Follow the Money

Trendlines are initially tentative – any two points can be connected, usually simply two high or two low points. When the price again touches or even slightly penetrates the line and turns back, the trendline becomes valid. The more points that touch a line, the more important that line becomes, attracting the attention of other traders deciding whether to enter or leave the market.

Trendlines drawn in most computer charting programmes are usually straight. Many technicians also use hand-drawn curves to fit points to a chart – equally valid and tending to work better in markets that are accelerating. The reason curves are not used in technical charting programmes probably has more to do with the complexity of fitting the line than the limitations of the machine.

Scales and Repetitions

To find a support level, it has been observed that certain divisions of scales work better than others. One method is to divide the range into halves, quarters and eighths, or alternatively, into thirds and sixths. Another method is to use the Fibonacci golden section, Phi (1.618033987…), used to project extensions, and the reciprocal, phi (0.618033987), used for contractions.

Sometimes called the divine proportion, it was used by the ancient Egyptians, among others. The Fibonacci golden section can be complex, though it retains many adherents for one reason: it works. What tends to be forgotten is this is a method of determining where to look for change.

Because each market is different, analysts will apply either method and take the one that seems to fit best. It’s usually at this point those who haven’t done technical analysis start looking for the egress.

The purpose of the scales is to determine if the trend is still in force. A move of 25% – 38.2% counter to the primary trend before the primary trend resumes indicates that not only is the trend still intact, but it is also vigorous. A 50% countermove is the most common turning point, and 61.8% to 66% are the last turning points. A move that extends beyond 66% usually goes back to the point of origin. Each possible turning represents a potential support level.

Many technicians use repetitions in addition to percentages, taking the dollar range from the first move to estimate the second. A market that has moved, for example, $100 in either direction is much more likely to repeat the move than a market that has never moved that much – i.e., history repeats itself. This is the basis of swing charting.

A market is not an abstract mathematical equation but rather a group (the same group with very little change) that just experienced a movement of certain dimensions. If you were to ask someone who had participated in the first $100 move what they would like the second time, the answer is likely to be, “Why, $100, of course.” This might be called a “100% repetition of the previous move in the same direction.”

The reality of the market is that, like the mind, once stretched, it never goes back to its original size.

Gold

It’s easy to fine-tune an analysis in hindsight, but back in 1980 there were days when the gold range was $100 or more. All a trader wanted at that point was an idea of how close the price was to the end of a move in either direction. The rally started in 1976 at $101.50 and crested in January 1980 at $873. A 50% correction from the high would be $487, and the low of the next move was $453.When the price advanced once again beyond the 50% mark, the next point to look for was 66.7%, or $732.The high was $729, a $3 difference.

When the price fell from $729, the question was how far it would fall. Where was it likely to find support? The first decline from $873 to $453 was $420. If history repeated itself, the price should fall to about $309.The actual 1982 low was $295, a difference of $14.When the price turned, the question became: where was it most likely to find resistance? A 50% correction was $512.The actual 1983 high trade was $514, a $2 difference.

Other than a brief $14 decline to $281 in 1985, the price stayed within the $295-to. $514 range for almost 15 years.

Natural Gas

Natural Gas has shown remarkable support at about $1.75 for the past ten years. The two major rallies in December 2000 and February 2003 both stopped at exactly $10.10.The irony was not that the price repeated the high, but that commercial buyers hesitated when presented with the opportunity to buy below $2.00 in both September 2001 and January 2002.They refused, thinking the price would go lower.

COMEX Copper

This is a quarterly copper chart. It is a market that most technicians believe “charts” extremely well, meaning that support and resistance levels and trends are usually reliable. When the trend is broken, it is frequently signals the start of a significant move.

In 1974 the price reached an apogee of $1.4070. In 1980, the high was $1.431. Only for a period of two quarters in 1988-89 did the market briefly venture above $1.50. One copper producer declined to sell above $1.25 in 1980, convinced that next time would be different. It was. The company no longer existed.

LME Copper

On a monthly LME copper chart one can see where support lines become resistance lines. This is a current chart, and it’s conceivable that copper is on the verge of moving up sharply. The resistance line at 38.2%, a Fibonacci correction level, is an important point. Until this is broken the trend is defined as sideways.