If you are not familiar with basic trend formation analysis this lesson will not make sense: Please read this lesson to get more familiar with most things trend related:
Edit Sep. 15 2014: This lesson applies to normal cycle's behavior inside the auction. Climactic cycles behave very differently as has been explained here:
One of the reasons some folks get in trouble shorting the markets when the markets are extended is because they ignore the market cycles, I mentioned on a previous lesson that as long as the 15 minute chart remains in an uptrend the 60 minute and the daily charts will continue moving higher, fair enough.
On example A: Price on the 15 minute entered a downtrend (Now has two lower highs and two lower lows) but on the 60 minute chart it's only a controlled pullback to support in a clear uptrend, judging by the rising 20 MA. (red line)
On example B: The pull back ends on the 60 minute chart, it takes control of price, begins another uptrend cycle higher to close above the previous high, the uptrend continues on the 60 minute chart, by now the uptrend on the 15 minute chart gets re-established again and why not? The daily and weekly charts are both in an uptrend.
I just mentioned 5 reasons the odds are very high for price to continue moving higher so if you shorted without a clear technical reason you are trapped!
Example A: The 60 minute chart failed to keep its uptrend going, the first clue was that buyers were overwhelmed by sellers forming the first lower high (LH), that is the first technical high risk high reward aggressive short entry with the protective stop above the double top.
Sellers kept overwhelming buyers forming a clear cycle/ waving lower, price finally entered a downtrend (DT). Price got under its declining 20 MA (Red line). Forming a red bar on the daily chart, the odds were high price would have a deeper pull back to support or straight red line, the weekly chart is still green.
When will the 60 minute chart stop its DT? And what is going to take for the uptrend (UT) To be re-established if at all? First it needs to form a higher low signaling buyers taking control, very likely at support on the next larger time frame or daily chart.
Example B: Above shows the 60 minute remains in a DT. The daily chart continues its controlled pullback to support and the weekly chart is forming a topping tail after three green bars.
Once price reaches that support on the daily chart, combined with the fact that it remains in a clear UT Increases the odds for a reversal and the beggining of the uptrend cycle bounce. As long as the 60 minute chart remains in a DT The daily chart continues moving lower.
On the chart below: Example A: The 60 minute chart just formed a higher low, the daily chart now on support, the odds are high that the next cycle higher begins on the daily chart to either make new highs and continue its uptrend or form a lower high double top and either begin consolidating for another break out or begin the cycle lower like the 60 minute chart did two charts above, the weekly chart is extended to the upside so the odds are high of no new highs on the daily chart.
Example B: The 60 minute chart re-establishes its uptrend, the daily chart begins to cycle higher, as long as the 60 minute chart remains in an uptrend the daily chart will keep moving higher.
The weekly chart is extended and if it is near resistance on this time frame it will pause and either form a base to absorb all the selling from those trapped longs that had to wait for price to return for them to get out, or a have a controlled pullback to its R10 MA. We just don't know, the clues will be given on the potency of the pullback, if it is shallow or deeper will send different signals; more in depth analysts of this below.
As long as the daily chart keeps up trending the weekly chart keeps moving higher, maybe this is AAPL Stock from 400-700$. That is why we analyze the market cycles from the monthly to the 15 minute chart.
The weekly chart is now extended after four green bars to resistance, the daily chart had a pullback to support, the odds are high that no new highs on the daily chart will be made because the weekly chart is not only extended but at resistance, right?
The daily chart is in an uptrend, for the weekly chart to stop going higher, the daily chart has to stop its uptrend by forming a double top or a lower high that could send price below the last higher low for the uptrend to enter into a trend less state, and eventually maybe a downtrend.
But what happens when once the lower high forms putting the UT in question, sends price lower but price stops above the HLP? Forms a double bottom, signaling what direction?
That means that the weekly chart remains in control, if sellers are unable to push price lower, then the longs will try to push price higher simply because the daily chart is not ready to go lower, then the previous top is the target.
Forward price two weeks later, the double bottom signaled to the bulls that there were no sellers and the previous high was the target, price traded and closed above that high thus re-establishing the uptrend on the daily chart and price kept moving higher on the weekly chart.
On the next chart price is in an UT. Has a semi deep pullback on its weekly chart that stopped on cluster support and rising 10 MA. This time it took much longer on the daily chart to fix because of the deepness of the pullback, it needed to form a W Bottom first to signal that the weekly chart was ready to turn higher.
Then the UT Cycle on the weekly chart took control of price sending it to the top and closing price above the previous high, that confirmed the uptrend continued on this TF. And any controlled pullbacks on the smaller time frame or daily chart was buy able as was the case on the first chart.
On the next chart:
Ideally for this strategy to work the weekly chart has to be ready to bounce higher and have no clear resistance like a rounding top or other obvious signs of trapped longs overhead as shown on the chart below #3, the weekly chart is in an uptrend taking a breather, having a controlled pullback, whenever is ready to cycle higher or form a HL Pivot, both the daily and 60 minute charts can very easily be in a confirmed downtrend (DT) # 2 ( Price on the daily chart was inside a descending channel) And both need at least a double bottom or a HL First to signal to future buyers that the time for reversal is fast approaching, even better if the trend violently changes as was the case on the 60 minute chart of FB (on red and blue) #1 to signal to future buyers waiting on the sidelines that the sellers are exhausting and buyers are getting control of price, this is where the 60 minute chart and faster TF. Mind you, sends the most important signal by being in a DT. Once the HL Forms puts the DT In question and the whole cycle higher begins to form because the weekly chart has pulled back enough and needs to begin its next cycle higher.
For that the 60 minute chart needs to establish an uptrend or form 2 HHs And 2 HHs
#1 Entering into an uptrend first was necessity to get the daily chart moving higher, as the uptrend continued on the 60 minute chart the daily chart retraced 100% the last drop and consolidated for three days giving time to the weekly chart to close with a bottoming tail set up bar to form the HLP And continue moving much higher as the next up cycle on the weekly chart took control of price as seen in the chart below.
As long as the 60 minute chart remains in an uptrend (UT) The daily and weekly charts will keep moving higher, if the weekly is in an UT With zero resistance, even better.
What if instead of new highs the bulls are too weak to close price above the previous high just forming a double top on the weekly chart?
This is one scenario you don't want to see if you are long this stock or ETF. Because a double top on this time frame has to be resolved in the same time frame, taking many weeks for a pullback to shake some weak hands, gather all the bulls at support if any, or build support by forming a higher low pivot HLP. To try to ignite the next cycle higher and another try at the highs, but as the days progress the risk increases of bad news and lower prices, specially if this stock or ETF. Has been moving higher for many months, the pullback won't be buy able unless it's controlled, forms a HL Pivot as was the case two charts above and the daily chart has formed a higher low or W bottom, signaling the next larger time frame is ready to move higher.
Notice that the daily chart continues in a wild DT And as such the weekly chart continues moving lower.
Not all stocks drop 30% after forming a double top on their weekly chart as shown on the chart of TLT Above but this lecture was written to open your eyes to the possibility of trouble if the longs are unable to keep the uptrend on the weekly chart of the stock or ETF. You are holding.
And that is how all the time frames cycle all the way from the weekly to the 15 chart, opening gaps have the power to interrupt and at times drastically change said cycles.
Back to basics, this is how trend pivots form:
Read this four links to understand the influence the monthly chart has over the rest of smaller time frames:
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All charts are source www.eSignal.com