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GS Techs Technical Analysis Guidebook Sheba Jafari CMT
FICC Strats
Prepared by a Goldman Sachs sales and trading desk, which may have a position in the products mentioned that is inconsistent with the views expressed in this material. In evaluating this material, you should know that it could have been previously provided to other clients and/or internal Goldman Sachs personnel, who could have already acted on it. The views or ideas expressed here are those of the desk and/or author only and are not an “official view” of Goldman Sachs; others at Goldman Sachs may have opinions or may express views that are contrary to those herein. This material is not independent advice and is not a product of Global Investment Research. This material is a solicitation of derivatives business generally, only for the purposes of, and to the extent it is subject to, CFTC Regulations 1.71 and 23.605.
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April 2016
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only only and is not not intended intended to be used as a general general guide to investing, nvesting, or as a source of any specific specific investment investment recommendations, recommendations, and is no indication on (implied or express) express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining Defini ng Technica Technicall Analysis…
“ The The art of technical analysis – analysis –for for it is an art – is – is to identify trend changes at an early stage and to maintain an investment position until the weight of the evidence indicates that the trend has reversed.” Martin Pr in ingg (2002) “Technical Analysis Explained”
A rising trend (uptrend) occurs when price makes higher peaks and higher lows. A falling trend (downtrend) occurs when price makes lower peaks peak s and lower lows. A flat trend (range) occurs when price trades sideways without any significant direction.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining Defini ng Technica Technicall Analysis…
There are a few basic assumptions rooted in basic technical analysis which is also very well linked to basic economic theory:
Prices are determined solely by the interaction of supply and demand
Prices tend to move in trends
Shifts in supply and demand cause reversals in trends
Shifts in supply and demand can be detected in charts
Chart patterns tend to repeat themselves
Robert D. Edwards and John Magee “Technical Analysis of Stock Trends”
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining Technical Analysis… What technical analysis will provide to the fundamentalist…
Psychology. Technical Analysis is a way to quantify and visualize market sentiment and conviction.
Discipline. Assists in disciplining trading decisions.
Objectivity. In setting clear parameters, it is possible to create buy/sell signals that are unambiguous.
A Safety Check. It's quick to give you indications that you are wrong in your view.
Early Warning. Gives early warning that a market is becoming stretched or susceptible to a correction.
Markets are not necessarily efficient. Markets are not necessarily efficient, investors don’t always act rationally. Investors have biases, herding behavior, information inequality, noise and other similar limitations.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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A few guidelines to keep in mind…
None of the indicators or patterns can be used in isolation When developing a market view envisage a pair of scales – it’s about evaluating whether there is an imbalance of patterns and indicators pointing in one direction
Stick to a process, defaults and methodology Always use multi-time frame analysis as a starting point
Weigh the importance of the indicator according to the appropriate time frame. It’s often easier to trade with the trend rather than against it
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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List of Contents… The following topics are covered in the following slides:
1.
Basic introduction to CANDLESTICK PATTERNS
2.
DEFINE YOUR TREND using pivots/confluence areas
3.
Enhance your analysis with FIBONACCI RETRACEMENTS
4.
Introduction to ELLIOTT WAVE THEORY (EWT)
5.
How to use FIBONACCI EXTENSIONS with EWT
6.
How to use STRUCTURES/PATTERNS to derive targets
7.
The various uses of a (SIMPLE) MOVING AVERAGES
8.
Uncovering signals of exhaustion with OSCILLATORS
9.
How CORRELATIONS can strengthen/stress test views
10.
Finally a GLOSSARY of TERMINOLOGY
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Candlestick Patterns: Understanding basics …
Candlesticks can be used to determine potential reversals, exhaustions, the start of a trend and/or the strength of the participation. It takes anywhere from one to seven candlesticks to make a pattern from which to determine a particular signal. The body of the candle represents the open and close of a session (daily/weekly/monthly) (daily/weekly/monthly) also considered the area of “market acceptance”. The shadow represents the intraday high and low of the session, also considered the area of “rejection”. A white white candle is an up day, a filled candle is a down day. High
High
High
Open
Close
Open
Close
Open
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Close
Low
Low
Low
White = up on the session
Filled = down on the session
Small/no body = unchanged
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Bullish/ Bearish period reversals …
Patterns are made by the relative position of the body and the shadow, the location of the candlestick in relation to the day prior day and whether or not no t the candlestick pattern is confirmed the next day. Because candlestick patterns are used to signal a turning point, it’s important that there is a preceding trend
(either uptrend or downtrend). – Posted where the market is in an uptrend and in BEARISH Key Reversal Reversal –
– Posted where the market is in a downtrend and in BULLISH Key Reversal Reversal –
this particular period trades to a new high for the trend but subsequently
this particular period trades to a new low for the trend but subsequently
reverses lower to close back below the previous period’s low
reverses higher to close back above the previous period’s high
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Indecision and exhaustion signals…
The shadow is a vertical line from the real body up to the high or down to the low. A long shadow represents an inability for the market to maintain its highs or lows.
DOJI (Indecision) – (Indecision) – Posted where the market is in a trend, but at the extreme of the move looses momentum. The open/close should be at a very similar levels. Particularly powerful if immediately followed by a sharp close basis move in the opposing direction
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HAMMER (Exhaustion) (Exhaustion) – Posted when the market moves to a new extreme, but closes near the open, leaving a long tail or shadow against the extreme of the trend. The pattern below is a hammer. If reversed then it is called a “Shooting Star”
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Past performance is not an indicator of future results. Future returns are not guaranteed,
Using multiple time frames analysis…
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining your trend: Blank canvas… Start with a clean canvas, whether “ghosting” all annotations, beginning brand new, or even just turning the chart upside down.
The primary trend is lower
Stick to minimal number of oscillator/momentum indicators Start with four moving averages and eliminate those that are less relevant to price
The secondary trends are higher and short-lived
Start with multiple annotations and do not be afraid of having a messy canvas. Then eliminate those that are less relevant to price
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining your trend: Starting lines … Start with a clean canvas, whether “ghosting” all annotations, beginning brand new, or even just turning the chart upside down.
The primary trend is lower
Stick to minimal number of oscillator/momentum indicators Start with four moving averages and eliminate those that are less relevant to price
The secondary trends are higher and short-lived
Start with multiple annotations and do not be afraid of having a messy canvas. Then eliminate those that are less relevant to price
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining your trend: Confluence areas… A confluence zone is a pivot area where multiple levels are merged together.
These zones are most important as future target areas and in adding confidence to breaks In this example, the monthly close above 84.83-84.19 was particularly important as it broke a series of prior highs and lows from Nov. ’09 to Mar. ’12. Hence why it is important to continually “refresh” the chart, renew trendlines, erase prior biases
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining your trend: Finished product… The right side of the chart (near-term price action) should always be the most relevant.
This chart shows a selection of pattern, moving averages and trendlines for the current environment. This selection will likely change over time Hence why it is important to continually “refresh” the chart, renew trendlines, erase prior biases
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Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Defining your trend: Fibonacci levels… The Fibonacci Sequence is a series of numbers (0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55…) each number is the sum of the two preceding numbers. Each number is 1.618 times the preceding number. The sequence goes on to infinity.
The key (golden) ratio is 61.8% 38.2% is found by dividing one number by the number that is two places to the right (for example 13/34= 0.382) 23.6% is derived by diving one number by the number that is 3 places to the right And 76.4% is simply 100-23.6.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction … Elliott wave theory is an attempt to define a structure to the market. It is based on the notion that the market behaves in an irregular cyclic manner. Defining the structure allows us to determine where the market is and where it may be going. The chart to the right shows an idealized setup within an upward/bull market.
There are only two types of “waves”;
impulsive waves and corrective waves. 1.
Impulsive moves happen in 5waves (either in a bull trend or bear trend) in the direction of the trend.
2.
Corrective waves happen in either 3- or 5-waves (ABCs or triangle) against the trend’s direction.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction…
Although there are numerous “guidelines”,
there are only three specified rules. Each wave is subdivided into minor waves and therefore the rules apply on all variations of time frames.
Rule 1. Wave 2 cannot retrace more than 100% of Wave 1 Rule 2. Wave 3 can never be the shortest of the three waves (it’s often the longest) Rule 3. Wave 4 can never overlap with Wave 1
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction … The other thing to remember is that every wave is related to the other by some Fibonacci ratio (retracement or extension). We’ll go into more detail on this but a quick summary below:
Wave 2 can retrace 100% of wave 1 but generally stops between 50-76.4% Wave 3 is typically 1.618 or 2.618 times the length of wave 1 Wave 4 can retrace between 23.6% and 50% of the length of wave 3 Wave 5 can be 1.00, 1.618 or 2.618 times the length of wave 1
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction … Impulsive moves happen in 5-waves (either in a bull trend or bear trend) Corrective waves happen in either 3- or 5-waves (ABC or triangle)
In this example, USDBRL rose in a 5-wave impulsive sequence from the mid-’11 lows up to the Aug. ‘13 high. Since then, an ABC type sideways pullback has developed and nearly completed. It should be attractive to start looking for signs of the market basing again
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(Corrective)
(Impulsive)
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction … The first rule to remember is that wave 2 cannot extend beyond the bottom of wave-1. If it does by a “notable margin” (there is some discussion that very minimal overlap is possible in OTC markets) it invalidates the count, implying the market is either still in corrective process or in an opposing trend.
As long as the low from the base of wave-2 does not exceed wave-1 a wave-5 rally can still take place
5
As a guideline, wave 2 tends to retrace near around 76.4% of the full distance of wave 1
3 1 4 1
2 2
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76.4% retrace
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Elliott wave: Quick introduction… The second rule to remember is that wave 3 cannot be the shortest of the three impulse waves. It is often the longest but it doesn’t have to be. As long as wave 3 undergoes a greater percentage movement than either wave 1 or 5, this rule is satisfied. Moreover, wave 3 always goes beyond the end of wave 1.
In this example wave 3 is equal in length to wave 1 and shorter than wave 5. This is incorrect
5
In this example waves 1 and 5 are equal and wave 3 is the longest; this is common and satisfies the rule
3 5
5
4
3
1 3
1
4 2
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4
1 2 2
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction … The third rule states that wave 4 cannot enter wave 1 territory. If it does by a “notable margin” (again) it invalidates that count implying that an A-B-C correction is already in place and the market is beginning a sequence in the other direction (reversing back in the direction of the previous trend).
In this example, wave 4 peaks below the base of wave-1 a wave-5 decline follows thereafter
Here, wave-4 moves above the base of wave-1; a 5-wave sequence can no longer be in the process
5
3
4
2
B
1 4
1 2
3
Base of wave-1
A C
5
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Quick introduction … A few guidelines to follow... Wave-2 tends to be an ABC
5
B
Wave-4 tends to be a triangle b
d
3 1
A
4
C
a
2
c
e
A wedge at the highs is an ending diagonal
A wedge at the lows is a leading diagonal 5 3 1
4 2
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Developing targets … Each wave (from 2 to 5) has a guideline target based on the length/magnitude of the prior move. In other words, using Fibonacci retracement/extension levels can help determine the next step in the sequence.
Wave 2 can often retrace between 50% and 76.4% of Wave 1; it cannot exceed the beginning of Wave 1
5
Investors are convinced that the bear market is back to stay; this wave is marked by anxiety/lack of confidence
3 1
1 4 1 2 50% retrace
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2 2
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76.4% retrace
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Developing targets … Each wave (from 2 to 5) has a guideline target based on the length/magnitude of the prior move. In other words, using Fibonacci retracement/extension levels can help determine the next step in the sequence.
Wave 3 is often 1.618 or 2.618 times wave 1 (sometimes more). If more than 1.618, its termed “extended”
5
Wave 3 is the most powerful and impulsive. Confidence and volume returns; participation period
3 1.618 times W1 1
2.618 times W1 1
2
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4 1
2
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2
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Elliott Wave: Use of Extensions… If you’re not sure what the wave count is, start with a 1.00 extension target. When that target has been met and
exceeded, you know the market is more likely impulsive. The next target is derived is a 1.618 and 2.618 target.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Developing targets … Each wave (from 2 to 5) has a guideline target based on the length/magnitude of the prior move. In other words, using Fibonacci retracement/extension levels can help determine the next step in the sequence.
Wave 4 is between 23.6% and 50% the length of wave 3. It also cannot overlap with Wave 1 territory
5
Surprising and disappointing; doubt starts to prevail. People want to hold on, but start to give back
3
4
3
3
1 1
23.6- 50% of W3
2 2
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Cannot go below W1
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Developing targets … Each wave (from 2 to 5) has a guideline target based on the length/magnitude of the prior move. In other words, using Fibonacci retracement/extension levels can help determine the next step in the sequence. Wave 5 is dependant on if Wave 3 is extended or not; if extended then 1.00, 1.618 or 2.618 times Wave 1. If Wave 3 is not extended Wave 5 is 0.618, 1.00 or 1.618 time Wave 1-3
5
Renewed momentum and often saturation, the last big move before distribution starts to take over
3 Extended 3
4
Not Extended 3
1 1
1
2
Wave 5 is a measure of Wave 1
2 2
Wave 5 is a measure of Wave 1-3
As a reminder, Wave 3 is extended if it is greater than 1.618 times Wave 1 FX and Rates Strategies
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Corrective patterns… There are three categories of corrections; a zigzag, flat or triangle pattern.
There are more complex double and triple zigzags which are two or three basic ABC structures separated by an X wave (which is broken into 3 minor waves)
A zigzag is the most common. It’s classified as a sharp correction (as it is deeper than a flat sideways correction); subdivides into ABC; A and C are near equal in length B
A
C A
C
B
C A
B
A
X
C B
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Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Elliott wave: Corrective patterns… There are three categories of corrections; a zigzag, flat or triangle pattern.
A flat correction is a sideways consolidation which is typically broken up into 3-3-5 waves; wave A has a minor abc, wave B has a minor abc and C has a minor 1-2-3-4-5
An irregular flat occurs when wave B overshoots the top of wave A. Wave and B are still 3 wave structures ( abc’s ); wave C has a minor 1-2-3-4-5 B c
B c b
b
ii
a
ii
a
i a
i iv
b
a
A c
A iii
c
C v
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iv
b
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
iii
C v
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Elliott wave: Corrective patterns… There are three categories of corrections; a zigzag, flat or triangle pattern.
A triangle pattern is composed of five contracting swings each with three minor waves to make a complete ABCDE. Wave E tends to end midway through the pattern
An expanding triangle are very infrequent. Composed of five expanding swings each with three minor waves to make a complete ABCDE
D B
B
D
E C
A C
A
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E
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Structures and Targets: Triangles …
Triangles tend to be continuation patterns but don’t always have to
be. The shorter the time-frame the more likely to have a break in the direction of the preceding trend (these are often called “pennants”).
As the market narrows into the apex of the pattern, volatility also narrows. Therefore the break tends to be associated with a pop in volatility.
Target
To calculate the target of the pattern you project the height of the pattern as it begins forming from the break point
Break point
Height of the pattern
The break generally occurs within 10% of the apex.
Same target calculation and structure applies in inverse
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Double Top and Bottom…
Double tops/bottoms are reversal patterns.
Increased volatility related to market exhaustion is often seen as trends move to extremes. One of the ways this manifests itself is in markets not being able to build the necessary momentum to break a certain price point at the extreme of a trend on repeated attempts This is likely to be caused either by the market becoming over positioned and therefore unable to break through extremes or the news flow changing and a segment of the market seeing the prior price extreme as a good risk/reward entry point for counter-trend trades
Top
Top
Neckline
Target To calculate the target you take the distance from the trend across the two “Tops” to the “Neckline” and extrapolate this distance from the “Neckline” itself Same target calculation and structure applies in inverse
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Head and Shoulders…
therefore must have a preceding trend.
Head
A head and shoulders pattern is also a reversal pattern and
This is essentially another reflection of the market entering a period of increased volatility at the extreme of a trend and another indicator of exhaustion The right shoulder forms where the market attempts to resume the trend and regain the highs but fails to do so. Therefore oftentimes the neckline will have a “right -tilt”.
Shoulder
Shoulder
Neckline To calculate the target you take the distance from the top of the “Head” to the “Neckline” which sits at the base of the “Shoulders” and project this distance from the “Neckline”
Target
Same target calculation and structure applies in inverse
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Structures and Targets: Wedges…
Wedge formations are often longer-term reversal patterns.
Trend extremes are often associated with a loss of underlying momentum. This can manifest itself in one of two ways; (1) extreme volatility with the market making little real progress with the trend or (2) the trend continuing but in an increasingly slow and over-lapping manner.
With regards to wave theory, wedges tend to be 5th waves. They are also called “ending waves” or “diverging waves”.
Breakdown Point
Market is initially in a strong uptrend, but at the extreme of the trend the move begins to lose momentum and becomes increasingly overlapping Once the market breaks the trend across the interim lows it is often the beginning of a large downside correction as the market will have little in the way of support to buy the currency pair against and will likely be over positioned The market will often f orm negative momentum or oscillator divergence against the gradual new highs In fundamental terms, this pattern is often seen as markets move an extreme distance from “fair value”
Same target calculation and structure applies in inverse
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Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Simple Moving Averages: Introduction … A moving average shows the average closing price for a market over the past ‘x’ -periods
There are multiple types of moving averages (simple, exponential, weighted, triangular… etc.) Again to avoid subjectivity it’s advisable to keep periods CONSTANT across various TIME FRAMES of chart
The periods of moving average which have a good track record in FX:
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21-period – part of the Fibonacci Sequence (see below)
55-period – part of the Fibonacci Sequence (see below)
100-period – market accepted standard
200-period – market accepted standard
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Simple Moving Averages: Multiple Uses … There are multiple uses of simple moving averages:
As support and resistance Bullish and bearish crossovers Defining whether a trend is stretched or extreme Defining whether a market is “trend ready”
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Stretched or extreme… In Oct. ’87 the index reached 167
weekly closes above the 55-wma. When it finally broke, the S&P dropped ~24% from the pivot (a total of 35% from the high).
On Friday 21st August the S&P reached another 167 consecutive before dropping ~10% from the break (a total of 13% from the high). It proved to be a very useful signal.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Simple Moving Averages: Trend-ready?…
A cluster of moving averages … the “calm before a storm”?
A confluence of moving averages can give a similar message to when a market’s volatility is reaching extreme lows This will often precede a significant directional move The signal can then be heightened when seen near the apex of a triangle
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: Introduction…
Oscillators are a derivative form of technical analysis. Their primary purpose is to improve the risk/reward associated with trading decisions and to act as an early warning signal when a market is susceptible to a turn/correction.
An oscillator is calculated from two moving averages. It represents mathematically the relationship between the two moving averages, usually in the form of a ratio.
Two primary forms of implementation:
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As an “overbought” or “oversold” indicator
As an exhaustion signal where they develop what in technical terminology is described as positive or negative “divergence”
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: Slow Stochastics… Slow Stochastics is no different than any other RSI or MACD; what’s important is to pick one and get to know it’s signals/range/scope
Oscillators failed to confirm the peak in Aug. ’98 with negative oscillator divergence . Negative divergence is where price makes a series of 2-or more higher highs with 2-or more lower highs on the indicator
Slow Stochastics simply measures the average close of a given period relative to its period high and low. In a bull market we would expect higher closes. In bear market, lower closes.
Oscillators not confirm the new high in Mar. ‘09 with a equal new high on the indicator. This is an example of “negative divergence” and eventually preceded the downtrend into ‘11 lows
The double top in ‘01/’02 can also be interpreted as negative divergence
A depressed range lasted from mid-’07 to late-’12, while price declined in a wedgelike manner The price break above 84.83-84.19 was complemented nicely by a comparable (bullish) break in momentum
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: Slow Stochastics…
On USDCAD, oscillators failed to confirm the new high in Mar. ’09 which resulted in negative divergence . Oscillators warned of trend exhaustion when a rally was met with peaks in the indicator (see arrows in ‘11, ‘12 and early-’14)
Slow Stochastics simply measures the average close of a given period relative to its period high and low. In a bull market we would expect higher closes. In bear market, lower closes.
Oscillators did not confirm the new high in Mar. ‘09 with a equal new high on
the indicator. This is an example of “negative divergence” and eventually preceded the downtrend into ‘11 lows
A bull trend is often accompanied by an elevated range (as seen during ‘09/’10/early-’11) while a bear trend is often accompanied by a depressed range (as seen since late-’12)
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: RSI … The formula for Relative Strength Index: 100 RSI
BUY/SELL SIGNAL (I.E. RISK/REWARD INDICATOR) It’s generally accepted that above 80 is “over -bought” and below 20 is “over -sold”. Once the indicator gets to these type of levels it’s time to watch for signals that the mar ket is preparing to
turn from the classic indicators. As with other indicators the importance of the signals increase with the time period of chart on which they are based; intraday < daily < weekly < monthly.
1 + RS
modified moving average of ‘x’ day’s up closes RS
Although not 100% reliable readings of near 80 or 20 have been reasonable signals that USDJPY is at risk of reversal/correction
modified moving average of ‘x’ day’s down cl oses
Modified Moving Average
Moving AveragePrev + 1 N * (P - MAPrev)
Again, as with Slow Stochastics, it’s knowing how to interpret the indicator which is most important
The indicator oscillates between 0 and 100 The original recommendation from the creator was to use a 14-period system (i.e. ‘x’ in the formulas above is 14)
Chart Source: Aspen Graphics FX and Rates Strategies
Data: Reuters
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: MACD … The formula for MACD (Moving Average Convergence Divergence):
MACD Signal Line
EMA1t – EMA2t MACDt-1 + SLSF (MACD t – MACDt1)
Exponential Moving Average 1
EMA1t-1 + SF1 (Pt – EMA1t-1)
Exponential Moving Average 2
EMA2t-1 + SF2 (Pt – EMA2t-1)
The MACD can be used as an overbought / oversold indicator, similar to Slow Stochastics or RSI, but i ts more common use is in looking for instances of divergence Although the formula looks complicated, its underlying theory is actually quite simple in that it effectively shows as a histogram the difference between two moving averages Put simply this enables you to visually appraise the health of a trend Although this is open to discussion/interpretation, in simple form this means there are two market states (the same applying in bullish and bearish trends) -
EMA1t
current value of 1st exponential moving average
EMA2t
current value of 2nd exponential moving average
EMA1t-1
previous value of 1st exponential moving average
EMA2t-1
previous value of 2nd exponential moving average
SF1
smoothing factor for EMA1
SF2
smoothing factor for EMA2
MACDt
current MACD value
MACDt-
previous MACD value
1
SLSF
HEALTHY TREND - Moving averages maintain a
CONSTANT or GROWING differential, i.e. the momentum of the trend is STEADY or BUILDING -
UN-HEALTHY TREND – The differential between the moving
averages is NARROWING, i.e. the momentum of the trend is DECREASING
SLSF = signal line smoothing factor
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: MACD… EXHAUSTION SIGNAL (I.E. +VE AND –VE DIVERGENCE)
This develops where the market is in a trend, but the move is losing momentum and becoming increasingly gradual and overlapping. It is often associated with the formation of wedges. The two forms of divergence are described and shown below with recent examples from EURUSD NEGATIVE DIVERGENCE
POSITIVE DIVERGENCE
This forms where the market makes a series of 2-or more higher highs on the price action with 2-or more coincident lower highs on the MACD HISTOGRAM
This forms where the market makes a series of 2-or more lower lows on the price action with 2-or more coincident higher lows on the MACD HISTOGRAM
Negative Divergence
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Chart Source: Aspen Graphics
Positive Divergence
Data: Reuters
Negative Divergence
Positive Divergence
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Momentum Indicators/ Oscillators: Williams Percent R… The formula for Williams Percent R: %R
n
highn – Current Close lown - high n
BUY/SELL SIGNAL (I.E. RISK/REWARD INDICATOR) A reading “above” -20, i.e. nearer to 0, theoretically indicates the mark et is over bought and a reading “below” -80 i.e. nearer to -100, theoretically indicates the market is over sold. Once the indicator moves into these extreme levels it’s time to watch for signals that the market is
preparing to turn from the classic indicators. As with other oscillators the importance of the signals increase with the time period of chart on which they are based; intraday < daily < weekly < monthly.
number of periods
highn
highest high in n periods
lown
lowest low in n periods
Trending market so indicator doesn’t
work well xx
The indicator ranges from 0 to -100
The author’s suggested value for ‘n’ is 14
As with other indicators, it’s about learning how to interpret them, not using a “golden number” as the input
Range bound market so indicator works well
The indicator tends to only be useful in range bound markets, it must therefore be combined with indicators which help determine market state (range or trend)
Chart Source: Aspen Graphics FX and Rates Strategies
Data: Reuters
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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Bollinger Bands: A volatility indicator … How Bollinger Bands are calculated The first thing to say about Bollinger Bands is that they tend to add little value if used in isolation, they must be taken as one input amongst other signals
Used in isolation they will tend to give far too many signals to exit a winning position and/or attempt to enter counter trend positions too early
Better to use them as a confirmation signal, not a signal in their own right
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The method for calculating Bollinger Bands is effectively divided into six stages and there are two variable inputs; ‘x’ the day count for the moving average around which the bands are based and ‘y’ the number of standard deviations the “bands” stand above/below the moving average: 1.
Calculate the simple mean of the ‘x’ periods used for the m oving average
2.
Subtract the simple mean from each data point used to calculate it to arrive at the raw deviations
3.
Square each of the raw deviations to calculate the square deviations
4.
Sum the square deviations to calculate the total squared deviation
5.
Divide the total square deviation by the number of data points to calculate the mean squared deviation
6.
Calculate the square root of the mean square deviation to get the standard deviation
To apply Bollinger Bands to a market you then need to overlay three things on the price action: 1.
The simple ‘x’ period moving average
2.
The simple moving average plus ‘y’ times the standard deviation
3.
The simple moving average less ‘y’ times the standard deviation
Determining ‘x’ and ‘y’ ‘x’
Bollinger originally recommended setting ‘x’ as 20 (i.e. a simple 20-day moving average)
‘y’
Bollinger originally recommended setting ‘y’ as 2 (i.e. a 2 standard deviation range around the moving average)
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Bollinger Bands: A volatility indicator… As highlighted on the prior slide, with Bollinger Bands it’s essential to stick with the “build a view” theory Where they tend to be most powerful is if a market posts a trend reversal or exhaustion pattern while testing the upper or lower band
Historically EURUSD finds it very difficult to move materially beyond the two standard deviations on either side of the moving average. When it does move to those kinds of theoretical extremes it has a tendency to snap back towards the center (30-month moving average)
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Historical Comparisons Using the past to predict the future… Technical Analysis is based on a basic premise that the price action that has followed certain patterns or developments in the past will do so again in the future
With the above in mind, beyond the textbook patterns that can be followed it’s important to look back at how markets have reacted to certain developments in the past
The basing process which the DXY is currently forming looks very much like the structure that developed into the late-’90’s before the market accelerated into the last major USDuptrend. Could this indicate that the market is setting up for another multi-year rise?
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From the September ’92 highs EURUSD corrected 37.65 big figures lower, then recovered 80.75% of that sell-off
From the July ’08 highs EURUSD corrected 37.11 big figures lower and has subsequently recovered. A similar size %age recovery to the ’92-’95 episode would target 1.5325
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Correlations: Stress test views … Besides conducting detailed technical analysis on individual FX markets it’s also very useful (and powerful) to conduct the same type of analysis on other asset markets with which a certain FX market is correlated
This overlay shows EURUSD is green , the German/U.S. 10-year yield spread in blue and the EUR/Linked Asset basket in yellow
The most important use of this type of analysis is to help strengthen and explain views. But is also acts as a stress test.
If a highly correlated market appears to give a differing directional message it can often be a warning that a move is relatively unlikely to take place or that an established correlation needs to be broken for it to be achieved
EURUSD overlaid with Oil
As a reminder, this index tracks a basket of Germany/U.S. 10-/5-/2year spreads and Germany/-France/-Italy/-Spain 10-year spreads
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Statistical: Trending or turning… Performance vs Anchor Currency – In this case the
performance of all currencies is displayed vs the USD with the exception of PLN, CZK, HUF, SEK and NOK which are tracked vs the EUR First Across and then Up or Down – The %age
change last week is displayed on the x-axis and the %age change so far this week is displayed on the yaxis Displayed as if the Base Currency – If a currency
shows a +ve %age change it means it strengthened vs its anchor currency (USD/XZY or EUR/XZY fell) if a currency shows a negative %age change it means it weakened vs its anchor currency (USD/XZY or EUR/EYZ rallied) Four Quadrants – Top right is “ S trong and S trong er ”
where a currency has strengthened for both of the past two weeks, bottom right is “S trong then Weak ” where a currency strengthened last week but weakened this week, bottom left is “Weak and Weaker ” where a currency weakened for both of the past two weeks and top left is “Weak then S trong ” where a currency weakened last week but strengthened this week Trending or Turning – If a currency appears in the top right quadrant it indicates it’s trending higher and if a currency appears in the bottom left it indicates it’s
trending lower. If it appears in the bottom right it is turning lower and if it appears in the top left it is turning higher.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Statistical: Trending or turning… This scatter chart helps us to identify where the market is pricing various currencies based on the 1-month risk/reversals and implied volatility
First Across and then Up or Down – The 1 month
25Delta Risk Reversal (RR) is displayed on the x-axis and the 5-day %Change in 1 month Implied Volatility (IV) is displayed on the y-axis Four Quadrants – Top right is “Positive Skew/Higher Vol.” where the RR favors calls and the Implied Vol. has risen in the past 5 days, bottom right is “Positive Skew/Lower Vol.” where the RR favors calls but IV is
has dropped over the past 5 days, bottom left is “Negative Skew/Lower Vol.” where RR favors puts and IV is lower and top left is “Negative Skew/Higher Vol.”
where the RR favors puts and IV is higher.
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Keeping up with the ideas…
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Keeping up with the ideas…
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Glossary of Terminology ABC target – (abbreviated; ABC, also known as equality target) An Elliott wave t erm. A three wave sequence whereby wave C is measured by the length of wave A and projected from the furthest point in wave B. According to Elliott wave theory, ABC’s are typically counter-trend corrective movements; can either follow a 5-wave sequence or characterize the shape of waves 2 and/or 4. Bear market – A market characterized by falling prices and negative sentiment. Quantitative measures vary; some believe a 20% decline over a two month period classifi es as a bear market. Bull market – A market characterized by rising prices and positive sentiment. Typically need several months/years of asset price appreciation. The opposite of a Bear Market. Candlestick – A chart that displays the high, low, open and close for a parti cular session (daily, weekly, monthly). The wide part of the candlestick represents the “real body” and displays where the market opened and closed. The wick/shadow of the candlestick represents the session’s high and low (on a daily chart, this will be the intraday high and low). Continuation pattern – A pattern (flag, triangle, pennant) which takes place after an existing t rend and, once broken/completed, results in a continuation of the preceding trend. Opposite of a reversal pattern. Convergence/confluence – When multiple pivots (trendlines, moving averages, retracements and/or extensions) cluster within a very tight range. This confluence area can act as support, resistance or a future target level. Corrective – An Elliott wave term. Price action that occurs counter to (against) the trend. Also called a “motive wave”. From an Elliott wave perspective, corrections have a three wave structure or a combination of three waves. There are several variations; zigzag (5, 3, 5; ABC), flat (3, 3, 5) or triangle (3, 3, 3, 3, 3; ABCDE). Oft en measured in terms of Fibonacci retracements; 23.6%, 38.2%, 50%, 61.8% and 76.4%.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Glossary of Terminology Divergence – When price action moves in the opposite direction to a specific indicator or another market. A divergence can occur when equities rally while volume declines. When related to an indicator, divergence can be positive or negative. Positive divergence is when price action is posting lower highs while the indicator (RSI, Slow Stochastics, MACD) is posting higher lows; this can be considered a bullish signal. Negative divergence is when price action is posting higher highs while the indicator is posting lower highs; this can be considered a bearish signal. Doji – A candlestick pattern. When the open and close of a session is near to or exactly the same. After an up or downtrend, this generally indicates that there is indecision, loss of momentum. Double top (bottom) – A reversal pattern. The pattern is made up of two consecutive peaks (troughs) that are roughly equal leveled with a moderate trough (peak) in between. The double top completes when the market trades through the lowest point between the two peaks. The target is derived from the distance between peak and breakout, extrapolated from the breakout point. Elliott wave theory/count – A theory which asserts that crowd behavior follows trend patterns that are either impulsive or corrective. Impulsive waves (also called motive waves) move with the bigger trend while corrective waves move against the bigger trend. The basic sequence is 5 waves in the direction of the trend, 3 waves against the trend; a full cycle is 8 waves in total. Elliott wave theory is fractal meaning no matter how big or small the wave degree, there are subdivisions of the impulsive/corrective waves; in other words any impulsive wave can be subdivided into 5 smaller waves. Any corrective wave can be subdivided into three smaller waves. There are only three rules of the wave principle; i) wave 2 cannot retrace more than 100% of wave 1, ii) wave 3 cannot be the short est wave (it is often the longest but doesn’t have to be) and iii) wave 4 cannot enter/overlap with wave 1. Equality target – (abbreviated; ABC) A three wave sequence (ABC) whereby wave C is measured by the length of wave A and projected from the f urthest point in wave B. According to Elliott wave theory, ABC’s are typically counter -trend corrective movements; can either follow a 5-wave sequence or characterize the shape of waves 2 and/or 4.
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Glossary of Terminology Evening star – Three candle pattern with bearish implications. Begins with a preceding uptrend, a long white candlestick pattern. The market gaps higher forming a small black or white body candlestick (indicating a loss of momentum). The following day declines and closes is below the midpoint of the first day. Expanding triangle – Also known as an expanding pattern. Price swings are expanding as opposed to narrowing as in symmetrical triangles. Continually larger swings within a range. More often a reversal than a continuation pattern. Extension target – Any time a market goes significantly beyond an ABC/equality target, the wave becomes extended and therefore potentially impulsive. The target for an extended wave is derived from 1.618 and 2.618 multiples of the first A/1 wave. Both of these multiples are part of the Fibonacci sequence; 1.618 in particular is considered the “Golden Ratio”. Flag – A short term continuation pattern which is characterized by a narrow range channel. The breakout takes place in the same direction as the preceding trend. The target is derived either from the “flag pole” (the length of the preceding trend) or th e height of the pattern extrapolated from the break point. Flat – A type of sideways correction against the larger trend, characterized by an ABC pattern. Wave A is characterized by 3 minor sub-waves. Wave B is also often characterized by 3 sub -waves. Wave C is characterized by 5 minor sub - waves. In an “irregular flat” wave B terminates above the starting point of wave A. Wave C should meet or exceed the bottom of wave A. Gap – An area on a price chart in which there was no trade. Can be subdivided into four categories; common, breakaway, runaway and exhaustive. A common gap is uneventful and usually gets filled quickly. A breakaway gap occurs when price is simult aneously breaking out of a chart pattern/range. A runaway or measured gap happens near the midpoint of a trend and signals continuatio n, increased participation. An exhaustive gap occurs at the end of a trend and signals that the market is running out of steam; usually confirmed when the gap is filled (in the opposite direction of the trend).
FX and Rates Strategies
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Past performance is not an indicator of future results. Future returns are not guaranteed,
SECURITIES DIVISION
Glossary of Terminology Hammer – A single candlestick pattern formed after a downtrend. Characterized by a long lower shadow and a small body (open/close) which is near the session highs (basically looks like a hammer). A reversal signal, which warns of trend exhaustion. Head and shoulders – (abbreviated; H&S) A reversal pattern that is characterized by three consecutive peaks. The second peak is a little higher than the first and third; the first and third are therefore the “shoulders” while the second is the “head”. The pattern completes when price breaks through the neckline of the pattern; the neckline is a trendline formed across the lowest points on the two shoulders. The target is derived f rom the length of the neckline to the head extrapolated from the breakpoint/neckline. Horizontal range – A flat range/channel which can be either continuation or reversal. The target is derived from the height of the pattern and projected off the breakpoint in the direction of the breakout. Impulsive – An Elliott wave term. Waves that go in the direction of the bigger trend. In a 5 -wave sequence, waves 1, 3 and 5 are impulsive waves. Because of the fractal nature of the trend, impulsive waves tend to be subdivided into 5- minor waves. Often measured by multiples of 1.00, 1.618 and 2.618. Key day reversal (bullish or bearish) – A reversal pattern also called engulfing pattern. In a bullish key day reversal, there is a preceding downtrend; the session makes a new low then closes back above the previous session high. In a bearish key day reversal there is a preceding uptrend; the session makes a new high then closes back below the previous session low. MACD – A trend-following momentum indicator that shows the relationship between two moving averages of prices. The MACD is calculated by subtracting the 26-day exponential moving average (EMA) from the 12 -day EMA. Moving Average – (abbreviated; -dma/-wma/-mma) A simple, or arithmetic, moving average that is calculated by adding the closing price of the security for a number of time periods and then dividing this total by the number of time periods. Short -term averages respond quickly to changes in the price of the underlying, while long-term averages are slow to react.
FX and Rates Strategies
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Past performance is not an indicator of future results. Future returns are not guaranteed,
SECURITIES DIVISION
Glossary of Terminology Negative divergence – When price makes a series of higher highs and the momentum indicator makes a series of lower highs. This can often be a warning signal that the market is running out of steam. Pennant – A short triangle that usually slopes in the opposite direction from the trend. It is a continuation pattern, meaning that it generally breaks out in the direction of the preceding trend. Positive divergence – When price makes a series of lower lows and the momentum indicator makes a series of higher lows. This can often be a signal that the market is forming a potential base (the downtrend is running out of steam). Pullback – When price retraces within an upward trend, signaling a slight pause in upward momentum. This i s often viewed as a brief reversal rather than material turnaround. Resistance – The level at which sellers may be as powerful and aggressive as buyers and stop the advance. A resistance level becomes a resistance zone when more than one pivot converges at roughly the same place. Once broken it becomes support. Retracement – Any correction to the principal trend. In an uptrend, it is a downward correction. In a downtrend it is an upward correction. RSI – A technical momentum indicator that compares the magnitude of recent gains to recent l osses in an attempt to determine overbought and oversold conditions. Calculation is RSI = 100 - 100/(1 + RS*) where RS = Average of x days' up closes / Average of x days' down closes. Oscillators – Any momentum study which is banded between two extreme values. It is used to determine overbought and oversold conditions. Example; Slow stochastics is an oscillator but RSI is not because it is not banded by two extremes. Shooting star – A candlestick pattern. Opposite of an inverted hammer. The real body occurs in the lower end of the range, a long shadow exists above the body of the candle, the candle appears at the top of a trend and signifies exhaustion. FX and Rates Strategies
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Past performance is not an indicator of future results. Future returns are not guaranteed,
SECURITIES DIVISION
Glossary of Terminology Stochastics – A study which looks at the most recent close price as a percentage of the price range (high to low) over a specified window of time. In an uptrend, should expect the stochastics indicator to rise. In a downtrend should expect the stochastics indicator to fall. Slow or fast stochastics refers to whether the indicator is smoothed or raw. In other words, slow/smoothed stochastics takes a moving average of the moving average. Sub-waves – An Elliott wave term. Refers to the fact that the wave principal is fractal. Each wave is “sub-divided” into smaller waves. Regardless of what time frame used, should in theory be able to identify similar patterns. Support – The level where buyers become as powerful or aggressive as sellers and stop a price decline. Should be viewed as a psychological barrier. Once broken, support turns into resistance. Throw-over/throwback – When price breaks out of a pattern or structure either from above (throw-over) or below (throwback) and then quickly reverses back where in the direction that it came from. Also known as a false break or trap. Trap – See throw-over/throwback. Can be either a bull trap (when it breaks higher) or bear trap (when it breaks lower). Triangle – A pattern which has converging trendlines. It can be rising, falli ng or symmetrical. In Elliott wave theory, triangles are common in 4 th and B waves. The direction of the breakout typically determines the direction of the target. Wave – An Elliott wave term. A sustained price move in one direction as determined by the reversal points that initi ated and terminated the move. A wave cycle is composed of two waves; impulsive and corrective. Wedge – (ascending/rising or descending/declining) Zigzag - An Elliott wave term. A single ABC correction where wave A is impulsive, B is corrective and C is impulsive. A zigzag can be a complex double or triple. A complex double is defined as an ABCXABC.
FX and Rates Strategies
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Disclaimer for clients Product Specific Risk Disclosure The ideas detailed in this presentation may involve the purchase of options, in this case the premium paid may be lost if favourable market movement for the structure concerned does not take place.
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FX and R ates Strategies
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FX and R ates Strategies
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FX and R ates Strategies
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Past performance is not an indicator of future results. Future returns are not guaranteed,
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Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,
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FX and R ates Strategies
Goldman Sachs does not provide accounting, tax or legal advice; such matters should be discussed with your advisors and or couns el. This material is intended for illustrat ive purposes only and is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and is no indication (implied or express)
Past performance is not an indicator of future results. Future returns are not guaranteed,