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# Elite Patterns for ETFs & Stocks:

by DISFA Global

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CONTENT

## ACKNOWLEDGMENTS INTRODUCTION Chapter 1

Fast reversal after exponential price drop

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Chapter 2 Fast reversal after exponential price increase Chapter 3 Price reversal after two equal waves down Chapter 4 Price reversal after two equal waves up Chapter 5 Fast reversal after two exponential waves down Chapter 6 Fast reversal after two exponential waves up Chapter 7 Two equal waves down with money flow confirmation 81 67 55 41 27 15

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CONTENT

Chapter 8 Two equal waves up with money flow confirmation Chapter 9 Strong trend detection Chapter 10 Down trend detection Chapter 11 Fast reversal after morning gap down Chapter 12 Combinatorial Development of Robust Trading Systems 147 Appendix A. Detailed statistics of patterns on ETFs Appendix B. Summary statistics of patterns INDEX 176 179 154 135 123 111 95

ACKNOWLEDGMENTS
More than sixty researchers and software developers made contributions to this book. The team behind this work has many years of experience in advanced pattern discovery and recognition. Experts who hold Ph.D.s in Artificial Intelligence, Pattern Recognition, Mathematical Cybernetics, and Computational Statistics designed the architecture for DISFA pattern engine and Alimp software for automated creation of robust trading systems. Teams of programmers and quality assurance engineers developed fast algorithms for pattern recognition, adaptive money management, capital protection and robotic trading. These software systems and algorithms were used by the writers to run an indepth research project focusing on elite patterns for ETFs and stocks. The contributions of the teams and each team member were critically important; this is why there are no traditional authors. The entire DISFA Global team authored this book.

INTRODUCTION

INTRODUCTION

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## Chapter 5. Fast reversal after two

exponential waves down
Pattern code: W-long This elite pattern is a combination of two structures: two equal waves down and an exponential drop of price.

Pattern description
The price declines quickly by two equal waves; the second wave forms an exponential curve (Fig. 5.1). A reversal after two waves and an exponential drop has the best statistics among all patterns.

Fig. 5.1 AGO: Assured Guaranty LTD. Stock experienced fast rally of 9.6% after W-long reversal pattern confirmed by volume spike.

## 56 Statistics for stocks

Chapter 5. W-long

Statistics for the W-long pattern was calculated on stocks of three exchanges: NASDAQ, NYSE and AMEX, using a one-minute intraday price and volume data for the 2003-2008 period. To determine the potential profit of the pattern (intraday price increase after signal), the following rules were used: entry price low of next one-minute bar after W-long pattern was detected; ideal exit price intraday high after reversal started (Fig. 5.2).

Fig. 5.2 HIG: Hartford Financial Services. Price formed two waves, with exponential shape of second wave. Entry price low of next bar after signal; ideal exit price high of price bounce. Stock reversed and made 4.4% rally in 40 minutes.

To estimate the statistical quality of the W-long pattern for stocks, four parameters were calculated: average price increase after signal; probability of price increase greater than 1%, 2% and 3%; probability of reaching Fibonacci lines 23.6% and 38.2% from low after signal; probability of reaching 2% stop (Table 5.1). Fibonacci lines are calculated by using the intraday high before price decline and the low after signal (Fig. 5.3).

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Value

## TABLE 5.1 Statistics of W-long pattern on stocks

Description

Average potential profit 1% 2% 3% Probability of reaching Fibonacci lines from Fib 23.6% low after signal Fib 38.2% Probability of reaching 2% stop Probability of potential profit greater than

## 4.49% Probability 0.87 0.74 0.60 0.79 0.64 0.06

This is a really elite pattern. A price reversal after two exponential waves has an excellent average price increase of 4.49% and a high probability of growing by 1%-3% and reaching Fibonacci lines of 23.6% and 38.2%.

Fig. 5.3 FUQI: Fuqi International, Inc. Price formed two exponential waves. After reversal stock reached third Fibonacci line 50% in 30 min. Profit potential was 4.7%.

## 58 Pattern identification factors for stocks

Chapter 5. W-long

The W-long pattern can be presented as a combination of two patterns: two equal waves down and an exponential decrease of price at the end of the second wave. Three factors are most important: length of the two waves, price decline of the two equal waves, fast relative decline of price on the big bars during final phase, which should last at least 5 minutes. It is very important to detect the exponential shape of the second wave. Exponential shape of second wave visual or computerized identification. Length of two waves: - minimal - maximal Decline of price for two waves: - minimal - average

## 20 minutes 240 minutes

3.5% 10.0%

The price decline of the first and second wave should be practically equal (should differ by no more than 10 percent). Minimal time period to recognize exponential shape: 5 minutes

Two equal waves with an exponential price decline may be detected using special software that recognizes exponential waves or by using the following procedure: first, find stocks that formed two easily recognizable waves down; second, on a one-minute chart choose stocks that have a price curve with a clear exponential shape at the end of the second wave; third, check that stock formed equal or almost equal waves and wait for the moment when the price drop accelerates during the last 5 minutes.

## Trading two exponential waves for stocks

A price reversal after two equal waves with an exponential drop of the second wave is a 'high reward - high risk' type of pattern. Similar to all exponential patterns (Chapters 1 and 2), trading of this pattern can be very rewarding, but only with proper risk management and position filling control.

## Fast reversal after two exponential waves down

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The risk may be reduced by waiting for price reversal confirmation, based on money flow. The one-minute OIH chart (Fig 5.4) shows that in a couple of minutes after detection of the W-long pattern active buyers stepped in, creating a big spike in volume: the green volume bar is much greater than the previous red bar. Two exponential waves may be confirmed by geometry: inverse head and shoulders, double and round bottoms and others; together with money flow, the confirmation of geometrical patterns greatly increases the probability of realizing a high profit. The W-long pattern is a combination of the L2L- and DEXP-patterns; hence trading strategies from the corresponding chapters (Chapters 1 and 3) can be applied.

Fig. 5.4 OIH: Oil Service HOLDRs (ETF). ETF experienced fast rally after exponential reversal pattern was confirmed by volume spike.

It is important to remember that while the exponential waves pattern has the highest average potential profit, it is also pretty rare. If such a pattern is detected, then a good strategy is to fill the position by small portions and wait for high profit.

## 60 Statistics for ETFs

Chapter 5. W-long

ETFs also experience a fast reversal after the W-long pattern, although the average rally is lower compared to stocks due to the nature of ETFs (the price of an ETF is formed as a weighted average of the underlying stocks' price). Statistical results for the 14 most liquid ETFs are shown below (Table 5.2). Statistics for the W-long pattern was calculated using a one-minute intraday price and volume data for the 2003-June 2009 period.

## TABLE 5.2 ETFs list

ETF Full name Average potential profit

RTH SPY IVV QQQQ XLF XLE EWY MDY DIA XLK IWM IWO OIH IWN

Retail HOLDRs SPDR S&P 500 iShares S&P 500 Index PowerShares QQQ Trust, Series 1 Financial Select Sector SPDR Energy Select Sector SPDR iShares MSCI South Korea Index MidCap SPDRs Diamonds Trust, Series 1 Technology Select Sector SPDR iShares Russell 2000 Index iShares Russell 2000 Growth Index Oil Service HOLDRs iShares Russell 2000 Value Index

2.25% 2.18% 2.15% 2.13% 2.12% 2.11% 2.09% 1.97% 1.94% 1.69% 1.66% 1.55% 1.50% 1.26%

To estimate the statistical quality of the W-long pattern for ETFs, four parameters were calculated: average price increase after signal (potential profit); probability of price increase greater than 0.5% and 0.8%; probability of reaching Fibonacci lines 23.6% and 38.2% from low after signal; probability of reaching 1% stop (Table 5.3). The rules for potential profit calculation for ETFs and stocks are the same (Fig. 5.2).

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Value

## TABLE 5.3 Statistics of W-long pattern on ETFs

Description

Average potential profit 0.5% 0.8% Probability of reaching Fibonacci lines from Fib 23.6% low after signal Fib 38.2% Probability of potential profit greater than Probability of reaching 1% stop

## 1.90% Probability 0.84 0.70 0.76 0.47 0.16

The average price increase (potential profit) for ETFs after the W-long pattern is 1.9%, which is lower than the 4.49% average for stocks. But ETFs have their advantage: greater liquidity and a much lower risk of a big unexpected price move on rumors or news. Top performer: RTH with an average rally of 2.25% after an exponential drop on the second wave vs. 1.9% for the entire group (Table 5.2). Detailed statistics for each ETF can be found in the appendix (Table A.9). The recent introduction of leveraged ETFs leads to much higher average price increase; see statistics later in this chapter.

## Pattern identification factors for ETFs

Similar to stocks, this pattern is a combination of two equal waves with a fast exponential decrease at the end of the second wave (Fig. 5.5). Four factors are most important: length of the two waves, price decline of the two equal waves, fast relative decline of price on the big bars during final phase (which should last at least 5 minutes) and time of day when pattern is formed. Exponential shape of second wave visual or computerized identification. Length of two waves: - minimal - maximal Price decline of two equal waves: - average - minimal 40 minutes 270 minutes 4.5% 2.5%

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Chapter 5. W-long

The price decline of the first and second wave should differ by no more than 10 percent. For signals in the last 1.5 hours before the close, there is not enough time for the ETF price to bounce with good profit.

Fig. 5.5 XLE: Energy Select Sector SPDR. After forming exponential pattern, XLE increased by 5.73%.

## Statistics for leveraged ETFs

Leveraged ETFs provide 200% or 300% of an underlying index or sector's move intraday. A rapid increase in average volume shows that these instruments became very popular for intraday trading. For example, the average day volume of SKF - ProShares UltraShort Financials is 48 million, SSO - ProShares Ultra S&P 500 is 53 million, FAS - Direxion Daily Financial Bull 3X Shares is 48 million, as of June 1, 2009. Statistical results for the 23 most liquid 2x and 3x leveraged ETFs are shown below (Table 5.4). Statistics on leveraged ETFs for the W-long pattern was calculated using a one-minute intraday price and volume data from the moment of their introduction till June 2009. It is important to note that 2x leveraged ETFs were introduced in 2006-2007, while 3x leveraged ETFs were introduced only at the end of 2008.

## Fast reversal after two exponential waves down

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Table 5.4 includes the most liquid leveraged ETFs, long and short, which were used for the research.

## TABLE 5.4 Leveraged ETFs list

2x ETF Full name Average potential profit

DDM SRS SKF SSO MVV QLD EEV DUG DXD SDS DIG QID UWM TWM MZZ FAS FAZ ERX TNA ERY BGU BGZ TZA

ProShares Ultra Dow30 ProShares UltraShort Real Estate ProShares UltraShort Financials ProShares Ultra S&P500 Ultra MidCap400 ProShares ProShares Ultra QQQ UltraShort MSCI Emerging Markets ProShares ProShares UltraShort Oil & Gas ProShares UltraShort Dow30 ProShares UltraShort S&P500 ProShares Ultra Oil & Gas ProShares UltraShort QQQ Ultra Russell2000 ProShares ProShares UltraShort Russell2000 UltraShort MidCap400 ProShares Direxion Daily Financial Bull 3X Shares Direxion Daily Financial Bear 3X Shares Direxion Daily Energy Bull 3X Shares Direxion Daily Small Cap Bull 3X Shares Direxion Daily Energy Bear 3X Shares Direxion Daily Large Cap Bull 3X Shares Direxion Daily Large Cap Bear 3X Shares Direxion Daily Small Cap Bear 3X Shares

4.06% 3.98% 3.62% 3.29% 2.96% 2.83% 2.75% 2.66% 2.52% 2.51% 2.51% 2.45% 2.40% 2.20% 2.17% 3.52% 3.52% 3.13% 2.83% 2.71% 2.69% 2.59% 2.34%

## Average potential profit

To estimate the statistical quality of the W-long pattern for leveraged ETFs, four parameters were calculated: average price increase after signal (potential profit); probability of price increase greater than 1% and 1.5%; probability of reaching Fibonacci lines 23.6% and 38.2% from low after signal; probability of reaching 1.5% stop (Table 5.5). The rules for potential profit calculation for leveraged ETFs and stocks are the same (Fig. 5.2).

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Description

Chapter 5. W-long

## TABLE 5.5 Statistics of W-long pattern on leveraged ETFs

Value

Average potential profit 1.0% 1.5% Probability of reaching Fibonacci lines from Fib 23.6% low after signal Fib 38.2% Probability of reaching 1.5% stop Probability of potential profit greater than

## 2.92% Probability 0.73 0.62 0.73 0.51 0.14

The average potential profit for leveraged ETFs is 2.92%, which is much higher than the 1.9% average for the underlying ETFs. Top performers: FAZ and FAS, 3x leveraged ETFs, came up with an average rally of 3.52% vs. 2.92% for the entire group (Fig. 5.6). This can be explained by the very high volatility of instruments related to finance. Among the 2x leveraged ETFs, DDM and SRS showed the best performance with average potential profits of 4.06% and 3.98% (Table 5.4). Detailed statistics for each leveraged ETF can be found in the appendix (Table A.10).

Fig. 5.6 FAZ: Direxion Daily Financial Bear 3X Shares. After forming exponential pattern at the end of the second wave down, FAZ reversed and increased by 13%.

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## Pattern identification factors for leveraged ETFs

As with the W-long pattern identification for the underlying ETFs, search for a combination of two patterns: two equal waves plus a fast exponential decrease at the end of the second wave (Fig. 5.7). Four factors are most important: length of the two waves, price decline of the two equal waves, fast relative decline of price on the big bars during final phase and time of day when pattern is formed. Exponential shape of second wave visual or computerized identification. Length of two waves: - minimal - maximal Price decline of two equal waves: - average - minimal 60 minutes 270 minutes 7.3% 3.5%

The price decline of the first and second wave should differ by no more than 10 percent. For signals in the last 1.5 hours before the close, there is not enough time for the leveraged ETF price to bounce with good profit.

Fig. 5.7 DIG: ProShares Ultra Oil & Gas. After forming exponential pattern at the end of the second wave down, DIG reversed and increased by 9.51%.

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Chapter 5. W-long

Fig. 5.8 SKF: ProShares UltraShort Financials. After fulfilling W-long pattern, SKF formed inverse head and shoulders and ran into 6% rally.

Conclusion
A fast price reversal after two equal waves with an exponential second wave is an excellent pattern for intraday trading on ETFs, leveraged ETFs and stocks. This pattern has high profit potential and a good probability of reaching the profit target. The average potential profit (price increase) after pattern detection is 4.49% for stocks, 1.9% for ETFs and 2.92% for leveraged ETFs. For better results, the pattern may be used with geometric confirmation, for example, with inversed head and shoulders (Fig. 5.8). To compare the statistical quality of the W-long pattern with others, see tables B.1-B.3 in the appendix. Profitable trading of this pattern requires proper risk management and position sizing. The price changes very quickly during exponential decline; therefore, a computerized algorithm for pattern detection is recommended.

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