Factor Trading Service from Peter L. Brandt - Best Dressed List -- … · 2016. 3. 18. · entry into trouble – and additionally, provided an excellent pyramiding opportunity early

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5Jan16

Best Dressed List -- 2015

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Preview Each year at about this time I publish the “Best Dressed List,” showcasing the outstanding examples of classical charting principles from the just-completed year. The Best Dressed List (BDL) illustrates the types of trading situations Factor LLC seeks in its proprietary account. These types of trading situations are the main focus of Factor LLC’s trading. To qualify for the Best Dressed List, a market must meet the following criteria:

1. A clearly defined (no doubt about it) classical chart pattern at least 12 weeks in duration on the daily and weekly charts in a tradable market.

2. A decisive breakout that does not put a reasonable breakout entry into serious harm. Secondary breakouts are considered when an initial earlier breakout failed.

3. An intermediate trend to the implied target, typically representing a price move of at least 10% to 20% of the underlying value. I look for patterns that typically reach their targets in a matter of weeks or months.

Whether or not Factor LLC successfully captured the implications of pattern is not a criteria for inclusion (at least not consciously). In reality, the list is probably biased toward the patterns traded by Factor LLC. The list is broken down into three sections:

Best Dressed List 2015

Honorable Mention List 2015

Promising Best Dressed Charts for 2016 Every year constructing the BDL is different. There have been years when I have had difficulty coming up with ten or so examples. Not 2015! This past year has been loaded with wonderful examples of classical charting principles meeting the three criteria cited above. You may be a chartist and completely disagree with my selection. I am perfectly ok if this is the case. No two chartists agree, just as no two Elliott Wave counters or macro economists agree on things. This disagreement is what makes a market. So, I admit that my selection of the best technical chart developments in 2015 are biased toward my way of looking at charts. I have added two new features to this year’s BDL. First, for each chart example I describe what (if any) tactical issues were involved in catching the trade and staying with it until the target was reached. Second, as appropriate, I include the lessons that could have been learned from each trading situation.

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Best Dressed List

Market Pattern(s) Date completed Target(s)

AAPL 5-1/2 mo. H&S top 8/3 at 117.54 104.51 (met on 8/24 at 94.92)

The decline on 8/3 completed the H&S top shown above on the daily graph. Note the near perfect retest on Aug 10. Factor LLC uses a concept known as the Last Day Rule to determine the risk on a trade entry. The LDR on this short trade at 121.57 was not threatened during the Aug 10 retest. An unexpected gap down opening price of 94.92 on 8/24 was well beyond the target of 104.51.

Tactical challenges: Timing is everything with a successful trade. Entering a trade a day late can cause difficulty for a trader. This pattern is a great example of the problems that would have been caused by entering a short AAPL position on Aug 4 rather than on Aug 3. The proper shorting opportunity was the close at 118.44 on Aug 3. Only the close at 119.72 on Aug 10 challenged the Aug 3 entry. However, an entry on the close of Aug 4 would have been a loser for 10 straight days before becoming profitable. This trade also demonstrates the importance of using resting orders to take a profit. The target of this trade was 104.51. Orders to cover at this price would have been filled on the huge gap down opening price at 94.92 on Aug 24.

Lesson: Orders to enter a market with a stop or a stop-close-only as well as orders to take profits at target levels most often need to be resting in the market. Acting a day after the fact creates great difficulty in the process of trading.

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NZD/JPY 16-mo. H&S top 6/30 at 82.90 74.11 met on 8/24

Several features of the weekly chart H&S top should be highlighted on the daily graph. First, note that the right shoulder of the weekly chart H&S top took the form of a near-perfect independent H&S pattern. Second, notice that following the completion of the weekly chart H&S the market drifted sideways on the daily graph to form a 7-week symmetrical triangle. The completion of this triangle resulted in a one-day move to the target.

Tactical challenges: There are three tactical issues with this trade. First, daily chart patterns are often formed in the late stages of the construction of weekly chart configurations. These daily chart patterns provide an opportunity to build a larger position. Second, the sideways action for seven weeks immediately following the completion of the weekly chart H&S might have worn thin the patience of a trader. Yet, this sideways action never put a proper entry into trouble – and additionally, provided an excellent pyramiding opportunity early on Aug 24. The third tactical issue relates to the fact the target was reached in a wild volatile day within minutes after a pyramid position could have been established on Aug 24. Once again, this highlights the need to be diligent in the order entry process. Inserted on the daily graph is a 1-minute chart for Aug 24. This chart shows that the market cascaded down and thrust back up in a matter of minutes. Traders need to anticipate breakouts and the attainment of targets by placing orders into play in advance.

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AMZN 12-wk. cup & handle 10/15 at 555.21 648.80 met on 11/5

The advance during 2015 in AMZN was a textbook example of classical charting principles. The cup and handle pattern is simply a modern name for what classical chartists call an ascending triangle formation. The wide bodied candle bar (WBB) on Oct 15 completed this pattern. Following a shallow retest on Oct 21, the stock skyrocketed to its target. Also note the small symmetrical triangle that formed from late Apr to early Jul.

Lesson: Delaying to buy a market only upon a retest runs the real risk of missing excellent trades. While in the case of this cup and handle a retest purchase was possible, often the best trades are those that work immediately and never look back. Think logically with me on this point – trades that retest the breakout levels have a chance to fail while trades that never test the breakout levels always offer the opportunity for a profit.

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GBP/NZD 4-yr. complex H&S 5/11 at 2.1212 2.4358 met on 8/24

This was Factor’s second most profitable trade in 2015. The advance in May completed a massive 4-year complex H&S bottom on the monthly and weekly graphs. One comment on the daily graph is worthy of note. Notice that following the breakout on May 11 the market developed a 4-week up-slanted wedge (red box), resolved on Jun 10. Running wedges such as this are signs of internal market strength.

Tactical challenges: There are two common human emotional traits that tend to sabotage the ability and willingness of a trader to enjoy the full extent of a sustained trend such as that featured in this trading situation. The first human trait is the lack of patience in allowing a trade build a head of steam. A trader who bought GBP/NZD on the close of May 11 at 2.1212 would have had to endure a closing price loss for at least eight trading days before the position went into the black for good. However, the worst case during this period was a 1% (of underlying value) closing price loss. To put this into perspective, relative to the leverage used by Factor LLC, this worst-case loss represented 65 basis points. The second human trait that works against traders is the fear of losing the open profits in an existing position. With the exception of the nine-day thrust beginning Jun 10 when a long position gained in value every day, this trade would have heavily challenged a trader with this human personality trait.

Lesson: Trends launched by massive patterns such as the H&S in GBP/NZD will eventually reach their targets. Periods of uncertainty are almost always resolved in the direction of the dominant trend.

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(Intel) INTC H&S bottom 10/2 at 30.51 34.75 met on 12/2

This stock shows a very unique and rare chart construction whereby a H&S bottom negated a previously completed H&S top. In this case, the decline in late Jul 2015 completed a 13-month H&S top pattern. The deep retest of this top in Aug ended up serving as the left shoulder of what became a H&S bottom. The pattern of the H&S bottom was met in Dec.

Tactical challenges: Even though this was a textbook chart set up, many traders would have had difficulty stepping up to the plate to buy this stock on Oct 2 for two reasons. Why? First, because of a remnant bearish bias carried over from the big initial decline from the H&S top. Second, because the market had already rallied 16% from the low made just weeks earlier when the H&S bottom was completed. The easiest yards to gain in American football are between the 30-yard lines. Similarly, the easiest profits in trading are made not by buying the low tick and selling the high tick, but by capturing the moves in the middle of a trend. At least this is the case for me and my approach to market speculation. I like trading between the 30-yard lines.

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USD/CNH 19-mo. ascending triangle 8/11 at 6.285 6.51x met on 8/12 6.83x remains unmet

Long USD/CNH was Factor’s most profitable trade in 2015. After two decades of appreciating against the USD (USD/CNH declining), the Chinese government began a program of devaluing the Yuan in 2015 (a weaker Yuan means a stronger USD/CNH crossrate). The chart shown is USD/CNY – the onshore Yuan. The chart of the offshore Yuan outpaced the onshore Yuan to meet its initial target of 6.51x in within two days. There is a feature of the daily graph that is worthy of very special mention. Note how the crossrate went completely flat for several weeks prior to the devaluation. This range-less and volume-less trading behavior is known as “hinge” action. Trading hinges typically represent the calm before the storm. Interestingly, during this hinge the Peoples Bank of China and the IMF were reassuring the world that the devaluation of the Yuan would not occur until well into 2016. Surprise? Not at all – the hinge behavior predicted an earlier devaluation. Also note the bull channel that was completed in early Nov. It is my full expectation that USD/CNH will reach 6.8 or higher in 2016.

Tactical challenges: There were no real tactical challenges to the first post-devaluation up-thrust in the USD/CNH. However, there is currently a challenge in holding a long position with the 6.83xx target in mind. Long USD and short CNH is a reverse carry trade. Additionally, many forex dealers are charging traders high fees to carry the trade.

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DAX 12-mo. continuation H&S 1/16 at 10,280 11,881 met on 3/13

Actually, I would consider this continuation H&S in the DAX to be in the “honorable mention” category because of the awkwardness of the left shoulder, but am including it in this report to show the variety the H&S pattern can take. In this case the left shoulder was poorly formed and the right shoulder was quite stunted. Nevertheless, the neckline was nearly horizontal – and this is an extremely important factor in my trading. Actually, the next best thing to a horizontal neckline is one that slants in the direction of the breakout. I DO NOT like necklines that slant into a pattern (a down-slanted neckline in a H&S bottom or an up-slanted neckline in a H&S top). Note two things on the daily graph: 1) the right shoulder took the form of a symmetrical triangle, and (2) the breakout was with a wide bodied candlestick bar (WBB). I consider WBB breakouts to be a confirming sign that the pattern will propel a move to the indicated target.

Tactical challenges: There were no tactical challenges related to this pattern and trend.

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AUD/JPY 6-mo. continuation H&S 8/21 at 89.23 83.06 met on 8/24

At times an intermediate trend can unfold over a period of weeks, sometimes even months. Other times, as in this case, the market reached its pattern target the day after the pattern was completed. Note that the neckline of this H&S was slanted in the direction of the anticipated trend. I do NOT like necklines that slant upwards in a H&S top and downwards in a H&S bottom.

Tactical issues: There were two tactical issues with this trade.

Resting stop orders were required to enter the short side of the trade on Aug 21

Profit taking orders needed to be entered on the afternoon of Sunday, Aug 23 This chart is an example of the importance of using resting orders. Too many novice traders have a trading idea but never place the necessary orders to enter or exit at a target. As a result, they find themselves constantly responding to yesterday’s markets.

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S&Ps 6+ mo. complex H&S top 8/20 at 2025.25 1942.75 met on 8/24

The choppy trading range in S&Ps during most of 2015 traced out a near-perfect complex H&S top. Note the double left shoulder and the independent H&S that served as the head. The target was reached in two days.

Tactical challenges: Like many other chart patterns featured in the 2015 Best Dressed List, this S&P short trade was only possible for traders willing to place working resting orders for both entry and for taking profits. This market raises another tactical challenge for many chart traders. This 6-month pattern produced a two day trade. The temptation of many traders who experience such a move is to become greedy and expect more. Such a temptation could result in further attempts at the short side after the target was reached. These attempts could potentially “give back” much of the profits made from the two-day move from the H&S top.

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Natural Gas 4+ mo. symmetrical triangle 8/21 at 2.801 Confirmed on 9/16 at 2.720

2.384 met on 10/21

From early Apr through late Aug 2015 the Nov Nat Gas daily graph traced out a 4+ month symmetrical triangle. During a somewhat longer period the daily continuation graph was forming a H&S failure pattern (chart not shown).

Tactical challenges: A short position established at the initial pattern breakdown on Aug 21 could have been shaken out by the small 3+ week H&S bottom completed on Sep 14. I know because I was shaken out of my short trade. However, any doubt of the validity of the symmetrical triangle was resolved by the sharp decline on Sep 16. The market experienced a straight line drop after reaching the target on Oct 21. The downside of taking profits at a target price is that an extension of a trend is missed. In some trades I have used the 3-day trailing stop rule (see “Diary of a Professional Commodity Trader,” pgs. 49-50) to allow at least a portion of a position to run past its target.

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Palladium 8-mo. rectangle 6/17 at 723 637 met on 7/8

The completion of a small 3-week descending triangle (red box) on Jun 3 was the ignition for the completion on Jun 17 of the 8-month rectangle. The market experienced a steady and sustained trend to and well beyond the target.

Tactical challenges: I know some chartists who insist upon drawing boundary lines using orthodox (absolute) highs and lows within a congestion zone. Not me! I believe in drawing “best-fit” patterns even if it means drawing boundaries through orthodox high and low price bars. In the case of the Palladium graph above, both the upper and lower boundary lines cut through price action.

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Heating Oil 6-mo. bear channel 7/3 at 1.8523 1.6087 met on 8/3 1.4151 met on 8/24

The collapse of energy prices starting in Sep 2014 will go down in the chart history books as classic. The 2014 top in HO (as shown) took the form of a massive complex “M” top; the top in RB Gas took the form of a rectangle (not shown); and, the top in CL took the form of a massive symmetrical triangle (not shown). The temporary bottom in Jan in HO propelled a 5-month bear channel. Declines such as that experienced from Sep 2014 to Jan 2015 almost NEVER result in “V”-extended bottoms. On the daily graph, the WBB decline on Jul 3 sliced through the lower boundary of the channel and penetrated the Jun low.

Tactical challenges: Identifying patterns such as this after the fact is quite easy. Identifying and properly trading such patterns in real time is a horse of a different color. The major tactical challenge in this trade was in the determination of the target. This is true for many patterns. Typically I determine the target of a channel by extending the width of the channel in the direction of the breakout (bottom left). This is the “diagonal” method to measure the target of a channel. A larger horizontal measurement of a channel is also permitted. Channels, triangles and rectangles require at least four major contact points (see bottom right chart). Typically I project the distance between points #3 and #4 downwards from point #3 to identify a target in the case of a channel or symmetrical triangle.

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Honorable Mention List


Topix Index (JSE/Osaka) 17-mo. ascending triangle 11/4/14 at 1356 1617 met on 4/22

Factor became a bull with a 1730 target for the Topix Index as early as Dec 2013 based on the quarterly graph (not shown). A 17-month ascending triangle (slight uplift of upper boundary) was completed in Oct 2014. This pattern was retested on the weekly graph in Jan 2015 (bottom left), qualifying this market for the 2014 Honorable Mention List. The daily chart (bottom right) more clearly shows the retesting process. I was bullish during this period and can testify to the frustration of this retesting process. Finally on Feb 12 the retesting process was completed and the final thrust to the target began.

Tactical challenges: It is quite common for massive chart patterns to look much cleaner after the fact than during real-time trading. This was the case with the ascending triangle in the Topix. A full three months passed from the time the ascending triangle was completed on Nov 4, 2014 until the secondary symmetrical triangle was resolved on Feb 12, 2015. Nevertheless, a proper entry on Nov 4 would have experienced only two very slight closing price losses during the three months of subsequent chop. Not all patterns breakout and go immediately. I can personally testify to getting chopped up during the retesting process in the Topix.

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Feeder Cattle 16-mo. failure top 9/15 at 192.40 153.05 met 12/8

The grand bull market in Feeders that started at $50/cwt in 1996 (not shown) ended in a massive failure top. Note the hard retest in Oct 2015. Also note the large triangle completed in Aug 2013 that launched the final up thrust in this bull market.


LANC 13-mo. continuation H&S 9/8 at 99.52 115.90 met on 11/4

The breakout of this pattern resulted in a very tricky retest in early Oct (see daily graph). This is the type of retest that will nearly always stop me out of a trade. I am willing to re-enter a trade a second time (never a third time) if a market recompletes a pattern with a strong move. Such a secondary completion occurred on Oct 5.

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Lumber 2-yr. symmetrical triangle and 6-yr. trendline 2/17 at 305.9 226.8 met on 8/24

The decline in mid Feb simultaneously sliced through a 6-year trendline and the lower boundary of a 2-year symmetrical triangle on the weekly and monthly charts. The initial thrust downward fell short of the target prior to a rally from 242 to 305 (Sep futures contract). Such a rally would have almost certainly knocked short holders out of their positions prior to the final decline to the target. This is the reason the Lumber chart is demoted to the Honorable Mention list.

Tactical challenges: Discretionary chart traders constantly battle the tension between allowing a market the full opportunity to reach its expected target and an unwillingness to give back large open trade profits. In reality, the hardest trade to manage is the trade that has a significant open profit but has not yet reached its target zone. There is no perfect solution to this dilemma. However, two solutions to this dilemma have worked well for me over the years. The first solution is to move stops in relationship to shorter-term patterns that develop during the course of a trend. The chart of the Sep 2015 Lumber futures contract displayed a 5-week “W” bottom that might have been used to exit shorts on May 20. Subsequently, the Sep futures completed a 6-week failure top on Jul 17, allowing for the re-entry of short positions. The second solution has been to manage ongoing trades with a simple moving average – in the case of multi-month patterns I use a 21-day MA.

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EUR/USD 7-yr. descending triangle Jan 2 at 1.2013 Trendline support under 1.05 met on 3/12

There is a reliable seasonal tendency for the EUR to make an annual high or low during January. The annual high in EUR during 2015 was posted during the first hours of trading on Jan 2. From the Jan 2 high of 1.2073, EUR trended steadily down to the Mar 13 and 2015 low at 1.0462 when the market found support at the multi-decade trendline dating back to 1985. I alerted members of the Factor Service to the early January breakdown as well as to the multi-decade support line in real time. The suggested target of the 7-year descending triangle is .9200 or lower. However, the multi-year support line will need to give way for this decline to occur. This indicated decline began on 10/23 with the completion of a 7+ month bear channel. The final chapters of this market remain to be written.

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Best Dressed List candidates for 2016 A question I ask myself when analyzing charts for a possible trade is this – does the chart and market in question have the potential to become a member of the Best Dressed List. A number of patterns currently under construction are possible candidates for the 2016 list.


EUR/USD 12-yr. H&S top Jan 2015 Sub-90s

The decline in early 2015 completed a massive H&S top on the longest-term charts in EUR. The target is a test of the 2001 low in the mid-80 cent range. The daily graph shows support around 1.05. This support might hold – and hold for many more months. But at some point the support will give way – likely signifying the beginning of the end to a common Euro currency unit as we know it.

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Mexican Peso 5-1/2 yr. symmetrical triangle Nov 2014 .05200 area

The decline in Nov 2014 completed a massive symmetrical triangle on the monthly and quarterly graphs and signaled a new round of Peso devaluations. The target in the Peso is in the .05000 to .05200 range. The daily graph appears to be forming a continuation H&S pattern. A further rally is possible to complete the right shoulder before rolling over to continue this bear trend.

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NZD/SEK 7-mo. H&S bottom A close above 5.85 is required to confirm this bottom 6.4386

This is the most textbook beautiful pattern being formed at the present time. Sometimes patterns of such beauty become duds, but often they result in the most profitable trade of a year. Time will tell what this pattern produces.

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U.S. Dollar Index 10-mo. continuation H&S or rounding pattern

A close above 101 is required to confirm this pattern

1.0450-plus

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Nasdaq 11-wk. rectangle NA 4213 or 4990

This is a pattern that could go either way. Expect volatility in whichever direction this pattern is completed.

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Eurodollars 4+ mo. H&S top A close below 98.15 is required to complete this

pattern

97.60 or a yield of 2.4%

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Review What is the point of the annual Best Dressed List? It depends! If you casually view charts in your trading, then this document will be an interesting read, but not much more. And that is ok. Similarly, if you are a swing or scalp trader this document will have only passing interest. But, if you rely primarily on classical charting principles and if your goal is to catch the really big and significant chart patterns, this document can become a point of reference. A study of the Best Dressed List trading situations is a reminder that the most profitable major patterns have several things in common.

There is no hurry to get aboard early. It is best to wait until the real move begins (although mature patterns often give an advance warning). An urge to preposition can often lead to a compulsion to preposition and this can end in getting chopped up and missing the real move when it comes. Are you familiar with this vicious cycle?

Breakouts from genuine patterns are typically decisive. While a process of retesting can occur, a well-timed entry is seldom put into a serious loss.

Even though a market can be oversold or overbought at the point of breakout, there is actually very little risk at entering at the breakout if the pattern is destined to work

Moves to a target can be sudden and quick. Patterns that take months to develop can deliver their profits in a matter of days

As a general rule it is my habit to exit at the target and then avoid any temptation to reenter the same market any time soon. A simple moving average can be used to stay with a larger trend.

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Factor LLC

Colorado Springs, CO 80903

Email [email protected] ● www.PeterLBrandt.com

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Factor Trading Service from Peter L. Brandt - Best Dressed List -- … · 2016. 3. 18. · entry into trouble – and additionally, provided an excellent pyramiding opportunity early