A Kinetic Energy Idea

The purpose of this thread is discussing a little idea I had. The background is simple. One could see the markets as a pool of some viscose liquid. If someone throws a rock in to this “pool” the wave that is caused by this action will be larger or smaller depending on the weight of the rock. It is easy to demonstrate that the amplitude of the wave and its duration in time (before it fades away) will depend on the kinetic energy stored in the rock’s movement and the level of liquid’s viscosity. The kinetic energy is something that one could figure out using grade’s 5 math:

E = (m * square(v))/2, where “m” is the mass of the rock and “v” its velocity. Applying this formula to the markets is also easy. One could possibly use the following interpretation: “m” = Volume of shares, “v” = Price change in the unit of time (price’s rate of change). So the “kinetic energy” of the market moving event of any kind could be assessed by squaring the price rate of change and multiplying it by the number of shares traded in the same period of time that has been used to assess the price change. The tougher question, of course, is how do we model the viscosity? One of the ideas I had is to use a simple ATR indicator to divide the Kinetic energy by it to normalize the energy by the size of average swings observed in the market. I have built a few indicators using this idea and applied it to a chart. At some point of time I will post that chart but for now I would like to discuss the approach first and listen to the ideas that folks might have. It is quite easy to program such an indicator in any charting software to see the results. I personally plotted it as a histogram. It did produce surprisingly interesting results for such a simple indicator, but I don’t want to influence your opinion and would like to discuss this idea first.

Cheers.

 

It seems to me that viscosity would be more analogous to some sort of liquidity measure rather than a volatility measure such as ATR. What is the reasoning for taking volatility to be the analog of viscosity? Or is it intended as a proxy for liquidity since volatility and liquidity are related?

 

Yes, that was an idea. I was thinking about the best approximation for liquidity and only two ideas came to mind:

1. ATR
2. Tick/per minute ratio

I tried both but I am not satisfied yet.

 

just to clarify:

viscosity is a retardant feature--like friction.

you're thinking in terms of Energy, acceleration, motion, etc. think in terms of displacement, velocity, etc

 

Your fluids analogy brought to mind this paper. Possibly some of their findings might be worth bearing in mind with what you're doing:

http://www.automatedtrader.net/Files/PDFs/Quant_Articles/volatilityCausalStructure.pdf

 

I think you are on the right track with the above. This is a project that I wanted to do, but have not found the time, instead being bogged down in C/C++ API interface coding.
My take:
1) define the swings
2) measure the swings:
- length of time (or ticks)
- price magnitude
- velocity
3) create a formula from the above for determing your term "viscosity" (that will be the hard part)
4) plot this and observe the CHANGES to it
5) build trading rules to determine if you can garnish an edge with it.

 

You wish to measure the vector impulse wave and it's duration?

 

I use intrabar and cumulative delta to measure the flow of the market best. I have not found anything that can even get close to reading the markets ripples/waves as I can with delta information.

- just my $.02

 

Something like that, yes

 

Without reinventing the wheel and at the risk of raising the hackles on the backs of system traders, I've used the measurement of impulse vectors to approximate future highs and lows and square root increments for price targets. Simple geometry/timing angles. No voodoo, Gann or Elliott--yet the seed principle is shared. Different ways of measuring the same thing.

Further explanation is dependent upon one's beliefs and the reaction to the above. ET is generally not receptive to any ideas that exclude balls of brass.