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This week we decided to do a follow up on one of our tools currently in development that we discussed five showcases ago when we recommended shorting the Coffee market. Specifically, we were using a new method to forecast cycle turning points far into the future. In that showcase, we combined this turning point forecast with our Cycle Forecaster and various other tools in an analysis of Coffee futures. This week we will look at forecasted turning points in the S&P:
Since we last talked about forecasting turning points, we have been working on a method to combine artificial intelligence techniques such as fuzzy logic and genetic algorithms with our basic cycle model. The result is an interesting indicator that has the ability to accurately forecast turning points far into the future.
Above is a chart with our cycle indicator applied. The way to use such a tool is to look ahead for the next turn, note the date, and look to place a trade in that time period. The forecasted points are marked on the above chart with an "x". Historically speaking (since 1990), a turning point in price will occur over 80% of the time near one of these x's. This accuracy is borne out in the above chart with only 2 incorrect forecasts. So this tool is not perfect, but pretty good considering these points were known about over a year ahead of time. Note that the late '98 crash was pinpointed precisely, as was the Oct. '97 drop.
Let's take a look at the most recent forecasted point:
The big "X" at the top represents our forecasted turning point. Basically this is a flag that tells you to look at the indicators for a possible trade. In our case, there were clear indications that a short trade was in order. First, there was a bearish divergence signal given by our 13 bar MA_Momentum. Price was going up, but momentum was going down. This means the move has no steam left in it. Additionally, MA_Fractal was dropping, confirming our suspicions that there was trouble with the strength of the trend. Exhaustion Bars gave a sell signal, and the Cycle Forecaster turned down. Sure enough, there was a nice drop in May worth from 20 to 60 points depending on the exit strategy employed.
The important thing about this trade is that there was support in two different time frames. The longer term chart showed that we could be coming towards a major turning point, while the entry was refined using indicators on the shorter time frame. Although our turning point forecaster was used in this example, it is not necessary for the success of this approach. Elliot wave, Fibonacci time projections, or classical cycle methods can be used on the longer term chart to give us projected turning points. Then we can move to shorter term indicators to look for the triggers to actually get us in the trade. Most amateur traders ignore a multiple time frame approach mainly because popular charting software is not very friendly towards this kind of analysis, especially when it comes to designing trading systems. Don't be lazy because your charting software vendor was! Improve your trading results by looking at multiple time frames.