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Timeframe Breakdowns

DMI and Dynamic Zone

Fri, Nov 6 2009, 12:24 GMT
by Ian Coleman

Turtle Futures

Hi
In quite moments (between the storms) I like to look through the chart functions to see if we can use anything new in these very volatile markets. I have a lot of knowledge of oscillators and use them every day in my analysis. We have to remember that ‘price’ is the most important factor in the market and the oscillators ‘indicate’ whether we should be looking to tighten our position (when indicators lag the market- divergence) or be happy to continue the trend (convergence).
What are the most important factors of technical analysis? My view is to try to trade with the trends, be aware when the trend may change (candle formations) and most important of all, to take money off the table when it is offered to us.
How many times do we jump on a reversal only to see the price move to a new high/low and take us out? We had a doji, RSI came out from oversold, we had a large red candle to confirm and the MA’s crossed. We very rarely trade at the top and bottom unless we trade off trend lines as we need confirmation to trade, so we have to be pretty sure of the trend change. This can also be achieved with wave counts (Elliott wave) but that is never fool proof…….I know. An ABC correction turns into a 1-2-3 etc. Everything has its purpose. What we have to decide is what tools to use.
Here I am going to show you two indicators, which in conjunction with your candle knowledge could keep you away from jumping on the trend too early or take you out too late.
First is the Directional Movement Indicator (DMI). It is used by short term traders to make sure they are trading on the ‘correct side’ of the market. The histogram on this chart package makes it quite easy to see and use. If we are making reds then the trend is down. If we are making greens then the trend is up. They say that the rule is a reading over 25 and you are in a strong trend. For currencies I would pull that in to 20. The black line is also the ADX (trend indicator). So if that is moving higher we are trending. The rule is we only turn bullish on the indicator showing greens and bearish on red which looks great BUT we have a lot of false signals.
In comes the Dynamic Zone RSI. Works the same way as the normal RSI but with the oversold and overbought areas are variable depending on market volatility. Note: when the market goes flat so does the indictor, showing no trade.
Remember, just because we are oversold does not mean that the market will go higher, overbought and go lower. RSI should be a signal on moving out of the oversold, overbought areas.
When the two combine we have a strong trend. We need to look at chart and price action as well to confirm the trend. We come out of the RSI at X when the histogram gets smaller, plenty of pincer bottoms here. DMI turns bullish at Y. We get a signal to come out at Z. The zone between a-b we would get chopped up and you can see the lines crossing erratically. The only signals here were the spikes through the Bollinger band. I think this would have been the case for all trend following indicators. I would not look to use this on lower time frames.

Food for thought over the weekend. Have a good one.

Ian

Published on  Fri, Nov 6 2009, 12:26 GMT