CURRENT
TRENDS - Learning from the NASDAQ
In this issue
of the ChartFilter newsletter we will
be looking at a historical NASDAQ composite
index using trendlines and moving averages.
At that time the 200-day MA was offering
support however if the Index once again
breaks down through the 200-day MA there
will be further deterioration of the
long-term picture for the NASDAQ and
a definite sign of weakening markets.
Here's
the current picture (1999-2000) using
Moving Averages:
- The 50-day
MA has not been able rise above the
200-day MA.
- The Index
has broken down through both 50-day
and 200-day MA.
Based
on this, the picture for technical stocks
on the NASDAQ continues to look very
weak for the coming months.
In this weeks
issue of the ChartFilter Newsletter
I'd like to focus on the use of MACD.
Let's look at a historical NASDAQ using
MACD:
The lower
chart is the MACD indicator; combining
the MACD
oscillator and MACD
histogram. The black line is the
MACD line and the red line is the signal
line. Signals are produced when these
lines cross one another as well as when
they cross through the Zero line. (See
the report on MACD on the ChartHelp.com
site site.)
From this
chart of the NASDAQ with its MACD we
can make the following observations:
- The MACD
line crossed down through its signal
line in mid-July (also shown by the
histogram crossing down below zero).
- The MACD
line has just crossed down through
zero for the second time this year
(roughly at the same time as it broke
down through the 200-day MA).
These signals
can both be taken as signs of weakness
in the NASDAQ. If this chart represented
a single stock (or an Index fund tied
to the NASDAQ) it would be a signal
to sell.
Confirmation
Note how
the MACD offers confirmation of the
signals provided by the Moving Averages,
with one often leading the other. Confirmation
by several indicators is one of the
most important tools available to the
technical analyst. The trick is to use
indicators that are complimentary, and
don't rely on exactly the same set of
data (i.e., price and volume data vs
price alone). In this case the MACD
and MAs are too closely related to be
of real benefit; they are basically
telling us the same thing represented
in different ways. The concept is an
important one to keep in mind, though.
TIPS
& TECHNIQUES - Using MACD
The MACD
method is a trending indicator, telling
us whether a stock is in an uptrend
or a downtrend. The MACD proves most
effective in trending markets rather
than choppy, sideways markets. There
are two main sets of signals generated
by the MACD: crossovers and divergences.
The MACD
Oscillator is composed of two lines:
the MACD line, which is the difference
between two exponential moving averages
(EMAs) and a signal line, which is an
EMA of the MACD line itself. The signal
or trigger line is plotted on top of
the MACD to show buy/sell opportunities.
Typically, MACD uses a 26-day and 12-day
EMA, based on the daily close, and a
9-day EMA for the signal line.
See the reports
on the use of the MACD Oscillator
and Histogram
on the ChartHelp website.
PROFIT
POTENTIAL - Johnson & Johnson Inc
Let's take
a look at a real-life example; using
MACD with Johnson & Johnson Inc. on
the NYSE.
The first
task, if you are looking for mid-long
term moves as I am, is to determine
the long term trend and to trade only
in the direction of that trend (buy
in an uptrending market). If you used
this system you would ignore buy signals
offered in a long-term downtrend. From
this chart we can see that the trend
reversal occurred in March-April, depending
on how you went about determining it.
Using
the MACD Histogram
If you went
by the first trendline break at Pt.
A, you might have purchased shortly
thereafter, given the buy signal from
the MACD-Histogram. (The red and green
arrows indicate the buy and sell signals
offered by the MACD Histogram.)
Starting
at Pt. A there were 4 Buy signals and
3 Sell signals offered by the MACD Histogram
exclusive of other indicators. If you
had responded accordingly your profit/loss
would have looked something like this
(excluding commissions): Per Share Purchase
Price Selling Price Profit/(Loss) %
Change 75.00 71.00 (4.00) - 5.3% 76.00
87.00 11.00 + 14.5% 90.00 93.00 3.00
+ 3.2 Total 10.00 12.3%
The total
for the three trades would have been
about $10.00 profit per share or 12%
return on investment, over a period
of about five months.
Using
the MACD Oscillator plus MAs
A better
approach to my mind, however, would
have been to consider the 20-day and
50-day MAs -- we can see that these
MAs have proven very helpful in providing
signals in this particular market --
combined with the MACD Oscillator.
At Pt. B,
the 20-day MA crossed upwards through
the 50-day MA at roughly the same time
as the long-term trendline was broken.
This provided a significant indication
that the market had indeed reversed
trend, particularly when you look at
the classic double bottom pattern (see
the ChartHelp report on Patterns
- Tops and Bottoms for further info.)
This would have kept us out of the stressful,
choppy price movements during March
and the first part of April (choppy
markets are a good way to lose sleep
as well as capital).
Furthermore,
the MACD Oscillator crossed up through
its zero line at roughly the same time
(indicated by the blue arrow). Using
this as a buy signal we could have entered
a profitable trade over the past three
months or so. The MACD-O has not yet
offered a strong exit signal, however,
it did dip below the zero line momentarily
(second blue arrow). Normally you would
wait for both the MACD line and its
signal line to penetrate zero; however,
if we wanted to lock-in profits, this
would have been an opportune time, given
that the long term up trend line has
also been broken (Pt. C).
The profit
on this single trade would have been
roughly the same as the three trades
based on the Histogram put together
(once again excluding commissions).
Per Share Purchase Price Selling Price
Profit/(Loss) % Change Total 82.00 92.00
10.00 12.2%
What
next?
- The 20-day
MA is still above the 50-day, so the
up trend may continue.
- The last
green arrow from the MACD Histogram
may be indicating a buy signal.
- The MACD
Oscillator has not offered a strong
sell signal.
- However
the well-established upward trendline
has been broken.
To
me, this indicates a weakening up trend,
and the market is either preparing to
form a peak or it's going to go into
a sideways, congestive phase before
continuing upwards. The $90.00 level
is currently providing support (horizontal
blue line) so you would want to exit
this market if it broke down below that
level.
Putting
ChartFilter into context
We've taken
a look at applying Moving Averages,
Trendlines and the MACD indicators with
historical charts. It's well worth the
time to see how you can apply these
techniques to current day charts. As
always, until you are confident in your
system, paper trade.
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