CHARTING
Identify Potential Turning Points
A Closer Look At Divergences
by Clive Roffey, Ph.D.
There's more to divergences than meets the eye.
In 1972, the investor and well-known goldbug James Dines produced a 600-page treatise called How The Average Investor Can Use Technical Analysis For Stock Profits. I regard this book, unfortunately now out of print, as comparable in the value of its contribution to technical analysis to the classic Technical Analysis Of Stock Trends by Robert Edwards and John Magee. If you can lay your hands on Dines's work, you should. The first major section, on the application of group and crowd psychology to stock market move-ment, is especially valuable.
Although the book's emphasis is on point and figure charting, it also has the most thorough classifi-cations of market tops and bottoms I have come across. In addition, there are numerous general market items of significant interest, such as the relationship of market moves to Presidential elections and the value of the last digit in the year. However, these are not my main reasons for discussing Dines's book.
A minor section is titled "The momentum index as a near-infallible indicator." If you recall, in the early 1970s there was no relative strength index (RSI) nor stochastic indicators. Momentum was virtually the only oscillating indicator in use, and even so it was not well understood. I found it very strange that Dines referred to momentum as a near-infallible tool; he also stated that it was one of his favorite indicators, but he only spent two pages out of 600 discussing it. This set me thinking: What did Dines know that he was not revealing? Six years later, in the June 1978 issue of the Datastock Review, I published an article on the use of momentum divergence as a new tool for determining trend changes in share and index prices. At exactly the same time, unbeknownst to me, J. Welles Wilder published his RSI and also applied divergence to this outstanding new indicator, which changed the course of oscillator methodology in technical analysis.
Figure 1: simple divergences. Here's a look at some of the different types of simple divergences.
...Continued in the July 2002 issue of Technical Analysis of STOCKS & COMMODITIES
Excerpted from an article originally published in the July 2002 issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright 2002, Technical Analysis, Inc.
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