Waxing And Waning
Phase Change Index
by M.H. Pee
Which phase is your market going through? Find out by using this indicator.
Prices at any time can be up, down, or unchanged. A period where market prices remain relatively unchanged is referred to as a consolidation. A period that witnesses relatively higher prices is referred to as an uptrend, while a period of relatively lower prices is called a downtrend. The phase change index (PCI) is an indicator designed specifically to detect changes in market phases.
THEORY BEHIND THE PCI
Six phase changes are possible, as illustrated in Figures 1-6 (the black line represents the closing prices for a particular period, in this case 35 days). Just how does the PCI differentiate between the six? First, note that in order to trade the market profitably, you will have to hold long positions during uptrends, be short during downtrends, and be flat (or at least remain with the previous position) during consolidations until you are sure of the market direction. Hence, for the scenarios in Figures 1 and 3, you would like to be long (they signal what could be the beginning of an uptrend). For the scenarios in Figures 2 and 4, you would prefer to be short, and for the scenarios in Figures 5 and 6, you would be happy to remain with your position.
So what is the difference between Figures 1 and 3, Figures 2 and 4, and Figures 5 and 6? To find out, draw an imaginary gradient line connecting the starting and ending closing prices for the selected period (see the red line in Figures 1-6). For the scenarios in Figures 1 and 3, note that most of the closes for the period remain below this line. In addition, the gradient line slopes upward.
Figure 1: phase change from consolidation to uptrend. You would be looking to enter long positions in this scenario.
Figure 2: phase change from consolidation to downtrend. Here you would look to enter short positions.
...Continued in the May issue of Technical Analysis of
STOCKS & COMMODITIES
Excerpted from an article originally published in the May 2004 issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright 2004, Technical Analysis, Inc.
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