades. It is important to find one that offers the desired features and results without excessive processing time or confusing programming requirements. Simple online searches or the best investment advice from satisfied friends can be the most successful ways to locate a software package. The important thing to remember with any stock market investing software is that the purpose isn’t to locate the perfect trade. Scanning for trades with software only provides the data needed to perform stock technical analysis. This will allow the investor to use his or her stock investing system to provide the tips needed to make a trade. The best trading tip available is for the investor to use his or her own eyes. A good formula is to use while scanning for trades is to identify a crude group of prospects, then for the trader to review the list for prospects. After this is complete, an analysis of the chart formations becomes much easier to complete since the data is inclusive.

An excellent trading tip is to make the stock scanning software become part of the process for identifying potential trades, not the final authority. When using candlestick trading tactics, a trader can then evaluate the candlestick chart formations and determine a course of action. Chart formations indicate the direction a stock is moving and any unusual directions it might encounter in the process.

The "needle in the haystack" is the thing that every investor wants to find. With a stock trading plan, a stock investing system and stock trading software, scanning for trades becomes easier than ever to find that needle. The three pieces needed to identify successful trades are in place. And when the opportunity rolls around next time, the investor can stand up proudly at the Rolls Royce dealership and proclaim, “I knew to buy stock in ABC Corp when it was only $1.00 per share!” right before driving away in that $125,000 Rolls he earned by scanning for trades the right way and putting in the effort to give himself a winning edge.

Click the High Profit Trades to trial a trading software that provides low risk high reward trades.

Good day and good trading.

Tuesday, December 19, 2006

EURUSD: Fine Art of Timing

The past weekend brought news of another "act of defiance" from Iran. The country's central bank has reportedly been "ordered to transform the state's dollar-denominated assets held abroad into euros and use the European currency for foreign transactions" (AFP).

Not a particularly surprising move, given the Iranian government's overall disposition towards the United States. Yet notice the timing. Sure, it may be just a coincidence that Iran has chosen to switch out of the U.S. dollar just as it's hovering near its all-time lows. But it does evoke the memory of a similar move by central banks two years ago…

In December 2004, the EUR/USD exchange rate hit an all-time low of $1.356. That's when central bankers the world over began to have second thoughts about storing their countries’ currency reserves in the dollars. Banks in 39 out of the 65 nations polled by the BBC in early 2005 said they were “raising their euro holdings, with 29 cutting back on the U.S. dollar.”

Even the Chinese were having doubts about their long-standing policy of pegging the yuan to the USD. In February 2005, a Chinese speaker told the attendees at the World Economic Forum in Davos that, “The U.S. dollar is no longer in our opinion a stable currency, and is devaluating all the time, and that’s putting troubles all the time."

That pretty much summarized the shift in central bankers' attitude towards the dollar. You can see why: By the early 2005, the U.S. budget and trade deficits had hit new highs, the dollar fell to new lows, and central banks saw their cash reserves dwindle in value.

A situation not unlike the one we have today, wouldn’t you say?

What was peculiar about that change of heart towards the USD two years ago was that it came just when the whole world was expecting the dollar to fall. The public’s dollar-bearish consensus towards the dollar was pinned to extreme… a situation that, again, rings familiar today.

What happened in the early 2005 from an Elliott wave standpoint was that central bankers simply got swept up in a dollar-bashing frenzy together with the rest of the world. In retrospect, switching out of the USD at that time was a terrible move, because by the end of 2005 the USD surprised everyone by gaining 14.6% against the EUR and 15.2% on the JPY.

With that in mind, what’s a forex trader to do now? Should you take the Iranian central bank's new initiative as a sign of new lows to come for the buck – and look into shorting it? Well, if history is any guide, placing your bets in the direction that everyone is betting on can be risky business…

Click the EURUSD: Fine Art of Timing header link above for more information on the forex market and low risk high reward trading with Elliott Wave.

Good day and good trading.

Elliott Wave Fifth Waves

The goal of EWI's Daily Futures Junctures is to help you, the reader, identify daily opportunities in the futures markets. And this week has been no exception: In Monday’s [Nov. 27] DFJ, Mike Boysen – filling in for DFJ's editor Jeffrey Kennedy – says that he sees one particular commodity market that could be set to embark on a fifth wave rise.

Here's one very important nuance to remember about fifth waves in commodities markets. While in other markets it's the third wave that is usually the longest and most intense move, in commodities it's the fifth wave you need to take notice of.

If you ask Mike Boysen just how he knows that a fifth wave is developing, he'll tell you that, as you can see from the second chart below, this particular market already seems to reveal waves 1 through 4, so wave 5 is the next likely move. And besides, there is something else in the picture: A fourth-wave channel.

You've probably heard of channels before. In Elliott wave analysis, channeling is the process of drawing parallel lines along the upper and lower boundaries of waves, like so:

Click For Large Image

Channeling allows you to do two things: 1) confirm your wave count, and 2) predict how far a particular wave may go. In The Elliott Wave Principle-- Key To Market Behavior, Robert Prechter says that, “a parallel trend channel typically marks the upper and lower boundaries of an impulse wave, often with dramatic precision. You should draw one as early as possible to assist in determining wave targets and provide clues to the future development of trends.”

Besides appearing in impulses, channels can also appear in corrections – in fact, corrective price action stays within parallel lines quite often. And when the market breaks that corrective channel – while observing all 3 rules of Elliott – there is a good chance that that correction is finished.

A channel break is exactly the kind of clue that the Nov. 27 DFJ picks up on. As you can see in this chart, wave 4 has just burst through the upper channel line:

Click For Large Image

That's how a simple channeling technique can help you identify the end of a correction.

Click the Elliott Wave Fifth Waves header link above to learn how Elliott Wave Trading Software can automate your trading with low risk high reward trades.

Good day and good trading.

Monday, December 18, 2006

Winners & Losers

"Cut losses short, let profits run" is a popular Wall Street motto among traders. But most traders don't have a clear plan for accomplishing these important steps in money management. Read below for some specific rules of thumb you should follow.

One of the most overlooked areas in investing is the field of money management, or what many traders call "position sizing". In my experience I see too many traders putting on positions that are far too large. This tends to lead to emotional selling decisions, as the swings in a large position's value create greater internal reactions with any trader.

The reality of proper money management is that if you have a system with a positive expectancy (meaning you have an edge which allows you to pull profits out of the market over time), then you should ideally place many small positions to let your edge play out over a large sample size. Look at the analogy of the big casinos in Vegas. The house wants to let its edge play out by many small bets. The longer you sit at a betting table, the greater the odds that the house will win and you will lose. (Did you know that 9 of the world's 10 largest hotels are in Las Vegas? How do you think they had the money to build all of those billion-dollar properties?) In contrast, when you have a negative edge, if you had to place a bet, you should bet it all on one hand and then walk away if you win. The longer you play, the more the negative edge will eat you up.

Here are some guidelines I like to follow for systems with an edge:

1) Risk no more than 1.5% of your allocated capital per trade - This means that if I invest 10% of my capital into a trade, I should pull the plug on a trade if it loses 15%. Or if I invest 20% of my capital in a trade, I should pull the plug at a 7.5% loss. Certainly I still want to obey a stock's technical support or resistance, but ideally if you enter trades at good levels (near support on buys or near resistance on sells), you can manage your risk while potentially taking meaningful positions.

2) Use Trailing Stops - One of the ways I see traders kill their reward-to-risk ratio on trades is to take their profits too soon or let their former profits turn into losses. If you have a fixed stop, once the position moves into a nicely profitable zone of more than 10% on a stock or more than 20% on an option, tighten your stop to your initial entry point. breakeven. This guarantees that your profit will not turn into a loss. In addition, I like to use either a moving average to trail as a stop (for example, if a stock breaks under the 20-day average, that can be considered an exit signal on a 1-4 week bullish trade. Another rule for options traders is to not let a profitable position give back more than half its gains on a closing basis. So if you have an 80% profit, if it breaks to a 40% profit or less, go ahead and take the gains you have.

3) Have a Re-Entry Plan - Often a small percentage of our stocks make up the bulk of our profits. Good trading involves pressing your winning bets, or coming back to your best ideas. This keeps your trading capital focused in the best opportunities, which is just as important as deciding how much to invest.

Click the Winners & Losers header link above to learn more about properly sizing leveraged market positions and win.

Good day and good trading.

Sunday, December 17, 2006

Weekly Stock Market Outlook

We'll be brief today, as it's going to be tough to distinguish how much effect last week's triple-witching exerted (which we don't want to read too much into), versus how much of last week's gains were actually reflective of investor's opinions (which we think is more meaningful). That being said, even if the gains were artificial, they can still creat a ripple effect for this week and beyond.

NASDAQ Outlook

The NASDAQ Composite closed at 2457.20 - higher than Thursday's close by 3.35 points (+0.14%) - to end the triple-witching week up by 0.81% (+19.84 points). While any gain is nice for the bulls, there are two things worth noting about the NASDAQ this week....(1) it was a very modest gain that pales in comparison to the types of numbers being put up just a few weeks ago, and (2) the NASDAQ struggled to challenge its prior high of 2468.42 from November 27th....and never actually made a close above that mark.

Aside from the failure to break above the resistance (blue), the composite didn't even manage to get back above the lower support line of the bullish channel (dashed) framed over the last few weeks. So, regardless of whether or not a correction has begun or not, it's clear the rate or pace of gains is slipping. However, none of that changes the fact that the bulls need to clear the 2470 hurdle (Friday's high) with a little conviction before we can get excited about new long positions.

Notice that we're on the verge of a bullish MACD crossover. To complete it, we'll have to move just a little higher....perhaps above 2470. So, the two events may end up being co-confirmation of any new bullishness.

NASDAQ Chart - Daily

Click For Larger Chart

S&P 500 Outlook

The S&P 500 gained 1.60 points, or 0.11%, on Friday to end the session at 1427.10. On a weekly basis, that meant a 1.22%, 17.25 point gain....which suspiciously topped the NASDAQ's weekly gain. However, the SPX's relative outperformance isn't exactly something new....we've seen the S&P 500 lead the way for the better part of the last month or so. From a momentum perspective it makes you want to jump on board with the large caps. From a reversal perspective, we have to wonder if this index will fall the farthest once any correction sets in.

As it stands right now, we see the S&P 500 being vulnerable - in the short run - for a handful of reasons.

The first one is simply how the chart is stochastically overbought (again) at the same time that it's pushing into the upper edge of a longer-term bullish channel. It's not quite at the absolute upper limit, assuming there even is one. But, it's getting close, and we think that could weigh heavily in the near term. In the interest of fairness though, it didn't seem to be a factor when the S&P 500 rallied sharply in October...the index was well overbought the entire time.

The other key reason we wouldn't be surprised to see at least a brief dip is the CBOE Volatility Index (VIX). It hit new multi-year lows on Friday after five straight sessions of lower closes. The sixth day (Friday), however, we saw a pretty big mid-day reversal near the lower Bollinger band which suggests the VIX may be ready to bounce higher again.

Yes, we have little doubt that the very rare triple-witching option expiration was the ultimate cause of the big downtrend for the VIX. But as we said above, there's still going to be some sort of after-effect. In this case, regardless of the reason, we expect to see the VIX pressured higher again, at least back to less extreme levels. In general, we can expect a rising VIX to coincide with selling pressure on stocks.

Yet, it's all conjecture at this point. The fact is, we have a new bullish MACD crossover, and a simple eyeball-look at the chart shows you the current trend is to the upside.

A mixed message? That's an understatement. Be patient here; we think we'll see some more dependable patterns put in place this week.

S&P 500 Chart - Daily

Click For Larger Chart

Dow Jones Industrial Average Outlook

The Dow's 0.23% gain on Friday left it 28.76 points higher, at 12,445.52. For the week, the blue-chip index closed 138.03 points higher, gaining 1.12%. The interesting part about the Dow's chart is, it's not nearly as over-extended as the S&P 500's is, but still managed to hit new all-time highs. Given that we have a new MACD crossover AND that the upper resistance line of the Dow's long-term bullish channel is still not being pressured, we could make a strong case for more upside here.

Could the key differences in the indices be highly evident right now? We know the large caps are leading - the S&P 500 has put up superior numbers recently. Small cap, which make up a big chunk of the NASDAQ, apparently are acting as a drag. The Dow's blue chips (mostly large caps, but selected more on quality than size) are nestled somewhere in between...and seem to offer the safest haven for long-only traders right now. What we find curious is how the January effect, where small caps tend to outperform everything else, actually starts in mid-January.

The point is, there are more than a couple of dynamics worth monitoring right now. We'll revisit these ideas next week when - hopefully - the picture is a little more clear.

Dow Jones Industrial Average Chart

Click For Larger Chart

Have a good holiday week!

Friday, December 15, 2006

Van Tharp On Forex

How to Swim the Forex Ocean…and Not Get Eaten by Sharks

By Kevin J. Davey - International Institute of Trading Mastery

I must be an idiot. The kind of person who drives the wrong way on a one way street. Someone who pushes a door to open it, instead of pulling the handle. A plain old idiot.

Why do I put myself in this class? Simple – the FOREX market.

I never realized the FOREX market was as easy as following some color coded signals, clicking the mouse, and counting the profits. All these years I could have been making enormous amounts of money - so easily a child could have done it. I should stop being an idiot and just attend the free FOREX seminar (conveniently located at a local hotel), and learn what I’ve been missing.

Sure, I finished second in a worldwide futures trading contest in 2005 with a 148% return, but it took nearly 15 years to get to that point, and even today futures trading is a constant emotional and mental struggle. I should have been trading FOREX all along, since everyone on television and in direct mail tells me it is so easy.

Except, it's not that easy.

In reality, FOREX is an ocean of professional traders (the sharks), just waiting to devour the little minnows and sardines. And if you haven’t figured out who the minnows and sardines are, well you may just need to look in a mirror!

So, how can you evolve from minnow status into full fledged shark? My years of speculating experience, primarily in the futures market and more recently the FOREX market, points to three major areas: knowing the market, knowing the competition and knowing your plan of attack. Do all three, and your chances of avoiding the sharks rises like the ocean tide. Neglect these areas, and you become bait.

Know the Market

The first step to swimming the FOREX ocean is knowing what the waters are like. Do you know what a “pip” is? If you do, can you calculate the pip value in US dollars for the EUR/USD pair? What about the EUR/JPY pair? If not, you need to get the basics down first.

Take time to learn. We’ll talk about competition later, but rest assured, your competition knows all about the FOREX market. Where do you learn about FOREX? Websites and books abound on the FOREX market – it is a good idea to read a few of these books, and use the Internet to find good educational (not just sales hype) sites.

One key item to learn is regarding transaction costs. Even though most FOREX dealers do not charge commissions if you make your own trading decisions, there is still a trading cost called the bid/ask spread. This spread can range from $20 to $80 per trade and is something you obviously have to overcome in order to be successful. All things being equal, trading pairs with small spreads is the best way to go.

Once you do enough research, you probably will come to the conclusion that you should focus your efforts on the major currency pairs, ones that include the US Dollar, Japanese Yen, British Pound and Euro. FOREX pairs with these currencies typically have the lowest spreads, the highest liquidity, and the most fundamental information available. But don’t take my word for it – research the market until you feel comfortable with whatever pairs you want to trade.

Know Your Competition

Why should you bother to know your competition in the FOREX market? Simply put, FOREX is a zero sum game – for every dollar someone wins, someone else loses that dollar. Wealth is only created for some by taking from others. It is not like the stock market, where almost everyone (except a small amount of short sellers) benefits from rising stock prices. FOREX is definitely not “win/win,” but rather “win/lose.” Knowing this rule, and recognizing your competition’s tendencies, can help give you an edge.

Who are the major players in FOREX? Banks, hedge funds and multinational corporations are all big players, and they make a lot of money from FOREX. One car company recently attributed a large portion of its profit to FOREX activities. These groups should strike fear into little minnows, because these groups are the professional sharks. They trade day and night, know the ins and outs of the market, and eat the weak. Big moves are usually due to professionals, so following their lead and following trends they start may be a good strategy.

In the same waters the professional sharks swim, there are also a lot of minnows. They are also your competition, so knowing their tendencies can help you exploit them. For example, unsophisticated minnow traders are likely to put stop losses in obvious support or resistance levels. Knowing this, you can exploit this tendency and feed on them. Also, think about the first “sure thing” chart formation you ever learned about. Chances are new traders are just learning about that formation now, so you could fade their trades and likely do alright.

Think of it this way – defeating a foe who is sitting in his home office trading FOREX in his bunny slippers is probably easier than defeating an MBA with a $5000 suit who trades via complex neural network arbitrage programs. So, try to mimic and follow the sharks, and eat the minnows. This is where having a plan (to make you a more agile minnow, or even turn you into a shark), is critical.

Know Your Plan of Attack (Take Steps To Not Be a Minnow)

Once you really know the FOREX market and really know the competition, chances are you will be very scared. If you aren’t scared, you probably need to go back to steps one and two, and spend more time learning. The FOREX market is very difficult, and you are a minnow swimming in some deep waters. Don’t kid yourself into thinking FOREX trading is easy.

Once you realize that FOREX is tough work, you are ready to determine your plan of attack. There are really two ways to do this – either on your own, or with an advisor.

If you decide to do it on your own, plan on spending at least 500-1000 hours of your time, and $2-5K for software, books, seminars, etc. Like it or not, that is what it takes to develop a good trading system. If you try to shortchange this effort, you trading results will likely reflect that fact. You get out only what you put in.

An alternative is to use an advisor, or an advisory service. This will take less time than doing it on your own, but you must be willing to perform due diligence on any advisor you find. Blindly following signals from an unknown Internet service, or turning your money over to an unknown advisor, is a sure way to lose your money.

Conclusion

So there you have it – a brief overview of how to swim the FOREX waters. The key, I have found, is to treat FOREX trading as a business, not as a hobby. Take the time to really understand the markets and what moves them. Realize that you are up against professionals who will take advantage of any weakness in your trading system or your trading psychology. Finally, have a plan, and be willing to invest the time and money to develop your plan. If you perform all three of these tasks, you might just find yourself surviving the waters of the FOREX ocean.

Happy swimming!

About the Author: Kevin Davey finished in 2nd place in a worldwide futures trading contest in 2005, with a 148% return. Through mid October of 2006, he is in 1st place in the same contest with over 100% return. Kevin can be reached at kdavey@kjtradingsystems.com.

Note from Dr. Van Tharp:

A major issue in Forex as in any other area of trading is position sizing, position sizing, position sizing.

If you don't understand position sizing, the sharks will most assuredly eat you.

And although Kevin has been trading and learning for 15 years, most people that win in trading contests are doing some very dangerous things with position sizing. So notice your reactions. Are you impressed with the people that win competitions? Or is your gut reaction to learn more about how to trade effectively in any market – and just stay in the game!

Click the Van Tharp On Forex header link above to learn how Dr. Van Tharp teaches each unique trader to trade successfully. He training seminars and training courses are first class and one of a kind. Dr. Van Tharp . . . the trader that trains traders for trading success.

Good day and good trading.

Thursday, December 14, 2006

Elliott Wave Analysis

It's All About 'Five and Threes'

Regardless of how new you may be to Elliott wave analysis, you know that it's relatively easy to follow professionally produced wave counts in market charts. But if you've ever tried to do your own wave counts while trading, you know how big a challenge it can be.

Yes, we've all heard that waves patterns are fractal – i.e., self-repeating on all time frames. We also know from Bob Prechter's "Elliott Wave Principle – Key To Market Behavior" textbook what an ideal pattern is supposed to look like. It's smaller wave patterns within larger ones, and it's all about "fives and threes":

Click For Larger Chart

OK, but what do you do when you see a wave pattern like the one below? It's a chart of the German DAX stock index, Europe's equivalent of the DJIA, as seen in the Nov. 27th issue of our European Short Term Update.

Click For Larger Chart

How would you label this chart? Well, I see what could be a wave 1... And then I think I see a wave 2... And that long stretch from July through November is probably wave 3? Except, this "wave 3" doesn't really show those "perfect" internal 1-2-3-4-5 subdivisions. In fact, it looks like one long straight shot up. Is it still a wave 3, then? Ah, that's where it gets tricky.

It could be a 3. Third waves are usually the longest and strongest; you can count this wave's internal structure, as "imperfect" as it may be… Plus, the whole ostensible 1-2-3 structure has the "right look," as Elliotticians often say. But is it a 1-2-3 for sure, with waves 4 and 5 to follow?

The answer is no. You can never know what the wave structure is for sure until it's complete – and not even then sometimes. Why? Well, the explanation veteran Elliotticians give is – it's not a perfect world. You won't always be able to count perfect 5s and 3s on a chart all the way down to milliseconds. Partly, it's due to the limitations of your data feed. But even if your data were perfect, some ambiguity would still be present.

Which means that sometimes, you'll be left guessing if what you see is a 3-wave or a 5-wave structure. But so what? Do you absolutely have to trade that pattern that very moment? Not unless you're a market maker. So why not just wait until the pattern becomes more clear?

The best traders often wait for months until all of their indicators line up – and only then do they pull the trigger. One famous trader I've read about puts it this way: "I only trade when I see money lying in the corner, and all I have to do is go and pick it up."

There are plenty of markets moving right now, large and small, up and down, daily, globally. Opportunities are everywhere – you just have to be patient enough to wait for the best entry and exit points. Which is easier said than done – but with wave analysis, it really is easier.

Click the Elliott Wave Analysis header link above to receive a free Elliott Wave Tutorial and learn more about the low risk high reward trade setups Elliott Wave Analysis provides.

Good day and good trading.

Forex Forecasts

Think All You Need Is the Right Forecast?

Many (if not most) novice currency traders believe that all you need to make money in forex is a correct forecast – and $200 to open an online trading account.

Six years ago, when I first got into forex, I thought so too. You can imagine my surprise when I soon discovered that a correct forecast is only – maybe – half the battle. Not even that much. Why? I'll give you an example.

At 8:24 EST Thusday November 16, the Elliott Wave Currency Specialty Service posted this forecast for the Japanese yen:

USDJPY Chart

Click For Larger Chart

Let's say, based on that Elliott wave forecast from 8:24 a.m., you went long on the USDJPY at 118.10 – with a stop at, say, 117.90.

Six minutes later, at 8:30 a.m., the latest CPI number came out and the USDJPY moved 22 pips lower, to 117.88, triggering your stop by 2 pips.

Which was unfortunate, because immediately after touching 117.88, the USDJPY reversed and shot up higher. The forecast proved correct. But you weren't there to enjoy it: The volatility surrounding the news release kicked you out. You missed out on a nice move – and lost some money doing it too. And so it goes.

When you first realize that a right forecast isn't everything, it is both startling and discouraging. At least it was for me. Before, I had the safety net of the "correct forecasts." Now, I had to learn how to actually trade them.

And that was quite a task. In fact, it still is – even after six years of trying, six years of watching the markets, six years of immersing myself in currencies daily.

Could it be that I'm just not cut out for trading? Maybe. However, I'd like to believe differently. If Richard Dennis' "turtles" could learn how to trade – dammit, so can I.

Click the Forex Forecast header link above to learn about a trading software that provides low risk high reward trade setups, with built in position sizing function to correctly take the right size of position and not over-leveraged your trading account. This software is called MTPredictor and works on all financial instruments of currenices, stocks, futures, etc. Its one of the finest trading programs we use.

Good day and good trading.

Wednesday, December 13, 2006

Trading the Forex Market

The "great asset mania" is still partying up. As the saying goes, “Markets can remain irrational longer than you can remain solvent” – and they are certainly proving this point yet again. At times like these, your rational mind may be telling you, “Wait! This wild party is a trait of market tops” – but your instinct commands you to jump aboard.

That is exactly what many foreign exchange speculators did in 2004 and early 2005 when fear of holding U.S. dollars peaked. Ironically, and typically, that was the exact point when the dollar bottomed and those traders who went short the dollar because of its "weak fundamentals" and all the media hype got stuck with a losing position.

By contrast with late 2004-early 2005, there is presently little fear showing for the dollar's fate -- in the forex markets or the media. What does that tell you? Could we be at the opposite psychological extreme, with the dollar beginning an extended decline?

Perhaps. If you think, based on the current sentiment, that the dollar might be near a top, and your trading time frame is long-term, this could be the time to consider entering the market.

The forex market has many advantages for the beginning trader, notably: flexible size, high liquidity, low trading costs, a simpler set of choices (most trading is in only 9 currency pairs), and the ease with which you can trade currencies in both directions.

Another big plus for the beginner is the ability to start small, as some online brokerages have very low account minimums, and most offer trading games (paper trading) that can help you learn the mechanics of trading (But paper-trading won’t teach you the emotional lessons of trading real money, so beware.)

How does a beginner stand a chance against seasoned traders? The only way is by taking the time to build your background and fully understand the methodology and risks. And it helps to have an “edge,” like Elliott wave analysis, one of the best analytical tools for forex trading. The more participants in a market, the more clearly Elliott wave patterns show up in the charts, and forex is the largest market in the world, and growing fast.

It is not easy to make money by trading currencies. Industry executives say only about 10% to 15% of brokerage accounts are profitable. Margins of 100 to 1 or higher are common, which works both for and against you. That's why some successful traders say they often use much less leverage, such as 5 to 1. Even so, you can still lose… the Amaranth hedge fund suffered its losses trading at less than 5 to 1 margin.

If you are a beginner, start studying. Our Club EWI has plenty of free educational materials, including what is absolutely required reading – Robert Prechter’s classic traders' report, “What A Trader Really Needs to Be Successful.”

And if you are experienced forex speculator, our Currency Specialty Service's monthly, weekly, daily and intraday charts can help you zoom in on whatever time frame you want to trade within.

Get forecasts of the forex markets you follow. Our Currency Specialty Service is a professional-grade advisory tool previously reserved mostly for global forex pros. With it, you can build your own, flexible and affordable, currency package to suit your trading needs. Each package is a bargain and the more you choose, the less each one costs.

Click the Trading the Forex Market header link to learn more about the forex market and the forex buy sell signals services we provide. Most come with free trials so you can try before you buy.

Good day and good trading.

Van Tharp Trading

Ways to Make Money In A Trading Business

By Van K. Tharp, Ph.D.

The principles we’ll discuss this week come from my work helping my clients grow their trading firms. This tip contains the key ways that you can grow your business, especially when capital isn’t the problem. Instead, your problem is finding the best uses of your capital. And when you think about these methods, they might be obvious, but most people don’t think about them enough. So here are they key ways you can grow your business.

First, you can develop new, improved trading systems. Each system, especially if it is not correlated with the other systems, can help you make more profits. So continue to do ongoing research to find new systems that can become new profits centers for your trading research. And by the way, some of your systems might stop working under certain market conditions, so it’s always good to have more systems in the pipeline.

Second, you can find more markets in which to apply each system. Let’s say that you develop a great system that works on the S&P 500 index. It gives you five trades a month and has an expectancy of 2R. That means that on the average you can probably make 10R from that system each month. But what if the system also works other major stock market indices with the same sort of results? If you can then add 10 more indices to trade, you might suddenly be able to make 100R each month.

The third major way you can grow your business is to add traders. Each trader can only handle so much work and so many markets effectively. For example, let’s say that a good trader could effectively trade 50 million dollars. When the total got above that level, your experience is that the trader’s effectiveness seems to drop off. One way to grow your business is simply to have more traders. Ten good traders might now be able to handle $500 million effectively.

The fourth major way you can grow your business is to make your traders more effective at what they are doing. Let’s say that a trading system generates an average return of 80R each year. You can then measure the effectiveness of a trader by the number of mistakes that trader makes. For example, a fairly effective trader might make 20R worth of mistakes each year on an 80R system. Such a trader, at 75% effectiveness, would still allow you to generate 60R from the system. But what if you can make the trader more effective? What would happen if you gave your traders effective coaching that could reduce his/her mistakes down to 5R each year? That amounts to 15R more profit per trader per system per year. And you can expand a trading business immensely, through coaching that will allow your traders to become more effective.

The last major way you can grow your business is to optimize your position sizing for meeting your objectives. In order to do that you must perform each of the following steps:

First you must clearly determine what your objectives are for your business. Many people and many firms do not do this task well.

Second, you must determine the R-multiple distribution generated by each of the systems you use.

Third, you must simulate different position sizing algorithms to determine which of the many, many thousands of possible position sizing algorithms will most effectively meet your objectives.
And lastly, you must then apply that algorithm to your systems.
For example, suppose you want to make 200% on your capital allocated to a particular system. You have a system that generates, on the average, 70R each year. If you risk 1% of your allocated capital per trade, you might find that you can make 70% per year from the system. But if you increase the position sizing risk to 3%, you might find that you can now make the 200% you desire. However, increasing the position sizing will also increase the potential drawdowns and you need to be careful fully aware of the downside to such position sizing changes.

Notice that all of these factors can be multiplicative. For example, suppose you have three traders, each trading two systems in three markets. Each system makes about 60R per year per market but the traders are only 75% effective in trading them. This means that they make about 15R in mistakes per system per market per year.

Let’s look at what is generated for the company. We have three traders times two systems times three markets times 45R. If you multiply these out, you’ll find that the company generates 810R each year. So now let’s look at the effect of the various changes we could do.

First, what if we added 3 more traders? We might be able to double the total return to 1620R.

Second, what if we added three more markets for each system? We might now increase the returns to 3240R.

Now what if we added one more system per trader? We might now increase the return to 4860R.

Now what would happen if you increase the efficiency of your traders to 90% (which we might have to do for them to handle the extra work)? We’d add an additional 20% more profit and now be at 5832R.

And lastly, what if we made our position sizing more effective so as to increase our profits another 50%? Well, you get the idea.

No business would probably be able to do all of the things I’ve suggested at the same time, but what if you could do a few of them? What would the impact be to your bottom line? And if you are considering some of these changes, then my advice would be to concentrate on trader efficiency and on more effective position sizing to meet your objectives.

Click the Van Tharp Trading header link to learn more about the excellent customized trading systems and trading education Van Tharp provides traders.

Good day and good trading.

Tuesday, December 12, 2006

Trading Gaps

Price "gaps" may be the most obvious signal on any given chart. Picking out the empty spots in market action doesn't take an analyst, let alone a technician.

What's more, most folks who do watch charts know some gaps support prices in bear markets, while others offer resistance during bullish swings. Yet even among professionals, few fully appreciate why some of these gaps deserve special attention.

The best shorthand explanation is the one Futures Junctures Service editor Jeffrey Kennedy often repeats when his daily forecast introduces an important gap. Here's how he put it in his Nov. 8 Daily Futures Junctures update on Orange Juice:

"Some price gaps are little jewels on a price chart. This is because they act like magnets -- first attracting prices, then repelling them."

If you know where to look, you don't have to look far for an example. Indeed, Jeffrey has had ample reason to repeat himself about gaps lately. In four of the last eight DFJ updates, price gaps played a key role in forecasting each day's best opportunity – and each of those forecasts featured a different commodity market.

Here's that example: a Lumber chart from our DFJ forecast for Nov. 9.

Click For A Larger Chart

Still, any observant trader knows not all gaps are so significant. Most are just blips on the radar. To understand which price gaps are probable turn targets – the "magnets" Jeffrey likes to highlight – you have to understand the larger context surrounding the signal. In fact, this is true for most technical indicators.

Elliott's Wave Principle is flexible and allows analysts to do a lot of things well. Yet what makes it truly unique is its potential to help you understand the context of any financial market, on any timeframe.

Accordingly, the gaps that matter most are those that promise support when the Elliott count calls for an upswing, or resistance when a bull market wave has run its course.

Chapter 10 of Jeffrey's original Trader's Classroom Collection eBook more fully explains his technique for using gap signals with the Wave Principle. Yet if you want a real-time reason to learn the facets of this simple technical signal most analysts overlook, you've got several excellent opportunities to choose from right now. And they've all been featured in Daily Futures Junctures.

Click the Trading Gaps header link above to learn more about trading gaps and to receive a free Elliott Wave Tutorial.

Good day and good trading.

Trading Zigzags

When you think of a zigzag, what sort of images come to mind?

The trajectory of a lightening bolt.
The embroidery stitch on a skirt.
The course of a car… driven by Paris Hilton

Well, when WE think of a zigzag, one image in particular that comes to mind is this labeled chart from November 09.

Click For Larger Chart

Take a long hard look at the curvy, swervey price action underway in Intermediate wave (2). Seem at all familiar?

OF course it does because what we have here is a perfect example of the Elliott Wave pattern known as: the double zigzag.

For an official definition, Elliott Wave Principle – Key To Market Behavior provides this description:

"A single zigzag is a simple three-wave pattern labeled A-B-C with the subwave sequence 5-3-5." This means that wave A divides into a five-wave impulse, wave B a three-wave correction, and wave C, another five-wave impulse.

"Occasionally," continues EWP, "zigzags will occur twice (or at most three times) in succession, particularly when the first zigzag falls short of a normal target. In these cases, each zigzag is separated by an intervening three or "X," producing what is called a double (or triple) zigzag."

The most important distinguishing characteristic of a zigzag is that wave B NEVER moves beyond the start of wave A. Commonly, the first ABC series in a double zigzag will equal the second ABC series in terms of wave equality.

As you can see, this pattern fits the double zigzag profile to a Z. It is the real deal in real time. But, in the November 09 DFJ, editor Jeffrey Kennedy reveals why the end of this particular double zigzag is just the beginning of the opportunity to come.

Look again at the close-up above. Turns out, the entire progress of the near month-long double zigzag took place in wave (2). If the wave count is correct, the next move to occur will be Intermediate wave (3).

In the world of Elliott analysis, there are waves. And then, there are third waves. At this point, the trend is unmistakable as volume and price movement go in overdrive, initiating a trend that is, in the words of Ralph Nelson Elliott himself, "a wonder to behold."

And, in the recently published November 13 Daily Futures Juncture, Elliott Wave revisits the market to reveal that the original wave count is still very much intact.

Click the Trading Zigzags to put Elliott Wave low risk high reward trading in your favor.

Good day and good trading.

Monday, December 11, 2006

Third Waves & How To Trade Them

Third Waves in the Forex Market.

If there is one wave in the basic Elliott wave sequence that you as a forex trader don't want to miss, it's a third wave. Like the Energizer bunny, third waves "just keep going and going." Riding them is a pure pleasure – and pity you if you happen to get caught on the wrong side of one.

Third waves, says Bob Prechter in his Elliott Wave Principle – Key To Market Behavior, are, "wonders to behold. They are strong and broad, [they] generate the greatest volume and price movement and are most often the extended wave in a series. [They] invariably produce breakouts, 'continuation' gaps, volume expansions, exceptional breadth," etc.

Sounds good, but how do you trade them? Well, first, you have to identify a third wave developing. Let's say that you've counted waves 1 and 2 on a chart, and you're willing to bet your money that wave 3 is about to start. Of course, you don't know for sure if it will, so to protect yourself, you recall the First Rule or Elliott: "Wave 2 cannot retrace past the origin of wave one":

Click Here For A Larger Chart

In other words, if the ostensible wave 2 does go past the origin of wave 1, you'll know that what you were looking at was not a 1-2 sequence with a 3rd wave in the making. So you could place your stop-loss just beneath the starting point of wave 1.

Here's a real life example from this morning (Nov. 3). At 8:28 AM Eastern, our Currency Specialty Service published this chart of the AUDUSD:

Click Here For A Larger Chart

If you chose to trade the recent rally in this pair from near the end of wave (ii), your risk would be in the area just below the starting point of wave (i).

Third waves occur in all timeframes, in all currency pairs. There is probably one developing somewhere right now. And our Currency Specialty Service is here to help you find them.

Get Forecasts of the Forex Markets YOU Follow. The Elliott Wave Currency Specialty Service is a professional-grade advisory tool previously reserved mostly for global forex pros. With it, you can build your own, flexible and affordable, currency package to suit your trading needs. Each package is a bargain and the more you choose, the less each one costs.

Click the Third Waves & How To Trade Them header link above to learn more about trading these highly profitable Third Waves.

Good day and good trading.

Sunday, December 10, 2006

Weekly Stock Market Outlook

NASDAQ Outlook

The NASDAQ Composite led the market higher on Friday, closing at 2437.06.....higher by 9.67 points. On a weekly basis, that close was 24.15 points - or 1.0% - above the prior Friday's close. Yes it was a gain, but another unimpressive week overall. That new (and slightly less bullish) support line we pointed out last week is still intact, but is also under some serious fire.

On our chart, check out the transition from the old support line (green, dashed) to the new one (solid, bright purple). Clearly the rate of gain is slowing. Less obvious is the close under the 10 day line (red)and the close right at the 20 day line (blue).....another subtle sign that the momentum is starting to crumble. The clincher, though, was the high-volume selling (tall volume bars); that's just a lot of selling activity as we ended one month and began another.

But, as a more objective/less subjective indication, we don't need to look any further than the MACD lines. On the 28th, we saw our second crossunder in a little over a month. In itself it's not a big deal, but to see it occur at the same time we're seeing these technical support lines break down makes a MACD crossunder a little more meaningful. It's at 2394 right now, but will be at 2397 on Monday.

As for the VXN, it's a pretty good mirror image of the NASDAQ right now. It's pressing into a resistance line at 17.25. If that line breaks simultaneously with the NASDAQ's support line, we'd be hard-pressed to stay bullish. If such a breakdown gets traction, a dip all the way back to 2242 (where the 100 and 200 day lines are) is a possibility.

NASDAQ Chart

Click For A Bigger Chart

S&P 500 Outlook

The S&P 500 closed at 1409.85 on Friday, gaining only 0.18% (2.55 points) in what was a fairly tame session. On a weekly basis, the large caps collectively gained 13.15 points, or 0.94%. As with any index, a gain is a gain.....yet the current gains aren't nearly as impressive as the ones we were seeing a few weeks ago. And, the indicators verify that things truly are not so rosy.

The story here is simple. As we mentioned above, the key support lines are breaking down....much more so than usual. And, the long-term support line (red, dashed) has indeed broken down. And it looks like this time, the MACD crossunder has a good shot at getting some traction. Now, just to be on the safe side, we'd recommend using the 20 day line as on of the deciding factors. It's currently at 1390....six points above the S&P's close.

At the same time, our tone is turning a little more bearish based on the VIX's wild but persistent move into an uptrend. The jump (gap) from a couple weeks ago looked like it might be a fluke, but Friday's move from 10.91 to 11.66 puts the VIX easily above the resistance we've been watching from months.

To draw the VIX's true upward momentum picture, we've plotted a MACD chart of the VIX itself (look below) the VIX chart. It indeed verifies that the momentum is to the upside in the short run. But, as both of the MACD lines approach the zero line for the first time in months, we can see the 'normal range' is changing for the VIX too. Given that it seems aching to finally move higher, it does not bode well for stocks.

But as we said above, the 20 day line is the critical line to watch for the time being.

S&P 500 Chart - Daily

Click For A Bigger Chart

Dow Jones Industrial Average Outlook

The Dow's 0.24% gain on Friday left it 29 points higher, at 12,307. On a weekly basis, that meant a gain of 113 points, or 0.93%. While up slightly, it just appears that the Dow is also struggling to find support at some of the lines that had been spurring the rally on after each tiny dip. However, they're still technically able to support the weight of what has now become almost a five month uptrend.

Pretty much everything we said above also applies to the Dow's chart....support line is broken, MACD crossunders, etc. So, we're not going to repeat it here.

Instead we're going to focus in on the DMU indicator. For the first time in a long time, we're close to what may be a switch from bullish to bearish. The technical sell signal will be a cross of the DMI- line (red) over the DMI+ line (blue). Rather than a sign of the momentum of the closing price, this illustrates that the daily change in highs and lows is transitioning from bullish to bearish. We'll be keeping an eye on this chart for you.

In the meantime, the 50 day line (purple) is likely to be the last line of defense for the bulls. Currently at 12,022, a break of that line could seal the bearish deal.

Dow Jones Industrial Average Chart

Click For A Bigger Chart

Have a good week investing, speculating, and trading.

Friday, December 08, 2006

Third Waves: Big and Small

One of the most difficult things we face is believing what the charts tell us. Sometimes the message is clear, but we go elsewhere in search of another message, because we find it harder to believe chart facts than economic news. I am not immune to this problem. I read about trade imbalances, huge debt levels, housing bubbles, etc. – and then I find it hard to believe the market can go up, even when the charts display plain signs that the trend is up.

Elliott Wave is all about identifying and managing high reward low risk trade setups. These high reward low risk trade setups don't happen all the time, but when they do, they put lot of money in the bank.

The most frequently asked question about Elliott Wave is: “What wave pattern is market ‘X’ in right now?”

Good question, except . . . Well, if we tell you that coffee is in wave 3, for example – how much does that actually help you?

Not much, because just naming a wave without telling you its degree is meaningless.

Here's what I mean. Any student of Elliott knows that wave patterns are fractal. Every smaller wave pattern is part of a bigger pattern. It's waves within waves – just like this chart shows:

Elliott Wave Chart

That's why, when asking the question "What wave pattern is market ‘X’ in right now?", you must first specify which time frame you are looking at. Months or years? That's a Primary wave degree. Weeks or months? That would be Intermediate. Days or weeks? That's a Minor degree. Minuette? Subminuette? You get the idea.

If we simply told you that sugar (or coffee, or wheat, etc.) were in wave 3 up – without telling you what degree that wave 3 was – we'd actually be doing you a disservice.

Say you're a day trader in the futures markets, and you go long sugar based on a potential wave 3 rally. You ride the ascent, reach your target and take your profit. And then you watch in amazement as sugar, after a slight correction, keeps zooming ahead.

You’re left thinking just how much you missed out on. And yet you weren’t completely wrong in your analysis. There was a third wave forming all right, but you didn’t realize it was just one part of a bigger third wave pattern that was set for takeoff.

To get the big AND small picture, you need the kind of in-depth analysis that Daily Futures Junctures provides. Every day, the DFJ looks at dozens of commodities and gives insight into both the short-term and long-term possibilities ahead.

To see just how high or low they could go – risk-free – simply click the Third Waves: Big and Small header link above for a free trial of the Futures Junctures Service subscription. This offer ends on December 12th.

Have a good weekend!

Thursday, December 07, 2006

Non-Farm Payroll Report

November Non-Farm Payroll - Consensus Estimate 100,000-105,000 jobs.
Release time: December 8, 2006 - 8:30 AM EST

The monthly Non-Farm Payroll report is by far the largest data report in the financial market universe. The Non-Farm Payroll report can make currency prices move big and fast.

Nonfarm payroll employment rose a moderate 92,000 in October while wage inflation came in at a strong 0.4%. The unemployment rate, reflecting a tight labor market, fell a 4.4% from a 4.6% in September. While a moderate payroll jobs increase is needed to support a soft landing, the markets will be paying attention to signs of whether the labor market is remaining tight or showing any signs of softening. Even a 115k gain is consistent with the weakening economy. Fed Chairman Bernancke and other Fed officials have emphasized that tight labor markets are a concern. Also, with recent weakness in manufacturing as seen in durables orders and various private surveys, markets will be paying attention to factory jobs and factory hours worked. In October, manufacturing jobs fell by 39,000 while the aggregate index for hours worked in manufacturing was flat. Manufacturing is expected to show a fifth consecutive decline as demand dries up.

Key factors thought to influence this months Non-Farm Payroll report include:

Non-Farm payrolls expectations are ranging from 100k - 115k. The 3 month average is 157k.

Manufacturing is expected to show a fifth consecutive decline.

Construction is expected to show another decline as residential effects become more clear.

A 120k gain in private service sector jobs holds in recent range.

The heart of the gain is professional, health and accommodations.

Retail is expected to show 7th decline in the last 8 months. Seasonality plays a crucial role for the size.

An unchanged 4.4% unemployment rate is expected.

The Labor Department reported, in the week ending November 25, the advance figures for seasonally adjusted initial claims was 357,000, a increase of 34,000 from the previous week's revised figure of 323,000. The 4-week moving average was 325,000, an increase of 7,250 from the previous week's revised average of 317,750.

About the Non Farm Payroll report

Of all the world monthly economic reports that can move the currency market, this is it! The monthly US Non Farm Payroll report. This report is the most highly anticipated report each month that can have the most dramatic impact on the markets.

The employment data gives the most comprehensive report on how many people are looking for jobs, how many have them, what they are getting paid and how many hours they are working. These numbers are the best way to gauge the current state as well as the future direction of the US economy.

The employment numbers are used as another tools by the Federal Reserve in shaping their interest rate policies. The health of the US economy and US interest rates translates to the strength or weakness of the US dollar.

Risk with News Trading.

As with all major economic releases there could be significant price volatility with this announcement. Currency spreads will typically widen just before the release and will remain wide for a few minutes after. If the announcement is a shock to the consensus estimate, the price of the currency pair could gap significantly. For example, the price on the EURUSD trading at 1.2820 - 1.2822 just before release could gap up 60 pips to 1.2880 - 1.2882, without any available prices available between the price of 1.2820 and 1.2882. A Buy Stop placed before the announcement at 1.2830 would turn into a Market Order and would be filled at the prevailing price 1.2882. The same would be true with a Sell Stop.

Approximately four years ago we saw a gap of approximately 200 pips on the GBPUSD on a Non-Farm Payroll announcement. While this is an extreme example, this is what is possible with trading during economic announcements. Basically, plan on the spreads widening and if you are trading with a Buy or a Sell Stop entry order, do not anticipate being filled at your entry price. You will be filled at the prevailing market price after the release, and this market price could be significantly different from your desired price of your entry order.

Click the Non-Farm Payroll Report to learn more about profiting from this monthly economic data report.

Good day and good trading.

Wednesday, December 06, 2006

Position Sizing

"Cut losses short, let profits run" is a popular Wall Street motto among traders. But most traders don't have a clear plan for accomplishing these important steps in money management. Read below for some specific rules of thumb you should follow.

One of the most overlooked areas in investing is the field of money management, or what many traders call "position sizing". In my experience I see too many traders putting on positions that are far too large. This tends to lead to emotional selling decisions, as the swings in a large position's value create greater internal reactions with any trader.

The reality of proper money management is that if you have a system with a positive expectancy (meaning you have an edge which allows you to pull profits out of the market over time), then you should ideally place many small positions to let your edge play out over a large sample size. Look at the analogy of the big casinos in Vegas. The house wants to let its edge play out by many small bets. The longer you sit at a betting table, the greater the odds that the house will win and you will lose. (Did you know that 9 of the world's 10 largest hotels are in Las Vegas? How do you think they had the money to build all of those billion-dollar properties?) In contrast, when you have a negative edge, if you had to place a bet, you should bet it all on one hand and then walk away if you win. The longer you play, the more the negative edge will eat you up.

Here are some guidelines I like to follow for systems with an edge:

1) Risk no more than 1.5% of your allocated capital per trade - This means that if I invest 10% of my capital into a trade, I should pull the plug on a trade if it loses 15%. Or if I invest 20% of my capital in a trade, I should pull the plug at a 7.5% loss. Certainly I still want to obey a stock's technical support or resistance, but ideally if you enter trades at good levels (near support on buys or near resistance on sells), you can manage your risk while potentially taking meaningful positions.

2) Use Trailing Stops - One of the ways I see traders kill their reward-to-risk ratio on trades is to take their profits too soon or let their former profits turn into losses. If you have a fixed stop, once the position moves into a nicely profitable zone of more than 10% on a stock or more than 20% on an option, tighten your stop to your initial entry point. breakeven. This guarantees that your profit will not turn into a loss. In addition, I like to use either a moving average to trail as a stop (for example, if a stock breaks under the 20-day average, that can be considered an exit signal on a 1-4 week bullish trade. Another rule for options traders is to not let a profitable position give back more than half its gains on a closing basis. So if you have an 80% profit, if it breaks to a 40% profit or less, go ahead and take the gains you have.

3) Have a Re-Entry Plan - Often a small percentage of our stocks make up the bulk of our profits. Good trading involves pressing your winning bets, or coming back to your best ideas. This keeps your trading capital focused in the best opportunities, which is just as important as deciding how much to invest.

Click the Position Sizing header link above to learn more about not over leveraging your leveraged trading account.

Good day and good trading.

Tuesday, December 05, 2006

Trading Rules

1. Never, Ever, Ever, Under Any Circumstance, Add to a Losing Position... not ever, not never! Adding to losing positions is trading's carcinogen; it is trading's driving while intoxicated. It will lead to ruin. Count on it!

2. Trade Like a Wizened Mercenary Soldier: We must fight on the winning side, not on the side we may believe to be correct economically.

3. Mental Capital Trumps Real Capital: Capital comes in two types, mental and real, and the former is far more valuable than the latter. Holding losing positions costs measurable real capital, but it costs immeasurable mental capital.

4. This Is Not a Business of Buying Low and Selling High; it is, however, a business of buying high and selling higher. Strength tends to beget strength, and weakness, weakness.

5. In Bull Markets One Can Only Be Long or Neutral, and in bear markets, one can only be short or neutral. This may seem self-evident; few understand it however, and fewer still embrace it.

6. "Markets Can Remain Illogical Far Longer Than You or I Can Remain Solvent." These are Keynes' words, and illogic does often reign, despite what the academics would have us believe.

7. Buy Markets That Show the Greatest Strength; Sell Markets That Show the Greatest Weakness: Metaphorically, when bearish we need to throw rocks into the wettest paper sacks, for they break most easily. When bullish we need to sail the strongest winds, for they carry the farthest.

8. Think Like a Fundamentalist; Trade Like a Simple Technician: The fundamentals may drive a market and we need to understand them, but if the chart is not bullish, why be bullish? Be bullish when the technicals and fundamentals, as you understand them, run in tandem.

9. Trading Runs in Cycles, Some Good, Most Bad: Trade large and aggressively when trading well; trade small and ever smaller when trading poorly. In "good times," even errors turn to profits; in "bad times," the most well-researched trade will go awry. This is the nature of trading; accept it and move on.

10. Keep Your Technical Systems Simple: Complicated systems breed confusion; simplicity breeds elegance. The great traders we've known have the simplest methods of trading. There is a correlation here!

11. In Trading/Investing, An Understanding of Mass Psychology Is Often More Important Than an Understanding of Economics: Simply put, "When they are cryin', you should be buyin'! And when they are yellin', you should be sellin'!"

12. Bear Market Corrections Are More Violent and Far Swifter Than Bull Market Corrections: Why they are is still a mystery to us, but they are; we accept it as fact and we move on.

13. There Is Never Just One Cockroach: The lesson of bad news on most stocks is that more shall follow... usually hard upon and always with detrimental effect upon price, until such time as panic prevails and the weakest hands finally exit their positions.

14. Be Patient with Winning Trades; Be Enormously Impatient with Losing Trades: The older we get, the more small losses we take each year... and our profits grow accordingly.

15. Do More of That Which Is Working and Less of That Which Is Not: This works in life as well as trading. Do the things that have been proven of merit. Add to winning trades; cut back or eliminate losing ones. If there is a "secret" to trading (and of life), this is it.

16. All Rules Are Meant To Be Broken.... but only very, very infrequently. Genius comes in knowing how truly infrequently one can do so and still prosper.

Click the Trading Rules header link above to learn more about trading the markets with a trade plan, and a set of rules and be successful trader in the long term.

Good day and good trading.

Monday, December 04, 2006

Trading Goals

It's been said that if you don't know where you're going, you could wind up anywhere. The same is true in trading - if you don't know what it is you're trying to accomplish, you're not likely to accomplish much of anything. One of the biggest pitfalls we face as aggressive investors is a lack of a specific plan.

At the very least, your trading plan should have (1) a monetary goal, and (2) a proven method. A lot of traders have neither, opting instead for a 'gunslinger' approach. In other words, they take trades that seem solid at the time, and they hold that position until it becomes more painful to hold it than to not hold it (and they may even make an occasional profit). But that lack of focus and specificity will ultimately lead to poor performance. Instead, smart traders treat their trading activities as a business.

First, make sure you have tangible goals. There's an amazing mental 'stick-to-it-iveness' factor that kicks in just in simply having a framework to follow. If you know that a 50% annual return is all that you need, then you can plan accordingly. The initial view you might have of a goal that lofty could be daunting. But with a little planning, you may find that the rewards you seek don't require much risk.

To earn 50% in a year, you'll need to earn about 4% per month on your account. That type of return is quite possible, and easier to swallow than the large 50% figure. By focusing your attention on those smaller increments, you'll not be forced to take excessive risks. The other benefit to a specific goal is the fact that you can track your progress. If you know that you averaged 5% per month for the first 6 months of the year, you can scale back on your risk for the last 6 months of the year.

The benefit of a proven method or system is also twofold. First, if you have a plan, you'll be able to ignore all the data that doesn't affect your trading. The media is not kind to traders - at any given time, you could find ten reasons to buy a stock, and at the same time find ten reasons to sell it. That emotional roller coaster is a nightmare, but if you are systematic and approach trading as a business, you won't talk yourself out of good trades (or keep yourself in bad ones).

Second, if you have a system, you actually have something to analyze. You can't improve 'gunslinging', but you can improve your trade signals.

These are two simple ideas, but exceedingly difficult to do. It's tough because it forces us to acknowledge some failures, and we all seek to avoid pain. It also forces us to look at our account balances, which again can be a source of pain. But the best traders know exactly where they stand financially, to the penny, and they know exactly why each trade failed or succeeded (these are the same people who actually still open their account statements). To know where you need to go, you have to know where you are.

As a first step, I recommend starting small. Set a goal of a 5% return for next month, and set a goal of winning trades 50% of the time - say 2 out of 4. Once you get into the success habit, you can then enhance those goals.

Click the Trading Goals header link above to create trading goals, create trading plans, and trade the plan to success.

Good day and good trading.

Sunday, December 03, 2006

Weekly Stock Market Outlook

NASDAQ Outlook

The NASDAQ Composite led the tumble on Friday, losing 0.76% to end the session at 2413.21. That was 18.56 points under Thursday's closing level, and 47.05 points under the previous Friday's close. For the week, the composite lost 1.91%...the worst single-week loss since July, which has to make us wonder if this is finally the end for the road for this incredible four-month uptrend.

On our chart, check out the transition from the old support line (green, dashed) to the new one (solid, bright purple). Clearly the rate of gain is slowing. Less obvious is the close under the 10 day line (red)and the close right at the 20 day line (blue).....another subtle sign that the momentum is starting to crumble. The clincher, though, was the high-volume selling (tall volume bars); that's just a lot of selling activity as we ended one month and began another.

But, as a more objective/less subjective indication, we don't need to look any further than the MACD lines. On the 28th, we saw our second crossunder in a little over a month. In itself it's not a big deal, but to see it occur at the same time we're seeing these technical support lines break down makes a MACD crossunder a little more meaningful. It's at 2394 right now, but will be at 2397 on Monday.

As for the VXN, it's a pretty good mirror image of the NASDAQ right now. It's pressing into a resistance line at 17.25. If that line breaks simultaneously with the NASDAQ's support line, we'd be hard-pressed to stay bullish. If such a breakdown gets traction, a dip all the way back to 2242 (where the 100 and 200 day lines are) is a possibility.

Nasdaq Chart

Click Here For A Larger Chart

S&P 500 Outlook

The S&P 500 gave up 3.95 points on Friday, or 0.28%, to end the day at 1396.70. That day was indeed the difference for the week, as the index had been basically flat through Thursday's close...the SPX lost 0.3% (or 4.25 points) for the week. Bigger than that, however, was the close under the long-term support line that had kept this rally going since July.

The story here is simple. As we mentioned above, the key support lines are breaking down....much more so than usual. And, the long-term support line (red, dashed) has indeed broken down. And it looks like this time, the MACD crossunder has a good shot at getting some traction. Now, just to be on the safe side, we'd recommend using the 20 day line as on of the deciding factors. It's currently at 1390....six points above the S&P's close.

At the same time, our tone is turning a little more bearish based on the VIX's wild but persistent move into an uptrend. The jump (gap) from a couple weeks ago looked like it might be a fluke, but Friday's move from 10.91 to 11.66 puts the VIX easily above the resistance we've been watching from months.

To draw the VIX's true upward momentum picture, we've plotted a MACD chart of the VIX itself (look below) the VIX chart. It indeed verifies that the momentum is to the upside in the short run. But, as both of the MACD lines approach the zero line for the first time in months, we can see the 'normal range' is changing for the VIX too. Given that it seems aching to finally move higher, it does not bode well for stocks.

But as we said above, the 20 day line is the critical line to watch for the time being.

S&P500 Chart

Click Here For A Larger Chart

Dow Jones Industrial Average Commentary

The Dow's 28 point dip on Friday (-0.23%) led it to its close of 12,194. That was 86 points under the prior Friday's close, locking in a modest 0.70% loss on a weekly basis. Although the loss was relatively minor, it was the second losing week on a row, and inflicted enough damage to push the Dow under its key support line...with the last two days of that ten day period coming on particularly strong selling volume. So, the complexion has really changed here - for the worst.

Pretty much everything we said above also applies to the Dow's chart....support line is broken, MACD crossunders, etc. So, we're not going to repeat it here.

Instead we're going to focus in on the DMU indicator. For the first time in a long time, we're close to what may be a switch from bullish to bearish. The technical sell signal will be a cross of the DMI- line (red) over the DMI+ line (blue). Rather than a sign of the momentum of the closing price, this illustrates that the daily change in highs and lows is transitioning from bullish to bearish. We'll be keeping an eye on this chart for you.

In the meantime, the 50 day line (purple) is likely to be the last line of defense for the bulls. Currently at 12,022, a break of that line could seal the bearish deal.

Dow Jones Industrial Average Chart

Click Here For A Larger Chart

Click the Weekly Stock Market Outlook header link above to learn more about the markets.

Have a good new week!

Friday, December 01, 2006

Investment Diversification

Diversification is an important concept in managing your portfolio. Diversification means that you attempt to limit the risk to your overall portfolio by spreading your capital over a variety of investments and assets with different levels of risk. Doing this properly should maintain a smooth level of growth. Remember that this information goes not only for your long-term investment portfolio but for your trading portfolio as well.

There are a variety of different types of investments with different levels of risk that are available. Many people hold a small amount of their portfolio in cash. Having some cash on hand is always important for unanticipated needs or opportunities that my arise and to limit volatility in your account. Holding cash is the lowest risk and also, most likely, the lowest return but you can still make it work for you. EmigrantDirect has a savings account that offers a 5.05% APY and anyone with a PayPal account can sign up for their money market fund which is currently earning 5.03% a year.

Once you have your cash position established you can work on your real assets. Put most of your portfolio into low to medium risk positions. For the investor, this might include bonds, a little gold, mutual funds and/or exchange traded funds, depending on what you feel most comfortable with. Consider weighting your investments using Sector Rotation techniques. For the trader, you'll want to use a good system that does not involve too much risk, perhaps a system that trades ETFs or large-cap stocks.

Then you get into your high risk/reward plays. For investors, this is a small amount of your portfolio that you reserve as speculative money. Do you have some small Biotech stock in mind that you think might be a big winner in the next few months? Put a small amount of your portfolio into that and take a chance. A couple speculative positions could add some nice profits to your portfolio. For traders, this is where you get into your swing trades or high-risk options trades that could provide some very nice returns for your portfolio.

Remember to not put all your eggs in one basket. Diversify your investments and you will provide yourself with steady gains in all market conditions. You’ll be able to sleep at night knowing that your money is safely protected across a range of different assets.

Click the Investment Diversification header link to learn more about being a long term successful investor, speculator, and trader.

Have a good weekend!

Wednesday, November 29, 2006

Trading with Fibonacci

What's Fibonacci All About?

First, for the uninitiated, we'll start with a brief summary. Leonardo Pisano Fibonacci was a mathematician who traveled widely with his father, an Italian diplomat. His book, Liber abaci, was published in 1202 after his return to Italy, and introduced the numeric sequence that came to be known by his name.

Fibonacci includes a series of ratios that are found throughout all of nature. These ratios appear just about everywhere - in music, in Greek architecture, in the alignment of planets, in the way a tree sprouts its leaves, in the way a mollusk grows its shell. There are simply countless examples of this phenomenon.

What on earth does any of this have to do with trading? If you are a natural-born skeptic like me, you're probably not terribly impressed by anything you've heard so far, and rightly so. There is no logical reason to believe that any trading vehicle (stock, commodity, or currency) will suddenly stop and change direction of its own volition when the price or exchange rate retraces by a particular ratio.

So why does Fibonacci work in the Forex market? Because Fibonacci ratios are a deeply ingrained part of the Forex culture. Big banks, hedge funds, and individual traders alike all pay close attention to these ratios, and frequently place their orders at Fibonacci retracement levels.

If enough orders accumulate at a particular level, the combined power of these orders can actually change the direction of the exchange rate when that level is achieved. This is the essence of the self-fulfilling prophecy that we discussed in last week's newletter.

If my assumption is correct that Fibonacci works in the Forex market not because of magic but due to a self-fulfilling prophecy, then there are certain conclusions that we can extrapolate from this premise:

Fibonacci Is More Effective on Longer-Term Charts

If we truly believe that Fibonacci is a self-fulfilling prophecy, then we should live by the credo, "the more, the merrier." In other words, the more orders that are placed at a particular level, the more likely it becomes that the level will hold as support or resistance.

What can improve the chances that there will be a large quantity of orders at a particular Fib level? Visibility is the key. If the other players can't see the Fib level, they can't place their orders accordingly.

For example, if a Fibonacci level forms on a five-minute chart during the Asian trading session, any opportunity to place a trade based on this retracement is likely to come and go before European and American traders have wiped the sleep from their eyes. Since many of these traders will never observe this opportunity, there will be fewer orders placed at that level. This makes it less likely that the level will hold when the price reaches that area.

However, if the same scenario occurs on the daily chart, traders all around the world will have the time and the opportunity to place their orders accordingly. Since Forex is truly an international market, with traders located on every part of the globe, this aspect of Fibonacci trading takes on added significance.

Fibonacci Is More Effective on Commonly Used Retracement Levels

The most commonly used Fibonacci ratios are 38.2%, 50%, and 61.8%. However, 23.6%, 78.6% and 100% are also legitimate Fib levels. Some traders even use Fibonacci "extensions" that go beyond 100%, such as a 161.8% retracement. There are also Fibonacci Arcs, Fibonacci Fans, and Fibonacci Time Zones.

Which of these techniques will be the most effective? If we truly believe that a sizable quantity of orders (or a quantity of sizable orders) will make the difference, then we must give more weight to the levels that garner the most attention - the 38.2%, 50%, and 61.8% levels. In Fibonacci, as in many aspects of trading, sometimes it's better to keep things simple.

Click the Trading with Fibonacci header link above to learn more about trading with Fibonacci retracement and extension levels.

Good day and good trading.