By Colin Twiggs
October 14, 2006 0:30 a.m. ET (2:30 p.m. AET)

These extracts from my daily trading diary are for educational purposes and should not be interpreted as investment advice. Full terms and conditions can be found at Terms of Use.
The next newsletter (an update on Gold, Crude Oil and the Dollar) will be on October 17th.

The Big Picture

The Dow confirmed its breakout above 11750 -- a strong bull signal. The Dow Transportation Average is rallying and a new high would confirm that we are in a bull market.

Crude oil confirmed its break below support at $60/barrel and appears headed for a test of $55. The dollar has strengthened to $1.25 against the euro.  Falling fuel costs and lower long-term interest rates may stimulate the economy, but too fast a recovery would raise inflationary pressures and revive fears of further rate hikes. Gold recovered to $589.50, but is trending downwards in the medium term. The probability of recession in the next four quarters increased to a moderate 39 per cent according to the Wright model.

USA

ASX Australia

The All Ordinaries started the week with a bullish short retracement at [M] followed by a rally on strong volume on Tuesday/Wednesday. Strong volume continued on the short retracement at [Th], signaling increased resistance. The theme continued on Friday, with a tall shadow indicating profit-taking. A follow-through above Friday's high would signal that buyers have regained control, while a fall below Thursday's low (though less likely) would mean further retracement.

I have always found that plans are useless
but planning is indispensable.

~ Dwight D Eisenhower

Predictions I believe that Technical Analysis should not be used to make predictions because we never know the outcome of a particular pattern or series of events with 100 per cent certainty. The best that we can hope to achieve is a probability of around 80 per cent for any particular outcome: something unexpected will occur at least one in five times. My approach is to assign probabilities to each possible outcome. Assigning actual percentages would imply a degree of precision which, most of the time, is unachievable. Terms used are more general: "this is a strong signal"; "this is likely"; "expect this to follow"; "this is less likely to occur"; "this is unlikely"; and so on. Bear in mind that there are times, especially when the market is in equilibrium, when we may face several scenarios with fairly even probabilities. Analysis is also separated into three time frames: short, intermediate and long-term. While one time frame may be clear, another could be uncertain. Obviously, we have the greatest chance of success when all three time frames are clear. The market is a dynamic system. I often compare trading to a military operation, not because of its' oppositional nature, but because of the complexity, the continual uncertainty created by conflicting intelligence reports and the element of chance that can disrupt even the best made plans. Prepare thoroughly, but allow for the unexpected. The formula is simple: trade when probabilities are in your favor; apply proper risk (money) management; and you will succeed. For further background, please read About The Trading Diary.