Dow Transport False Signal

By Colin Twiggs
February 10, 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 passed its target of 12500 (11600+[11600-10700]) and momentum is slowing, highlighted by decelerating trendlines on the chart below. The bearish divergence on Twiggs Money Flow (21-day) continues, warning of a secondary correction. A fall below the low of [1] would signal further distribution, while a rise above the high of [2] would indicate reversal (accumulation).

dow jones industrial average medium-term

Long Term: The primary trend is up. A correction that respects support at the previous high of 11600/11650 (also the Jan-2000 high) would signal a healthy primary up-trend, while a test of primary support at 10700 would warn of a possible stage 3 top.

dow jones industrial average long-term

Short Term: Narrow consolidation between 12620 and 12680 and declining volume signal a lack of interest from buyers. A weak close and higher volume at [F], however, raise some doubt about sellers' commitment. A fall below support at 12450 would warn of a secondary correction, while respect of support, or a rise above 12680, would indicate that buyers have returned to the market.

dow jones industrial average short term

The Dow Jones Transportation Average made a false break above the May 2006 high of 5000 before retreating to test 4900/4880 -- failing to confirm the bull market. Narrow consolidation between 4900 and 5000 would be a bullish sign, while reversal below 4880 would be bearish. Twiggs Money Flow respecting the upward (green) trendline would be a bullish sign; a fall below the low of [1], however, would be bearish.

dow jones transport average

The Nasdaq Composite is consolidating between 2400 and 2500, normally a bullish signal in a trend. Breakout above 2500 would signal continuation; a fall below 2400 would be bearish.

Twiggs Money Flow TMF (21-day) continues to display a bearish divergence. A fall below the low of [2] would be bearish, while a rise above the January high would signal reversal (accumulation).

Long Term: The index remains in a primary up-trend with support at 2350/2400 (preceding high) and at 2000 (preceding low).

nasdaq composite

The S&P 500 passed its target of 1430 (1325+[1325-1220]) and the probability of a secondary correction (or large consolidation) is increasing. The trend channel on the chart is drawn at 2 standard deviations around a linear regression line; a downward breakout would signal a loss of momentum. Twiggs Money Flow (21-day), displays a large bearish divergence. The indicator completed a bullish higher low after [1], but the marginal new high at [2] is not reassuring.

standard and poors 500

LSE: United Kingdom

The FTSE 100, broke out from the recent consolidation between 6160 and 6320 and resumed its up-trend. The target is 6700 [6100 + (6100 - 5500)], but Twiggs Money Flow (21-day) is whipsawing around zero, signaling uncertainty. A (TMF) trough that respects zero would be a bullish sign.

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 bullish narrow consolidation [R] continues below resistance at the April high of 17600. Twiggs Money Flow (21-day) signals strong accumulation. Expect a breakout above 17600.

The target for the breakout is the next major resistance level of 21000 [17600 + (17600 - 14200)].

Long Term: The primary up-trend continues, with support at 14200 (preceding low) and resistance at 17500/17600 (preceding high).

nikkei 225

ASX: Australia

The All Ordinaries is well past its target of 5800 [5300 + (5300-4800)] and at the upper border of the trend channel (drawn at 2 standard deviations around a linear regression line). Probability of a secondary correction is increasing. Twiggs Money Flow (21-day) is rising sharply, but continues to display a longer-term bearish divergence, warning us to exercise caution.

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

all ords long-term

Short Term: Short retracements at [M] and [Th] signal buyer enthusiasm, and the trend shows no signs of reversal. A break below the trendline would, however, warn of a retracement.

all ords short-term

Humility leads to strength and not to weakness.
It is the highest form of self-respect
to admit mistakes and to make amends for them.

~ John (Jay) McCloy

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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