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Last week I was teaching a Professional Futures Trader Course in our Irvine office. We were looking at the recent, large price drops in the equity indexes and discussing the reasons behind them. According to the financial news networks, the sell off was caused from a combination of factors including: the Ukraine crisis, weak earnings from companies, and even the Ebola scare in Texas.

When we look at the charts, there are several things we see in price that actually warned of the price movement before the news found excuses for it. The news reports do not matter to the chart technician who can identify the warning signs the markets offer.

I want to stress that my entries and exits for trades are triggered by price action and I use the core strategy taught at Online Trading Academy in my own trading. Technical indicators I apply to my charts are simply an odds enhancer or a support tool.

In September 2013, I wrote an article called, “Modified Odds Enhancer.” In that article I discussed the way I use the technical indicator Relative Strength Index, (RSI). The traditional RSI will not offer you proper buying or selling signals in strong trending markets. Instead of using the indicator for entry signals, I use it more as a filter to keep me out of trades that are less likely to work and also for noting trend changes.

The RSI is an oscillator that measures the strength of up or down moves in price relative to the stock’s previous price movements. The typical readings for this indicator are 70-30. A reading of 70% means that the stock is overbought and likely to drop soon. The RSI crossing below the 70% line is sometimes taken as a sell signal. Conversely, a reading below 30% shows the stock to be oversold and perhaps ready to rise. A buy signal is said to be generated when the RSI crosses above 30.

The problem with using the RSI in this manner is that in a strong uptrend the RSI will typically use 40 as a support level. And when price is in a strong downtrend, the RSI will use 60 as a resistance level. In the previous article, I talk about using the RSI with those new parameters to identify some of those opportunities as we approach supply and demand levels.

I want to focus on the broad equity markets and see if there were any signs of potential trend change other than the “news” excuses. When a security is in a strong bull trend, the pullbacks hold at areas of demand and the RSI stays above 40.

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When we see a negative divergence in an indicator it can be a warning of trend weakness. Couple this with the fact that the RSI finally dropped below 40 for the first time on a weekly chart of the SPY since 2011, and you have the makings of a trend reversal.

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Looking back to the 2008 market crash, the Russell 2000 Index was the first to fall. It peaked in July 2007 while the other major indexes topped out in October.

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Flash forward seven years to 2014 and we could be looking at the same chart! The Russell 2000 peaked in July of this year and is now making lower highs and lower lows. The RSI on the weekly chart showed negative divergence followed by a break of 40.

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This may not be the start of a bear market, but the rise in volatility does warrant protecting your investment and trading money. Remember to trade with the trend and use price action for your decisions to enter or exit trades. We can use some indicators to assist our trading but never as the decision maker themselves.

Learn to Trade Now

Neither Freedom Management Partners nor any of its personnel are registered broker-dealers or investment advisers. I will mention that I consider certain securities or positions to be good candidates for the types of strategies we are discussing or illustrating. Because I consider the securities or positions appropriate to the discussion or for illustration purposes does not mean that I am telling you to trade the strategies or securities. Keep in mind that we are not providing you with recommendations or personalized advice about your trading activities. The information we are providing is not tailored to any individual. Any mention of a particular security is not a recommendation to buy, sell, or hold that or any other security or a suggestion that it is suitable for any specific person. Keep in mind that all trading involves a risk of loss, and this will always be the situation, regardless of whether we are discussing strategies that are intended to limit risk. Also, Freedom Management Partners’ personnel are not subject to trading restrictions. I and others at Freedom Management Partners could have a position in a security or initiate a position in a security at any time.

Editors’ Picks

EUR/USD trades weak below 1.0800 amid Good Friday lull, ahead of US PCE

EUR/USD trades weak below 1.0800 amid Good Friday lull, ahead of US PCE

EUR/USD remains depressed below 1.0800 after soft French inflation data, amid minimal volatility and thin liquidity on Good Friday. The pair keenly awaits the US PCE inflation data and Fed Chair Powell's speech for fresh hints on next week's price action. 

EUR/USD News

GBP/USD holds steady above 1.2600 as markets stay calm on Good Friday

GBP/USD holds steady above 1.2600 as markets stay calm on Good Friday

GBP/USD trades sideways above 1.2600 amid a typical Good Friday trading lull. A broadly firmer US Dollar could keep any upside attempts limited in the pair ahead of the US PCE inflation data and Fed Chair Powell's appearance. 

GBP/USD News

USD/JPY sticks to 151.40 amid BoJ’s cautious approach regarding monetary conditions

USD/JPY sticks to 151.40 amid BoJ’s cautious approach regarding monetary conditions

USD/JPY struggles as BoJ’s cautious approach to keep monetary conditions accommodative. Japanese CPI (YoY) rose 2.6% in March, from the previous reading of a 2.5% rise. The strength of the US Dollar is bolstered by hawkish statements from Fed officials.

USD/JPY News

Editors’ Picks

EUR/USD trades weak below 1.0800 amid Good Friday lull, ahead of US PCE

EUR/USD trades weak below 1.0800 amid Good Friday lull, ahead of US PCE

EUR/USD remains depressed below 1.0800 after soft French inflation data, amid minimal volatility and thin liquidity on Good Friday. The pair keenly awaits the US PCE inflation data and Fed Chair Powell's speech for fresh hints on next week's price action. 

EUR/USD News

GBP/USD holds steady above 1.2600 as markets stay calm on Good Friday

GBP/USD holds steady above 1.2600 as markets stay calm on Good Friday

GBP/USD trades sideways above 1.2600 amid a typical Good Friday trading lull. A broadly firmer US Dollar could keep any upside attempts limited in the pair ahead of the US PCE inflation data and Fed Chair Powell's appearance. 

GBP/USD News

Gold reaches to all-time highs near $2,230, US PCE eyed

Gold reaches to all-time highs near $2,230, US PCE eyed

Gold price appreciates to all-time highs near $2,230 per troy ounce, attempting to continue its winning streak for the fifth successive session on Friday. However, trading volumes are light as market participants are likely observing Good Friday.

Gold News

Jito price could hit $6 as JTO coils up inside this bullish pattern

Jito price could hit $6 as JTO coils up inside this bullish pattern

Jito (JTO) price has been on an uptrend since forming a local bottom in early January. Since then, JTO has revisited the key swing point formed in early December, suggesting the bulls’ intention to move higher.

Read more

Key events in developed markets next week

Key events in developed markets next week

Next week, the main focus will be inflation and the labour market in the Eurozone. We expect services inflation to be impacted by the easter effect, while the unemployment rate to be unchanged.

Read more

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