Trading system based on short-term and medium-term fluctuations.

Discussion in 'Technical Analysis' started by kabash, Aug 13, 2024.

  1. kabash

    kabash

    In this guide we will try to consider the construction of a simple trading system based on the methodology of using short-term and medium-term fluctuations outlined in the book by L. Williams “Long-Term Secrets of Short-Term Trading”.

    The guide to effectively constructing support/resistance zones based on candlestick patterns will consist of 5 parts, in which:

    - we will analyze how to structure a price chart based on short-term fluctuations,

    - we will consider constructing medium-term fluctuations based on short-term ones,

    - we will learn to determine a trend and correction based on medium-term fluctuations,

    - we will study possible entry points based on the market structure,

    - we will develop an algorithm for a simple trading system based on medium-term fluctuations and test it.

    1. Structuring the chart based on short-term price fluctuations.

    Financial markets are a visual world where price charts dominate. However, the analysis of price charts through traditional technical analysis is often ineffective and cannot reliably predict price behavior. However, all the market's non-systemic nature and its chaos can be structured.

    Analysis of typical market structures allows us to identify specific patterns of price behavior.

    The first task for understanding the market is to identify its short-term structure. To do this:

    analyze the price extremes of the bars, every time we see a bar maximum with lower maximums on either side of it, then this bar is a short-term maximum, and vice versa, if a bar minimum appears with higher minimums on either side of it, then this bar is a short-term minimum.

    upload_2024-8-13_9-36-38.png

    Short-term extremes.

    Inside bars are ignored when determining short-term price fluctuations, as they indicate market saturation.

    Outside bars, which occur approximately 3% of the time, should be further analyzed depending on the direction of their further breakout.
    upload_2024-8-13_9-36-56.png
    External and internal bars.

    By understanding these basic price dynamics, one can mechanically and automatically measure and determine short-term market movements.
    upload_2024-8-13_9-37-17.png
    Short-term fluctuations.


    After constructing short-term extremes (oscillations), we see not a chaotic structure of price movement, but some ordered models.

    Although it is possible to trade according to short-term oscillation models, they do not reflect the current market structure on your working timeframe, but rather show what is happening on a shorter period.
    upload_2024-8-13_9-37-33.png
    Short-term fluctuations.

    Therefore, we will use short-term fluctuations as a basis for constructing medium-term fluctuations and searching for an entry trigger.

    2. Structuring the chart based on medium-term fluctuations.

    The next step in constructing the medium-term market structure is based on a similar principle, assuming that medium-term highs/lows are short-term highs/lows with lower/higher short-term highs/lows on either side.

    Thus, short-term fluctuations are combined into medium-term fluctuations in the same way that individual bars are combined into short-term fluctuations.

    However, the market structure based on medium-term fluctuations already reflects the current picture on the scale of the time frame used.
    upload_2024-8-13_9-37-54.png
    Medium-term fluctuations.

    That is, by analyzing the market structure based on medium-term extremes, we can determine what the current trend is on our working timeframe, whether there is a correction. This information will be fundamental for making a decision to enter a transaction.
    upload_2024-8-13_9-38-6.png
    Medium-term fluctuations.

    3. How to determine the trend and correction by medium-term fluctuations?

    Obviously, in order to trade in the direction of the trend (and this is the safest way to trade), you need to be able to determine the trend.

    An effective and clear way to determine the trend is to analyze it based on medium-term fluctuations. The starting point of an upward trend will be a situation in which the medium-term low is located above the previous medium-term low. In this case, there is an understanding that the sellers did not have enough strength to update the previous low, which shows their weakness. However, to confirm the strength of buyers, it is necessary to see an update of the medium-term high, in this case we can say that the current trend is upward.
    upload_2024-8-13_9-38-24.png
    Formation of an upward trend.

    In turn, the definition of a downward trend will be the mirror opposite. If the price forms a lower medium-term high, this means that buyers did not have enough strength to raise the price above the previous medium-term high, which shows their weakness. To confirm the strength of sellers in this situation, we wait for the medium-term low to be updated, in which case we can say that the trend is becoming downward.

    upload_2024-8-13_9-38-37.png
    Formation of a downward trend.

    In turn, any medium-term fluctuations going against the current trend are corrections. The correction will exist until a new trend appears. Corrections on medium-term fluctuations.
    upload_2024-8-13_9-38-54.png
    Corrections on medium-term fluctuations.

    4. Entry point into a position by trend.

    According to L. Williams' method, you can enter a position directly at the moment of a trend reversal, that is, at the moment when the trend changes from ascending to descending or vice versa. However, in our opinion, a safer entry point may be the moment of entry from correction when the medium-term fluctuation reverses in the direction of the main trend.

    For example, the current trend is ascending, which means we expect a correction against the trend. That is, we wait for the appearance of a medium-term fluctuation towards sales. Next, we wait for this downward medium-term fluctuation to reverse towards the trend. The moment of the reversal of the medium-term fluctuation is easy to track by the reversal of short-term fluctuations, an “undershoot” will be visible on the low (that is, the short-term low will be higher than the previous one and the short-term high will be updated).
    upload_2024-8-13_9-39-15.png

    Entry point for purchase from correction

    In selling, the entry point will look like a mirror image. For example, the current trend is downward, which means we expect a correction against the trend. That is, we wait for the emergence of a medium-term fluctuation in the direction of growth. Then we wait for this upward medium-term fluctuation to reverse in the direction of the trend. The moment of the reversal of the medium-term fluctuation is easy to track by the reversal of short-term fluctuations, an “undershoot” will be visible on the high (that is, the short-term high will be lower than the previous one and the short-term low will be updated).

    to be continued
     
    Last edited: Aug 13, 2024
    GordyG, Darc and HawaiianIceberg like this.
  2. Aloha Kabash,

    Welcome to ET! Quite a large first post. To paraphrase, you’re looking for a HL or a LH on a longer timeframe and using it as your signal to go to the shorter term timeframe and look for a HL or LH in the same direction. Is that correct?

    I’ve got lots of discussion points / questions so I’ll start slow.

    Ranges are going to chop a system like this up. How do you filter them out?


    Looking forward to hearing more about your ideas, as I’m a fractal person myself.
     
    Last edited: Aug 13, 2024
    Darc likes this.
  3. kabash

    kabash

    Hi. On the contrary, with the help of short-term highs and lows, I draw medium-term highs and lows to understand the trend structure. You can immediately see that if the high is higher than the previous one, it means the trend is up, and if the low is lower than the previous one, it means the trend is down. During a sideways movement, highs and lows are not updated or are updated insignificantly, which can be confirmed by short-term highs and lows.
     
    Darc likes this.
  4. kabash

    kabash

    upload_2024-8-13_22-24-6.png
     
    Darc likes this.
  5. kabash

    kabash

    I haven't finished the system yet
     
    Darc likes this.
  6. kabash

    kabash

    upload_2024-8-13_22-50-58.png
     
    Darc likes this.
  7. kabash

    kabash

    upload_2024-8-13_22-52-7.png
     
    Darc likes this.
  8. Aloha kabash,

    Here is an example of a range that holds this system hostage.

    Now, say your profit target where 1 tick, this specific example could have made money, but the risk would be unwarranted.

    IMO, the most difficult part of trading is: When do you exit? You've defined your stop loss, but where is the target, or what constitutes an exit/reversal?

    I'm not trying to be cynical, rather, I'm giving your questions to help make your system more robust

    Kabash_TradingRangeExample.JPG
    *NOTE: Sometimes the entry could be a better price than the signal price when using the faster timeframe, it just isn't drawn like that here
     
    Darc likes this.
  9. SunTrader

    SunTrader

    IMO, for my uses, Open/Close are more important than High/Low.
     
  10. kabash

    kabash

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    #10     Aug 16, 2024