December 2003

"Can the markets be predicted?"  That is a century old question.  The 1900 Ph.D. thesis dissertation of Louis Bachelier, in Paris, argued the apparent erratic motion of stock market prices is identical to random walks.  The 1965 work of Nobel prize winner Paul Samuelson proved that prices fluctuate randomly.  While the bias of academia is towards markets being efficient, completely random and unpredictable, it appears that most traders believe otherwise.  Traders see market behavior and price patterns that are repeatable, which therefore offer an element of being predictable.

Larry Pesavento, a well know trader and author, has been a long time proponent that market behavior can be predicted.   The titles of some of his books are: 'Astro-Cycles: The Trader's Viewpoint', 'Fibonacci Ratios with Pattern Recognition', and 'Profitable Patterns for Stock Trading'.  The last mentioned book has a chapter titled 'The Non Random Nature of Chaos Theory' which discusses his involvement in an area of research using Neural Networks to forecast the next day's price action.  Neural Nets were discussed in greater detail in the January 2002 and August 2002 issues of the Trading Tips newsletter.   A profile of Larry Pesavento and his trading style is discussed in the June 2002 Trading Tips issue.

I believe the markets can be predicted.  Market behavior has often been compared to waves because of the inherent characteristics of amplitude and periodicity.  Market technicians have used Fibonacci retracement and extension tools to measure and predict amplitude fluctuations.  The Pesavento Patterns tool was developed for Larry Pesavento to quickly find the swings in the price action and label the amplitude ratio relationships.  Cycle tools have been used to measure and predict periodicity.  A powerful tool that is predictive of both price and time is the Pyrapoint tool.  

Possibly the most original predictive tool in recent years to be made commercially available is the Ensign Map tool found only in the Ensign Windows charting software.  The Ensign Map tool analyses enormous amounts of market data to make a probable forecast of future market behavior.  The tool incorporates the characteristics of both amplitude and periodicity to forecast future price action.   That is a monumental objective, and the Map tool does an exceptional job.

The Ensign Map needs lots of back data in order to make a useful prediction.  The tool is designed to recognize patterns and learn market characteristics for both vertical price fluctuations and the timing of swing turning points.  Time of day is an important consideration since behavior at market open is used to predict opening behavior.  Mid-day behavior is used to make a mid-day forecast.   Behavior at market close is used to predict market closing patterns.  In order to see sufficient pattern detail, it is recommended that the tool be applied to 2-minute bars up to 5-minute bars.   A large time frame bar like 60-minutes is inappropriate because there is hardly any pattern in just 6 hourly bars per day.  Some users have applied the Map tool to constant tick bar charts with success, but the variable nature of the time period covered by constant tick bars diminishes the precision of the Time characteristic that the tool is analyzing.

Market Open Forecast
Recalculate the Map at the end of the day session.  The Map that shows on the chart will have very high correlation to the chart because it has the benefit of hindsight.  The data showing on the chart and all prior days off the left side of the chart is known information, and is used to make the forecast for tomorrow's opening behavior.

The forecast is for the market to move higher in the first couple hours of the trading session.  Here is what actually happened.

The market started higher, but then sputtered sideways in a 3 point trading range.   This is hardly fulfilling the previous day's forecast for the market to move upward to the 1069 price area.  

Mid-day Forecast
Now that new information about the actual open is known, it is time to make a new forecast for the mid-day.  The Map is recalculated manually by pressing the equal sign key.  

The Map has been resized in its amplitude by pressing the Shift Left Arrow or Shift Right Arrow keys.  Then it was repositioned vertically so it nicely overlays the chart's bar pattern as shown.   The Map is positioned vertically by using the Shift Up Arrow or Shift Down Arrow keys.  The forecast is for another couple hours of sideways choppy action.  This is what developed through the mid-day.

Late Afternoon and Closing Forecast
A couple more hours of price action describing today is known.  It is time to make an update of the forecast to predict how the market will behave for the balance of the afternoon and into the close.  The equal sign key is pressed to recalculate the Map.   The new Map is resized and repositioned to overlay the chart bars nicely.  The forecast for the balance of the day is for more sideways action near the high of the day.

This is how the market actually closed.   The market rallied to the 1069 price after all.

Summary
The Ensign Map is a forecast based on probability, not certainty.   The examples illustrate how the Map is used.  Note that the time of the forecast is shown on the chart in the top left corner.  The time stamps tells when the Map calculation was made.  Data ahead of this time stamp is known information.   Bars shown on the chart after the time stamp show how the market developed in comparison to the forecast.

The examples shown in this article not particularly impressive.  Perhaps it is better that way lest hand picked stellar examples give a false expectation about what the Map can do.  Some forecasts are truly phenomenal, however, such as this forecast made at 11:56 on December 3rd for the market to sell off in the afternoon and close on the low of the day.  This Map when sized to fit the bars ahead of 11:56 made an exceptional forecast of the market's closing price.

Here is another excellent example of a Map calculated at 12:28 on December 9th forecasting the market to trade lower in the afternoon and close slightly off of the low of the day.  The chart shows how the afternoon behavior developed.  Again there is good correlation between the forecast and the actual, and the price where the market closed.

The Ensign Map is a regular feature on the charts posted by Larry Pesavento in the TradingTutor chat room.

The Support and Resistance tool uses specified chart prices to calculate Support and Resistance lines. The High, Low, and Close prices of a daily range are often used as 3 input prices.  To apply the Support and Resistance tool on a chart click the Support and Resistance button.  The cursor will change to a pencil while in the draw mode.  Select the 1st point from a high point (usually the High of a bar), then hold down the left mouse button and drag to the 2nd point.  The 2nd point should be the Low of the bar or trading range.  Release the mouse and then move to the 3rd point.  The 3rd point is the point where the market is currently trading, or the Closing point of the range.  Click the left mouse button once to mark the 3rd point.

Place a check mark on the tools' property form in the 'Find H-L-C' box to automatically find the Pivot value using the indicated prices in the drop-down list box.  The drop-down list box allows you to choose a few variations on which prices to use for the Pivot calculation.  Make sure that you place a check mark in the 'Find H-L-C' box if you want to use the prices indicated in the drop-down list box.  Example, if you select (H+L+C+O)/4 from the listbox, the tool will auto-find these prices for you.

Support and Resistance lines are plotted based on the calculated Pivot point.  The lines indicate possible support and resistance levels.  Watch for support and resistance on the lines.  NOTE: The first 4 Support and Resistance lines can be accessed by the Alerts Trading System draw tool.

Support and Resistance Lines Formula
Pivot   = (High Point + Low Point + Close Point) / 3  (example)
Range = High Point – Low Point

4R  [4th Resistance] = 2R + Range
3R  [3rd Resistance] = 1R + Range
2R  [2nd Resistance] = Pivot + Range
1R  [1st  Resistance] = Pivot + (Pivot - Low)
H    [Yesterday's High]
P    [Pivot Price, i.e. Midpoint]
L    [Yesterday's Low]
1S  [1st  Support] = Pivot - (High-Pivot)
2S  [2nd Support] = Pivot - Range
3S  [3rd Support] = 1S – Range
4S  [4th Support]  = 2S - Range

Pivot Price
The pivot price is always contained within the range of the High and the Low points.  When the formula for the Pivot is (High+Low+Close)/3 then the Pivot will be in the middle third of the High-Low range.  The highest pivot price would be when the Close is at the High, wherein the Pivot is at 66.7% of the daily range.   The lowest pivot price would be when the Close is at the Low, wherein the Pivot would be at 33.3% of the daily range.   The following illustration shows the maximum extremes of the pivot price for the oft used formula of Pivot = (H+L+C)/3.

1st Support and 1st Resistance
The 1st Support and 1st Resistance levels are created by inverting the daily range vertically about the pivot point.  I guess that is where the pivot point gets its name.  This illustration shows the effect of pivoting the 1st bar which is shown in two colors to illustrate the part that is above the pivot and the part that is below the pivot.  The 2nd bar is the 1st bar inverted about the pivot point, and it shows where the 1st Support and the 1st Resistance levels come from.

2nd Support and 2nd Resistance
These two levels are calculated by adding the daily range to the pivot price and subtracting the daily range from the pivot price.  The daily range is shown graphically as the vertical blue lines above and below the pivot price.

3rd Support and 3rd Resistance
These two levels are similar to the 2nd S&R levels.  The daily range is added to the 1st Resistance level and subtracted from the 1st Support level.  The graphical illustration of this is shown using the orange lines to measure the daily range.

Other Formulas
There are other variations of the above theme for calculating Support and Resistance levels.  The most common variation is to use a different formula for the Pivot Price.  Ensign Windows supports the following variations through the use of the drop down listbox to select the Pivot Price formula.  The most commonly used formula for the Pivot is the (H+L+C)/3 selection.

Other formula may look different that what has been presented in this article.  More often than not, algebraic rearrangement of the formula terms simplify the formulas to those given in this article.