Slow Progress

By Colin Twiggs
January 27, 2007 1.00 a.m. ET (5:00 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.

USA: Dow, Nasdaq and S&P500

The Dow Jones Industrial Average is above its target of 12500 (11600+[11600-10700]) and momentum has slowed, with the index failing to respect support at the earlier high of 12500. The Dow may be entering a rounding top, highlighted by the decelerating trendlines on the chart below. The bearish divergence on Twiggs Money Flow (21-day) warns of distribution and possibly a secondary correction.

The primary trend is up with support at 11600/11650 (the preceding high) and 10700 (the preceding low).

dow jones industrial average medium-term

Short Term: The index is consolidating between 12450 and 12600, with low volume on Wednesday's blue candle indicating a lack of interest from buyers. Friday's weak close signals buying support.

dow jones industrial average short term

The Dow Jones Transportation Average faltered at the first hurdle, retreating from intermediate resistance at 4900. Breakout above 5000 would confirm the existence of a bull market, but this will be unlikely if the index falls below 4500.

dow jones transport average

The Nasdaq Composite is consolidating in a narrow range between 2400 and 2470. The position of the consolidation is bullish, being above the April 2006 high of 2370. A break above 2500 (the high of the previous marginal break) would be a strong bull signal.

Twiggs Money Flow displays a bearish divergence but has so far respected zero. Completion of the current trough will help to clarify future direction: above the previous trough would be bullish, while a fall below zero would signal weakness.

The index remains in a primary up-trend with support at 2350/2370 (preceding high) and at 2000 (preceding low).

nasdaq composite

The S&P 500 shows a similar Twiggs Money Flow (21-day) bearish divergence to the Dow. Momentum is slowing as indicated by the fall below the trend channel (drawn at 2 standard deviations around a linear regression line). The index has reached its target of 1430 (1325+[1325-1220]) and risk of a secondary correction (or large consolidation) is increasing.

standard and poors 500

LSE: United Kingdom

Profit-taking continues on the FTSE 100, with short-term consolidation between 6160 and 6320. A fall below 6160 would warn of a secondary correction -- confirmed if the index falls below 6000 (breaking the 100-day moving average). We need to heed Twiggs Money Flow (21-day), which displays a large bearish divergence, indicating distribution. The indicator appears to be weakening and a peak below the zero line would be a strong bear signal.

Long Term: The primary up-trend continues, with support at 6000/6100 (preceding high) and at 5500 (preceding low).

ftse 100

Nikkei: Japan

The Nikkei 225 is the only index showing real progress, testing resistance at the April high of 17500/17600. Twiggs Money Flow (21-day) troughs above the zero line (at p1 and p2) signal strong accumulation and breakout above 17600 is likely.

Long Term: The primary up-trend continues, with support at 14200 (preceding low) and resistance at 17500 (preceding high). The target for the breakout is close to the next major resistance level of 21000: 17500 + (17500 - 14200) = 20800.

nikkei 225

ASX: Australia

The All Ordinaries rallied towards the upper border of the trend channel (drawn at 2 standard deviations around a linear regression line), approaching its target of 5800: 5300 + (5300-4800). Twiggs Money Flow (21-day) has broken the trendline from the recent down-trend, but continues to display a bearish divergence. TMF signals are sometimes early, as in 2004/2005.

Long Term: The primary trend is upwards, with support at 5300 (the preceding high) and 4800 (preceding low).

all ords long-term

Short Term: Thursday's gravestone candlestick and strong volume over the last two days signal resistance and a short-term reversal. The target for the current rally coincides with the long-term target of 5800: 5650 + (5650 - 5500). A fall below the first line of support at 5650 would indicate that upward momentum is slowing, while a fall below support at 5480 would warn of a secondary correction.

all ords short-term

We read that the traveller asked the boy if the swamp before him had a hard bottom. The boy replied that it had. But presently the traveller's horse sank in up to the girths, and he observed to the boy, "I thought you said that this bog had a hard bottom." "So it has," answered the latter, "but you have not got half way to it yet."

~ Henry David Thoreau: Walden (1854)

Technical Analysis and 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, medium 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 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.

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