Term
| What are the three principal benefits from monitoring volume? |
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Definition
| (1) If Price and momentum are in agreement, probabilities favour an extension of the current trend; (2) If they disagree, the underlying trend is not as strong as it seems; (3) Volume throws up characteristics of its own that literally shout the message of an impending trend reversal |
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Term
| What is the most important principle of volume? |
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Definition
| Volume typically goes with the trend - it is normal for activity to expand in a rising market and contract in a declining one |
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Term
| What is a selling climax? When is it likely to occur? |
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Definition
| A selling climax occurs when prices fall for a considerable time at an accelerating pace accompanies by expanding volume. Termination of a bear market is often, but not always, accompanied by a selling climax |
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Term
| Explain the significance of record volume coming off a major low |
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Definition
| This is usually a very reliable signal that a very significant bottom has been seen because it indicates that an underlying change in psychology has taken place |
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Term
| List the rules for interpreting volume oscillators |
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Definition
| (1) When the oscillator reaches an extreme and starts to reverse, it is indicating the potential for a reversal in the prevailing trend; (2) Expansion in price, associated with a contraction in the volume oscillator, is bearish; (3) An expansion in the oscillator, associated with a contraction in price, is bearish, unless the volume reaches an extreme, in which case a selling climax is usually signaled; (4) The volume oscillator usually leads the price oscillator |
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Term
| Suggest four reasons why interest rates affect the stock market. |
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Definition
| (1) Fluctuations in the price charge for credit have a major influence on the level of economic activity, and thus corporate profits; (2) Interest charges affect the bottom line and thus the price investors will pay for equities; (3) They alter the relationship between competing financial assets (bonds vs. stocks); (4) Changes in the cost of carry affect investors' desire to make purchases on margin |
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Term
| Why are business conditions more sensitive to short-term rates than long-term rates? |
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Definition
| Decisions to change the level of inventories (i.e. demand for short-term credit) are made much more quickly than decisions to purchase plants and equipment, which form the basis for long-term corporate credit demands |
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Term
| Describe the three types of market peak |
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Definition
| (1) Those that develop after a prolonged bull market, extending over several business cycles; (2) 'Recession-Associated Top' (RAT): profits in general are under attack as distortions within specific sectors spill over and create economic contraction; (3) Double cycle peaks: linked to the slowing down of the economy but not an actual contraction |
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Term
| What is the 'three step and tumble' rule? |
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Definition
| (Edson Gould) After three consecutive rate hikes, the equity market is likely to stumble, that is, to enter a bear market. It is a recognition that a significant rise in interest rates and tightening of monetary policy have already taken place |
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Term
| What is the NYSE A/D line? |
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Definition
| The NYSE advance/decline line is the most widely used indicator of market breadth. It is constructed by taking a cumulative total of the difference between the number of NYSE issues that are advancing over those that are declining in a particular period (usually a day or a week) |
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Term
| What is the significance of the NYSE A/D line? |
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Definition
| Although it normally rises and falls in tandem with the major market averages, it usually peaks well ahead of them. If the line is below its 200-day MA, the broad market is probably in a bear market |
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Term
| What is the Coppock Index? What is it most useful for? |
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Definition
| A methodology that combines two smoothed ROC indicators. Specifically, it is a 10-month weighted average of 11- and 14-month ROCs of the SPX monthly closing prices. It is useful for determining market bottoms. |
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Term
| Describe the 'top down' approach for systematic stock selection. |
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Definition
| "Top" represents an analysis of whether equities in general are experiencing a primary bull or bear market (i.e. assesses the overall environment). "Down" is the next step, and involves an appraisal of the various industry groups. Once an attractive group has been isolated, the final stage involves the selection of individual stocks |
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Term
| What is the main goal of Dow Theory? What is it mainly concerned with? |
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Definition
| To determine the primary or major movement of the market. Once a trend has been established, it is assumed to hold until a reversal is proved. It is concerned with the direction of the trend rather than the duration or size of the move |
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Term
| What is one of the most important principles of Dow Theory? |
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Definition
| Since the market is assumed to be a barometer of future business conditions, the movement of the Industrial and Transportation averages must confirm each other |
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Term
| List the three (simultaneous) movements that are part of Dow Theory. |
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Definition
| (1) Primary movement (e.g. primary bear market, primary bull market); (2) Secondary reactions (an important decline in a bull market or advance in a bear market); (3) Minor movements (last from a week or up to 6 weeks, has no forecasting value for longer-term investors) |
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Term
| What are the four influences on prices in operation at any one time? |
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Definition
| Monetary, Economic, Psychological and Technical (= MEPT) |
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Term
| Describe the characteristics (in terms of shape and volume) of a double-top. |
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Definition
| A double top consists of two peaks separated by a reaction or valley in prices. Its main characteristic is that the second top is formed with distinctly less volume than the first |
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Term
| What is the difference between a broadening formation and a triangle? |
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Definition
| Broadening formations are characterised by diverging trend lines, whereas triangles occur when trend lines converge. |
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Term
| Explain how triangles and wedges differ. |
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Definition
| In a wedge formation, the direction of the two converging lines is the same. With a triangle, the lines move in opposite directions. Also, wedges form over typically smaller time periods since they are considered 'smaller price patterns' |
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Term
| What is the difference between break-out gaps, runaway gaps and exhaustion gaps? |
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Definition
| The point in the trend at which they occur. A break-out gap sees price break out of a price pattern. Runaway gaps occur halfway between the last b/o and the ultimate duration of the trend. Exhaustion gaps represent the final runaway gap in a trend and is associated with the terminal phase of the trend |
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Term
| How do we use moving averages? |
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Definition
| Changes in the price trend are indicated by the price crossing its (simple) MA, not by the reversal in the direction of the MA. It is one technical tool used with other techniques as part of the art of identifying trend reversals |
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Term
| How are Bollinger Bands calculated? What is the significance of narrowing bands? |
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Definition
| They are calculated as a standard deviation above and below an (moving) average based on closing prices. When the bands narrow, there is a tendency for a sharp price change to follow. This is reflected by the fact that when prices trade in a narrow range and lose volatility, demand and supply are in a fine state of balance |
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Term
| What are the implications of rising and falling ROCs? |
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Definition
| Rising ROC implies expanding velocity, and a falling one a loss of momentum. Rising momentum is a bullish factor, and declining momentum is a bearish one. However, trade signals can only come from a reversal in trend of the actual price, not the momentum series |
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Term
| What is a mega-overbought signal and what does it imply? |
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Definition
| When the momentum indicator is well beyond the normal overbought conditions. They tend to signify a very young and vibrant bull market |
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Term
| Describe the KST indicator |
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Definition
| The Know Sure Thing is constructed by combining several smoothed ROCs of different time frames with weights that emphasize longer time frames. |
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Term
| What does the DMS indicator seek to do? |
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Definition
| The Directional Movement System seeks to determine whether a market is likely to experience a trading or a trending environment |
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Term
| What do high readings on the ADX indicator show? |
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Definition
| High readings on the Average Directional Index (ADX) indicate that the price series is in a trending mode (i.e. lots of direction) and low readings indicate a trading range market (i.e. lack of direction) |
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Term
| What is the parabolic system used for and in what type of trading environment is it likely to work best? |
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Definition
| It is used to generate timely stop-loss signals. It does not do very well in a trading range. |
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Term
| What is the significance of the length of a candle in a candle chart? |
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Definition
| Long white lines have a bullish tendency, and long black ones have a bearish tendency. |
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Term
| What are (i) umbrella lines and (ii) spinning tops? |
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Definition
| Umbrella lines: When the real body is narrow and develops at the high end of the day's trading range. Spinning tops: Occur on days when the trading range was very small |
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Term
| Explain the concept of Speed Resistance Lines. How would you find levels of support using a ratio scale? |
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Definition
| SRL apply the principle of proportion to the speed of the speed of an advance or decline. Using a ratio scale, we would draw first a line from point A to B, then find the 2/3 and 1/3 resistance lines by drawing lines at angles 2/3 and 1/3 of the angle of ascent from A to B |
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Term
| Explain how you would draw Fibonacci retracements. |
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Definition
| First, draw a line between a major low and high. Second, apply the Fibonacci numbers (61.8, 38.2, 23.6, etc.) by drawing horizontal lines across. if the difference between the top and the bottom is 50, the 61.8% resistance line would be drawn at 30.9 points from the top |
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Term
| How is the centerline used in a Gann fan? |
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Definition
| The centerline connects a high with a low and reflects a 1x1 move (price x time). A 2x1 move would mean double the price move for a unit of time. To draw the 2x1 line, you would move across one unit of time and move by double the number of units seen in the central line. 1x2 lines would see half the price movement, and so on. |
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Term
| How is a Relative Strength line calculated? |
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Definition
| By dividing the price of one security by another. |
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Term
| Explain which groups tend to lead and lag at peaks and troughs. |
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Definition
| Interest sensitive groups have a tendency to lead at peaks and troughs, whereas corporations with profits that are enhanced by increased capital spending or commodity price inflation generally lag the overall market |
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Term
| List the industries that tend to lead and lag recoveries. |
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Definition
| Leaders: Utilities, financials, REITs, homebuilders, containers and packaging, consumer non-durables, transports. Laggards: Mining, Oil, Coal, Oil Drillers, Tech, Basic Industry (paper, chemicals, steel producers, etc.) |
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Term
| Describe the different phases of the Kondratieff Wave |
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Definition
| The three phases include: (i) An upwave lasting about 20 years; (ii) A transition or plateau period of 7 to 10 years; (iii) A downwave of about 20 years |
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Term
| How is the 4-year cycle used? |
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Definition
| The 4-year cycle involves looking for a major buying opportunity every 4 years, and is arguably one of the most reliable cycles. |
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Term
| What is the significance of climactic volume on either the upside or downside? |
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Definition
| It usually indicates exhaustion and the likelihood that the prevailing trend will reverse. |
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Term
| What is the principle underpinning the Chaikin Money Flow indicator and under what circumstances would it be positive? |
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Definition
| The CMF is based on the principal that rising prices should be accompanied by rising volume and vice versa. It will be positive if prices consistently close in the upper half of their daily range on increasing volume |
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Term
| How is the upside/downside line calculated? How can we use it to predict a potential trend reversal? When is it most useful? |
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Definition
| It is the cumulative difference between daily sums of the volume of advancing stocks minus the volume of declining stocks. If it fails to confirm a new high in the price index, it warns of a potential trend reversal. It is most useful when prices are rising to new highs and overall volume is expanding (i.e. to show a slowing rate of advance) |
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Term
| How is the Arms Index calculated? What type of data is used? What does a higher level of the Arms Index indicate and when does the Index peak? |
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Definition
| By dividing the ratio of advancing and declining stocks by the ratio of volume in advancing issues over volume of declining issues. Daily data is used. A higher level indicates that 'the number of advancing issues is rising' on low volume. It peaks at market bottoms |
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Term
| How is On Balance Volume calculated and what does it show? |
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Definition
| OBV starts with an arbitrary number, which rises and falls depending on what the price does. The volume for the day is added in when price rises and subtracted when it falls. It is plotted as a continuous line, and therefore offers a rough approximation of buying and selling pressure |
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Term
| What do Breadth Indicators measure? What is the most widely used indicator of market breadth and how does it work? |
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Definition
| The degree to which the vast majority of issues are participating in a market move. The most widely used indicator of market breadth is an advance/decline line, which is constructed by taking the cumulative total of the difference between advancing and declining issues in the NYSE over a particular period |
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Term
| Suggest a reason why 'the crowd' is often wrong at turning points, such as the peak of a bull market. |
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Definition
| If everyone holds the same bullish opinion and has positioned themselves accordingly, there is very little potential buying power left and so very few people who can perpetuate the trend |
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Term
| Suggest three steps for forming a contrary opinion. |
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Definition
| (1) Figure out what the crowd is thinking; (2) Coming up with alternative scenarios; (3) Determine when 'the crowd' reaches extremes |
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Term
| What are two distinctive features about Point and Figure charts compared with other charting methods? |
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Definition
| Point and Figure charts do not consider time nor volume - it is only considered with illustrating trends in price action (upward movements are denoted with Xs, downward movements with Os). Also, P&F charts may not record any information on a given day if the movement has not exceeded a certain minimum amount. Other charting methods will record price movements for every single period (daily, weekly, etc.). |
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Term
| What does 'translation' refer to in terms of cycles and what is the difference between a right and left translation? |
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Definition
| Translation describes where the peak of a cycle falls in regards to the midpoint. A right translation is bullish and appears in a cycle is when the peak is beyond the halfway point. A left translation is bearish, and occurs when the cycle peak occurs before the halfway point. |
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Term
| What is intermarket analysis? |
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Definition
| The theory that all markets influence one another and all sectors within a market influence each other |
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Term
| What is the difference between a hammer and inverted hammer? |
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Definition
| A hammer has a lower shadow at least twice the size of the real body, which is at the top. An inverted hammer has the body at the bottom. Both are bullish indicators, with the latter suggesting that there is a lack of sellers (since most of the range was above the body). |
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Term
| Describe what a 'bullish belt hold' looks like. |
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Definition
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|
Term
| Describe what a 'Three Black Crows' formation looks like. |
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Definition
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Term
| Distinguish between a dark cloud cover and a piercing line. |
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Definition
| Both are two-day candlestick reversal patterns. (1) DCC occurs when the second candle opens higher than the first but closes lower - it is a bearish pattern; (2) PL occurs when the second candle opens lower than the first but closes higher (about halfway above the real body of the previous day) - it is a bullish pattern |
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Term
| What does an engulfing pattern look like and what does it suggest? |
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Definition
| An engulfing pattern has a second candle (of opposite colour to the first) that is bigger than the first and 'engulfs' the entire range of the first candle. It arrests control of the previous drivers of the market, and typically signals a reversal. |
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Term
| Describe what a 'Rising Three Methods' pattern looks like and explain its significance. |
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Definition
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Term
| Explain what morning and evening stars look like. |
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Definition
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Term
| Explain the difference between top and bottom reversal days using outside bars. |
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Definition
| Top reversal days show an outside bar that sets a new high followed by a lower close on the same day. This second bar should encompass all of the first bar. A Bottom reversal day sets a new low in a downtrend followed by a higher close on the same day. |
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Term
| What factors can increase the strength of a signal given by an outside bar? |
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Definition
| (1) The wider the outside bar compared to prior ones; (2) The more bars encompassed; (3) Higher volume to that bar compared to previous ones; (4) Closer the close to the high/low of the day in which price may be reversing |
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Term
| What is the difference between 'point' and 'figure' charts? |
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Definition
| Figure charts are earlier versions of the point and figure charts, and plot the actual numbers in vertical columns. Point charts more closely resemble modern P&F charts since they plot Xs in the boxes. |
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Term
| What does a 'one-step-back' refer to in point and figure charting? Why is could it be a significant signal? |
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Definition
| One-step-back allows us to plot opposite signals in the same column when there is a one-box reversal in a new column. For example, if we have just started a new column with a O (i.e. there has been a one-box reversal from a column of Xs), we can draw an X immediately above the O in the same column rather than start a new column. It may signal a start to a correction, and is therefore significant |
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Term
| What is the Haurlan Index and what is it used for? |
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Definition
| An oscillator based on a measure of market breadth. It takes the daily advances minus declines and applies an exponential smoothing using a 3-day EMA. This is used as an oscillator, where the (mechanical) buy and sell rules depend on crossings of the zero line. Recent results suggest the 3-day EMA no longer provides useful signals |
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Term
|
Definition
| A graph of potential account value beginning at any time adjusted for each successive trade profit or loss. It is used to measure the success of a trading system |
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Term
| What is the McClellan oscillator? How is it calculated? How do you use it? How does the McClellan Ratio-Adjusted Oscillator relate to this? |
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Definition
| The oscillator is a short-term breadth momentum indicator that measures the difference between a 19-day and 39-day EMA of advancing issues minus declining issues. The generally accepted rule is that buy signals are triggered when it falls to the oversold area of -70 to -100 and sell signals when it rises to the +70 to +100 area. The ratio-adjusted oscillator takes the net of advances minus declines divided by the total of advances plus declines in order to account for the influence of the number of issues traded over a long time period. |
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Term
| How is the McClellan Summation Index calculated? How is interpreted once we account for the number of issues traded? |
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Definition
| It is the cumulative total of the daily readings of the oscillator itself. We obtain the ratio-adjusted summation index (RASI) by accounting for the number of issues - this number has a zero neutral level and generally oscillates between +500 and -500 (overbought and oversold levels respectively). Overbought readings are usually followed by a short correction and new highs; a failure to reach above the overbought level is a negative divergence and, thus, a sign that a market top is forming |
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Term
| How is the Plurality Index calculated and interpreted? How can we adjust it for the number of issues listed? |
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Definition
| It takes the 25-day sum of the absolute difference between advances and declines. High numbers are usually sign of an impending market bottom, and lower numbers suggest an impending top. We can adjust for the number of issues listed by dividing the numerator by the sum of the advances and declines (i.e. the McClellan ratio method). |
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Term
| According to the decennial pattern, which years are often down years and which years are often advancing years? When does the beginning of the year start according to this theory? |
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Definition
| Down years: years ending in 3, 7 and 10; Advancing years: years ending in 5, 8 and most of 9. Counting the beginning of the year in October was found more reliable. |
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Term
| Explain how short and long-term interest rates are related to stock prices. |
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Definition
| Short-term interest rates are inversely correlated to stock prices. Long-term rates (bond price) are positively related to equity prices, and often lead. At tops, the bond market tends to lead the stock market, and is thus an early indicator of trouble ahead for the stock market |
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Term
| Explain the concept of money velocity. How is it calculated? What is the relation to inflation? What is the relation to stock prices? |
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Definition
| The velocity of money (MV) is a measure of how fast money turns over in the economy. It is calculated as a ratio of personal income to M2. Historically, MV is positively related to inflation since the faster money circulates, the more pressure exists on prices. Relative to stock prices, when MV (a monthly figure) rises above its 13-month MA, stock markets rise slower than when it declines below its 13-month MA (i.e. inflationary pressure dampens stock market prices) |
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Term
| What are the three main tools available to the US Federal Reserve for adjusting the money supply? Which one is used most often? |
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Definition
| (1) Changing the amount of reserves that banks are required to hold; (2) Changing the discount rate; (3) Buying and selling US Treasury and federal agency securities through open market operations. Open market operations are used most often |
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Term
| What is the federal funds rate target? How does the Federal Reserve try to achieve its target? Who determines it? |
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Definition
| It is the interest rate at which banks borrow from each other. The Fed uses open market operations to reach it. It is determined by the Federal Open Market Committee (FOMC) when they meet every six weeks |
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Term
| What does 'maturity intermediation' refer to? Explain the implication for stock markets. |
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Definition
| It is the way in which banks borrow short-term funds and lend to corporations or individuals over long-term periods. As the spread between the cost of funds and the return from long-term interest rates narrows (i.e. the yield curve flattens), bank profitability falls. When bank profitability falls, there are typically consequences for interest rates, which affect the stock market. Hence, the yield curve is a forecaster of stock market direction. |
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Term
| What is the historic average for the spread between long-term and short-term interest rates? When is the yield curve likely to become abnormally steep? |
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Definition
| Around 200 basis points. If it increases beyond this level, it is usually because the Fed is lowering short-term rates to expand economic activity |
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Term
| What is an 'asymmetric filter' within the context of point & figure charts? |
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Definition
| This refers to the way in which 'multiple reversal' charts (e.g. 2-box reversal, 3-box reversal, etc.) require only one point move to mark a new box within the prevailing trend but require a multiple point movement in the opposite direction to begin illustrating the reversal. Hence, it keeps traders focused on the primary or main trend for longer since it is less sensitive to short-term reactions to the main trend |
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Term
| Explain the difference between 'semi-catapults' and 'fulcrums' in P&F charts. |
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Definition
| In 1-box charts, continuation patterns are called 'semi-catapults' but reversal patterns are called 'fulcrums' |
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Term
| What is the difference between a trap and a shakeout on P&F charts? |
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Definition
| Shakeouts occur at the start of a new trend, usually a bull trend. Since it is the first sell in a bull trend, it is recommended to ignore this reaction and view it as a sign of strength (as long as it does not break below the trend line) |
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Term
| Describe the stages of a 'broadening pattern' in the context of P&F charts. Are they bullish, neutral or bearish patterns? |
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Definition
| (1) Starts off as a double or triple-top that is (2) reversed by a double-bottom sell, which is in turn (3) reversed by a double-top buy signal. Although they are often considered bullish patterns, we should not assume that they will all work out well |
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Term
| Describe the 'bearish pattern reversed' pattern in the context of P&F charts. |
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Definition
| A series of X/O columns with consecutive lower highs and lower lows (indicating bearish downtrend behaviour) followed by a column of Xs that breaks above the high of the previous column of Xs, reversing the pattern/trend |
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Term
| What is a 'pole' in the context of P&F charts? What is peculiar about it relative to other 3-box patterns? When do they occur? How can you identify an 'effective' pole? |
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Definition
| A long column of Xs or Os with a column of Os or Xs beside it. They are reversal patterns, never continuation. They occur when prices break above/below previous price action and result in a long column of Xs or Os. Effective ones will have 5 or more boxes in height |
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Term
| What is a common strategy for trading 'poles' on a P&F chart? |
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Definition
| To sell when the reversal column (of Os, for example) retraces 50% of the previous column's length. |
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Term
| Distinguish between 'high poles' and 'low poles' in P&F charts. When do high poles usually occur? |
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Definition
| High poles indicate near-term weakness. Low poles indicate near-term strength. High poles usually occur at the end of an up-trend. |
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Term
| What is the name of the theory that holds that the price performance of the S&P 500 for the first month of the year predicts the direction of returns for the year? |
|
Definition
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Term
| Distinguish between the death cross and the golden cross. |
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Definition
| Death Cross: When the 50-day SMA cuts the 200-day SMA from above; Golden Cross: When the 50-day SMA cuts the 200-day SMA from below. These may also apply to any time when a short-term SMA cuts a longer-term SMA from above or below |
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Term
| Provide Dow's definition of an uptrend. |
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Definition
| "A situation in which each successive rally high closes higher than the previous rally and each successive rally low closes higher than the previous rally low" |
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Term
| What are the three phases of a major trend according to Dow Theory? |
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Definition
| (1) Accumulation phase: represents informed buying by the most astute investors, who believe all the bad news has been priced in. (2) Public participation phase: where technical trend followers begin to participate, a time of rapidly increasing prices and business news improves. (3) Distribution Phase: Begins when newspapers begin to print increasingly bullish stories, economic news is better than ever, and when speculative volume and public participation (keeps) increasing. The accumulation investors begin to distribute their positions |
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Term
| What are the basic tenants of Dow Theory? |
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Definition
| (1) Averages discount everything; (2) The are three types of trends; (3) Trends have three phases; (4) The Averages (DJIA and DJTA) must confirm each other; (5) Volume must confirm the trend; (6) Trend is in effect until it gives definite signals it has reversed (i.e. you cannot have a sideways market) |
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Term
| Explain 'confirmation' in the context of Dow Theory. |
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Definition
| If one index (e.g. DJIA) makes a new high, so does the other (DJTA). Otherwise, there is a divergence in the market place, but the trend is still in effect |
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Term
| Suggest some drawbacks of Dow Theory. |
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Definition
| (1) Frequently leaves investors in doubt; (2) Signals severely lag the market; (3) Only helps long-term investors |
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Term
| Describe the put/call ratio and how it is calculated. |
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Definition
| Takes the sum of the number of put trades for a security and divides it by the number of calls. A high put-call ratio is generally bullish (i.e. since most option contracts expire worthless, traders use it as a contrarian indicator). Higher put volume means general investors are bearish, so the overall market direction is actually higher |
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Term
| Why do S&P futures trade at a premium to the cash market? |
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Definition
| The level of the S&P futures is determined by short-term interest rates, the yield (dividend) on the SPX and the number of days until contract expiration. All these factors contribute (positively) to the premium |
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Term
| Distinguish between permutations and combinations. Which is more prevalent in terms of investment applications? |
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Definition
| Permutation: the number of ways of selecting or arranging things when duplication is not allowed and order is important. Combination: The number of ways of arranging things when duplication is not allowed and order is not important. Permutations have more investment application |
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Term
| What are the three essential branches of Technical Analysis? |
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Definition
| (1) Sentiment; (2) Flow of Funds; (3) Market Structure Indicators. |
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Term
| Define risk and list its different components. |
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Definition
| "Risk is the amount and probability of a loss or series of losses occurring." Components include: (1) variability of returns; (2) amount of loss per trade; (3) draw-downs. |
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Term
| When is a 'volume spike' most common? |
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Definition
| At the confirmation of a break-out. |
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Term
| The concept of support and resistance presumes that in the future, prices will stop at these recorded levels/zones. What type of barrier for prices do they represent? |
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Definition
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Term
| What is meant by the 'fractal' nature of trends? |
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Definition
| The fact that the methods of determining when a trend begins and ends are the same regardless of length. It is also the ability for trends to act similarly over different periods. In other words, trend over any period will have the same characteristics and patterns as each other. |
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Term
| List the different assumptions that technical analysts make. |
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Definition
| (1) Price is determined by the interaction of supply and demand; (2) Price discounts everything (i.e. all information and interpretation of expectations); (3) Prices are non-random; (4) History, in principle, will repeat itself, and that humans will behave similarly to how they have in the past in similar circumstances; (5) Patterns are fractal; (6) Emotions are affected by earlier emotions through emotional feedback (e.g. excessive feedback can cause "bubbles") |
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Term
| What is likely to occur when an oscillator divergence develops close to the equilibrium line? |
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Definition
| A sharp price move is likely to follow |
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Term
| What does the typical wave structure in Elliott Wave theory look like? |
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Definition
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Term
| How do symmetrical triangles occur? What happens if price continues through to the apex, what will the price most likely do? |
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Definition
| They are constructed from a series of successively narrow price fluctuations. If it moves through to the apex, it will then likely just move sideways in a dull drift or ripple. |
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Term
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Definition
| This relates to the concept that a longer a position is held, the more risky it becomes (this contributes to long-term rates being higher than short-term ones) |
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Term
| When is a H&S top likely to occur? How should it be traded? |
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Definition
| A H&S top is preceded by an uptrend (but not necessarily a long-term trend). It should only be traded only after it has formed completely. |
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Term
| Draw and list the components of a head and shoulders breakout top. List the defining characteristics with respect to volume. (MP - TAE; p. 76) |
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Definition
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Term
| Explain what is meant by the term "Dead Cat Bounce." When is it most easily recognized? How long does it last and what usually follows thereafter? |
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Definition
| A failed rally after a sharp decline. It is most easily recognized after a large downward breakaway gap or downward breakaway spike. The length of the "bounce" is proportional to the magnitude of the decline that preceded it. It should last just a few days and is typically followed by a longer-term downward price trend |
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Term
| How do we overcome some of the difficulties in sampling variability and sampling variation? |
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Definition
| By taking many samples of large size |
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Term
| Describe the concept of linear regression. What is the 'least squares approach' and how does it relate? |
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Definition
| Used to help predict the value of an uncertain (dependent) variable from some known (independent) variable. It creates a regression line using "least squares." The least-squares regression line is a line that minimizes the sum of the squared difference between the actual data points and the line. The slope of the straight line explains the relationship between daily price changes. |
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Term
| Explain what is meant by 'the importance of Independence' in terms of statistics. How is it regarded in technical analysis? |
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Definition
| The outcome of the 1st event does not affect the probability of the outcome for the second event. Technicians do not believe in independence due to the emotional component affecting markets |
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Term
| Suggest some common measures of dispersion and their drawbacks. |
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Definition
| (1) Range: difference between max and min. values in a sample (does not say how close the observations are to the mean and median); (2) Variance: average of the squared differences between each observation of a sample and the mean of that sample (measures dispersion about the mean rather than spread or dispersion); (3) Standard Deviation: positive square root of the variance (standardized measure from the mean); (4) Degrees of Freedom: Used with values derived from a sample rather than a population (i.e. we use n-1 in the denominator rather than n in order to get an unbiased estimate). Provides a bigger margin of error |
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Term
| Suggest some measures of central tendency and when each is used. |
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Definition
| (1) Mean: the average (the most reliable estimate of central tendency when we do not have extreme values); (2) Median: Value that splits the distribution of observations in half (used when the distribution of outcomes is skewed by extreme values rather than being symmetric). (3) Outcome with the highest frequency (used when data concerns categories, not quantity variables). (4) Geometric Mean: Compound rate of return (calculated by multiplying variables together and taking the nth root, where n is the number of observations - used with a time series that is growing or shrinking over time). This is always less than the arithmetic mean except when all values are equal |
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Term
| Distinguish between descriptive and inferential statistics. |
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Definition
| Descriptive: Describes or characterizes a data set (i.e. describes something). Inferential: Uses observations as a basis for making estimates or predictions (i.e. makes inferences about a situation that has not yet been observed). |
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Term
| Describe some common distributions. What is each used for? |
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Definition
| (1) Chi-square distribution: based on the sum of standard normal variables - the more standard variables (i.e. DoF), the more it resembles a normal distribution. Used primarily for goodness-of-fit tests; (2) Student's T distribution: applies when the true standard deviation is unknown and for small samples. It has wider tails than the normal distribution; (3) F distribution: based on the ratio of two variables, each of which follow a Chi distribution |
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Term
| Explain the relationship between the t statistic and P values. |
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Definition
| The p value states the probability that the t value occurred by chance alone - hence, we need to have low p values (usually less than 5%). For the t statistic itself to be significant, we require a value greater than 2 |
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Term
| What would a scatter plot depicting the monthly returns of two stocks look like if the correlation between their monthly returns is 0? |
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Definition
| The scatter of points would look like a shotgun scatter around the center and the best-fitted line would be horizontal |
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Term
| Suggest what is meant by a 'stationary' time series and whether stock prices and returns are stationary. How do we test for 'stationarity,' what hypothesis would we use and what do we conclude if we reject the hypothesis? |
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Definition
| A stationary time series is generally stable, with a degree of structure. Stock prices are usually nonstationary (because they trend up and down) but returns are often stationary. We test for stationarity using a unit root test, with the hypothesis that the series has a unit root. If the series does not have a unit root, we reject the hypothesis and conclude that the series is indeed stationary |
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Term
| What are ARCH and GARCH methods used for? Suggest three reasons why this pursuit is useful. |
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Definition
| To estimate volatility. Volatility estimates are useful because of (i) the increased use of options contracts, and the fact that volatility is a key input into option pricing models; (ii) frequency of high volatility periods; (iii) increased use of VaR, which requires vol. estimates |
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Term
| What is the difference between Williams %R and the Stochastic Indicator? |
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Definition
| Instead of comparing the current close with the low that occurred during the time window, the Williams %R compares the current close with the high that occurred during the time window. The Williams %R tells us whether a stock is at a relatively high point in its trading range, whereas the stochastic indicates whether a stock is at a relatively low point in its trading range |
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Term
| What is the Commodity Channel Index? What does it show? |
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Definition
| Similar to the stochastic, the CCI measures the deviations of a security's price from a moving average. Using both the CCI and the stochastic would be a duplication of efforts since the difference between them is often so small |
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Term
| Define the following: Sterling Ratio, Profit Factor and Payoff Ratio |
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Definition
| (1) Ratio of ROI to MDD; (2) Profit / Loss ratio; (3) Average gain per profitable trade divided by average loss per unprofitable trade |
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Term
| How can we use leverage to manage a system that has an unacceptably high MDD? |
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Definition
| We can adjust the portfolio mix to include a risk-free investment, such as Treasury bills, in the proportion necessary to bring down the potential MDD. If the model estimates 40% MDD, and we can only accept 20%, we can adjust the model to invest 50% of the capital in risk-free investments and the remainder in the system |
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Term
| In the context of cycle analysis, define: amplitude, period, summation, inversion, harmonics |
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Definition
| (1) Distance from the horizontal axis to the extreme peak or trough; (2) Distance between consecutive lows or highs; (3) Calculating multiple cosine waves and adding them together; (4) Where a cycle low is expected, a peak occurs instead; (5)Cycles tend to have period lengths a multiple of two or three longer or shorter than the next larger or smaller cycles (e.g. a cycle of 20 days will indicate that another longer cycle of either 40- or 60-days length exists as well as shorter cycles of 7 or 10 days) |
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Term
| What is the Golden Ratio? How is derived? |
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Definition
| 1.618 is derived by dividing one of the Fibonacci numbers by the preceding number in the sequence (e.g. 144/89 = 1.618); 0.618 is derived using the opposite operation (e.g. 89/144 = 0.618). |
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Term
| Draw a flag and a pennant pattern in an upward trend. Explain how the price objective is determined for each. |
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Definition
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Term
| Draw examples of rising and falling wedges. What type of patterns are they (reversal vs. continuation)? How would you set the price objective? |
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Definition
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Term
| Distinguish between ascending and descending triangles in terms of whether or not their resistance line is horizontal. Are they bullish or bearish and how do you determine the price objective? |
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Definition
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Term
| Describe and distinguish between bearish and bullish Harami formations |
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Definition
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