Swing trading Canadian

[Croesus I]

Trend line handy diviner of stock's future

have over the past several years conducted dozens of technical analysis seminars for private investors and various financial institutions. The objective is to promote the value of technical analysis without being too academic. I try to keep attendees involved by engaging them in a town hall atmosphere.

Sometimes I get a tough crowd (usually young advisers and bankers) and have to "sell" the idea of looking at a chart, by identifying objections and overcoming them.

I do this by inviting questions on the fly from non-believers.

Their No. 1 challenge is: "How can you predict the future by looking at historical prices?"

My answer is: "Are not earnings releases and balance sheets historical information?"

Usually after the first hour I have won over most of the crowd by neutralizing the stronger objections. Then I get the next challenge: "What is your favourite technical indicator?"

This is, of course, a trap because no indicator works all the time. If one did we'd all be using it.

I prefer to monitor technical and fundamental studies that are widely used because that enables me to see the other guy's cards. Remember, the other guy is your opponent and will often disagree with your own analysis. Willing buyers must find willing sellers, and their lines in the sand are found at the current bid and asking price.

One of the most popular fundamental tools is a company's price/earnings or PE ratio. Here is the problem. If all market participants believe a growth company, XYZ, should trade at 10 times earnings – we know it never will. The shares of XYX will always be too expensive to buy because the price rises in anticipation of further growth. The opposite is true with a shrinking company.

One of the most overused and quoted technical tools is the 50-day and 200-day moving average crossover, sometimes referred to as the "golden cross" for the buy or "death cross" for the sell signal. Here is the problem. If all market participants follow a 50- and 200-day crossover "buy" signal, we know at least one half of them will be wrong because extensive back-testing has proved the signals are correct one-half of the time.

The conclusion to be drawn here is that we need to support our investment decisions with another relatively obscure study, one that would support or reject the more popular studies.

The fundamentals-based investor could use return on equity (ROE) to support the PE analysis and the technical investor could employ modern computer-generated studies such as the MACD, Stochastic Oscillators, the Relative Strength Index and the Average Directional Index. There is only one technical study that does not require a computer: the trend line.

Today it's underused and under-loved because of its simplicity. Take a chart, a straight edge and a pencil and you're up and running.

Our chart this week has the monthly closes of Potash Corporation of Saskatchewan Inc. spanning 10 years. I have used a series of trend lines to identify several bull and bear markets.

In order to place our trend lines we only need to follow a few rules:

Use weekly or monthly charts of at least 150 closing periods.

If the price over the period doubles, use a semi-log or per cent scale.

In an up-trend, join at least three lows; in a downtrend, join at least three highs and always extend from the left to the right.

Note how I have identified Potash's long base-building from 1998 to 2003, followed by the decisive breakout of 2004. The 2004-05 advance led to the mini-bear of 2005-06, as identified by our 2005 trend-line break. I have placed another short down sloping line across the tops of the mini-bear.

Note the 2006 breakout and the great 2006-08 advance identified by our final trend line. The mid-'08 breakdown should serve as a caution to long term investors.

Sell into rallies.
http://www.thestar.com/Business/article/533143
Bill Carrigan is an independent stock-market analyst.