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Technical Analysis

Technical Analysis

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Published by Merlin Pit

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Published by: Merlin Pit on Sep 30, 2011
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07/18/2015

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Overview

Cycles allow us to accurately predict events in nature: bird migrations, the tides,
planetary movements, etc. You can also use cycle analysis to predict changes in financial
markets, although not always with the accuracy found in nature.

The prices of many commodities reflect seasonal cycles. Due to the agricultural nature of
most commodities, these cycles are easily explained and understood. However, for some
securities, the cyclical nature is more difficult to explain. Theories as to why certain
securities exhibit cyclical patterns range from weather and sun spots, to planetary
movement and basic human psychology. I feel human psychology is responsible.

We know that prices are a consensus of human expectations. These expectations are
always changing, shifting the supply/demand lines, and causing prices to oscillate
between overbought and oversold levels. Fluctuations in prices are a natural process of
changing expectations and lead to cyclical patterns.

Many technical analysis indicators and tools were developed in an attempt to profit from
the cyclical nature of prices. For example overbought/oversold indicators (e.g.,
Stochastic, RSI, etc) are designed to help you determine the excessive boundaries of a
cycle.

Technical Analysis from A to Z
by Steven B. Achelis

The following illustration shows the major components of a cycle.

Interpretation

An entire book could easily be filled with a discussion of cycles and cycle analysis. In the
following sections, I briefly explain some of the more popular cycles. A good starting
point to learn more about cycles, and technical analysis in general, is Martin Pring's book
Technical Analysis Explained.

Keep in mind that, in hindsight, you can find patterns in anything. To successfully profit
from cycle analysis, the cycle should have a strong track record and be used in
conjunction with other trading tools.

28 Day Trading Cycle. Research in the 1930s found a 28-day cycle in the wheat market.
Some attribute this to the lunar cycle. Regardless of the cause, many markets, including
stocks, do appear to have a 28-day cycle. (The 28-day cycle is calendar days. This is
approximately 20 trading days.)

10-1/2 Month Futures Cycle. Although individual commodities exhibit their own
unique cycles, a cycle ranging between 9 and 12 months has been found in the CRB
(Commodity Research bureau) Index.

January Effect. The stock market has shown an uncanny tendency to end the year higher
if prices increase during the month of January, and to end the year with lower prices if
prices decline during January. The saying is, "So goes January, so goes the rest of the
year." Between 1950 and 1993, the January Effect was correct 38 out of 44 times--an
accuracy of 86%.

4 Year Cycle (Kitchin Wave). In 1923, Joseph Kitchin found that a 40 month cycle
existed in a variety of financial items in both Great Britain and the United States between

Technical Analysis from A to Z
by Steven B. Achelis

1890 and 1922. The four-year cycle was later found to have an extremely strong presence
in the stock market between 1868 and 1945.

Although it is called a "four-year cycle," the cycle length has been found to vary between
40 and 53 months.

Presidential Cycle. This cycle is based on the presidential election that occurs every four
years in the United States. The concept is that stock prices will decline following the
election as the newly elected president takes unpopular steps to make adjustments to the
economy. Then mid-term, stock prices will begin to rise in anticipation of a strong
election day economy.

9.2 Year Cycle (Juglar Wave). In 1860 Clemant Juglar found that a cycle lasting
approximately 9 years existed in many areas of economic activity. Subsequent research
found this cycle to have had a strong presence during the period of 1840 to 1940.

54 Year Cycle (Kondratieff Wave). Named after a Russian economist, the Kondratieff
Wave is a long-term, 54-year cycle identified in prices and economic activity. Since the
cycle is extremely long-term, it has only repeated itself three times in the stock market.

The up-wave is characterized by rising prices, a growing economy, and mildly bullish
stock markets. The plateau is characterized by stable prices, peak economic capacity, and
strong bullish stock markets. The down-wave is characterized by falling prices, severe
bear markets, and often by a major war.

The following chart of the Kondratieff Wave (from The Media General Financial
Weekly, June 3, 1974) shows the Kondratieff Wave and U.S. Wholesale prices.

Technical Analysis from A to Z
by Steven B. Achelis

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