Drawing Trendlines
By Michael on Jan 25, 2006 in Stock Market
Technicator.net has a post which makes the case that the major indices are still technically healthy. The article has charts of the indices which support the author’s claim but I have a serious issue with the S&P 500 chart. Specifically I have an issue with the way that the current trendline is drawn. Here’s how I learned how to draw a trendline (bold emphasis is mine, italics are Trader Vic’s):
For an uptrend within the period of consideration, draw a line from the lowest low, up and to the highest minor low point preceding the highest high so that the line does not pass though prices between the two low points
(from Trader Vic’s excellent book ‘Methods of a Wall Street Master‘)
The S&P chart in question does not go through the highest minor low preceding the highest high. Instead it’s drawn through the low from three days ago, which is the lowest low after the highest high. Here’s the chart which is drawn such that the current uptrend is still intact (click for a larger view)
Here’s how I draw the S&P 500 trendline:
As you can see drawing the line according to Trader Vic’s rules makes quite a difference. This way shows the trendline was broken on Friday’s big drop and that the S&P is trying to climb back above the trendline. The way it’s drawn at Technicator, using the lowest low after the highest high, is almost revisionist history. By using the lowest low after the highest high one could keep adjusting the trendline lower to fit the most recent action. Using Trader Vic’s method you can only adjust the trendline once a new high is made (a high higher than the highest high).
(Edit: You may also want to see part 2 of this post — More on Trendlines.)
Tags: Technical Analysis, Trader_Vic, Trendlines
5 Comment(s)
By bruce on Jan 25, 2006 | Reply
Question. The dark candle at the end of oct on the s&p chart appears to have been drawn through using vic’s method. What if it had been even lower, without taking out the previous low? Would you draw the trendline right through this candle using vic’s method?
By Michael on Jan 25, 2006 | Reply
If that candle was lower I would have started the trendline at that candle and NOT drawn through it. In fact, in my other charting platform, which is using a logarithmic scale, the trendline should start at the bottom of the October 28th candle. Either way it’s drawn though, the S&P broke the trend.
By Chad on Jan 25, 2006 | Reply
Mike-
I absolutely love your blog and I deeply appreciate that you take the time to make these posts to help those of us who are still infants to technical analysis. I’m somewhat confused with your chart and I’m wondering if you can help me understand your methodology better. With that chart, why wouldn’t the trendline be drawn from your start point, to the dip that occurred back at the end of November? That line would have had several lows touching, or nearly touching the trendline. It would have exited the trend back in early December and signaled the beginning of a consolidation phase. Also, do you always draw to the bottom of the tail versus the body of a candlestick? Do you have any techniques to help discern what is possibly an aberration in the chart? I’m noticing that many charts would have perfect trendlines with the exception of a candle or two. Again, thank you for your wonderful blog and your insight.
By Michael on Jan 25, 2006 | Reply
Chad,
Thanks for the kind words. Let me look answer your questions in a later post — hopefully tonight
By Doc Dan on Jan 25, 2006 | Reply
Chad, Bruce, using candles vs bars or, more frequently, daily vs weekly, there will be some small imperfections in the trendline (call them errors if you like) due simply to the requirements for graphical presentation.
If Mike had used the candlestick at the end of Oct as his second point for the trendline, the difference at the end of December would be very small.
The point of Trader Vic’s rules is that they are consistent and as rigorous as you care to make them. Having said that though, I will at times draw a tentative trendline (graphically “dashed”) like the Technicator trendline, to see if it makes sense as a potential continuation of the trend at a lower rate of rise.