Monday, October 14, 2013

A Technical Analysis insight in Gold

While there have been many attempts to use the movement of price on a chart to predict the direction it will go in the future, most of these suffer from the reality that they are, at best, lagging indicators. A chart stuffed with MACD, Stochastics, Relative Strength Indexes (RSI), Ichimoku Clouds, Bollinger Bands and others is nothing other than a chart that has too much going on – an overcomplicated distraction.

There are one or two indicators that are both uncomplicated and apparently effective, on a statistical basis, although we are convinced that this is not from any inherent ability to predict, but rather because they are closely watched by a large number of traders and so become what might be termed self-fulfilling prophecies. For this to work they must be both simple and objective. They must be capable of easy calculation and, within reason, must be derived from the same data that is available to everyone else.

The 200 period Simple Moving Average (SMA) falls into this category, especially when viewed on the daily chart. So does the idea that higher highs and higher lows constitute an ongoing rising trend, and the opposite situation, lower highs and lower lows, indicate a falling trend. Variations on this theme, such as a series of higher lows even in the absence of higher highs, could also have significance.

The chart above illustrates all of these principles. It belongs to gold priced in US dollars, and the period is mid-2012.

As can be seen, there was upward pressure on the price of gold during the period leading up to August 10th. An observant trader would have been aware of the higher lows that illustrated this. However, when the 200 day SMA was breached, this trader would have sat bolt upright and would have been very aware of what might happen next. The return to the 200 SMA would have been the signal to enter the market on the long side. If the analysis turned out to be wrong, that trader, who is also a prudent one and who always thinks in probabilities, would have been able to rely on his or her money management techniques to ensure that any loss would have been nothing more or less than the cost of doing business.

After that it would have been “onward and upward” for this trade, with a close eye on the position of each high and each low, relative to the one before it, as the situation progressed.

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