STUDYGUIDEFOR
THENEW
TRADINGFORALLIVING
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STUDYGUIDEFOR
THENEW
TRADINGFORALIVING
Psychology•Discipline
TradingToolsandSystems
RiskControl•TradeManagement
Dr.AlexanderElder
Coverdesign:PaulDiNovoCopyright©2014bybyDr.AlexanderElder.Allrightsreserved.PublishedbyJohnWiley&Sons, Inc.,Hoboken,NewJersey.PublishedsimultaneouslyinCanada.No part of this publication may bereproduced,storedinaretrievalsystem,or transmitted in any form or by anymeans, electronic, mechanical,photocopying, recording, scanning, orotherwise, except as permitted underSection107or108of the1976UnitedStatesCopyrightAct,withouteithertheprior written permission of thePublisher, or authorization throughpaymentoftheappropriateper-copyfee
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CONTENTS
1. ABOUTTHISSTUDYGUIDE
2. PARTI:QUESTIONSRATINGSCALES1. Introduction2. ONE:Individual
Psychology
3. TWO:MassPsychology
4. THREE:ClassicalChartAnalysis
5. FOUR:ComputerizedTechnicalAnalysis
6. FIVE:VolumeandTime
7. SIX:GeneralMarketIndicators
8. SEVEN:Trading
Systems9. EIGHT:Trading
Vehicles1. Note
10. NINE:RiskManagement
11. TEN:PracticalDetails
12. ELEVEN:GoodRecord-Keeping
3. PARTII:ANSWERSANDCOMMENTS
1. Introduction1. Rating
Yourself2. ONE:Individual
Psychology1. Rating
Yourself2. Recommended
Reading3. TWO:Mass
Psychology1. Rating
Yourself2. Recommended
Reading4. THREE:Classical
ChartAnalysis1. Rating
Yourself2. Recommended
Reading5. FOUR:
ComputerizedTechnicalAnalysis
1. RatingYourself
2. RecommendedReading
6. FIVE:VolumeandTime1. Rating
Yourself2. Recommended
Reading7. SIX:General
MarketIndicators
1. RatingYourself
2. RecommendedReading
8. SEVEN:TradingSystems1. Rating
Yourself2. Recommended
Reading9. EIGHT:Trading
Vehicles
1. RatingYourself
10. NINE:RiskManagement1. Rating
Yourself2. Recommended
Reading11. TEN:Practical
Details1. Rating
Yourself
12. ELEVEN:GoodRecord-Keeping1. Rating
Yourself4. Afterword5. Sources6. AbouttheAuthor7. EndUserLicense
Agreement
ListofIllustrations1. THREE
1. FIGURE3.4Medtronic,Inc.(MDT)weeklychart.(ChartbyStockcharts.com).
2. FIGURE3.8WalterEnergyInc.(WLT)daily.(ChartbyStockcharts.com).
3. FIGURE3.10JetBlueAirwaysCorp.(JBLU)daily.(ChartbyStockcharts.com).
4. FIGURE3.12BoeingCo.(BA)daily.(ChartbyStockcharts.com).
2. FOUR1. FIGURE4.7
Williams-SonomaInc.(WSM)daily,
13-dayEMA.(ChartbyStockcharts.com).
2. FIGURE4.8BlackBerryLimited(BBRY)weekly,13-weekEMA.(ChartbyStockcharts.com).
3. FIGURE4.11DRHortonInc.(DHI)daily,26-dayEMAand12-26-9
MACD.(ChartbyStockcharts.com).
4. FIGURE4.14AlexcoResourceCorporation(AXU)with22-dayEMAanda13-dayDirectionalSystem(green+DI,red–DI,blackADX).(ChartbyStockcharts.com).
5. FIGURE4.18
LeapfrogEnterprisesInc.(LF)with26-dayEMAand7/3SlowStochastic.(ChartbyStockcharts.com).
6. FIGURE4.20Tiffany&Co.(TIF)with26-dayEMAand13-dayRSI.(ChartbyStockcharts.com).
3. FIVE1. FIGURE5.3
CapstoneTurbineCorp.(CPST)with26-dayEMAanddailyvolume.(ChartbyStockcharts.com).
2. FIGURE5.13ScorpioTankers,Inc.(STNG)with13-dayEMAofpriceanda2-day
EMAofForceIndex.(ChartbyStockcharts.com).
3. FIGURE5.15EMCCorp.(EMC)with13-dayEMAofpriceanda13-dayEMAofForceIndex.(ChartbyStockcharts.com).
4. FIGURE5.18Molycorp,Inc.(MCP)with13-day
EMAofpriceanda12-26-9MACD-Histogram.(ChartbyStockcharts.com).
4. SIX1. FIGURE6.3S&P
500witha22-dayEMA,aNewHigh–NewLowIndex,withaoneyearlook-backperiod.(NH-NLdatafrom
Barchart.com,chartbyTradeStation).
5. SEVEN1. FIGURE7.8Onthe
left:BBBYweeklychartwitha13-barEMAand12-26-9MACD-Histogram.Ontheright:BBBYdailychartwitha13-barEMAand2-barForceIndex.(Chartby
Stockcharts.com).2. FIGURE7.12JCP
dailywitha13-barEMA,a12-26-9MACD-Histogram,andtheImpulsesystem.(ChartbyStockcharts.com).
ABOUTTHISSTUDYGUIDE
Experiencedtradersseemtoglide through the markets,swinging into and out oftrades. Their trading appears
effortless, like downhillskiingonTV.Theillusionofease vanishes when youclamp on a pair of skis anddiscover the bumps on theslope.Ifyouwanttoimproveyour trading skills, you haveto work, study, and do yourhomework.I created thisStudyGuide tohelpyougrowandsucceedasa trader. It is based on myyears of experience as a
trader and teacher of traders.The more you study themarketsandyourreactionstothem,themorelikelyyouaretosucceed.Youneedtolearnmore about yourself as wellas themarkets—good tradersalwayslearn.EachquestioninthisGuideislinkedtoaspecificchapterinTheNewTradingforaLiving—psychology, riskmanagement, indicators, and
so on. Write down youranswers and compare themwiththoseinthebook.Whenanswering chart-relatedquestions, cover each chartwith a sheet of paper andmove it slowly from left toright to imitate the unfoldingof market action. Practicedealing with the uncertaintyofthemarketswhileworkingwiththisGuide.This Guide asks questions
and provides answers—butreasonable people maydisagree with some of them.Trading is partly a scienceand partly an art—partlyobjective and partlysubjective. Let this Guidechallengeyoutothinkdeeperabout the markets and yourreactionstothem.I am grateful to HenryAbelman and Jeff Parker,both repeatwinners of Spike
Trade'sEagleEye award, forreviewing all questions andanswers. Carol KeeganKaynedidthefinalcheckforclarityandprecision.Thanks to my formerprofessorsandstudentsattheuniversitiesinEstoniaandtheUnited States for providingmany opportunities to teachand develop my educationalstyle.Thanks to the membersofSpikeTrade.com,whokeep
sending me trading-relatedquestions.Postinganswers tothem week after week keepsmeonmytoes.IhopethisGuidehelpsyoutosharpen your skills and tobecome a better, moreconfidenttrader.
Dr.AlexanderElderNewYork—
Vermont,2014
PARTI
QUESTIONSAND
RATINGSCALES
Introduction
Towinintrading,youmustoutperform masses of
competitors. The majoritymust lose in order to paythosewhowin.Tobecomeasuccessful trader, you mustbeat the odds against you.You must learn to think andact differently from themarketcrowd.TheNewTradingforaLivingcontains several unorthodoxtradingideas.TheaimofthisIntroductionistopauseatthebeginning of the journey and
toseewhetheryouareintunewith some of theunconventional thinkingabouttrading.
Questions Trial1Trial2
Trial3
1 2 3 4 5
6 7 8 9
Correctanswers
Question0-1
1. Whichofthe
followingmethodsofmakingtradingdecisionscanservetraderswellinthelongrun?
1. Fundamental
analysis2. Insideinformation3. Hunchesandtips4. Technicalanalysis
1. IandII2. IIandIII3. IandIV4. IIIandIV
Question0-2
1. Whichofthefollowingisn'tneededfortradingsuccess?
1. Tradingpsychology2. Analyticmethod3. Connectionswith
marketinsiders4. Money
managementmethod
Question0-3
1. Thebest
approachtoreadingabookontradingisto
1. testalltheideas
thatinterestyouonyourownmarketdata.
2. incorporatealltheideasinyourwork.
3. nottrustwhatyouread—whywouldanyonesharegood
tradingideas?4. askothertraders
whethertheideasinthebookworkedforthem.
Question0-4
1. Whichofthefollowingisnotamajorcauseoftradinglosses?
1. Slippage2. Commissions3. Emotionaltrading4. Theft
Question0-5
1. TraderJimandTraderJohntaketheoppositesides
ofatrade.Bothpaycommissions,andbothgethitwithslippage.TraderJim,thewinner,collects$920,whileTraderJohn,theloser,isout$1080.Theresultofthistrade
illustratesthefactthattradingisa:
1. Zero-sumgame2. Positive
expectationsgame3. RandomWalk4. Minus-sumgame
Question0-6
1. Youfindastocktradingat$20andplantobuy100shares.Yourbrokerwillchargeacommissionof$10.Whichofthefollowingstatementsisincorrect?
1. Whendealingwith
thousandsofdollars,don'tquibbleabout$10.
2. Youneedtomake1%profittoavoidlosingmoneyonthistrade.
3. Using50%margin,youneedtomakemorethan2%profittoavoidlosingmoneyonthistrade.
Question0-7
1. Youplaceamarketordertobuy100sharesofarisingstockthatcurrentlytradesat$20.Yourordergetsfilledat$20.08.Yourslippageonthe
tradeis1. 80cents2. $83. $164. $80
Question0-8
1. ThestockyouboughtinQuestion7
ralliedto$22.Youexpecttherallytocontinuebutraiseyourstopto$21toprotecthalfofyourpaperprofit.Thestocksinksandhitsyourstop—yougetfilledat$20.88.Your
slippageonthistraderepresentswhatpercentageofyourgrossprofit?
1. 5percent2. 10percent3. 25percent4. 50percent
Question0-9
1. InthetradedescribedinQuestions7and8,thetradingindustrytookwhatpercentageofyourgrossgain?
1. 25percent2. 50percent3. 75percent4. 100percent
ONE
IndividualPsychology
Your greatest danger in
trading comes from theperson holding this book—you. Our emotions often tipthe scale between winningand losing. If you can staycool and make rationaldecisions, tradingprofitswillfollow.A professional trader is calmandcollected.Heknowswhathe'lldoifthemarketgoesup,down, or sideways. On dayswhenhe isnot sure,he stays
out, patiently monitoring themarket from the sidelines. Aprofeelsincontrol.If you feel giddy with joywhen the market goes yourwaybutfreezeinfearwhenitswings against you, youractionswillbeemotionalandyour account will suffer.When the mind becomesclouded by greed or fear,eventhebest tradingsystemsfly out the window. The
questions that follow aredesignedtohelpyoufocusontradingpsychology.
Questions Trial1Trial2
Trial3
1 2 3 4 5 6
7 8 9 10 11 12 13 14 15 16
Correct
answers
Question1-1
1. Asuccessfultrader'sattitudetowardriskisusuallyoneof
1. avoidingrisk.
2. thrivingonrisk.3. enjoyingrisky
situations,eventhoughlosseshurt.
4. measuringeachrisk.
Question1-2
1. Thegoalofasuccessfultraderisto
1. becomethebest
traderhecan.2. makemoremoney
thanothertraders.3. buythingsthatwill
sethimaboveothertraders.
4. winrespectoffamilyandfriends.
Question1-3
1. Atraderonalosingstreakhaslost20percentofhisaccount.Hewouldbestbeadvisedto
1. subscribetoa
newsletterwithaverifiedtrackrecord.
2. purchaseatradingsystemwitha
historyofprofitabilityandlowdrawdowns.
3. stoptradinguntilhehasanalyzedhislosingtradesanddeterminedtheircauses.
4. continuetotradebecausethelawsofprobabilityindicatealikelyturninhisfavor.
Question1-4
1. Havingalargetradingaccountisdesirableforallofthefollowingreasonsexceptthat
1. youcanaffordto
losemore.
2. youcandiversifyamongmoremarkets.
3. youcantradedifferentsystems.
4. yourexpensesrepresentasmallerpercentageofyouraccount.
Question1-5
1. Whichtwoofthefollowingstatementsaboutcommerciallysoldtradingsystemsaremostaccurate?
1. Atrackrecord
providesconfidencethatasystemwillcontinuetoperformwell.
2. Thefactthatasystemissoldbyaprominenttraderprovidesanextramarginofconfidence.
3. Tradingsystemsaredesignedtofitolddata,andtheyself-destructwhenmarketschange.
4. Youcanbuyasystemfromatop
analystandlosemoneyusingit.1. IandII2. IandIII3. IIandIII4. IIIandIV
Question1-6
1. Whichofthefollowingisakeysignofa
gamblingattitudetowardtrading?
1. Theinabilityto
resisttheurgetotrade
2. Feelingelatedwhentradesgowellandashamedafterlosing
3. Alwaysreversinglosingpositions
4. Astringoftradinglosses1. Ionly2. IandII3. I,II,andIII4. I,II,III,and
IV
Question1-7
1. Withinayear,allofthe
followingoccurinthelifeofatrader:hereceivesthreetraffictickets,paysapenaltyforfilinghistaxeslate,getstworeprimandsfortardinessonhisnon-tradingjob,andhistrading
accountisdown35percent.Whichofthefollowingwouldbethebestadviceforthistrader?
1. It'sahardlife.Try
tomakealotofmoneytrading,quityourjob,andhiresomeonetohandle
yourfinances.2. Trafficticketshave
nothingtodowithtrading—don'tworryaboutthem.
3. You'resabotagingyourselfandneedtoworkonchangingyourselfasaperson.
4. Hanginthere;itishardtokeepajobandtradeatthe
sametime.
Question1-8
1. Picktwocorrectstatementsabouttradingpsychology.
1. Yourfeelings
impactyourequity.2. Towinyouhaveto
bemoreintelligentthanmosttraders.
3. Feelingelatedafterprofitabletradesreinforcesgoodtradinghabits.
4. Fearandgreedhaveagreaterimpactonyourequitythanabrillianttradingsystem.1. IandII
2. IIandIII3. IIIandIV4. IandIV
Question1-9
1. You'vemadeaseriesofsuccessfultradesinrecentmonths.Nowisthe
timeto1. congratulate
yourselfandincreasethesizeofyourpositions.
2. usefewerstops.3. takeavacation.4. realizethatyou
havebecomeacompetenttraderandcanspendlesstimestudyingthe
markets.1. IandII2. IIandIV3. IandIII4. IIIandIV
Question1-10
1. Themainsimilaritybetweenalosingtrader
andanalcoholicis:
1. Losersareaddicted
totheexcitementoftradingthewayalcoholicsareaddictedtoalcohol.
2. Losershidetheextentoftheirlossesfromthemselvesandothers,justasalcoholicshidehow
muchtheydrink.3. Loserstrytotrade
theirwayoutofahole,justasalcoholicstrytoswitchfromliquortowine.
4. Alloftheabove
Question1-11
1. The
psychologyoflosersinvolvesallofthefollowingexceptthat
1. Losersfindtrading
veryexciting,evenwhenitleadstolosses.
2. Fewlosersrecoveraftertheydestroytheiraccounts.
3. Losersknowthattheyhaveapersonalproblemwithtrading.
4. Losersusuallyshootfora“bigwin.”
Question1-12
1. Thefirststepinalosingtrader's
recoveryistosay,
1. “Ineedabetter
tradingsystem.”2. “Imustfindabull
market.”3. “Ineedtolearna
newtradingmethod.”
4. “Iamaloser.”
Question1-13
1. Whenatradersays,“Mynameisso-and-soandIamaloser”theresultis
1. afearfulattitude
towardtrading.2. cuttinglossesshort.3. avoidanceof
overtrading.4. lowercommissions
andslippage.1. IandII2. IIandIII3. IIIandIV4. IandIV
Question1-14
1. Themost
importantfactorinbecomingasuccessfultraderis
1. startingwitha
good-sizedtradingaccount.
2. beingabletolearnfromothersuccessfultraders.
3. usingwritten
tradingplansandavoidingemotionaldecisions.
4. relyingonusefulskillsinyourbusinessorprofessionalbackground.
Question1-15
1. If,afterayearoftrading,the
marketsseemmysterioustoyou,itisbecause
1. yourtrading
behaviorisimpulsive.
2. youlackgoodfundamentalortechnicalinformation.
3. youraccountistoo
small.4. themarketsare
chaotic(RandomWalk).
Question1-16
1. Atradebeginswhen
1. themarketappears
overboughtoroversold.
2. anindicatorgivesyouanentrysignal.
3. youdecidetoplaceabuyorsellorder.
4. anewslettermakesanattractiverecommendation.
TWO
MassPsychology
Whenever you buy or sell,
you're surrounded by a hugecrowd of other buyers andsellers, many of whom aredrivenbygreedandfear.Thesum of their orders createshugewavesofmassoptimismand pessimism. Wavesbecome tides that sweep themarkets,causingpricestoriseorfall.Crowdsareextremelypowerful—itmakes no senseto fight them. Crowds arestrong but primitive.Recognizing this will help
you trade in the direction inwhich the crowd is runningbut hop off when a trend isabouttoend.It ishard to remainobjectivewhen analyzing marketsbecause crowds suck us in.Anyone who has attended apoliticalrallyorabigconcerthasfeltthepullofthecrowd.Some questions in thischapter test your knowledgeof the basic laws of crowd
psychology. Others help youbecome aware of the impactof the tradingcrowdonyourown feelings and judgment.Nowisagoodtimetoreflectonyour reactions, rational orirrational, when you trade.Aimtorelateyouranswerstothe following questions toyourtradingexperiences.
Questions Trial1Trial2
Trial3
1 2 3 4 5 6 7 8 9 10 11
12 13
Correctanswers
Question2-1
1. Priceis1. theintersectionof
supplyanddemand
curves.2. thevalueofa
tradingvehicle.3. areflectionof
companyassetsinthestockmarketorademandforacommodity.
4. theconsensusofvalueofallmarketparticipantsatthemomentofthetrade.
Question2-2
1. Whichofthefollowingstatementsisincorrect?
1. Bullsbetthatprices
willrise;theytrytobuyaslowaspossible.
2. Uncommitted
tradersputpressureonbullsandbearsbytheirpresence.
3. Thegoalofatechnicalanalystistoforecastwhetherbullsorbearswillwin.
4. Bearsbetthatpriceswillfall;theywanttosellashighaspossible.
Question2-3
1. Whenyouareunsurewhethertobuyorsell,itpaysto
1. surfthenettofind
outwhatothersaredoing.
2. tradeasmallersizethanusual.
3. stayoutofthemarket.
4. seekadvicefromacurrently“hot”guru.
Question2-4
1. Anyprofitsyoumakeintradingcomefrom
1. thebrokers.2. thetraders.3. theeconomy.4. theexchanges.
Question2-5
1. Whenapersonjoinsacrowd,he
1. becomesmore
impulsiveandemotional.
2. benefitsfromthestrengthsofothers.
3. trustscrowdleadersmorethanhimself.
4. canleavethecrowdwhenhewantsto.1. IandII2. IandIII3. IIandIII
4. IIandIV
Question2-6
1. Peoplejoincrowdsoutofa
1. fearofuncertainty.2. lifelonghabit.3. desiretobeledby
strongleaders.
4. searchforcomfort.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question2-7
1. Whichofthefollowingiscorrect?
1. Crowdsare
primitive;itisOKtousesimpletradingstrategies.
2. Beingsmarterthanthecrowdassuresyouofwinning.
3. Agoodtraderfeelselatedwhenthemarketgoesinhisdirectionanddepressedwhenit
goesagainsthim.4. Marketcrowdsare
almostalwayswrong.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question2-8
1. Identifythemainleaderofmarkettrends.
1. Powerfulfinancial
interests2. Prominentgurus3. Priceitself4. Fundamental
changesintheeconomy
Question2-9
1. Marketsrisewhen
1. therearemore
buyersthansellers.2. buyersaremore
aggressivethansellers.
3. sellersareafraidanddemandapremium.
4. moresharesorcontractsareboughtthansold.1. IandII2. IIandIII3. IIandIV4. IIIandIV
Question2-10
1. Whenthetrendisdown,
1. shortsellerstendto
increasetheirpositions.
2. longstendtoquitindisgust.
3. longsagreetobuyonlyatasteepdiscount.
4. shortsellersarewillingtosellatalowerprice.
1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question2-11
1. Apriceshockduringanuptrend
1. isasuddenjumpinprice.
2. isasuddendropinprice.
3. makesbullsfeelvulnerable.
4. frightensthebears.1. IandIII2. IIandIII3. IIandIV4. IandIV
Question2-12
1. Apriceshockinterruptsarally,butpricesrecover.Whentheyrisetoanewpeak,severalindicatorsreachalowerpeak.Thispatternis
calleda1. bullishdivergence.2. suddendropin
price.3. bearishdivergence.4. suddenriseinprice.
Question2-13
1. Themaingoalsofa
traderareto1. identifythecurrent
trend.2. forecastpricesin
thenearfuture.3. forecastlong-term
prices.4. stayobjectiveand
unemotional.1. IandII2. IandIV
3. IIandIII4. IIIandIV
THREE
ClassicalChartAnalysis
The original chartists had a
revolutionary idea—to useprice and volume data ratherthan fundamental factors fordeciding what and when tobuyandsell.Eachfundamentalanalysthasto specialize in a fairlynarrow field. Technicalanalysis, on the contrary, isuniversal. Once youunderstand the principles ofcharting,youcanapply themto stocks, bonds, currencies,
futures, or any other market.As the number of tradingvehicles around the globeincreases, technical analysisisbecomingmorepopular.As longasyouhave thedataon high, low, opening, andclosingprices,alongwiththatonvolume andopen interest,you can make intelligentjudgments about the balanceof power between bulls andbears in any market. Then
youcantradeinthedirectionof the dominant marketgroup.Inthischapteryou'llbeaskedto make trading decisionsusing charts. It's relativelyeasy to recognize patterns inthe middle of a chart, butgoodtradingsignalsaremuchharder to identify near theright edge. That's whereyou'll have to make yourtrading decisions—amid the
uncertainty, noise, andtensionofthemarkets.
Questions Trial1Trial2
Trial3
1 2 3 4 5 6 7
8 9 10 11 12 13
Correctanswers
Question3-1
1. Matchthefollowingtwosetsofstatementsregardingprices.
1. Thehighoftheday2. Thelowoftheday3. Theclosingprice4. Theopeningprice
1. Amateurs'opinion
2. Professionals'opinion
3. Maximumpowerofbulls
4. Maximumpowerofbears
Question3-2
1. Threeanalysts
lookatthesamechart.Onearguesthatthetrendisup,theotherthatthetrendisdown,andthethirdthatthetrendissideways.Inallprobability,
1. oneortwoofthem
maybeguiltyof
wishfulthinking.2. theymaynothave
agreedonthebasicdefinitionofatrend.
3. theymaybelookingatdifferenttimeframes.
4. ifeachdidabetterjob,allthreewouldagree.1. I
2. IandII3. I,II,andIII4. I,II,III,and
IV
Question3-3
1. Whentryingtoenteraliquidmarketonaquietday,youarelikelyto
encounter1. higherslippage.2. higher
commissions.3. lowerslippage.4. lowercommissions.
Question3-4
1. Whichlinesonthechartin
Figure3.4markthelevelsofbothsupportandresistance?
1. LineA2. LinesAandB3. LinesA,B,andC4. LinesA,B,C,and
D
FIGURE3.4Medtronic,Inc.(MDT)weeklychart.(ChartbyStockcharts.com).
TheLinesofSupportandResistance
Question3-5
1. Supportandresistancelinesshould
1. bedrawnacrossthe
edgesofcongestionareas.
2. bedrawntotouchextremehighorlowprices.
3. connecthighswithlowsandlowswithhighs.
4. connecthighswithhighsandlowswithlows.1. IandII
2. IIandIII3. IIIandIV4. IandIV
Question3-6
1. Thestrengthofsupportandresistancedependson
1. thenumberoftimes
priceshitthatarea.
2. thevolumeoftradinginthatarea.
3. theheightofthatarea.
4. thelengthoftimepricesspentinthatarea.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question3-7
1. Pricesspendseveralweeksinacongestionareaandthendropbelowsupport.Whichofthefollowingtradingchoices
shouldbeconsideredonthefollowingday?
1. Sellshortifprices
falltoanewlow,withastopaboveyesterday'shigh
2. Golongifpricesrallybackintothecongestionarea,withastopbelowyesterday'slow
3. Sellshortattheopening
4. Golongattheopening1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question3-8
1. MatchthelettersunderneaththelastfourbarsinthechartinFigure3.8tothefollowingstatements.
1. Alowerlowanda
lowerclose—monitorthedownmove.
2. Startmovingup
yourstop.3. Afalsedownside
breakout—golong.4. Abreakouttoa
newlow—monitorwhetherthedownmovewillcontinue.
FIGURE3.8WalterEnergyInc.(WLT)daily.(ChartbyStockcharts.com).
ACongestionZone
Question3-9
1. MarkthestatementsbelowwithaTiftheyapplytotrendsandwithanRiftheyapplyto
tradingranges:1. Eachrallyreachesa
higherhigh.2. Eachdeclinestops
atapproximatelythesamelevel.
3. Keepaddingtoyourpositions.
4. Runatthefirstsignofareversal.
Question3-10
1. MatchtheareasmarkedbylettersinthechartinFigure3.10tothefollowingstatements.
1. Inabilitytoreach
resistanceindicatesweakness—considershorting.
2. Inabilitytoreachsupportindicatesstrength—considerbuying.
3. Hittingresistance—sell.
4. Falseupsidebreakout—goshort.
FIGURE3.10JetBlueAirwaysCorp.(JBLU)daily.(ChartbyStockcharts.com).
DecisionsatSupportandResistance
Question3-11
1. Whichofthefollowingtacticsworkwellinuptrends?
1. Buybreakoutsto
newhighs.2. Buypullbacksinto
support.3. Buywhenprofits
onyourpreviouslongpositionareprotectedbyastop.
4. Buywhenpricestakeoutthepreviouslow.
1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question3-12
1. Whichofthefollowingdoesnotapplyto“kangaroo
tails,”marked“T”inFigure3.12?
1. Whenatailpoints
down,goshort.2. Tailsaresinglebars
protrudingfromcompactcongestionareas.
3. Whenatailpointsup,itgivesasellsignal.
4. Marketsusuallyrecoilfromtheir“tails.”
FIGURE3.12BoeingCo.(BA)daily.(ChartbyStockcharts.com).
KangarooTails
Question3-13
1. IfyoubuyinareaTneartherightedgeofFigure3.12,youmaydoallofthefollowing,
except1. placeaprotective
ordermidwaydownthetail.
2. addtoyourlongpositiononthenextbarthattradeshigher.
3. takeprofitswhentherallystopsmakingnewhighs.
4. placeaprotective
stopbelowthetipofthetail.
FOUR
ComputerizedTechnicalAnalysis
Today it would be unusualto see an analyst or a traderwho doesn't use a computer.The dropping cost ofequipment,software,anddatahas evened out the playingfieldbetween individualsandinstitutions.A computer can help youprocess the torrent ofmarketinformation and make youranalysismoreobjective,butit
isonlyatool.Buyingthebestcar will not automaticallyturn a beginning driver intoan expert. In this section,you'lltestyourselftoseehowwell you've mastered thelessons on computerizedmarket analysis. If you owntechnical analysis software,pleasefeelfreetouseitwhileanswering questions in thischapter.
Questions Trial1
Trial2
Trial3
1 2 3 4 5 6 7 8 9
10 11 12 13 14 15 16 17 18 19 20
21 22
Correctanswers
Question4-1
1. Computerizedtechnicalanalysis
1. ismoreobjective
thanclassicalcharting.
2. allowstraderstoforecastthefuture.
3. removesemotionsfromtrading.
4. assuressuccessintrading.1. I2. IandII
3. I,II,andIII4. I,II,III,and
IV
Question4-2
1. Matchthefollowingthreetypesofsoftwarewiththeirdescriptions:
1. Graybox2. Toolbox3. Blackbox
1. Youfeedthisprogramcurrentmarketdataandreceivespecificbuyandsellsignals.
2. Sameas
above,butyoucanchooseindicatorsettings.
3. Acollectionofchartingtoolsandindicators.
Question4-3
1. Matchthefollowingthreemain
groupsoftechnicalindicatorswiththeirdescriptions:
1. Oscillators2. Trend-following
indicators3. Miscellaneous
indicators1. Provide
insightsinto
masspsychologyofthemarkets.
2. Catchturningpointsinflatmarketsbutgiveprematureanddangeroussignalswhenthemarketsbegintotrend.
3. Workbestwhenmarkets
aremovingbutgivebadsignalswhenthemarketsareflat.
Question4-4
1. Astockhasclosedat23,22,21,20,23,and24duringthepast6
days.Whatisits5-daysimplemovingaverageonthelastday?
1. 212. 223. 234. Noneoftheabove
Question4-5
1. ExponentialmovingaveragesworkbetterthansimpleMAsforallofthefollowingreasons,exceptthatEMAs
1. areeasierto
calculatebyhand.2. respondtochanges
inpricesfaster.
3. donotjumpinresponsetoolddata.
4. trackthemassmoodofthecrowdmoreclosely.
Question4-6
1. Themostimportantmessageofan
exponentialmovingaverageis
1. thewidthofitstime
window.2. itsabilitytoriseto
anewpeak.3. itsabilitytofalltoa
newlow.4. thedirectionofits
slope.
Question4-7
1. MatchtheletteredsectionsatthebottomofFigure4.7tothefollowingEMA-basedstrategies.
1. Tradeonlyfromthe
longside.
2. Tradeonlyfromtheshortside.
FIGURE4.7Williams-SonomaInc.(WSM)daily,13-dayEMA.(ChartbyStockcharts.com).EMASignals—Daily
Question4-8
1. MatchtheletteredareasofFigure4.8tothefollowing
EMA-basedtactics.
1. Golong,witha
protectivestopinthevicinityofthelatestlow.
2. Goshort,withaprotectivestopinthevicinityofthelatesthigh.
3. Liquidatepositionsandstandaside—
themarketmaybeturning.
FIGURE4.8BlackBerryLimited(BBRY)weekly,13-weekEMA.(ChartbyStockcharts.com).EMASignals—Weekly
Question4-9
1. Whichofthefollowingstatementsregarding
MovingAverageConvergence-Divergence(MACD)aretrue?
1. Thefastlineof
MACDreflectsshort-termbullishnessorbearishness.
2. Theslowlineof
MACDreflectslong-termbullishnessorbearishness.
3. Whenthefastlineisabovetheslowline,bullsareincontrol.
4. Whenthefastlineisbelowtheslowline,bearsareincontrol.1. IandII
2. IIIandIV3. Noneofthe
above4. I,II,III,and
IV
Question4-10
1. WhichstatementaboutMACD-Histogramisn't
true?1. Itmeasuresthe
spreadbetweenthefastandslowMACDlines.
2. Whenitrises,itshowsthatbullsareincontrol.
3. Itforecastshigherorlowerpricesahead.
4. Itidentifiesthe
dominantmarketgroup.
Question4-11
1. MatchthefollowingstatementstotheletteredareasinthechartinFigure4.11
1. MACD-Histogramrisestoahigherpeak—expectpricestoretestorexceedtheirpricepeak.
2. MACD-Histogramfallstoanewlow—expectpricestoretestorexceedtheirlatestbottom.
3. Breakingthepowerofthedominant
group.4. Abearish
divergenceisoccuring.
5. Abullishdivergenceisoccuring.
FIGURE4.11DRHortonInc.(DHI)daily,26-dayEMAand12-26-9MACD.(ChartbyStockcharts.com).MACDLinesandMACD-Histogram
Question4-12
1. AttherightedgeofFigure4.11,MACD-
Histogram,EMA,andpricearetellingusthat
1. thelatestpricepeak
islikelytoberetestedorexceeded;golongimmediately.
2. bearsareincontrol;goshortimmediately.
3. loweryourstopandbereadytotakeprofitsontheshortpositionfromthebearishdivergenceD-F.
Question4-13
1. Whichofthefollowingstatementsdescribes
DirectionalMovement?
1. Thepartoftoday's
barthatisabovethepreviousday'sbar
2. Thepartoftoday'sbarthatisbelowthepreviousday'sbar
3. Thelargestpartoftoday'sbarthatisoutsidetheprevious
day'sbar4. Noneoftheabove
Question4-14
1. MatchtheletteredareasinFigure4.14tothefollowingactions.
1. Whenthe
DirectionalIndicator(ADX)turnsdownfromabovebothDirectionalLines,takeatleastpartialprofits.
2. WhentheDirectionalIndicatorpenetratesabovethelowerDirectionalLine,tradeinthe
directionoftheupperDirectionalLine.
3. Donotuseatrend-followingmethodwhentheDirectionalIndicatorisbelowbothDirectionalLines.
FIGURE4.14AlexcoResourceCorporation(AXU)with22-dayEMAanda13-dayDirectionalSystem(green+DI,red–DI,blackADX).(ChartbyStockcharts.com).DirectionalSystem
Question4-15
1. Attheright
edgeofFigure4.14,theDirectionalSystemistellingusto
1. golong.2. goshort.3. standaside.
Question4-16
1. Oscillatorscan
helptradersaccomplishallofthefollowingexcept
1. identifythe
extremesofmasspessimismandoptimism.
2. catchalltopsandbottoms.
3. findwhetherbulls
orbearscurrentlypredominate.
4. betagainstdeviationsandforareturntonormalcy.
Question4-17
1. Whenanoscillatorreachesitshighestpeakinseveral
months,whichofthefollowingisleastlikely?
1. Therallyislikely
topause.2. Pricesarelikelyto
risetoahigherhigh.
3. Longpositionscanbeheld.
4. Pricesarelikelyto
drop.
Question4-18
1. MatchthelettersinFigure4.18tothefollowingformationsofStochastic:
1. Overbought2. Oversold
3. Bullishdivergence4. Bearishdivergence5. Failureswing
FIGURE4.18LeapfrogEnterprisesInc.(LF)with26-dayEMAand7/3SlowStochastic.(ChartbyStockcharts.com).Stochastic
Question4-19
1. AttherightedgeofFigure4.18,the
tradingmessageofStochasticis:
1. Stochasticis
overbought;goshort.
2. Stochasticisrising;golong.
3. Thedowntrendisstillinforce;goshort.
4. Stochasticis
neutral;standaside.
Question4-20
1. MatchletteredformationsofRSI(RelativeStrengthIndex)inFigure4.20tothepatternslistedbelow.
1. Overbought2. Oversold3. Bullishdivergence4. Bearishdivergence
FIGURE4.20Tiffany&Co.(TIF)with26-dayEMAand13-dayRSI.(ChartbyStockcharts.com).RelativeStrengthIndex
Question4-21
1. AttherightedgeofFigure4.20,RSIistellingusthat:
1. Thestockis
oversold;golong.2. Thereisabearish
divergence;goshort.
3. RSIistrendinglower;standaside.
4. Signalsaremixed;standasidefornow.
Question4-22
1. Withthemarketinadowntrend,anoscillator,suchasStochasticorRSI,identifies
1. shorting
opportunities.2. sellingareas.3. buying
opportunities.
4. short-coveringareas.1. IandII2. IIIandIV3. I,II,III,and
IV4. Noneofthe
above
FIVE
VolumeandTime
Beginners watch only
prices. It's easy to becomehypnotizedby stocksmovingupanddown.Experienced analysts gain amuch deeper understandingof the markets by includingvolume in their analysis. Inaddition, price changes needto be linked to the length oftimeittookforthemtooccur.All trading decisions have tobe made by analyzing morethanonetimeframe.
This chapter also reviewsopen interest, a measurerelevant only for thederivatives markets, such asfutures or options. If youdon't trade derivatives anddon't wish to study openinterest, skip questions 5–7,5–8, and 5–9 and add threepointstoyourscore.
Questions Trial1Trial2
Trial3
1 2 3 4 5 6 7 8 9 10 11
12 13 14 15 16 17 18 19
Correctanswers
Question5-1
1. Volumereflectsallofthefollowingexcept:
1. Howmarket
participantswillreacttofuturepricechanges
2. Howmanywinnersandlosersare
activeinthemarket3. Whethermassesof
losersarestayingputorrunning
4. Thedegreeofemotionalinvolvementamongtraders
Question5-2
1. Themarket
hasbeenrisingforseveralmonthsinanorderlypatternofralliesandshallowdeclines;anewrallyisinprogress.Matchthefollowingpairsofstatementsconcerningthisrally's
volume:1. Volumeisslightly
higherthanduringthepreviousrally.
2. Volumeisdoublewhatitwasduringthepreviousrally.
3. Volumeishalfofwhatitwasduringthepreviousrally.
4. Volumeisapproximatelythe
sameasitwasduringthepreviousrally.1. Bearsare
panicking;takeatleastpartialprofitsonlongpositions.
2. Theuptrendishealthy;holdlongsoraddtothem.
3. Theuptrendisrunningoutofsteam;takeatleastpartialprofitsonlongpositions.
4. Theuptrendishealthy;holdlongs.
Question5-3
1. Identifythe
followingpatternsofvolumebymatchingthemwiththeappropriatelettersinFigure5.3.
1. Volumetracesa
lowerpeakwhilepricestraceahigherone—expectadeeperreaction,
takeprofitsonlongpositions.
2. Volumeshrinkswhilepricesslidenearthebottomoftheirrange—lookforabuyingopportunity.
3. Volumeexpandsonarally—expecthigherpricesahead,holdthroughanycorrection.
4. Volumeshrinksduringapullbacktovalue—looktogolongoraddtolongs.
FIGURE5.3CapstoneTurbineCorp.(CPST)with26-dayEMAanddailyvolume.(ChartbyStockcharts.com).Volume
Question5-4
1. AttherightedgeofFigure5.3,thepattern
ofvolumeandpricesshowsthat
1. pricesarerisingon
heavyvolume;golongimmediately.
2. pricesarepullingbacktovalueonfallingvolume—waitforthedeclinetostopandthengolong.
3. thelastrallyhadanunsustainablevolumelevel—goshort.
4. it'sbettertostandasidefornow.
Question5-5
1. Whichoneofthefollowingstatementsiscorrect?On-
BalanceVolume(OBV)
1. confirmsbear
moveswhenitfallstoanewlow.
2. trackstherunningtotaloftraders'emotionalcommitments.
3. oftenreachesanewpeakbeforeanew
peakinprice.4. riseswheneverthe
marketcloseslower.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question5-6
1. MatchstatementsaboutAccumulation/Distributionfromthefollowingtwosets.
1. Pricesopenbelow
thepreviousday'scloseandcloselower.
2. Pricesopenabovethepreviousday's
openandclosehigher.
3. Pricesopenabovethepreviousday'sclose,butcloseatthelows.
4. Pricesopenbelowthepreviousday'sclose,butcloseatthehighs.1. Amateurs
relativelybearish,
professionalsrelativelybullish
2. Amateursrelativelybullish,professionalsrelativelybearish
3. Amateursandprofessionalsbullish
4. Amateursand
professionalsbearish
Question5-7
1. TheChicagoBoardofTradereportsthatopeninterestinsoybeansstandsat300,000
contracts.Thismeansthat
1. 150,000contracts
areheldbythelongsand150,000owedbytheshorts.
2. 300,000contractsareheldbythelongsand300,000owedbytheshorts.
3. 600,000contractsareheldbythe
longsand600,000owedbytheshorts.
4. thereisn'tenoughinformationtotellwhoholdshowmanycontracts.
Question5-8
1. Matchthefollowingactionswiththeirimpacton
openinterest.1. Atraderwhois
longsellstoanotherwhoisshort.
2. Anewbearentersthemarketandsellsshorttoanearlierbearwhobuystocoverhisshorts.
3. Anewbullentersthemarketandbuysfromanearlierbull
whosellshisposition.
4. Anewbuyerandanewsellertradewitheachother.1. Openinterest
increases.2. Openinterest
decreases.3. Openinterest
staysunchanged.
Question5-9
1. Risingopeninterestshowsthat
1. bullsareconfident
andaggressive.2. thesupplyoflosers
isgrowing.3. thetrendislikelyto
continue.
4. bearsareconfidentandaggressive.1. 12. 1and23. 1,2,and34. 1,2,3,and4
Question5-10
1. Aspriceschange,whichfactorsreflect
theforceoftheirmove?
1. Theamountof
pricechange2. Volumeoftrading
duringthatmove3. Directionofthe
move4. Relatedmarkets
1. 12. 1and2
3. 1,2,and34. 1,2,3,and4
Question5-11
1. TheForceIndexformulais
1. Closetoday•
(Volumetoday–Volumeyesterday)
2. Closetoday•(Volumetoday+Volumeyesterday)
3. Volumetoday•(Closetoday+Closeyesterday)
4. Volumetoday•(Closetoday–Closeyesterday)
Question5-12
1. WhysmoothForceIndexwithamovingaverage?
1. Thehistogramof
thedailyForceIndexistoojagged.
2. A2-dayEMAofForceIndexhelpsfindentrypointsintotrades.
3. A13-dayEMAofForceIndexhelpsfindmajorshiftsintheforceofbullsandbears.
4. DivergencesbetweenthesmoothedForceIndexandpriceshelptoidentifyturningpointsinthemarkets.1. I
2. IandII3. I,II,andIII4. I,II,III,and
IV
Question5-13
1. Ashort-termForceIndex,smoothedwitha2-dayEMA,helpsdecide
whentoputontradesinthedirectionofthecurrentpricetrend,whichwemaydefineusingtheslopeofapriceEMA.ForceIndexcanalsoshowwhentotakeshort-termprofits.Match
theletteredareasinthechartinFigure5.13tothefollowingstatements.
1. Buy2. Stopshorting,look
tobuy3. Sellshort4. Covershorts
FIGURE5.13ScorpioTankers,Inc.(STNG)with13-dayEMAofpriceanda2-dayEMAofForceIndex.(ChartbyStockcharts.com).ForceIndex,2-dayEMA
Question5-14
1. AttherightedgeofFigure5.13,the
messageofthe2-dayForceIndexis:
1. Standaside.2. Golong.3. Sellshort.
Question5-15
1. Along-termForceIndex,smoothedwith
a13-dayEMA,deliversseveralstrategicmessages.PleasematchtheletteredareasinthechartinFigure5.15tothefollowingstatements.
1. Bearishcrossover
—tradeshort.2. Bullishcrossover—
tradelong.3. Dominantforceis
weakening.
FIGURE5.15EMCCorp.(EMC)with13-dayEMAofpriceanda13-dayEMAofForceIndex.(ChartbyStockcharts.com).ForceIndex,13-dayEMA
Question5-16
1. AttherightedgeofFigure5.15,the
messageofthe13-dayForceIndexis:
1. Standaside.2. Golong.3. Sellshort.
Question5-17
1. Thepresenceofcyclesinmarketdata
dependson1. changesinthe
economicfundamentals.
2. greedingoodtimesandfearinbadtimesamongproducersandconsumers.
3. swingsbetweenpessimismandoptimismamong
traders.4. planetary
influences.1. 12. 1and23. 1,2,and34. 1,2,3,and4
Question5-18
1. Identifythe
“indicatorseasons”bymatchingthemwiththeappropriatelettersinFigure5.18.
1. Spring;golong.2. Summer;start
takingprofitsonlongs.
3. Autumn;goshort.
4. Winter;starttakingprofitsonshorts.
FIGURE5.18Molycorp,Inc.(MCP)with13-dayEMAofpriceanda12-26-9MACD-Histogram.(ChartbyStockcharts.com).IndicatorSeasons
Question5-19
1. Traderscananalyzemarketsin
greaterdepthbylookingatthemintwotimeframes.Whichofthefollowingcombinationsmakesthemostsense?
1. Weeklyanddaily2. Monthlyanddaily3. Yearlyanddaily
4. Yearlyandweekly
SIX
GeneralMarketIndicators
Markets consist of huge
crowds of traders whosebuying and selling createwaves ofmass optimism andpessimism. The resultingprice trends lure inbystanders, and their buyingand selling reinforces thosetrends, driving them tounsustainable extremes.Fundamental economicfactors may rule the marketsin the long run, but masspsychology determinesintermediate- and short-term
trends.Several indicators take thepulseof themarket crowd instocks and futures. Theindicators that analyze thestock market as a whole areespecially useful for tradingstock index futures andoptions. Since the broadmarket trends influencemoststocks,thosesignalsalsohelpstocktraders.Generalmarketindicatorsare
especially important to thosewho trade in the UnitedStates, where severaladvisory services track them.Overseas traders could profitfromdevelopingsimilartoolsintheirowncountries.
Questions Trial1Trial2
Trial3
1 2 3
4 5 6 7 8 9 10 11 12
Correctanswers
Question6-1
1. TheNewHigh–NewLowIndex(NH-NL)
1. measuresthe
numberofnewhighsonanygivenday.
2. tracksthenumberoftheweakeststocksontheexchange.
3. measuresthenumberofnewlowsonanygivenday.
4. tracksthenumberofthestrongeststocksontheexchange.1. 1and3
2. 2and43. 1,2,3,and44. Noneofthe
above
Question6-2
1. MatchthefollowingNH-NLpatternswiththeirmarket
messages.1. NH-NLispositive;
risestoanewhighforthemove.
2. Stockmarketfallstoanewlow;NH-NLtracesahigherbottom.
3. NH-NLisnegative;declinestoanewlowforthemove.
4. Stockmarket
reachesanewpeak;NH-NLtracesalowerpeak.1. Bearish
leadershipisstrong;tradefromtheshortside.
2. Bearishdivergenceshowsthatbullsarebecoming
weak;starttakingprofitsonlongpositionsandlooktogoshort.
3. Bullishdivergenceshowsthatbearsarebecomingweak;starttakingprofits
onshortpositionsandlooktogolong.
4. Bullishleadershipisstrong;tradefromthelongside.
Question6-3
1. Identifythe
followingpatternsbymatchingthemwiththeappropriatelettersinthechartofNH-NLinFigure6.3.
1. Bullspredominate;
tradefromthelongside.
2. Bearspredominate;
tradefromtheshortside.
3. Abullishdivergence;takeprofitsonshortsandgetreadytogolong.
4. Abearishdivergence;takeprofitsonlongsandgetreadytogoshort.
FIGURE6.3S&P500witha22-dayEMA,aNewHigh–NewLowIndex,withaoneyearlook-backperiod.(NH-NLdatafromBarchart.com,chartbyTradeStation).TheNewHigh–NewLowIndex
Question6-4
1. Attheright
edgeofFigure6.3,NH-NLtellsusthat
1. NH-NLis
overbought;sellshort.
2. NH-NLispositiveandrising;golong.
3. nobullishdivergenceispresent;standaside.
4. tradingsignalsare
mixed;standaside.
Question6-5
1. WhichofthefollowingstatementsapplytotheAdvance/Declineline?
1. Ittracksthe
numbersofrising
andfallingstocks.2. Itindicatesstrength
whenitrisestoanewhighandweaknesswhenitfallstoanewlow.
3. ThepatternofA/Dpeaksandvalleysismoreimportantthanitslevel.
4. Itshowswhenvolumeconfirmspricemoves.
1. 12. 1and23. 1,2,and34. 1,2,3,and4
Question6-6
1. Whenbullishconsensusinthestockmarketrisestoarecordhigh,
itshowsthat1. themarketisneara
top;startsellingandlookforpotentialshorts.
2. theuptrendisstrong;golong.
3. therearen'tenoughnewbuyerstosupportthemarket.
4. youshoulddoubleuponlong
positions.1. 12. 1and33. 24. and4
Question6-7
1. Duringapowerfuluptrendincopperfutures,
bullishconsensusrisesto75percent.Thismeansthat
1. anaveragebearhas
investedthreetimesmoremoneythananaveragebull.
2. anaveragebearhasinvestedapproximatelyasmuchmoneyasan
averagebull.3. anaveragebullhas
investedthreetimesmoremoneythananaveragebear.
4. thereisnotenoughinformationtodecidewhohasinvestedmoremoney.
Question6-8
1. Arichcornharvestincreasesthesupplyandsendscornfuturesintoabearmarket.Aspricesgrindtheirwaydown,bullishconsensusfallsto20percent.Thismeans
that1. anaveragebullhas
investedfivetimesmoremoneythananaveragebear.
2. anaveragebullhasinvestedapproximatelyasmuchmoneyasanaveragebear.
3. anaveragebearhasinvestedfourtimes
moremoneythananaveragebull.
4. anaveragebullhasinvestedfourtimesmoremoneythananaveragebear.
Question6-9
1. Yournewspaperreportsthatcoffeeprices
areattheirhighestlevelinsixyears;aTVnewsshowfeaturessnowincoffee-growingBrazil;andyourmother-in-lawtellsyoushebought10lbsofinstantcoffeebefore
pricesriseanyhigher.Yourresponseasatraderistoplanto
1. golongcoffee
futuresorlongcalls.
2. goshortcoffeefuturesorlongputs.
3. golongcocoafutures,asaplayon
acatch-upmovewithcoffee.
4. buygoldbecausetheriseincoffeeisasignofinflation.
Question6-10
1. Matchthefollowingstatementsabouttraders'positions.
1. Positionlimits2. Reporting
requirements3. Insidertrading4. Hedging
1. Thelevelatwhichyourtradegetsreportedtoagovernmentagency
2. Enteringafuturestradeinordertooffsetapositioninanactualcommodity
3. Canbeexceededbycommercials
4. Legalinthefuturesmarkets
Question6-11
1. Matchthefollowingstatementsaboutdifferentgroupsofmarketparticipants.
1. Smallspeculators2. Largespeculators
3. Commercials4. Companyinsiders
1. Holdcontractsinexcessofreportinglevels
2. Hedgebusinessrisks
3. Officersandlargestockholders
4. Thegroup
mostlikelytoloseinthemarket
Question6-12
1. Abearmarketis11monthsold;thecompanywhosestockyoufollowreportslower
quarterlyearnings;itstwovicepresidentsandamajorshareholderbuyitsstock;thestockis$1aboveitslowfortheyear.Asaninvestor,you
1. goshort
immediately(thebearmarketisinforce).
2. golongimmediately(insiderbuying).
3. stayawayfromthemarketuntilthenextbullmarketstarts.
4. startbuildingalongposition.
SEVEN
TradingSystems
Atradingsystemprovidesa
decision-making tree forsetting entries, targets, andstops.Itisausefulinstrumentbut not a magic device thatcanbefine-tunedonolddataandthenputonautomaticforeffortlesslypullingprofitsoutofthemarkets.Youdevelopatradingsystemin the quiet of your office,whenthenoiseofthemarketshasquieteddown.Acarefullycrafted system becomes your
island of stability andintelligence in the stormyenvironmentofthemarket.Atrusted system will help youmaintain control at a timewhen the tide of massemotion sweeps people offtheirfeet.This chapter will test yourknowledge of several tradingsystems that have stood thetestoftime.Whileansweringquestions, consider whether
to start trading with one ofthese systemsoruse themasa starting point fordevelopingyourown.
Questions Trial1Trial2
Trial3
1 2 3 4 5
6 7 8 9 10 11 12 13 14 15 16
Correctanswers
Question7-1
1. Whichofthefollowingstatementscanbetrueatthesametimeinanygiven
market?1. Thetrendisup.2. Thetrendisdown.3. Anindicatorgivesa
buysignal.4. Anindicatorgivesa
sellsignal.1. IandIII2. IIandIV3. I,II,III,and
IV
4. Noneoftheabove
Question7-2
1. Whentryingtofindatradeonadailychart,
1. focusallyour
attentiononthatchart.
2. identifythetrendof
theweeklychartandusethedailycharttolookonlyfortradesinthedirectionoftheweeklytrend.
3. findatradeonthedailychartandcheckwhethertheweeklychartpointsinthesamedirection.
4. identifythetrendof
themonthlychartandusethedailycharttolookonlyfortradesinthatdirection.
Question7-3
1. Whenexploringapotentialtradingsystem,allof
thefollowingstepsareessential,except
1. one-bar-at-a-time
backtesting.2. forward-testing
withsmallamountsofmoney.
3. lookingforfeedbackfromothersystemusers.
4. keepingrecordsofeverytrade.
Question7-4
1. Theessentialnumberstowritedownbeforeenteringanytradeincludeallofthefollowing,except
1. thepriceorarange
foryourentry.2. thepotentialprofit
indollars.3. thetargetforyour
trade.4. theprotectivestop.
Question7-5
1. Ifyouusethe
slopeoftheweeklyMACD-HistogramasthefirstscreenoftheTripleScreentradingsystemandthatslopeisdown,youmay
1. Golong.2. Goshort.
3. Standaside.4. Alloftheabove
1. IandIII2. IIandIII3. III4. IV
Question7-6
1. Thefirstscreenofthe
TripleScreentradingsystempointsup.Ifyouusea5-dayStochasticasyoursecondscreenanditrisesto85,youmay
1. golong
immediately.2. goshort
immediately.
3. waitforStochastictodeclinebelow40andthengolong.
4. waitforStochastictodeclinebelow40andthengoshort.
Question7-7
1. Theweeklytrendisup,butthedeclineof
thepastfewdayshaspushedthe2-dayEMAofForceIndex,whichyouuseasthesecondscreen,belowzero.Yournextstepisto
1. waituntilboth
screensgetingear.2. placeanorderto
buyabovethepreviousday'shigh.
3. placeanordertosellshortbelowthepreviousday'slow.
4. closeoutanyopenpositions.
Question7-8
1. Attherightedgesofthe
twochartsinFigure7.8,theTripleScreentradingsystemtellsusthat
1. theweeklytrendis
up;thedailytrendisup;golongimmediately.
2. thedailyForceIndexshowsabearishdivergence;goshort
immediately.3. theweeklytrendis
upandthedailyForceIndexisoversold;placeabuyorderabovethehighofthelastdailybar.
4. theweeklyanddailytrendspointindifferentdirections;standaside.
FIGURE7.8Ontheleft:BBBYweeklychartwitha13-barEMAand12-26-9MACD-Histogram.Ontheright:BBBYdailychartwitha13-barEMAand2-barForceIndex.(ChartbyStockcharts.com).TripleScreenTradingSystem
Question7-9
1. MatchthefollowingstatementsabouttheTripleScreentradingsystemwiththeactionsindicated.
1. Theweeklytrendis
up;thedailytrendisup.
2. Theweeklytrendis
up;thedailytrendisdown.
3. Theweeklytrendisdown;thedailytrendisup.
4. Theweeklytrendisdown;thedailytrendisdown.1. Startplacing
buyorders.2. Startplacing
orderstosell
short.3. Standaside.
Question7-10
1. WhichofthefollowingstatementsregardingtheImpulsesystemisincorrect?
1. TheImpulsesystemtellstraderswhentobuyorsell.
2. Theslopeofafastmovingaveragereflectsthedirectionofmarketinertia.
3. TheslopeofthelasttwobarsofMACD-Histogramreflectsthedirectionofmarket
power.4. TheImpulsesystem
removesaprohibitionofbuyingorshortingbychangingitscolor.
Question7-11
1. Matchthefollowingindicator
readingswiththemessagesoftheImpulsesystem.
1. EMAisrising,
MACD-Histogramrising.
2. EMAisrising,MACD-Histogramfalling.
3. EMAisfalling,MACD-Histogram
falling.4. EMAisfalling,
MACD-Histogramrising.1. Impulse
systemgreen(bullish)
2. Impulsesystemred(bearish)
3. Impulsesystemblue
(neutral)
Question7-12
1. MatchtheletteredbarsinthechartinFigure7.12withthefollowingstatements.
1. Buyingorstanding
asidepermitted;shortingforbidden.
2. Shortingorstandingasidepermitted;buyingforbidden.
3. Buying,shorting,orstandingasideispermitted.
FIGURE7.12JCPdailywitha13-barEMA,a12-26-9MACD-Histogram,andtheImpulsesystem.(ChartbyStockcharts.com).TheImpulseSystem
Question7-13
1. LookingattheweeklychartofBBBYin
Figure7.8,whatwouldbethecolorofitsrightmostbarifweappliedtheImpulsesystem?
1. Green2. Red3. Blue4. Notenough
informationto
decide
Question7-14
1. Thecorrectwidthofachannelaroundamovingaverage
1. isacloselyguarded
secretof
professionaltraders.
2. containsallpricesforthepast50to100bars.
3. containsabout90percentofthepricesforthepast50to100bars.
4. containsabouthalfofthepricesforthepast50to100bars.
Question7-15
1. Matchstatementsregardingmovingaveragechannelsfromthefollowingtwosets.
1. Themarketis
undervalued.
2. Themarketisovervalued.
3. Dependsonvolatility.
4. Themarketisfairlyvalued.1. Theupper
channelline2. Themoving
average3. Thelower
channelline
4. Channelcoefficient
Question7-16
1. Whichstatementaboutchannelsisincorrect?
1. Goinglongorshort
inthemiddleofachannelalways
offersattractivetradesbecauseyoubuyorsellattheconsensusofvalue.
2. Whenachannelrisessharply,anupsidepenetrationoftheupperchannellineindicatesthatthemarketisstrongandshouldbeboughtwhenit
returnstoitsmovingaverage.
3. Whenachannelisrelativelyflat,themarketisalmostalwaysagoodbuynearthebottomofitstradingchannelandagoodsellnearthetop.
4. Abreakoutbelowthelowerlineofasharplyfalling
channelindicatesthatthemarketisweakandapullbacktothemovingaveragewillofferashortingopportunity.
EIGHT
TradingVehicles
Some professionals say—“I
don't trade stocks, futures, oroptions; I trademoney inmyaccount.” They focus onsystem design and riskmanagement,whilewhattheytrade are just vehicles inwhichtheirmoneygoesforaride, hopefully in the rightdirection.1
You have an enormouschoice of trading vehicles.Beforeyou focuson a singleclassorevenasmallergroup
within that class, it pays toknowwhat other instrumentsareavailabletoyou.This chapter will test yourknowledge of several majorclasses of tradinginstruments.Whileansweringquestions, think about whatyou're currently trading.Youmay even decide to broadenyour attention and tradeanother type of instrument,andofcourse,youcanalways
trademorethanonetype.
Questions Trial1Trial2
Trial3
1 2 3 4 5 6 7
8 9 10 11 12
Correctanswers
Question8-1
1. Inselectingatradinginstrument,whichofthefollowingisnotakeyconsideration?
1. Liquidity2. Volatility3. Popularity4. Timezones
Question8-2
1. Whenbuyingastock,you
1. makealoantothe
company.2. becomeaninsider.3. willprofitifthe
companymakesmoney.
4. becomeapart
ownerofthecompany.
Question8-3
1. HowdoesWarrenBuffettsuggestdealingwith“Mr.Market”?
1. BuywhenMr.
Marketishappy.
2. SellwhenMr.Marketishappy.
3. SellwhenMr.Marketisdepressed.
4. BuywhenMr.Marketisdepressed.1. I2. II3. IandIII
4. IIandIV
Question8-4
1. Anexchange-tradedfund(ETF)isanasset-holdingvehicle,designedtotradelikeastock.Whichoneofthe
followingstatementsaboutETFsisincorrect?
1. ETFsoffera
narrowchoiceofassets.
2. ETFslooselytrackunderlyingsecurities.
3. AdministrativeexpensesofETFs
take‘haircuts’fromprofits.
4. ETFsallowyoutopurchaseanassetclassorastockgroup.
Question8-5
1. Matchthefollowingsetsofstatementsregarding
stockoptions.1. Abetthatastock
willdrop2. Abetthatastock
willrise3. Acallwhose
underlyingstockisbelowtheexerciseprice
4. Acallwhoseunderlyingstockisabovetheexercise
price1. Out-of-the-
money2. Put3. In-the-money4. Call
Question8-6
1. Optionpricesdependonallofthe
following,except
1. theclosenesstothe
optionexpirationdate.
2. theclosenesstotheoptionexerciseprice.
3. howcloselytheunderlyingstocksfollowstheirindustrygroup.
4. thevolatilityoftheunderlyingstocks.
Question8-7
1. Matchthefollowingstatementsoncallsandputs.
1. Thepriceofthe
underlyingstockrises.
2. Thepriceoftheunderlyingstockfalls.
3. Thepriceoftheunderlyingstockremainsflat.1. Profitablefora
callbuyer2. Profitablefora
putbuyer3. Profitablefora
callwriter
4. Profitableforaputwriter
Question8-8
1. Whichofthefollowingsafety-orientedstepsisbesttoavoidwhenwritingoptions?
1. Aimtowriteoptionsoutsidepricelevelsyouexpecttheunderlyingsecuritytoreach.
2. Placeastoptoexityouroptionpositionifitmovesagainstyoubyacertainamount.
3. Aimtowriteoptionswithlow
Deltas.4. Openaninsurance
account.
Question8-9
1. What'sthegreatestdifferencebetweenbuyingfuturesandoptions?
1. Thenumberoflongandshortpositions.
2. Futuresarelesscorrelatedwitheachotherthanstockoptions.
3. Therearethousandsofoptionablestocksbutonlydozensoffutures.
4. Themostanoptionbuyercanloseistheinitialpremium,
butafuturesbuyercanlosealotmore.
Question8-10
1. Themaindangeroffuturesmarketsis
1. therelativelyshort
lifeoftheircontracts,compared
tostocks.2. tradingwithsmall
margindeposits.3. theexistenceofthe
dailypricelimits.4. insidertradingby
hedgers.
Question8-11
1. Matchthefollowing
statementsregardingfutures.
1. Acontractforthe
nextmonth'sdeliveryofacommodityispricedhigherthanformoredistantdeliveries.
2. Atraderopensafuturespositionoppositetohis
positionintheactualcommodity.
3. Amajorweatherdisturbancethreatenscottonharvest.
4. Acoldspelldrivesupthepriceofheatingoil;atradershortsheatingoilandgoeslongcrudeoil.1. Supply-driven
market2. Spreadtrading3. Inverted
market4. Hedging
Question8-12
1. Whichstatementsregardingtheforexmarket
arecorrect?1. Theforexmarket
hasnocentrallocation;institutionaltradersdealdirectlywitheachother.
2. Forexhousestendtoacceptcustomerorderswithoutexecutinganytrades.
3. Marginsof1:30andhigherhelptradersprofit.
4. Aretailforexbrokeragehouseearnsitsincomefromcommissions.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Note
1 Several years ago, aBedouin guide in Jordanasked me about myprofession,andItoldhimItraded on Wall Street. Hedrove by the local marketwhere his buddies tradedgoats,which,atabout$300apiece,were amajor storeof value in the desert. Heasked whether I'd like to
trade, but I laughed andsaid that ifwe brought hisdesert traders to WallStreet and showed themhowtousecomputers,theywouldout-trademanylocalguys.
NINE
RiskManagement
Even a brilliant systemwill
not guarantee winning inevery trade. This is whyevery system must includeriskmanagementrules.Manycreators of promising tradingsystems keep losing moneybecauseofpoororabsentriskcontrol.Eachandeverysystemhasitsdrawdown periods. That'swhenriskmanagementmeansthe difference between lifeanddeath.Nosystemwilldo
you any good if you don'tmanagerisk.Professionals spend much oftheir time calculating howmuch money to risk on anygiven trade and how to varytrade size, depending onmarket conditions andaccount equity. Riskmanagement is essential foryoursurvivalandsuccess.Youoweittoyourselftoearnan excellent rating in this
sectionof theStudyGuide—nothing less will do! Astraders, we sail on a stormyocean. Risk managementrulesareourlifeboatsandlifepreservers. Make sure thatyour safety gear is in goodorder.
Questions Trial1Trial2
Trial3
1 2
3 4 5 6 7 8 9 10 11 12 13
14 15 16 17
Correctanswers
Question9-1
1. Atraderfeels
overjoyedafteraprofitabletradeanddisgustedafteralosingtrade.Thismeansthat
1. heisontheright
track;itisimportanttolistentoyourfeelings.
2. hismindiscloudedbyemotionsthat
interferewithmakinggoodtradingdecisions.
3. heshoulddoublethesizeofhispositionwhenhefeelshappyandgetoutwhenhefeelshurt.
4. feelingdisgustedisaproperreactiontoalosingtrade.
Question9-2
1. Tradershangontolosingtradesforallofthefollowingreasons,except
1. theybecome
attachedtopositions.
2. theyhatetoadmit
theyarewrong.3. theyfollowsound
tradingplans.4. takingalossmeans
givinguphope.
Question9-3
1. Youbuyafterindicatorsturnup.Twodayslaterthe
marketslides,theindicatorsturndown,andyouhavea$200paperloss.Yourinitialstopwas$300belowthemarket,andthenextsupportlevelis$350belowyourentrypoint.Whatdo
youdo?1. Continueinthe
trade,keepyourstop.
2. Takeyourlossandretreattothesidelines.
3. Doubleupyourpositiontoloweritsaverageprice.
4. Loweryourstoptoslightlybelowthe
nextlogicalsupportlevel.
Question9-4
1. Twotradersdecidetospendtheircoffeebreakflippingacoinandbettingadollaroneachflip.TraderA
brings$3tothegame,traderBbrings$10.ThechanceoftraderAbeingawinnerattheendofthatcoffeebreakis
1. near100percent.2. near50percent.3. near0percent.
4. Notenoughtinformationtoanswer.
Question9-5
1. Choosetheorderofimportanceofthefollowingthreemoneymanagementgoals.
1. Earnhighprofits2. Ensuresurvival3. Earnasteadyrate
ofreturn1. I,II,III2. II,III,I3. Ill,II,I
Question9-6
1. Theusefulness
ofwhichofthefollowingruleshasbeenprovenbyexperience?
1. Nevermeeta
margincall.2. Neveraverage
down.3. Thefirstmistakeis
thecheapest.4. Ifyoumustlighten
up,liquidateyourworstposition.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question9-7
1. Whenyoufindyourself
countingmoneyinatrade,youshould
1. stop—andifyou
can't,closeoutthattrade.
2. Countmoneytocalculateyourstops.
3. Countmoneytocalculateyour
profittargets.4. plotachartofyour
paperprofits.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question9-8
1. Yourtradingsystemindicatesatradewithanattractiveprofitpotentialandastop$0.98persharebelowtheentryprice.Youhave$28,000inyouraccount.Accordingto
the2%Rule,howmanysharesmayyoubuy?
1. 3002. 4003. 5004. 600
Question9-9
1. Youbuy300sharesofarisingstock,anditrallies$3.Nowyoushouldthinkabout:
1. Wheretomove
yourstop2. Whethertomove
yourtarget3. Howmanydollars
you'vemadesofar4. Howmuchyou
wouldhavemadeifyoubought600shares1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question9-10
1. Whichofthefollowingstatementsaboutstopsaretrue?
1. Whenyouarelong,
donotmovedownyourstop.
2. Whenyouareshort,youmaymovedownyour
stop.3. Whenyouarelong,
youmaymoveupyourstop.
4. Whenyouareshort,donotmoveupyourstop.1. IandIV2. IIandIII3. Noneofthe
above
4. Alloftheabove
Question9-11
1. Astop-lossorder
1. limitsyourlosson
abadtrade.2. reducesyourstress
level.3. limitsthedamage
fromabadtradingsystem.
4. guaranteesthatyourlosswillnotexceedacertainamount.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question9-12
1. Whichofthefollowingtradersareincompliancewiththe2%Rule?
1. TraderA:$18,000
intheaccount,bought200sharesat$20,stopat$18
2. TraderB:$50,000intheaccount,bought400sharesat$20,stopat$18
3. TraderC:$25,000intheaccount,bought400sharesat$20,stopat$19
4. TraderD:$60,000intheaccount,bought1,500sharesat$20,stopat$191. IandII
2. IIandIII3. IllandIV4. I,II,III,and
IV
Question9-13
1. Whichtwomistakesonthislistaremostdeadlyfortraders?
1. Tradingonrumors
andhearsay2. Tradingwithout
stops3. Forgettingto
monitoropentrades4. Puttingontrades
whosesizeistoolargefortheaccount1. IandII
2. IIandIII3. IandIV4. IIandIV
Question9-14
1. TheIronTriangleofriskcontroltellsyouhowmanysharesyoumaybuy
orsellshortbyperformingwhichcalculation?
1. Subtractyourentry
fromyourtargetprice
2. Divideyourtargetpricebyyourstop
3. Addyourstoptoyourtargetprice
4. Divideyourtotal
dollarriskbytheriskpershare
Question9-15
1. Whichofthefollowingstatementsregardingthe6%Ruleiscorrect?
1. Youmaynotrisk
morethan6%ofyouraccountequityonanysingletrade.
2. Ifyourisk2%pertradeandhadthreelosingtradesinamonth,youhavetoreduceyourriskonthenextthreetrades.
3. Ifyourisk2%pertradeandtakethreelossesinarow,you
maynottradefortherestofthismonth.
4. Paperlossesonopentradesdon'tcountagainstthe6%Rulelimit.
Question9-16
1. Incalculatingyour“available
risk,”the6%Ruletakesintoaccountallofthefollowing,except:
1. Yourpaperprofits
forthemonth2. Yourtotallosses
forthemonth3. Youramountsat
riskinopentrades4. Whatwouldhappen
ifallyouropentradesturnednegative
Question9-17
1. Allofthefollowingstatementsapplytocomingbacktotradingafterasevere
drawdown,except:
1. Beginbytradinga
tinysizeandincreaseitinstepsaftermeetingperformancegoals.
2. Jumpintotradingfullsize—dealwithyourfearsbyfacingthem.
3. Becomeyourown
tradingmanagerbyfocusingonriskmanagement.
4. Lowerthe2%Ruletoasmallernumber.
TEN
PracticalDetails
I was in a room where a
world-famous technicalanalyst lectured about gold.He projected his charts on ascreenandpointedouttrendsand potential reversals. Atrader in the audience raisedhis hand: “So, at the rightedge,wouldyoubuyorsell?”Thegreatexpertponderedthescreenanduttered:“Well,I'msure that in two to threeweeks,theanswertothatwillbe very clear.” The traderstared at him
incomprehensibly.Intrading,youdon'thavetheluxuryofwaitingforacoupleofweeks for an answer.Youneed to decide now, today,what you'll do at the rightedgeofthechart:buy,sell,orstand aside. Standing aside,by the way, is a legitimatechoice.Ifyoudecidetotrade,youneed to choosewhere toenter, set targets, and placestops.
Tradersuseawidevarietyofmethods to accomplish thesetasks. In this chapter, we'llreview the methods that aredescribed in The NewTradingforaLiving.
Questions Trial1Trial2
Trial3
1 2 3
4 5 6 7 8 9 10 11 12
Correctanswers
Question10-1
1. Theleastadvisablemethodofenteringalongpositionistobuy
1. abreakoutabove
yesterday'shigh.
2. abreakoutabovethechannel.
3. apullbacktothevaluezone.
4. apenetrationofthevaluezone.
Question10-2
1. Goldisinanuptrend,confirmedbya
risingmovingaverage.Everyfewweeksthereisabriefpanic,aspricesstabbelowtheirmovingaveragebeforeresumingtheiruptrend.Threemonthsago,pricesstabbed$2.50below
theirEMA,twomonthsago$1.50,andlastmonth$4.HowdeepbelowtheEMAwouldyouconsiderplacingabuyorder?
1. Immediatelybelow
theEMA2. $1below
3. $3below4. $5below
Question10-3
1. Whenbuyinginthevicinityofarisingmovingaverage,areasonableprofittarget
wouldbe1. theupperchannel
line.2. thelowerchannel
line.3. thesamedistance
abovetheEMAasthelatestpenetrationwasbelow.
4. whenthemovingaverageturnsdown.
Question10-4
1. Settingprofittargetsforlong-termtradesisbestdoneonthebasisof
1. movingaverages.2. channels.3. divergences.
4. supportandresistance.
Question10-5
1. Whichofthefollowingstatementsaboutstopsisincorrect?
1. Theyleadto
whipsaws.
2. Theyallowyoutocalculatereward/riskratios.
3. Theylimitthemaximumamountofloss.
4. Theygiveyouanideaofamaximumlossinatrade.
Question10-6
1. Whichofthefollowingmethodsofplacingstopshelpsavoidgettinghitby“marketnoise”?
1. Stopsoutsideofthe
pricechannel2. SafeZonestops3. ATRstops
4. Stopsbasedonsupportorresistance1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question10-7
1. Whichofthe
followingrulesapplytoplacingstops?
1. Don'tplacestopsat
obviouslevels.2. Don'tplacestopsat
roundnumbers.3. Moveyourstopsto
protectwinningtradesfromturningintolosingones.
4. Moveyourstop
onlyinthedirectionofyourtrade.1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question10-8
1. Thehighofthedailybaris
$23andthelow$21.Youbuyat$21.50.Whatisyourbuygrade?
1. 25%2. 50%3. 75%4. Noneoftheabove
Question10-9
1. Thehighofthedailybaris$29andthelow$26.Yousellat$27.Whatisyoursellgrade?
1. 33%2. 50%3. 66%4. 75%
Question10-10
1. Thetrend,definedbytheEMAslope,isrising.Onthedayyoubuy,theupperchannellineisat$32.50andthelowerchannellineisat$26.50.You
golongat$29andsellseveraldayslaterat$31.Whatisyourtradegrade?
1. 25%2. 33%3. 50%4. 66%
Question10-11
1. Whichofthefollowingstatementsaboutscanningisincorrect?
1. Ascanmaycovera
thousandstocks.2. Ascanfindsstocks
thatfitapatterndefinedbyyou.
3. Awell-designedscanfindsprofitabletrades.
4. Onecanscanstockindustrygroupsaswellasindividualstocks.
Question10-12
1. Negativerulesforscanningmayfilterout
stocksonthebasisofallofthefollowingcriteria,except:
1. Unprofitable2. Trendingdown3. Insufficientvolume
levels4. Toocheaportoo
expensive
ELEVEN
GoodRecord-Keeping
Keepinggoodrecordshelps
you identify past mistakesand stop repeating them.Good records make clearwhat steps brought youprofits,sothatyoucanrepeatthemgoingforward.Good record-keeping tiestogether psychology, marketanalysis, and riskmanagement. It is the besttool for developing andmaintainingdiscipline.To improve your
performance, you must learnfromyourexperiences,whichis what good record-keepingallows you to do. It is themost important skill for yourgrowthasatrader.
Questions Trial1Trial2
Trial3
1 2 3
4 5 6 7 8 9
Correctanswers
Question11-1
1. Goodrecord-keepinghelpsaccomplishallofthefollowing,except:
1. Greaterdiscipline2. Lessimpulsive
trading3. Stopmaking
mistakes4. Becomeyourown
teacher
Question11-2
1. Performingroutinemorninghomeworkisespeciallyimportantforwhatreason?
1. Ithelpsyouwake
up.2. Itallowsyouto
reviewnewsandreportsrelevanttotradingduringtheday.
3. Itallowsyoutoreviewyesterday'sperformance.
4. Itallowsyoutoadjuststops.
Question11-3
1. What'sthemainpurposeoftakingadailypsychologicalself-testbeforethemarketopens?
1. Toevaluateyour
mood
2. Toevaluateyourreadinesstotrade
3. Toseeonwhatdaysyoushouldn'tbetrading
4. Tobereadytotradeagreatersizeonthedayswithaperfectscore1. IandII2. IIandIII3. IllandIV
4. IandIV
Question11-4
1. Atradeplanmustincludeallofthefollowing,except:
1. Thestrategyyou'll
use2. Yourentry,exit,
andstop3. Theamountof
moneyyou'llrisk4. Theamountof
moneyyouplantomake
Question11-5
1. Whichstatementsaboutusinga
TradeApgararecorrect?
1. Themorequestions
youaskaboutyourplan,thebetteryou'llbepreparedtotrade.
2. Keepthenumberofquestionsaboutatradeplandowntofive.
3. Writedown
detailedresponsestoquestionsandweighthemcarefully.
4. Useonlyoneofthreeresponses:yes,no,andin-between.1. IandIII2. IIandIV3. IandIV4. IIandIII
Question11-6
1. CompletingaTradebillpriortoenteringatrademakesyoufocusonwhichofthefollowing?
1. Entry,exit,andstop2. Earningsreports
andex-dividend
dates3. Thestrategyyou'll
trade4. Amountofriskand
positionsize1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question11-7
1. Afteryouenteratrade,yourTradebillshoulddocumentwhichofthefollowing?
1. Stopplacement,
bothsoftandhardifyouuseboth
2. Thelevelatwhich
you'llmoveyourstoptobreakeven
3. Thefactofhavingmadeanentryinthetradediary
4. Theamountoftargetedprofit1. I2. IandII3. I,II,andIII4. I,II,III,and
IV
Question11-8
1. Whichstatementaboutreviewingclosedtradesiscorrect?
1. Giveyourfull
attentiontocurrent
trades,don'tdwellinthepast.
2. Losseshurttoomuchatthetimeyoutookthem,andthereisnopointrevisitingthem.
3. Spendyourtimeplanningforthefuture,notthinkingaboutthepast.
4. Learnfrompastmistakes,soyou
don'trepeatthem.
Question11-9
1. ThemosteducationalpartofaTradeJournalis
1. documentingyour
strategy.2. addingentryand
exitcharts.
3. postingafollow-upchartweeksormonthsafteratrade.
4. documentingentry,exit,andtradegrades.
PARTII
ANSWERSAND
COMMENTS
Introduction
1. Answer0-1:C(IandIV)Fundamentalanalystsstudyeconomicconditions;technicalanalystsfocusonmarketbehavior.Bothcanhelpyou
spotgoodtradingopportunities.Tipsaretricky—theyalmostalwayscomelate;plus,thetipperwhotellsyoutobuywillalmostnevertellyouwhentosell.Tips
canbeusedonlyifyourunthemthroughyourdecision-makingsystem.Usinginsideinformationisacriminaloffenseinmostdevelopedcountries.
2. Answer0-2:CThethreepillarsofsuccessfultradingaresoundpsychology,agoodanalyticmethod,andcarefulmoneymanagement.Agoodtrader
withasoundanalyticmethodishisowninsider.
3. Answer0-3:ATheattitudeofbenignskepticismisthebest.Borrowtheideasthatseemtomake
senseandthentesttheminthecrucibleofyourownexperience.Begintradingasmallsizeandgraduallyincreaseitasyougainconfidence.
4. Answer0-4:D
Slippageandcommissionsslantthe“playingfield”againstmosttraders;emotionaltradingfinishesthemoff.Theftisonlyaminorfactorinwell-policedmarkets.
5. Answer0-5:DWhenthewinnerreceiveslessthantheloserlost,thattransactioniscalleda“minus-sumgame.”Commissionsandslippage
maketradingaprimeexampleofsuchagame.Manyprovidersoffinancialservicestrytohidethisfact.
6. Answer0-6:AYoupaycommissionsonstocktrades
whenyoubuyandagainwhenyousell.100sharesofa$20stockwillcost$2,000.You'llpaya$10commission(0.5%)whenyoubuyandagainwhenyousell,foratotalof$20or
1%.Ifyoudothistradeonmargin,payingonly$1,000foryoursharesandborrowingtherest,thatcommissionwillbe2%ofyourcapital—andthenyou'llhavetopayinterestonmargindebt.
Thatseeminglysmallcommissionmultipliedbythenumberoftradesthatyoumakeinayear,cantakeaseriousbiteoutofyouraccount.Thisproblemisespecially
acuteforsmallaccounts,andofcourse,usingmarginmakesitevenworse.Lesson:beveryselectiveinwhatyoutrade,weigheachtradeplancarefully.
7. Answer0-7:
BYourslippageenteringthistradewas8centsforeachofthe100sharesyoubought,foratotalof$8.Itwasalmostasbigasyourcommission.Whiletrading
largerpositionsreducestherelativecostofcommissionspershare,thereisnosuchbreakwithslippage—ifyoutraded1,000shares,yourslippagewouldhavebeen$80
orworse.Theremedyisstraightforward:uselimitordersforenteringtrades.
8. Answer0-8:CYoubought100sharesat$20.08andsoldat$20.88
foragrossprofitof80centspershareor$80for100shares.Yourslippagewas8centswhenyouboughtand12centswhenyousold,foratotalof20centspershare,$20total.The$20
totalslippageis25%ofyour$80profitforthetrade.Whenitcomestostops,limitorderswon'tdo.Use“marketiftouched”orders—whenit'stimetoescape,hitthe
ejectbutton.Someslippageisinevitable,butthegoalistokeepitaslowaspossible.
9. Answer0-9:BYou'veboughtyoursharesat$20.08andsoldat$20.88
for80centsprofitpershareoratotalgrossprofitof$80.Yourcommissionsateup$10enteringandanother$10exiting.Therewasalsothatslippageof$8ontheentryandanother
$12duringtheexit.Thetotalbitecameto$40or50%ofyourgrossprofit—andnowUncleSamislickinghislips,waitingtotaxyou.Youneedtofocuson
reducingtheexpensesoftrading:askyourbrokertolowerhiscommissionrateorshopforamorecompetitivebroker,beselectiveaboutyourtrades,andwheneverpossibleuse
limitratherthanmarketorders.
■RatingYourself
1. 0–3correct:poor.Takeheart—thequestionsthatyoufailedtoanswerareseldomasked.Manyinthefinancialservicesindustrytryto
muddleupthefacts.Takeyourtime,rereadtheIntroductioninTheNewTradingforaLiving,andretakethistest.
2. 4–6correct:fairlygood.Youhavegraspedthe
basicideas.Lookuptheanswerstothequestionsyou'vemissed.Thinkaboutthemandretakethistestafewdayslater.
3. 7–9correct:excellent.You
understandtheseneglectedbutveryimportantconcepts.You'llenjoythechaptersonpsychologyandriskmanagement.
ONE
IndividualPsychology
1. Answer1-1:DTradingisinherentlyriskybecausewedealwiththeuncertaintyofthefuture.Iftherewerenoriskofloss,therecouldbe
noreward.Amateurshaveemotionalreactions—fear,elation,anger.Aprofessionaltradermeasureseachriskinadvanceandtradesonlywhentheoddsareclearlyinhis
favor.2. Answer1-2:
AYoumuststrivetoachieveyourpersonalbest,tobecomethebesttraderyoucan.Focusingonmoney,buyingtoys,ortryingto
impressotherswillonlydivertyourattentionfromthetopgoal—reachingyourpersonalbest.Agoodsurgeondoesn'tcountmoneyattheoperatingtable—andneitherdoesan
intelligenttraderwhileheisinatrade.
3. Answer1-3:CTreatyourmistakesaslearningopportunities:findthecausesofyourlosses,andcorrectthosemistakes
goingforward.Thisisanemotionallyhardtask,butitneedstobedoneinordertowin.Withoutsuchanalysis,tryingtotradeyourwayoutofahole,evenwithanewguru,is
doomedtofailure.Youneedtofigureoutexactlywhatgotyouintoaholeinthefirstplace.We'llreturntothistopicinthechapteronkeepingatradingdiary.
4. Answer1-4:
AAlargeaccountallowsyoutodiversify,trademultiplepositions,andspendproportionatelylessonservices.Beginnersoftendiscard
theseadvantagesbyblowingmoneysimplybecauseitexistsintheiraccounts.We'llreturntotherulesonmanagingtradesizeinthechapteronmoneymanagement.
5. Answer1-5:D(IIIandIV)Commercialtradingsystemsarebuiltandoptimizedusingolddata;theyself-destructwhenmarketschange.Anintelligent
traderwhodevelopshisownsystemcanmakeneededadjustments;atraderwhopurchasesasystemsinkswithit.Evensystemswithbuilt-inoptimizationeventually
self-destructbecausewedonotknowwhatkindsofoptimizationwillworkinthefuture.Followingtradingsignalsfromanysystemrequiresdisciplineandevokes
essentiallythesameemotionsasindependenttrading.Thereisnosubstituteformaturejudgment.
6. Answer1-6:C(I,II,andIII)Oneofthekeysignsofagambling
attitudeistheinabilitytostoptrading,stayonthesidelines,andreflectonone'sbehavior.Traderswhogambletendtoreversetheirpositionsandfeeldepressedorelateddependingon
theoutcomeoftheirlatesttrade.Alosingstreakisacommonexperience;whenyouhitone,stoptradinguntilyou'vespenttimereevaluatingyourmethod.Serioustraders
learnfromtheirlosses,whilegamblerscontinuewiththeircompulsivetrading.
7. Answer1-7:CWetradethewaywelive.Personal
disciplineisessentialforsuccess.Lookforcommonproblemsinyourtradingandeverydaylife.Thistraderseemstohaveseriousissueswithresponsibility.Heneedstofaceitandget
himselforganizedineverydaylifeaswellasintrading.
8. Answer1-8:D(IandIV)Towin,youdon'thavetobemoreintelligentorknowledgeablethanother
traders,butyoumustbebetterdisciplined.Yourfeelingsinfluenceyourtrades,includingentries,exits,andriskmanagement.Ifyourmindiscloudedbyfearorgreed,
nosystemwillhelp.Gettinghighfromtradingleadstogambling,acceptingbadodds,andlosing.
9. Answer1-9:C(IandIII)Youmayincreaseyourtradingsizeas
longasyoudon'triskagreaterpercentageofyourequity—we'llreturntothisinthechapteronriskmanagement.Avacationfromtradingmaynotbeabadidea—spendsomeof
thetimeanalyzingwhatyoudidright.Ontheotherhand,becomingsloppywithstopsandlazyinresearcharetypicalbehaviorsofaloseronaluckystreak.
10. Answer1-10:DLosersareaddictedtothethrillofthegameandhopeforabigwin.Theykeeppoorrecords,justlikealcoholicsdon'tcounttheirdrinks.
Theyswitchbetweentradingsystemsandmethods,justlikealcoholicsswitchfromdrinkinginbarstodrinkingathome.
11. Answer1-11:C
Losersarehookedontheexcitementoftradingandkeephopingforabigwin.Theyblameothersfortheirlossesandavoidacceptingpersonalresponsibility.
12. Answer1-12:DAcceptingresponsibilityforyourlossesblowsawaythesmokeofillusionsandputsyourtradingonanew,realisticfooting.Abettertrading
system,newtradingmethods,andamajorbullmarketcanhelp,butpersonalresponsibilitycomesfirst.
13. Answer1-13:B(IIandIII)Atraderwhohasthe
couragetofacehisownroleinlosingcanturnaround;goingforward,heislikelytocutlossesshortandavoidovertrading.Hisdisciplinewillfreehimfromfear,butitwillnot
lowerhisratesofcommissionsandslippage—forthatheneedstocarefullyshopforabrokerandavoidmarketorders.
14. Answer1-14:CBeingcalm
anddisciplinedisthecornerstoneofsuccessfultrading.Writingdownyourtradeplansandimplementingthemwillputyouontheroadtosuccess—we'llreturntothistopicin
thechapterontradeplans.Biggercapital,knowledgeablefriends,andahistoryofsuccessinotherendeavorsarealldesirable—butnoneequalstheimportanceofdisciplined
planning.Emotionaltradingistheenemyofsuccess.Iftradingmakesyoufeelgiddyorfearful,thosefeelingswillcloudyourjudgment.Exityourtradeswhenyoufeel
thegripofemotions.
15. Answer1-15:AAtrader'sownimpulsivitymakesthemarketappearconfusingandillogical.Otherproblems,suchasashortageofgood
information,smallcapital,oreventhemarket'speriodsofrandomness,contributelesstoconfusionthanemotionaltrading.
16. Answer1-16:CAtradebegins
whenyoudecidetoenterthemarket,anditendswhenyoudecidetoexit.Thosedecisionsarelikethebookendsofeverytrade,andtheyareyoursalone.Youmayuse
technicalindicators,fundamentalanalysis,orevenpayattentiontotrustedadvisors—butonlyyoucandecidewhenatradebeginsandwhenitends.
■RatingYourself
1. 0–4correct:poor.Theredlightisflashing—yourlowlevelofself-awarenessputsyouindanger.Youneedtolearnmoreabouttrading
psychologyinordertohaveachanceofsuccess.Manypsychologicaltricksthathelpusinourdailylivesdestroytradingaccounts.Manyeducationalsystemspromote
dependenceandfollow-the-leadermentality.Successfultradersareindependent,creative,andrealistic.Pleaserereadtherelevantchapterandretakethistestbefore
proceedingtotherestofthisStudyGuide.
2. 5–8correct:belowaverage.Gettinghalftheanswersrightmeansbeinginthebottomhalfandthat'snotgoodenough
forwinning.Youneedtolearnmoreabouttheindividualpsychologyoftrading.Pleaserereadtherelevantmaterialsandretakethistest.
3. 9–12correct:fairlygood.
Youhaveaworkinggraspoftheessentialconceptsoftradingpsychologybutneedtofillinthegaps.Studytherecommendedmaterialsandretakethistestinafewdays.Sound
psychologyanddisciplineareessentialforyoursuccessinthemarkets.
4. 13–16correct:excellent.Youhavemasteredthetopicsinthischapter.Please
reviewthosequestionswhereyouranswersdifferedfromthoseprovidedinthisbook.Successfultradersareveryindependent.Seewhetherthediscrepancies
wereduetoerrors—ortoyourown,individualwayofthinking.
■ RecommendedReading1. Douglas,Mark,TheDisciplinedTrader(NewYork:NewYorkInstituteofFinance,1990).
2. Lefevre,Edwin,ReminiscencesofaStockOperator(1923)(Greenville,SC:Traders
Press,1985).
TWO
MassPsychology
1. Answer2-1:DPricesaresetbycrowdmemberswhoplaceorderstobuyorsell,orelsestandaside.Eachpricetickreflectsthe
latestconsensusofvalue,hammeredoutbythoseordersorthewithholdingoforders.Tickscoalesceintopatterns—thefootprintsofbullsandbearsonourcharts.“Supplyand
demandcurves”arefarremovedfromthissweatyrealityofthemarket.Pricesareconnectedtofundamentalvaluesinthelongrunbutaregovernedbycrowdpsychologyfromdayto
day.2. Answer2-2:
CBullstrytobuyaslowaspossible,andbearstrytosellashighaspossible.Bothknowthattheyhavetohurrybeforesomeuncommitted
traderstepsinandsnatchesawaytheirbargain.Professionalsaimtoidentifythedominantgroupandtradewithit.Thegoalofagoodtechnicalanalystistodiscoverthebalanceof
powerbetweenbullsandbears—inordertotradeinthesamedirectionasthewinninggroup.Thedangerofforecastingisthatitlocksusintoaspecificmind-setinsteadoffocusingon
thecurrentrealityofthemarket.
3. Answer2-3:CReadingnewspapers,watchingTV,andsurfingthenetoftenleadtopoorlyplannedandimpulsive
trades.Whytrade,whetheralargeorasmallsize,whenyouaren'tsurewhattodoatthemoment?“Whenindoubt,stayout”isasensiblerule.
4. Answer2-4:
BTheprofitsyou'retryingtomakecancomefromonlyonesource—fromothertraders'accounts.Themirrorimageofthatisthatanylossesyoutakewillgive
yourmoneytoothertraders.Tradedefensivelybecauseothertraderswilltrytopickyourpocketsbeforeyoucanpicktheirs.Brokersandexchangeswillalsotaketheircut,whetheryou
win,lose,ordraw.
5. Answer2-5:B(IandIII)Whenwejoincrowds,ourindependencedissolves,andthecapacityforcriticalthinkinggoesoutthewindow.
Crowdsareimpulsive,addingtovolatility.Crowdmembersblindlyfollowtrends,andtheirpsychologicaldependencemakesthemunlikelytoleavethe
crowd,untilshakenbyasevereloss.
6. Answer2-6:D(I,II,III,andIV)Thegreatertheuncertainty,themorelikelywearetoturntoothersforreassuranceandcomfort.
Thisbehaviorisdeeplyingrainedinhumannature.Groupsareheldtogetherbytheirloyaltytotheleader.
7. Answer2-7:A(I)Crowdsarebiggerand
strongerthananyofus;don'targuewiththemarket.Crowdsarestrongbutprimitive,andyoucanexploittheirrepetitivebehavior—butonlyifyoucanstandapart
fromthem.Marketcrowdsarerightduringtrendsbutwrongatturningpoints.Whenyouletthemarketmakeyoufeelelatedordepressed,yougiveitpoweroveryourself;professional
traderstrainthemselvesnottoreactemotionallytogainsorlosses.
8. Answer2-8:CAlleyesinthemarketaregluedtoprices.Thelongerarallylasts,themore
peopleturnbullish,pushingpriceshigherandattractingevenmorebulls.Apersistentdeclinemakesmorepeoplefeelbearish,andtheirsellinghelpspushthemarkereven
lower.Priceisthetrend'sleader.Fewfinancialfirmsarebigenoughtodominateamarketfordaysorevenhours.Gurusaretothemarketlikeatailistoadog,andfewdogschasetheir
tailsforverylong.Fundamentalchangesintheeconomysetconditionsforbullandbearmarkets,butonlytraderscanbuyandsell,creatingself-reinforcingpricetrends.
9. Answer2-9:B(IIandIII)Pricesarehammeredoutinthebattlesbetweenbullsandbears.Pricesrallywhenconfidentbullsarepayingup,whilesellersdemanda
premiumforparticipatinginthegamethat'sgoingagainstthem.Thereisabuyerandasellerbehindeverytransaction.Thenumberofstocksorfuturesboughtandsoldisequalby
definition.10. Answer2-10:
D(I,II,III,andIV)Inadowntrend,theshortsaremakingmoney,andmanybecomewillingtosellatalowerpriceto
increasetheirpositions.Atthesametime,bullsarelosing,andmanywanttogetout.Thosethatagreetobuydoitonlyatadiscount.Theyplacetheirbidsbelowthemarket,
forcingbearstosellcheaper.Thisprocessisreversedduringuptrends.
11. Answer2-11:B(IIandIII)Apriceshockisasuddenmoveagainstthetrend.Itfrightensthe
dominantgroupandmakestheoppositionbolder.Asuddenpricebreakinanuptrendprovidesapriceshockthatfrightensthebulls.Eveniftheymanagetotakeprices
toanewhigh,theirconfidenceisshaken,andtheuptrendmaywellbereadytoreverse.
12. Answer2-12:CAbearishdivergenceoccurswhen
pricesrallytoanewhigh,whileanindicatorrisestoalowerpeak.Inabullishdivergence,pricesfalltoanewlow,whileanindicatorfallstoamoreshallowlow.
Bearishdivergenceshelpidentifyuptrendtops.Bullishdivergenceshelpidentifydowntrendbottoms.Theyareamongthemostusefulpatternsintechnicalanalysis.
13. Answer2-13:B(IandIV)Atradermuststaycalm,focusontherealityofthemarket,identifythecurrenttrend,andgetingearwithit.Whentraderstrytoforecast
exactlywhatthemarketwilldo,theiregosbecomeweddedtotheirpredictions,anditbecomeshardforthemtochangetheirtradingstance.Whenthemarketrefusestofollow
forecasts,traderswhosticktothemgetfinanciallyhurt.
■RatingYourself
1. 0-4correct:poor.Youhaveaverylimitedunderstandingofmasspsychologyofthemarkets.Ifyoudon'tunderstandhowmarket
crowdsinfluenceyourbehavior,you'llbesweptawaybythemandlosemoney.Pleaserereadtherelevantsectionofthebook,andretakethistestinafewdays,before
proceedinganyfurther.
2. 5–9correct:fairlygood.Youhaveaworkinggraspoftheessentialconceptsofmasspsychology,butneedtolearnmoreaboutthe
balancebetweenbullsandbears,theimpactofthetradingcrowdsonyou,andthedifferencebetweenmanagingtradesandforecastingprices.Pleasereviewtherelevant
sectionofthebookandretakethistestinafewdays.
3. 10–13correct:excellent.Youhavemasteredtheessentialconceptsofmasspsychology.
Nowreviewsomeofyourrecenttradesinlightoftheseprinciples.Continuetomonitorhowthemarketimpactsyou.Asyouproceedtothechaptersonmarket
analysis,keepinmindthattechnicalanalysisisappliedsocialpsychology.
■ RecommendedReading1. Mackay,Charles,ExtraordinaryPopularDelusionsandtheMadnessofCrowds(1841)(NewYork:CrownPublishers,1980).
THREE
ClassicalChartAnalysis
1. Answer3-1:I=C;II=D;III=B;IV=AAmateurstendtogettheirinformationafterworkandtradeinthemorning.Professionals
respondtochangingconditionsthroughoutthedayandtendtodominatethemarketnearclosingtime.Buyingpushespricesup,andthehighestpriceofthedaymarksthe
maximumpowerofbulls.Sellingpushespricesdown,andthelowestpriceofthedaymarksthemaximumpowerofbears.Thisreasoningalsoappliestoweeklyandintra-day
charts.2. Answer3-2:
C(I,II,andIII)Wishfulthinkingisrampantamonganalysts,especiallythosewhodon'ttrade.Keepingbasic
definitionsfuzzycontributestotheconfusion.Itisquitecommonforthemarketstobetrendinghigherandloweratthesametimeindifferenttimeframes.Goodanalysts
whofocusondifferenttimeframesmaycometodifferentconclusions,andallcanmakeprofitabletrades.
3. Answer3-3:CSlippagetends
tobeloweronquiet,narrow-rangedays.That'swhenyoucangetabetterentry,butitdoesn'tchangeyourcommissions.
4. Answer3-4:4(A,B,C,andD)MDTis
tracingapatternofralliesanddeclines.Assoonaspricesbegintodeclinefromthelatestpeak,drawahorizontallineacrossthatpeak,markingaresistancelevel.As
pricesrallyagain,theysometimesslowdownattheresistancelevel.Aftertheypenetrateit,theyusuallypullback—whatusedtoberesistancebecomesasupportlevel.
5. Answer3-5:D(IandIV)Supportlinesaredrawnacrossthelows,andresistancelinesacrossthehighs.Theycanchangeroleswiththepassageoftime,asthe
marketmovesawayfromthoselevels.Theedgesofcongestionzonesshowwheremassesoftradershavetradedandreversedtheirpositions.Extremepricesshowonlythelevelsofpanic
amongtheweakestmarketparticipants.
6. Answer3-6:D(I,II,III,andIV)Supportandresistanceexistbecausetradershavememories.Themoreintense
theirmemories,themoreactivelytheybuyandsell,strengtheningsupportandresistance.Highvolumereflectsagreaterdegreeoffinancialandemotionalcommitment,
whilethegreaterheightofthesupportandresistancezonesshowsahigherlevelofactivity,andconsequently,strongermemories.Thegreaterthedurationofacongestionareaandthe
moretimesit'sbeenhit,themoretradersexpectanewreversaltooccur,reinforcingsupportandresistance.
7. Answer3-7:C(I,II,andIII)Waitingfora
newlowbeforeshortinghelpsensureyou'redealingwithadownsidebreakout.Falsebreakoutsarethebaneofamateurs,butprofessionaltraderslovethem.They
oftenwaituntiladownsidebreakoutstopsmakingnewlowsandthentradeagainstit:buyandplaceaprotectivestopnearthelatestlow.Sincepricesmadeanewlow
yesterday,shortingattheopeningwouldmeanfollowingthetrend,butbuyingwouldbeapooroption.
8. Answer3-8:A=IV;B=I;C=III;D=IIThelower
dashedline,drawnacrosstheedgeofacongestionarea,marksthelevelofsupport.WhenpricesbreakouttoanewlowduringbarA,andevenslightlylowerduringbarB,thereisa
possibilitythatthedowntrendwillresume.Still,theshortnessofthosebarsindicatesthatthedownmoveisfacingastiffresistance.AsbarCmovesupintothecongestionarea,itleaves
behindafalsedownsidebreakout.Youmaystartbuyingwhenitcrossesabovethepreviouslybrokensupportline,withastopneartherecentlows.Theshortnessofthelastbarindicatesthat
therallyisslowingdown—tightenyourstopandconsidermovingituptothebreakevenlevel.
9. Answer3-9.Trends=AandC;Trading
ranges=BandDWhenpricestrend,theykeeprisingorfallingovertime,reachinghigherhighsorlowerlows.Intradingranges,mostralliespeteroutatapproximately
thesamehighs,anddeclinesstopatapproximatelythesamelows.Asatrader,whenyourecognizeatrend,followitandhangontopositions.Ifyoutradetheswingswithin
atradingrange,beextracarefulnottooverstayyourpositions.
10. Answer3-10.I=G;II=A,B,andF;III=CandD;IV=ETheactionsofanytradingvehicleasit
nearssupportorresistanceprovideinformationaboutitsstrengthorweakness.Whenastockcannotriseuptotouchresistance,itshowsweakness.Holdingabove
supportindicatesstrength.Falsebreakoutsprovidesomeofthebestsignalsintechnicalanalysis.
11. Answer3-11:C(I,II,andIII)Thetrendis
yourfriend.Aslongasyouseethepatternofhigherhighsandhigherlows,tradethatmarketfromthelongside.Makesuretoprotectyourpositionswithstopsandmovethemupasthetrend
progresses.Addtoyourpositionsonlyafteryourpaperprofitshavebeenprotected.Ifthemarkettakesoutitspreviouslow,itthrowstheuptrendindoubt.
12. Answer3-12:AdoesnotapplyTailsshowthateitherahighoralowpricelevelhasbeenrejectedbythemassofmarketparticipants.Sincemarketstendtomove
awayfromrejectedpricelevels,itpaystotradeinthedirectionoppositeatail.Sometradingvehiclesaremorelikelytohavetailsthanothers—youseethreeofthemonthischartofBA,
followedbyreversals.
13. Answer3-13:DisnotpermittedPayingcloseattentiontomarketactionafterakangarootail,youmayincreaseyourpositionsize
ortakeprofitswhenthemoveappearstostall.Whatyoushouldn'tdoisplaceyourstopbelowthetipofthetailbecauseitwouldexposeatradetotoomuchrisk.
■RatingYourself
1. 0-4correct:poor.Chartstellanimportantstory—andifyoucan'treadit,you'llmissthemarket'smessage.You'llrunaseriousriskof
buyingatthetopsandsellingatthebottoms.Pleaserereadtherelevantsectionofthebook,reviewyourmistakes,andthenretakethistest.Donotproceedtothenextchapter
untilthen—thesematerialsaretooimportanttoskip.
2. 5–9correct:fairlygood.Youhaveaworkingknowledgeofthekeyconceptsofcharting.Now
youhavetodecidewhether“fairlygood”isgoodenoughforyou.Itmaybeenoughifyouplantofocusoncomputerizedtechnicalanalysis,butnotenoughifyouplanto
workwithcharts.Allseriousinvestorsandtradersneedtograspsuchessentialconceptsastrendsandtradingranges,supportandresistance,continuationandreversal.It
wouldbeagoodideatoreturntotherelevantsection,reviewit,andthenretakethistest.
3. 10–13correct:excellent.You'vemasteredtheessential
conceptsofcharting.Theycanhelpyoudiscovertheshiftsofpowerbetweenbullsandbears.Nowproceedtothechaptersoncomputerizedtechnicalanalysis.
■ RecommendedReading1. Edwards,RobertD.,and
JohnMagee,TechnicalAnalysisofStockTrends(1948).(NewYork:NewYorkInstituteofFinance,1992).
2. Pring,MartinJ.,TechnicalAnalysisExplained,5thedition
(NewYork:McGraw-Hill,2013).
FOUR
ComputerizedTechnicalAnalysis
1. Answer4-1:A=(I)Computerizedtechnicalanalysisismoreobjectivethanclassicalcharting.Youmayarguewhethersupportor
resistanceispresent,buttherecanbenoargumentaboutthedirectionofanindicator—it'seitherup,down,orflat.Agoodtechnicianaimstodiscoverthebalanceof
powerbetweenbullsandbearsandbetonthewinninggroup—nottoforecastthefuture.Acomputerdoesn'tremoveemotionsfromtradingbecausewestillhavetoplaceour
orders.Anyonewhotriestosellyou“asurething”shouldbeviewedwithuttersuspicion.
2. Answer4-2:I=B;II=C;III=AAtoolboxisacollectionof
analyticandchartingtools.Blackboxesforautomatictradingcomewithexcellenthistoricalrecordsbutself-destructwhenmarketschange;grayboxesstraddletheboundarybetweenthose
twogroups.3. Answer4-3:I
=B;II=C:III=AItpaystocombineindicatorsfromdifferentgroupssothattheirnegativefeaturescanceleachotheroutwhiletheir
positivefeaturesremainundisturbed.We'llreturntothisthemeinthechapterontheTripleScreentradingsystem.
4. Answer4-4:BTocalculatea
simplemovingaverage,addtheclosingpricesinitstimewindowanddividetheirsumbythenumberofdaysinthatwindow.Addingpricesforthepast5daysproduces110,and
dividing110by5is22.
5. Answer4-5:AExponentialmovingaveragesarehardertocalculatebyhandthansimpleMAs.Ifyouuseacomputer,both
areequallyeasy.
6. Answer4-6:DArisingEMAconfirmsthatbullsareincontrol—it'stimetogolong.WhenEMAdeclines,itshowsthatbearsarein
control—it'stimetogoshort.TheabilityofanEMAtoreachanewhighshowsthatbullsarestrongerthanbefore,whiledecliningtoanewlowshowsthatbearsare
strongerthanbefore.Theseareimportantsignals,butlessfrequentorimportantthanthedirectionoftheEMAslope.ThewidthoftheEMA'stimewindowissetbythetrader.
7. Answer4-7:1=A&C;2=BWhentheEMArises,tradethestockonlyfromthelongside—placeyourbuyordersslightlybelowtheEMA.WhentheEMAturns
down,tradethestockfromtheshortsidebyplacingsellordersslightlyabovethefallingEMA.You'refreetostandasidewheneveryou'dlike.
8. Answer4-8:1=D,E,F,and
G;2=A,B,andI;3=C,H,andJWhentheEMApointsup,pullbacksmarkbuyingopportunities.WhentheEMApointsdown,pricesareusuallybelowit,and
ralliestotheEMAmarkshortingopportunities.Thetransitionalzonesbetweenuptrendsanddowntrendsarethehardesttotrade.Whenindoubt,standasideuntilacleartrend
emerges.9. Answer4-9:
D(I,II,III,andIV)Eachpriceisamomentaryconsensusofvalue,whileamovingaveragereflectstheaverageconsensusof
value.Ashorter-termMAtracksshort-termconsensus,andalonger-termMAtrackslonger-termconsensus.MACDlinesconsistofmovingaverages,andwhenthefast
lineofMACDisaboveorbelowtheslowline,itshowswhetherbullsorbearscurrentlydominatethemarket.
10. Answer4-10:Cisn'ttrueMACD-Histogram
tracksthespreadbetweenthefastandslowMACDLines.ItsslopeisdefinedbytherelationshipbetweenthelasttwobarsofMACD-Histogram.Whenthesloperises,it
showsthatbullsareincontrol,andwhenitdeclines,itshowsthatbearsareincontrol.Itpaystotradeinthedirectionofthedominantmarketgroup.Thisisnotforecasting—
it'sreadingthemarketandbettingthattheinertiaofthemarketcrowdwillcontinue.
11. Answer4-11:1=D;2=A;3=BandE;4=F;5=CWhenMACD-Histogramreachesanew
high,ittellsyouthatbullsarestrongandpricesarelikelytoretestorexceedtheirlatestpeak.Whenitfallstoanewlow,itshowsthatbearsarestrongandpricesarelikelytoretest
orexceedthelatestlow.Afterwards,whenMACD-Histogramcrossesitszeroline,itsignalsthatthepowerofthedominantgrouphasbeenbroken.Abullish
divergencegivesastrongbuysignal;itoccurswhenpricesfalltoanewlow,butMACD-Histogramtracesashallowerbottom.Abearishdivergencegivesastrong
sellsignal;itoccurswhenpricesrisetoanewhigh,butMACD-Histogramtracesalowerhigh.
12. Answer4-12:CThebearishdivergencehassentprices
lower,buttheyrefusedtobreakbelowtheirEMA.Atthesametime,MACD-Histogramhasdroppedbelowzero,showingthatbearsarenearingtheirmaximumeffortlevel.Withbears
havingdeliveredaboutasmuchpowerastheycouldandpricesholdingup,it'sbettertotakeprofitsandmovetothesidelines.
13. Answer4-13:CThepartof
today'sbarthatprotrudesaboveorbelowyesterday'sbarrepresentstoday'sdirectionalmovement.Iftoday'sbarextendsbothaboveandbelowyesterday's
bar,thenonlythelongerpartrepresentsdirectionalmovement.Iftoday'sbarisinsideofyesterday'sbar,orifitextendsaboveandbelowbyequalamounts,directionalmovementis
zero.14. Answer4-14:
I=B;II=A,C,E;III=DTradeinthedirectionoftheupperDirectionalLineaslongasADXrisesabovethelowerDirectional
Line.ExitwhenADXrisesabovebothDirectionalLinesandthenticksdown.AnotherexitsignaloccurswhenADXsinksbelowbothDirectionalLines.Aslong
asADXstaysbelowboth+DIand−DI,avoidusingatrend-followingmethod.
15. Answer4-15:CWhenADXrisesabovebothDirectional
Linesandthenticksdown,itsignalstheendofastronglydirectionalmoveandsuggeststheonsetofgreatervolatility.Youcanstilltradethismarket,butonlyusingshorter-term
indicatorsratherthantheDirectionalsystem.
16. Answer4-16:BOscillatorsshowwhetherbullsorbearsarecurrentlyincontrol.Theirpeaksandbottoms
marktheextremesofmassoptimismandpessimism.Overboughtreadingsofoscillatorshelpidentifymarkettops,andoversoldreadingshelpcatchmarketbottoms.
Thesesignalstendtoworkwellduringtradingrangesbutarelessusefulduringtrends.Noindicatorcancatchalltopsandbottoms.
17. Answer4-17:DWhenan
oscillatorreachesanewrecordhigh,itreflectsstrengthandtellstradersthattherallyislikelytocontinue,evenifthereisatemporarypause.Youmayaddtolongpositions
ortakepartialprofits,butit'sbettertoignoreshortingsignalsbecauseunderthoseconditions,pricesaren'tlikelytodropbyameaningfulamount.
18. Answer4-18:1=A,C,I;2=B,E,F;3=E–F;4=C–DandI–J;5=D,G,H,andJStochasticbecomesoverboughtwhenitrisestooraboveitsupper
referenceline.Thereitgivesasignaltoselloratleastavoidbuying.Stochasticbecomesoversoldwhenitfallstoorbelowitslowerreferenceline.Thereitgivesasignaltobuy
oratleastavoidshorting.AfailureswingoccurswhenStochasticfailstoreachitsreferencelineduringamarketmove.WhenStochasticcouldnot
reachitsupperreferencelineduringtherallyG,itshowedthatbullswereweakandgaveasellsignal.FailureswingsDandJbecamepartsofbearishdivergences.Inthebullish
divergenceE–F,thesecondbottomwasshallowerthanthefirst,butnotafailureswingbecauseitwasbelowthelowerreferenceline.
19. Answer4-19:CStochasticis
nearitsneutralmidpoint—butit'sfallingfromapowerfulbearishpattern.Ithasjusttracedafailureswingandabearishdivergence.Inaddition,youcanseeanupward-
pointingkangarootailonthepricechart,reinforcingStochastic'sbearishmessage.
20. Answer4-20:1=A,B,F;2=D;3=D–E;4=B–CRSIbecomes
overboughtwhenitrisesaboveitsupperreferenceline.Thereitgivessellsignals,whichhelptraderssellshortindowntrendsorinflatmarkets,butareoftenpremature
duringuptrends.RSIbecomesoversoldwhenitfallsbelowitslowerreferenceline.Thereitgivesbuysignals,whichhelptradersgolonginuptrendsorflatmarketsbutareoften
prematureduringdowntrends.Bullishandbearishdivergencesgivethestrongestbuyandsellsignals.Alldivergencesyouseeonthischartprecededsubstantial
marketmoves.21. Answer4-21:
BRSIhasjusttracedaclearbearishdivergence,withitsfirsttopaboveandthesecondbelowtheupperreferenceline.
ThisbearishmessageisreinforcedbythefactthattheslightpricedeclineofthepastfewdaystookTIFbelowthetopitreachedseveralmonthsearlier.Afalseupsidebreakoutis
nowinplaceandthat,reinforcedbytheRSIdivergence,givesasignaltosellshort.
22. Answer4-22:A(IandII)Whenthemarkettrendisdownandanoscillatorrises
aboveitsupperreferenceline,itidentifiesashort-termsplashofbullishness—ashortingopportunity.Afterward,youmaywanttocovershortswhenanoscillatorfalls
belowitslowerreferenceline,oryoumaywanttoholdshorts.Inanycase,donotuseoscillatorstogolonginawell-establisheddowntrend.AsPeterLynch,anotedmoney
manager,oncewrote:“Tryingtocatchabottomisliketryingtocatchafallingknife—youinvariablygrabitinthewrongspot.”
■RatingYourself
1. 0-8correct:poor.Youhaveaverylimitedunderstandingofmoderntechnicalanalysis.Youoweittoyourselftolearnthe
essentialconceptsofusingindicators.Pleaserereadtherelevantchapterandretakethistestbeforeproceedingtotherestofthisbook.
2. 9–15correct:
fairlygood.Itisimportanttounderstandthemessagesoftrend-followingindicatorsandoscillators.Theyofferinsightsintothebalanceofpowerbetweenbullsand
bears.Youhaveadecentgraspoftheessentialconceptsofcomputerizedtechnicalanalysis.Nowreviewyouranswerstofindoutyourareasofstrengthandweakness.Are
youmorecomfortablewithtrend-followingindicatorsoroscillators?Areyoubetteratfindingsignalsthatidentifytrendsorreversals?Pleasereviewtherecommended
literature,andretakethistestseveraldayslater.Thinkaboutwhatthesetestsrevealaboutyourpreferences.Mostsuccessfultradersconcentrateonjustafew
typesoftrades.Someprefertofollowtrends,whileothersarebetteroffatcatchingreversals.Trader,knowthyself.
3. 16–22correct:excellent.Youhavea
goodcommandofcomputerizedtechnicalanalysis.Theseindicatorsarethebuildingblocksofseveralproventradingsystems(seePart7).Beforeweworkona
system,let'sreviewothertypesofindicatorsavailabletomarketanalysts(Parts5and6).
■ RecommendedReading1. Murphy,JohnJ.,TechnicalAnalysisoftheFinancialMarkets(NewYork:NewYorkInstituteofFinance,1999).
FIVE
VolumeandTime
1. Answer5-1:AEachtradereflectsafinancialandemotionalcommitmentbytwotraders:abuyerandaseller.Sinceoneofthemis
boundtoberightandtheotherwrong,volumerepresentstheactivityofwinnersandlosers.Itsurgeswhenloserspanic.Itmirrorscurrentactivitybutdoesn'tforecastthe
future.2. Answer5-2:1
=B;2=A;3=C;4=DTrendstendtopersistwhenthevolumeissteadyorrisesinanorderlymanner.Theyusuallyexpirewitheitherabangora
whimper—aburstofvolumeoritsdrasticshrinkage.Thetrendcannotcontinueaftermassesoflosersstartleaving.
3. Answer5-3:1=D;2=AandB;3=C
andF;4=EandGRisingorsteadyvolumeconfirmstrends.Whenpricesrisetoanewhighorfalltoanewlowwhilevolumeshrinks,ittellsusthatthe
pricetrendislikelytoreverseoratleasttopause.
4. Answer5-4:BThereisapowerfulrallygoingon,withasteadypatternofhigherhighsandlows.
CPSTisslowlydecliningfromitslatesthigh,whilevolumeisshrinking.Waitforabarorafewbarsthatfailtoreachanewlowforthisminordownmove—andthengo
long.5. Answer5-5:
C(I,II,andIII)OBViscreatedbyaddingeachday'svolumetoarunningtotalwhenatradingvehiclerisesandsubtractingit
onthedayswhenthatvehiclefalls.OBVconfirmsbullmoveswhenitrisestoahigherhighthanatthepreviouspeak;itconfirmsdeclineswhenitfallstoalowerlowthanattheprevious
bottom.Pricesrepresenttheconsensusofvalue,whilevolume,measuredbyOBV,trackstraders'emotions.
6. Answer5-6:1=D;2=C;3=B;4=AOpeningand
closingpricesareamongthemostimportantpricesoftheday.Openingstendtobedominatedbyamateurswhoseordersfloodthemarketsinthemornings.Closingstendtobe
dominatedbyprofessionalswhomonitortheconditionsallday.Accumulation/Distributiontiesdailyvolumetotherelationshipbetweenopeningandclosingprices.
7. Answer5-7:
BThenumberoflongandshortpositionsinthederivativesmarketsisalwaysequal.Whilestocksrepresentcurrentownership,derivativesarecontractsfor
futuredelivery.Eachcontracthastwosides:asellerandabuyer.Thisiswhyopeninterestreflectsthenumberofcontractsheldbylongsorowedbyshortsinanygiven
marketonanygivenday.Itequalsthetotallongorthetotalshortposition.
8. Answer5-8:1=B;2=C;3=C;4=AOpeninterestrisesonlywhenanewbuyeranda
newsellerenterthemarketbecausetheirtradecreatesanewcontract.Openinterestfallswhenabullwhoislongsellshiscontracttoabearwhobuysittocoverhisshorttrade,
andbothcloseouttheirpositions.Ifanewbullbuysfromanoldbullwho'sgettingout,openinterestremainsunchanged.Nordoesitchangewhenanewbearsellstoanoldbear
whobuystogetoutofhisshortposition.
9. Answer5-9:D(1,2,3,and4)Whenopeninterestrises,itshowsthatacrowdofconfidentbullsisfacingdownacrowdof
equallyconfidentbears.Onegroupissuretolose,butaslongaspotentialloserskeeppouringin,thetrendislikelytocontinue.
10. Answer5-10:C(1,2,and3)
Thedirectionofthemoveshowswhetherthedominantforcewasupordown.Thedistancebetweentoday'sandyesterday'sclosingpricesreflectsthemarginofvictoryby
bullsorbears.High-volumeralliesanddeclinesaremoreforcefulandmorelikelytopersist.Whilerelatedmarketsareimportant,theydon'treflecttheforceofmoves
elsewhere.11. Answer5-11:
DForceIndexlinksthreeessentialfactors:thedirectionofpricechange,itsextent,andthevolumeonwhichitoccurred.To
calculatethedailyForceIndex,subtractyesterday'sclosingpricefromtoday'sandmultiplytheresult,whetherpositiveornegative,bytoday'svolume.
12. Answer5-12:D(I,II,III,andIV)SmoothingtherawForceIndexwithamovingaveragehelpsrecognizeitstrend—ashort-termtrendusingashortEMAoran
intermediatetrendusingalongerEMA.Whenthe2-dayEMAofForceIndexdipsbelowzeroduringmarketrallies,itidentifiesbuyingopportunities,andwhenitralliesabove
zeroduringmarketdrops,itmarksshortingopportunities.The13-dayEMAofForceIndexhelpsidentifybullishandbearishzonesbyitspositionaboveorbelowitszeroline.
DivergencesbetweenForceIndexandpricetendtomarkapproachingtrendreversals.
13. Answer5-13:1=GandH;2=F;3=A,B,C,andD;4=E
Inthelefthalfofthechart,pricesareinadowntrend,confirmedbyafallingEMA.Wheneverthe2-dayEMAofForceIndexrisesabovezero,itshowsabriefrecoverybythebulls—a
shortingopportunity.InareaE,pricesfalltoanewlowbutrecoilfromit,leavingbehindafalsedownsidebreakout,whileForceIndextracesabullishdivergence,
withamuchmoreshallowlow.Thisisagoodtimetocovershorts.InareaF,theEMAofpricesturnsup—itsignalstostopshortingandlookforbuyingopportunities.Afterwards,
ForceIndexdeclinesbelowzeroinareasGandH,givingbuysignals.
14. Answer5-14:BAttherightedgeofthescreen,amovingaverageofpriceis
trendinghigher,indicatinganuptrend.The2-dayForceIndexhasdippedbelowzero,signalingthatthestockisshort-termoversoldandgivingabuysignal.Youhavetwomain
waystoactonthissignal.Youmayplaceabuyorderatthehighofthecurrentbar,aimingtocatchanupsidebreakout.Alternatively,youmaymeasuretheextentofan
averagedownsidepenetrationoftheEMAandplaceyourbuyorderatasimilardistancebelowthecurrentEMA.
15. Answer5-15:1=C;2=AandD;3=B
Thelonger-termForceIndex,smoothedwitha13-barEMA,helpsidentifytrendreversals:bullishwhenitcrossesabovethezerolineandbearishwhenitcrossesbelow
thatline.Itisalsopossibletodrawhorizontalbullishandbearishlinesslightlyaboveandbelowthezeroline.Waitingfortheircrossovers,ratherthanthoseofthe
zeroline,willreducewhipsaws—butitwillalsoslowdownthegoodsignals.Whatyou'dgaininonetrade,you'llloseinanother.AlowerpeakofForceIndexinareaBshows
thatthebullishforceisweakeningandpreparesyouforacomingtrendreversal.
16. Answer5-16:BTheForceIndexispositive—bullish,whilethetrendisup,
confirmedbyarisingEMA.Thiscombinationsuggestsgoinglong,usingpullbackstotheEMAforbuying.
17. Answer5-17:C(1,2,and3)Pricecyclesowetheir
existencetofundamentalproductionfactors,suchasweatherandseasonalshiftsinsupplyanddemand,aswellaswavesofgreedandfearamongtraders.
18. Answer5-18:
1=D;2=AandE;3=BandF;4=CandGTheseasonofanindicatorisdefinedbyitsslopeanditspositionaboveorbelowthecenterline.Whenanindicatorturns
upbutisbelowitscenterline,itisspring;whenitrisesaboveitscenterline,itissummer;whenitdeclinesbutisaboveitscenterline,itisautumn;andwhenitfallsbelowitscenterline,itis
winter.Springisthebestseasonforgoinglong,andautumnisthebestseasonforsellingshort.Seasonsarenotrigid—notinnatureandnotinthemarkets.Noticeabriefwarmspellin
winterintheareabetweenlettersBandC.
19. Answer5-19:AEachtimeframerelatestoitsnextgreaterandlessertimeframesbyafactorof5.
Whenyouanalyzeamarketintwotimeframes,theshorterofthemhastobeaboutfivetimesshorterthanthelongerone.Ifyourfavoritetimeframeisdaily,youmustfirst
examineweeklycharts.
■RatingYourself
1. 0-7correct:poor.Youneedtolearnmoreaboutvolumeandtime.Theseessentialaspectsofmarketanalysiswillgiveyouan
edgeovermosttraders.Pleaserereadtherelevantchapterandretakethistestbeforeproceedingtotherestofthisbook.
2. 8–14correct:fairlygood.Youhavea
workinggraspoftheessentialconceptsofvolumeandtime,whichmosttradersneglectattheirperil.Pleasereviewyouranswerstoseewhetheryourscorewasloweredbyaweak
knowledgeofacertainarea,suchastime,volume,oropeninterest.Reviewtheappropriatechaptersandretakethistestafewdayslater.
3. 15–19correct:
excellent.Youunderstandtheconceptsmosttradersmiss.Time,volume,andopeninterestprovideanextradimensionofanalysisanddeepenyour
understandingofmarketdynamics.
■ RecommendedReading1. Belveal,L.Dee.ChartingCommodityMarketPriceBehavior(1969)(Homewood,IL:BusinessOneIrwin,1985).
SIX
GeneralMarketIndicators
1. Answer6-1:C(1,2,3,and4)NewHighsarethestocksthathaverisentothehighestlevelinayear,whileNewLowsarethestocksthat
havefallentothelowestlevelinayearonanygivenday.NewHighsaretheleadersinstrengthandNewLowsaretheleadersinweakness.TheNewHigh–NewLowIndex(NH-
NL)worksbymeasuringthedifferencebetweenthestrongestandtheweakeststocksonanygivenday.Itisaleadingindicatorofthestockmarket.
2. Answer6-2:1
=D;2=C;3=A;4=BWhenthemarketralliesandNH-NLrisestoanewhigh,itshowsagrowingbullishleadership.Itpaystofollowtheleadersandgolong.When
themarketdeclinesandNH-NLdropstoanewlow,itshowsthatbearishleadershipisbecomingstronger.Thisbearishdivergenceindicatesthatitpaystogoshort.Ifthe
broadmarketralliesbutNH-NLtracesalowerpeak,itshowsthattheuptrendislosingitsleadersandmaybeintrouble.IfthemarketfallstoanewlowbutNH-NLtracesahigher
bottom,itshowsthatthedowntrendislosingitsleadersandnearingabottom.
3. Answer6-3:1=AandD;2=BandF;3=G–H;4=D–ENH-NLtracksthenumbersof
themarketleaders,makingitaleadingindicatorofthestockmarket.Itsbullishzoneisabovethezerolineor,ifyouwanttomakeitlesspronetowhipsaws,abovetheplus
100level.Itsbearishzoneisbelowthezerolineor,ifyouwanttomakeitlesspronetowhipsaws,belowtheminus100level.Divergencesshowthattheleadershipof
thecurrenttrendisbecomingweaker.BoththeS&P500andtheNH-NLralliedtonewhighsinareaD,butinareaE,onlytheS&Preachedanewhigh—thisbearish
divergenceofNH-NLgaveasellsignal.BoththeS&P500andtheNH-NLfelltonewlowsinareaG,butinareaH,onlytheS&Pfelltoalowerlow;NH-NLbottomedoutatahigher
level,anditsbullishdivergenceflashedabuysignal.
4. Answer6-4:2TheEMAisrisingandtheNH-NLIndexispositive,showingthatthebullsareincharge.The
NewHigh–NewLowIndexhasjustralliedtoanewhighforthecurrentmove,showingthatthebullishleadershipisbecomingstronger.Pricesarealreadyabove
value,butstillcloseenoughtoittomakegoinglongarealisticchoice.
5. Answer6-5:C(1,2,and3)TheA/Dlinemeasuresmassparticipationinralliesanddeclines.A
stockmarketrallyislikelytopersistwhentheA/Dlinerisestoanewhigh,whileadeclineislikelytocontinuewhentheA/Dlinefallstoanewlow.Tradersneedtomonitorthe
patternofA/Dpeaksandvalleysbecauseitsabsoluteleveldependsmainlyonitsstartingdate.TheA/Dlinetracksonlypricechanges,notvolume.
6. Answer6-6:
B(1and3)Uptrendsattracttraders,andpoorlycapitalizednewcomersenterthemarketindrovesnearmajorpeaks.Manyofthemdoubleupattheworst
possibletime.AsHumphreyNeillputit,“Wheneveryonethinksalike,everyoneislikelytobewrong.”Whenbullishconsensusreachesarecordpeak,asavvytrader
startstakingprofitsonlongpositionsandlookingforshortingopportunities.Heknowsthattherecordhighbullishconsensusmeansthatbullsarealreadyloadedwithstocks
andcanhardlybuymoretosupporttheuptrend.
7. Answer6-7:AThestructureofthederivativesmarkets,includingfutures,ensuresthat
thenumberoflongandshortcontractsisalwaysequal.If75percentofmarketparticipantsarebullish,thentherearethreetimesmorebullsthanbears.Inthatcase,anaveragebearis
shortthreetimesasmanycontractsasanaveragebullislong.Itshowsthatthebigmoneyisonthebearishside.Bigmoneydidnotgrowbigbybeingstupid;itpaystobetonthewealthy
minority.Whenbullishconsensusrisesto75percent,startsellingandlookforshortingopportunities.
8. Answer6-8:DThenumberofshortandlong
contractsisalwaysequalinthefuturesmarkets.Ifthemajorityofparticipantsarebearish,thenthebullishminoritymustholdmorecontractspertrader.A20percentbullish
consensusmeansthattherearefourbearsforeachbull—anaveragebullholdsfourtimesasmanycontractsasanaveragebearisshort.Withbigmoneyonthelongsideofthemarket,be
preparedforasharprally.
9. Answer6-9:BAbullmarketthathascaughttheattentionofthegeneralpublicisprobablyveryoldandgettingreadytoreverse.
Marketsareoftenveryvolatileattops;scalingintoaputpositionmaybethesafesttradingstrategy.Tryingtobuycoffeenowmeansbettingonagreaterfooltheory.
Othermarketsshouldbetradedbasedontheirownmerits.
10. Answer6-10:1=C;2=A;3=D;4=BTraders'positionsgetreportedtothegovernmentaftertheir
sizesreachreportinglevels.Thoselevelsdifferfrommarkettomarket.Positionlimitsindicatethemaximumnumberofcontractsthataspeculatorisallowedtoholdinany
givenmarket.Hedgersareexemptfrompositionlimits.Manytradersareshockedtolearnthattradingonmanykindsofinsideinformationisperfectlylegalinthefuturesmarkets.
11. Answer6-11:1=D;2=A;3=B;4=CCommercialsdealincommoditiesinthenormalcourseoftheirbusinessandusefuturestohedgeinventoryrisks.Large
speculatorsarethosewhosepositionsreachorexceedreportinglevels.Ifyousubtracttheholdingsofthosetwogroupsfromopeninterest,you'llfindouthowmanycontractsare
heldbysmalltraderswhooftenwinduponthewrongsideofmarkettrends.Corporateinsidersareofficersofpubliclytradedfirmsandthosewhohold5percentormoreof
companyshares.
12. Answer6-12:DBuyingbycorporateinsidersisastrongbullishsign,butyouneedtoseeabullishconfirmationfromprice
action.At11months,thebearmarketisold.Nobodywillringabelltoadvertisethestartofabullmarket.Asaninvestor,it'stimetostartslowlyaccumulatingthestockyou've
selected.
■RatingYourself
1. 0-4correct:poor.Ifyoudon'ttradestocks,youmayskipNH-NL,butifyouplantotradestocksorstockindexfuturesoroptions,you
oweittoyourselftolearnhowtousethebestleadingindicatorofthestockmarket.Indicatorsofmasspsychologyprovideuniqueinsightsintotheforcesthat
movemarkets,andit'simportanttounderstandhowtheywork.
2. 5–8correct:fairlygood.Youhaveadecentgraspoftheindicatorsthatmeasuremass
marketbehavior.Thismaybeenoughifyouonlywantageneralunderstandingoftheconcept.Ifyouplantousethemintrading,rereadtheappropriatechapter,lookuptheanswers
tothequestionsyoumissed,andretakethistestseveraldayslater.
3. 9–12correct:excellent.Youunderstandtheessentialstockmarketindicators.
Theyhelpyourecognizewhenthemarketisinatoporabottomarea.Armedwiththisknowledge,youcanusecomputerizedindicators(seePart4)tofine-tuneyour
entriesandexits.
■ RecommendedReading1. Elder,Alexander&
KerryLovvorn.TheNewHigh–NewLowIndex(Alabama:SpikeTrade,2012).
2. Neill,HumphreyB.,TheArtofContraryThinking(1954)(Caldwell,ID:CaxtonPrinters,1985).
SEVEN
TradingSystems
1. Answer7-1:C(I,II,III,andIV)Trendsmaypointindifferentdirectionsatthesametimeindifferenttimeframes:forexample,
uponthedailychartbutdownontheweekly,orviceversa.Atrend-followingindicatormaybegivingabuysignal,whileanoscillatorisgivingasellsignal,orviceversa.The
TripleScreentradingsystemisdesignedtomanagethosecontradictorysignals.
2. Answer7-2:BTheTripleScreentradingsystembeginsbyidentifyingthetrendona
chartoneorderofmagnitudegreaterthantheoneyouareplanningtotrade.Findthetrendontheweeklychartandthenlookforentrypointsinthatdirectiononthedailies.Ifyoubeginby
analyzingthedailychartandonlychecktheweeklychartlater,youreyeswillbeprejudicedbywhatyousawonthedailychart.Amonthlychartistoofarremovedfromthedaily—the
timeframesoftwochartsshouldrelatetooneanotherbyafactoroffive.Aweeklybarcontainsthedatafrom5dailybars.
3. Answer7-3:CKeepinggoodrecordsis
essentialfortestingasystem.Startatthebeginningofyourdatafileandmoveforwardonedayatatime,recordingeachsignalandplannedactions.Watching
signalsemergeandgraduallydeliverpaperprofitsandlossesistheclosestyoucangettorealtradingwithoutriskingmoney.Ifyoulikewhatyouseeandstarttradingthatsysteminyour
account,keepyourpositionssmall.Concentrateonlearninghowthesystemworksintherealworldbeforegraduallyincreasingpositionsize.Sinceyoucannotknow
exactlyhowothersmayusethissystem,theirfeedbackisnotnearlyasmeaningfulasyourownresults.
4. Answer7-4:BTheentry,thetarget,andthestoparethe
threeessentialnumbersforeverytrade—youmustwritethemdownbeforeyouenter.Theyprovidethestructureforeverytrade,allowingyoutocompareriskandrewardand
decidewhatsizetotrade.Atradewithoutthesenumbersisnotatradebutagamble.Countingprofitsinanopentradewillonlydistractyoufrommanagingthattrade.
5. Answer7-5:BAdirectionaltraderhasthreechoices:buy,sell,orstandaside.ThefirstscreenofTripleScreenactsasacensorthattakesaway
oneofthosechoices.Youmaylookfortradesonlyinthedirectionofthelong-termtimeframeorstandaside.
6. Answer7-6:CWhenthefirstscreenofthe
TripleScreentradingsystempointsup,usedeclinesofashort-termoscillatortofindbuyingopportunities.Whenthefirstscreenpointsdown,useralliesofashort-termoscillatorto
identifyshortingopportunities.Thisrulehelpsavoidchasinguptrendsanddowntrends.Inthisexample,theshort-termoscillatorisalreadyoverbought;waitforittodeclinebefore
goinglong.7. Answer7-7:
BWhentheweeklytrendisupbutthedailytrendisdown,TripleScreenpointstoabuyingopportunity.Oneoftheoptionsisto
placeabuy-stopabovethelastday'shightocatchashort-termupsidebreakout.
8. Answer7-8:CTheuptrendofBed,Bath&BeyondInc.(BBBY)on
theweeklychartisconfirmedbyitsrisingEMAaswellastheuptrendofMACD-Histogram.Theweeklyuptrendleadstoastrategicdecisiontolookonlyforbuying
opportunitiesonthedailychart.ThereweseeapullbacktotheEMA,whiletheForceIndexbelowzeroindicatesanoversoldcondition.AccordingtoTripleScreen,pullbackson
thedailychartsduringweeklyuptrendssignalbuyingopportunities.Placeabuyorderabovethelatestdailyhigh.Thefactthattheweeklyanddailytrendsareinconflict
isanormaloccurrenceinthemarkets—itisthepurposeoftheTripleScreentoresolvesuchconflictstoyourbenefit.
9. Answer7-9:1=C;2=A;3=B;4=CWhenthe
weeklytrendisupandthedailytrendisdown,usethosedeclinestocatchbuyingopportunities.Whentheweeklytrendisdownandthedailytrendisup,usethoserallies
forenteringshorts.Tryingtoenteratradewhenbothweeklyanddailytrendsaremovinginthesamedirectionislikehoppingaboardamovingtrain.Itcanbedone,butit'ssaferto
waitforapullback.
10. Answer7-10:ATheslopeofthefastEMAtracksthemarket'sinertia,whiletheslopeoftheMACD-Histogramreflectsthe
directionofmarketpower.TheprimaryroleoftheImpulsesystemisnottotelltraderswhentobuyorsell.Rather,itshowsthemwhenthey'reprohibitedfrombuyingorshorting.Itisa
censorshipsystem,andwhentheImpulsesystemisred,itprohibitsbuying.Itremovesthatprohibitionwhenitscolorchangesfromthebearishredtoaneutralblueora
bullishgreen.11. Answer7-11:
1=A;2=C;3=B;4=CThecoloroftheImpulsesystemdependsonitstwocomponents—anEMAandMACD-Histogram.
Whenbotharerising,theImpulseturnsgreen—bullish,prohibitingshorttrades.Whenbothdecline,theImpulseturnsred—bearish,forbiddingbuying.Whenthesetwo
componentscontradictoneanother,theImpulseturnsblue—neutral.
12. Answer7-12:1=EandH;2=AandC;3=B,D,F,GandITheImpulsesystemisacensorship
system.WhenboththeEMAandMACD-Histogramturndown,coloringthebarred,itprohibitsbuying.Whenbothindicatorsturnup,coloringthebargreen,shortingisnotallowed.
TheImpulsesystemshouldn'tbeusedasanautomatictradingmethod:whileitcatcheseverytrend,itwouldsubjectanautomatictradertomultiplewhipsaws,for
example,intheareabetweenthelettersCandG.Itsbestsignalsemergewhenredorgreencolorsdisappear.Forexample,thedisappearanceofredatthebarGshowedthatthedouble
bottomwasbeingcompletedandsuggestedbuying.ThedisappearanceofgreenatthebarIsignaledtheapproachingendofapowerfulupswingandsuggested
takingprofits.13. Answer7-13:
AAttherightedgeofthechart,boththeEMAandMACD-Histogramarerising—theImpulsesystemwouldcolorthatbar
green.Hadbothindicatorsbeendeclining,thebarwouldbered;hadtheypointedinoppositedirections,thebarwouldbeblue.Thisisimportanttokeepinmindifyouwantto
findtheImpulsecolorattherightedgeofachartusingsoftwarethatdoesn'tletyouactuallycolorthebars.
14. Answer7-14:CThereisnomysteryinconstructinga
channel.Keepadjustingitswidthuntilitcontainsthebulkofprices,leavingoutonlythemostextremehighsandlowsforthepast50to100bars.Pricesmovingoutsideofawell-drawn
channelidentifyzonesofunsustainableoptimismorpessimism,wherethemarketislikelytoreverse.Keepinmindthatonrareoccasionsthemarketmaystay
outsideofitschannelforalongertime—butthat'sanexceptionthatconfirmstherule.
15. Answer7-15:1=C;2=A;3=D;4=BAmovingaveragereflectsthe
averageconsensusofvalue.Achanneltrackstheboundariesbetweennormalandabnormalpriceaction.Themarketisundervaluedwhenitfallsbelowitslowerchannel
lineandovervaluedwhenitrisesaboveitsupperchannelline.Thechannelcoefficientneedstobeadjusteduntilachannelcontains90percentto95percentofthe
priceactionforthepast50to100bars.
16. Answer7-16:ATheslopeofachannelprovidesimportantinformation.Whenitrises,itshowsthatthemarketis
bullish.Whenitfalls,themarketisbearish.Whenitisflat,themarketisneutral.Abreakoutinthedirectionofthechannelslopeindicatesapowerfultrend;areturntothemoving
averagealmostalwaysoffersagoodopportunitytotradeinthedirectionofthetrend.Swingsbetweenthewallsofaflatchannelalsoprovidegoodtradingopportunities.
Buyingandsellingatthemovingaverageisn'talwaysagoodidea.Ittendstoworkwhenachannelisslantedbutnotwhenitisflat.
■RatingYourself
1. 0-6correct:poor.Notunderstandingtradingsystemsisdangerous—tradingwithoutasystemislikesailingwithout
arudder.Pleasetakethenextfewdaystorereadtherelevantsectionofthebook,andretakethistestbeforeproceedinganyfurther.
2. 7–11correct:fairlygood.
Youhaveaworkinggraspoftheessentialconceptsoftradingsystems.Thislevelofknowledgemaysufficeelsewherebutnotindealingwithtradingsystems.Youmustknow
theminsideout—theyhelpyousurviveandprosperinthemarkets.Pleasereviewyouranswersandlookforyourweakspots.Thenrereadtherelevantsectionandretakethistest.
3. 12–16correct:excellent.Youhavemasteredtheessentialsoftradingsystems.Pleasereviewthosequestionsforwhichyouranswers
differedfromthosegiveninthisbook.Seewhetherthediscrepancieswereduetoerrorsortoyourowntradingstyle.Successfultradersarecreativeandcanhavedifferencesof
opinion.Thenproceedtothenexthighlyimportanttopic—selectingthemarketsyou'lltrade.
■ RecommendedReading1. Kaufman,Perry,TradingSystemsandMethods(Hoboken,NJ:JohnWiley&Sons,2013).
EIGHT
TradingVehicles
1. Answer8-1:CTradingliquidhigh-volumevehicleshelpsreduceslippage.Volatilefast-movinginstrumentsoffermore
opportunities.Itpaystofocusonthemarketswhosemaintradinghoursareclosetoyourowntimezone,sothatyou'reawakewhiletheactionistakingplace.Popularityisn'takeyfactor:
someofthebestopportunitiesoccurinthemarketsthataren'tpopularbutarefinetotrade,aslongastheyhavegoodliquidityandvolatility.
2. Answer8-2:D
Bondsrepresentloans,whilesharesrepresentcompanyownership.You'dhavetobuyagreatnumberofthemtobecomeaninsider.IntheUnitedStates,
formandatoryreportingpurposes,corporateinsidersaredefinedasacompany'sofficersanddirectorsandtheownersofmorethan10%ofitsequitysecurities.It's
adangerousmisconceptiontoexpectthepriceofastocktoriseifthecompanymakesmoney.Ifacompanywasexpectedtoreporta$100millionprofitinaquarterbutannounceda
$70millionprofit,itssharesarelikelytotakeahitfromdisappointedholderswhenearningsarereported.
3. Answer8-3:DWarrenBuffettsaysthatwhen
youbuyastockyoubecomeapartnerofamanic-depressivefellowhecallsMr.Market.Eachdayhewantstobuyyoursharesorsellhissharestoyou.Occasionally,
Mr.Marketbecomessodepressedthatheoffersyouhissharesonthecheap—andthat'swhenyoushouldbuy.Atothertimeshebecomessomanicthatheoffersacrazypriceforyour
shares—andthat'swhenyoushouldsell.Thisis,inanutshell,aremindertobuylowandsellhigh.
4. Answer8-4:AEachETFholdsaselectionof
variousassets,suchasstocksfromspecificindustrygroupsorcountries,commodities,orbonds.WithahugenumberofETFsavailabletotraders,thechoicesarevast,butETF
performancelagsduetoadministrativeexpenses,alwaysoneofthekeyfactorsforlong-termresults.PricesofmanyETFsgrosslydivergefrompricesofassetgroupstheyaresupposed
totrack.5. Answer8-5:I
=B;II=D;III=A;IV=CAcallisabetthatastockwillrise,whileaputisabetthatit'lldecline.Buyinga$40callwhenthe
underlyingstockistradingat$38makesthatcallout-of-the-money:itsentirepricerepresentshopethatthestockwillriseabove$40.Ifandwhenitdoes,thatcallwillbein-the-
money.6. Answer8-6:
COptionslosevalueastheyneartheirexpirationdate;theygainvalueasthestockapproachestheoptionexerciseprice.Options
forvolatilestockstendtobemoreexpensivebecausetheirpricescanswingmorethanthoseoflessvolatilestocks.Howcloselyastocktracksitsindustrygroupisnotafactor
initsoptionpricing.
7. Answer8-7:I=AandD;II=BandC;III=CandDThepersonwhobuysacallcanprofitonlyiftheunderlyingstockrises;ifitfallsoreven
staysflat,thewinnerwillbethetraderwhowrotethatcall.Aputbuyerwillprofitonlyiftheunderlyingstockfalls;ifitrisesorevenstaysflat,theoptionwriterwillprofit.Therearethree
possiblescenariosforanystock:up,down,orsideways.Onlyoneoutofthreeworksfortheoptionbuyer,buttwoworkfortheoptionwriter.
8. Answer8-8:B
Beginbyanalyzingtheunderlyingsecurity,decidewhatlevelit'sunlikelytoreach,andthensellanoptionbeyondthatlevel.Goingonlinetolookupastock'sDeltawillhelp
youidentifythatlevel.Youalsoneedtodecideatwhatleveltheunderlyingsecuritywouldproveyouwrongandpromptyoutoexit.Placinganactualstopforanoptionwouldexpose
youtotherunningofopenorders,whichisacommonprobleminoptions.Betterwritedownyourstopandplaceanordertoexitaftertheunderlyingsecuritygetsthere.
Considerbankingasmallpercentageofyourprofitsinaninsuranceaccountforthedaywhenanoptionyouwrotejumpssharplyagainstyou.
9. Answer8-9:
DThenumberoflongandshortcontractsforeveryoptionandfutureisalwaysequalbydefinition.Ahugedifferencebetweenoptionsandfuturesisthat
ifyoubuyanoptionanditspricemovesagainstyou,youcanabandonitandwalkaway,losingonlywhatyoupaidforit.Thereisnowalkingawayfromfutures—youmusteither
takealossorsendinadditionalmargintosupportadeepeningloss.Allotherdifferencesareminorincomparisonwiththisone.
10. Answer8-10:B
Dailypricelimits,contractexpirations,andlegalinsidertradingarechallengingenough,buttheriskiestfactorinfuturesisthatpeoplecantradethemonverysmall
margins,aslowas5%ofcontractvalue.Whenyour$5,000depositcontrols$100,000worthofacommoditythatmoves5%inyourfavor,you'lldoubleyourmoney.Troubleisthat
ifitmovesagainstyoubyafewpercentagepoints,it'llwipeoutyourmargin.Youmustbeabsolutelydisciplinedandhaveexcellentmoneymanagementskillstoprofit
fromfutures.11. Answer8-11:
I=C;II=D;III=A;IV=BDemandforanycommoditychangesslowly,butthemarketcanreactviolentlywhensupply
becomesthreatened.Spreadtradersbetonaresumptionofnormalmarketrelationships;whentworelatedmarketsgooutofsync,theybuytheunderpricedoneandshort
theoverpricedone,waitingfortheirrelationshiptoreturntonormal.Remotedeliverymonthsarenormallymoreexpensiveduetothe“costofcarry,”suchasstorageand
insurance,butinbullmarkets,whendemandisred-hot,futurescanbecomeinverted,withapremiumforearlydelivery.Hedgingistheeconomicfoundationofthefuturesmarkets:a
farmercansellwheatfutureslongbeforeharvestinghisgrainwhileanairlinecanbuygasolinecontractsmonthsorevenyearsbeforeitneedsairplanefuel.
12. Question8-
12:B(IandII)Theforexmarketiscompletelydecentralized;institutionaltradersdealdirectlywitheachother,usingonlineplatforms.Retail
customerscometogriefwhenforexhousestaketheoppositesidesoftheirordersinsteadoftransmittingthemtothemarket—foryoutowin,theforexhousemustlose.Wildmargins
inthehandsofunsophisticatedtradersturnintoa“get-poor-quick”tool.Forexhousesseldomchargecommissions,butmanyprofitfrompositioningthemselvesagainsttheir
customers.
■RatingYourself
1. 0-4correct:poor.Whateveryoutrade,youneedtounderstandthekeyfactorsaboutthatmarket.Lackingthatknowledge,
you'llbecomeaneasymarkforsharpoperatorsandenduplosing.Pleasetakethenextfewdaystorereadtherelevantsectionofthemainbook,andretakethistestbeforeproceeding
anyfurther.2. 5–8correct:
fairlygood.Youhaveaworkinggraspofatleastsomeclassesoftradingvehicles.Ifallyouranswersaboutstocksoroptionswerecorrectand
thosearetheonlymarketsyouevertrade,thatmightbesufficient.Toobtainadeeperknowledgeofallclassesoftradingvehiclesavailabletoyou,pleaserereadthe
relevantsection,andretakethistest.
3. 9–12correct:excellent.Yourknowledgeoftradingvehiclesisverygood.Pleasereviewthequestionswhoseanswers
youmissedandlookuptherelevantpagesinthebook.Thenproceedtothenexthighlyimportanttopic—riskmanagement.
NINE
RiskManagement
1. Answer9-1:BEmotionaltradingistheenemyofsuccess.Nobodycangethighandconsistentlymakemoney.Atradercan
getawaywithemotionaltradingforashortwhile,butuncheckedgreedandfearwilldestroyanyaccount.Yourgoalmustbetomakethemostintelligenttrades,calmlyweighing
potentialgainsandlimitingrisks.
2. Answer9-2:CWeallliketothinkwe'resmart—takinglosseshurtsouregos.Takingalossmeansgivinguphopethata
tradewillworkout—andnobodylikestolivewithouthope.Goodtradersarerealists;hangingontoalosingtradeisnotasoundtactic.
3. Answer9-3:B
Areluctancetotakealossisasignofemotionaltrading.Addingtoalosingtradeshowsthatthetraderishangingontoafantasyofwinningratherthanfacingtherealityofa
loss.Foraloser,adreamisaliveaslongasheholdshisposition.Infact,ifyouenteredatradeonasetofindicatorsignalsandthoseindicatorsreversed,what'sthe
rationaleforstayinginthattrade?Itisnotworkingout—getouttopreserveyourcapitalandlookforabettertrade.
4. Answer9-4:CAseriesofthreelosses
canwipeouttraderA,buttraderBcansurviveastreakof9losses.TraderAisonlythreethrowsawayfromgoingbust,whiletraderBhasenoughcapitaltosustainhimthrough9
unluckythrows.Allotherfactorsbeingequal,thepoorerofthetwotraderswillgobrokefirst.
5. Answer9-5:B(II,III,I)Thefirstgoalofmoneymanagementis
toensuresurvival.Thesecondistoearnasteadyrateofreturn,andthethirdistoearnhighreturns—butsurvivalcomesfirst.That'showprofessionalstrade;manybeginnershave
theirprioritiesbackwards.
6. Answer9-6:D(I,II,III,andIV)Allofthesemoneymanagementruleshavestoodthetestoftime.Followthem—letyour
competitorsviolatethem.
7. Answer9-7:A(I)Countingmoneyinanopentradeflashesaredlight—awarningthatyouremotionsarekickinginandyou're
abouttolosebecausetheywilloverrideyourintellect.Ifyoucannotgetmoneyoffyourmind,getoutofatrade.Thetimetosetprofittargetsandstoplevelsisbeforethetrade.Thetimetotrackyour
equityisafterthetradehasbeenclosed.
8. Answer9-8:CThe2%Ruledictatesyourmaximumdollarriskpertrade.Twopercentofa$28,000accountis
$560,whichmustcovernotonlyyourriskbutalsoslippageandcommissions.Withastop98centsaway,ifyoubuy500shares,youwillhaveenoughlefttopaycommissions
andcoveranypossibleslippage.Tradingabiggersizewouldbereckless.
9. Answer9-9:B(IandII)It'sdangeroustocountmoneyinopentradesbecause
itleadstothinkingaboutwhatyourpaperprofitswillbuy.That'showpeoplestartdreaming,insteadofmanagingtrades,andlosemoney.Movingatargetor
raisingastopispermitted.
10. Answer9-10:D(I,II,III,andIV)Serioustradersplaceastopthemomenttheyenteratradeandadjustitonlyoneway—inthedirection
ofthattrade.Whenyougolong,youmaykeepyourstopinplaceorraiseitbutneverlowerit.Whenyougoshort,youmaykeepyourstopinplaceorloweritbutneverraiseit.
11. Answer9-11:C(I,II,andIII)Astop-lossorderlimitsyourrisk,butitdoesn'talwaysworkasexpected.Pricesmaygapacrossastop.Astopisn'taperfect
tool,butit'sthebestdefensivetoolthatwehave.
12. Answer9-12:B(IIandIII)TraderAisrisking$400,whilethe2%Ruleallowshimtorisknomorethan$360.TraderB
isrisking$800,whilethe2%Rulepermitshimtoriskupto$1,000.TraderCisrisking$400,whilethe2%Rulepermitshimtoriskupto$800.TraderDisrisking$1,500,while
the2%Ruleallowshimtoriskupto$1,200.TradersBandCacceptbusinessman'srisks,whiletradersAandDareriskingreallosses.The2%Rulesetsaclearlimitonyour
riskpertrade—it'saneasyruletofollow,unlessgreedraisesitsuglyhead.
13. Answer9-13:D(IIandIV)Thetwodeadlyerrorsintradingarenotusingstopsandputtingon
tradesthatriskmorethanyouraccountcanafford.Othermistakesarebadenough,butifyouusestopsandtradeareasonablesize,atleasttheywon'tkillyouraccount.
14. Answer9-14:DTheIronTriangleasksthreesimplequestions:whatisyourmaximumacceptabledollarriskforthistrade?Wherewillyouenterthis
trade?Wherewillyouplaceyourstop?Thedistancefromyourentrytoyourstopisyourriskpershare.Dividingyourtotalacceptableriskbyyourriskpersharewillgiveyouthe
maximumnumberofsharesyoumaybuyorsellshortinthistrade.
15. Answer9-15:CAseriesofevenrelativelysmalllossescanadduptoaserious
drawdown.The6%Ruleprotectsyoubymakingyoustoptradingearlyinadrawdown.Itcreatesacoolingoffperiod:reviewyoursystem,studythemarkets,andreturntothem
thefollowingmonth.
16. Answer9-16:AThe6%Ruledoesn'tconcernitselfwithprofits.Itsjobistomanageriskandlimitdrawdowns.Youwillcount
profitsattheendofthemonth.Ifyourequityhasincreased,boththe2%andthe6%Ruleswillgiveyoumoreavailableriskthefollowingmonth.
17. Answer9-17:B
Lossestraumatizetraders.Returningtothemarketafterabreakyouneedtobegentletoyourself.Reducetheamountofriskyouacceptoneachtrade.Setrealistic
performancetargets,andgraduallyincreaseyourtradingsize.
■RatingYourself
1. 0-6correct:poor.Theredlightison—youdonotunderstandmoneymanagement.Beforeyoumakeanothertradewithrealmoney,study
therelevantchaptersandretakethistest.
2. 7–12correct:so-so.Therearegapsinyourunderstandingofriskmanagement.Thistopicistooimportanttosettlefor
anythingbutthetopscoreonthistest.Pleasereviewyouranswerstothequestionsthatyoumissed,reviewtherelevantchapters,andretakethistestafewdayslater.
3. 13–17correct:excellent.Youhaveaworkingcommandoftheessentialmoneymanagementrules.Reviewthequestionswhereyouranswers
differedfromthoseinthisbook.Moneymanagementsetsaprotectivewallaroundyouraccount.Lookforeverygapinthatwallandplugitup.
■ RecommendedReading1. Vince,Ralph.PortfolioManagementFormulas(Hoboken,NJ:JohnWiley&Sons,1990).
TEN
PracticalDetails
1. Answer10-1:BDependingonhowbullishyoufeel,youmaybuyabreakoutaboveyesterday'shigh,apullbackto
value,orapenetrationofthevaluezonetothedepthatwhichpreviouspullbacksbottomedout.Itisgenerallynotagoodideatogolongabovethechannel.Theupperchannel
linemarksthezonewherebullishnessbecomesmanic,andeventhoughitmaycontinue,itismorelikelytoreverse.
2. Answer10-2:BWhenthe
trendisup,itmakessensetobuypullbacksbelowvalue.Theaverageofthepreviousthreemonths'penetrationswaslessthan$3.Thereisnopointinbeinggreedyandtryingtonailthevery
bottomofapullback—catchinga$1penetrationwouldbemorereliablethana$3one.
3. Answer10-3:AAwell-designedchannelcontainsthe
majorityofmarketswings,makingitsupperboundaryagoodtargetforrallies.Atradethatcaptures30%ofthechannelheightearnsanA.Inanuptrend,weshouldexpectpricestorise
byagreateramountabovetheEMAthantheydippedbelowitonapullback.Bythetimethemovingaverageturnsdown,apaperprofitmayturnintoaloss.
4. Answer10-4:
DWithlong-termpositiontrades,onehastobeleeryofusingsuchprofit-takingtoolsasmovingaverages,envelopes,andindicatordivergences.If
youplantoholdforseveralmonths,thosesensitivetoolswouldgetyououtofthetradetoosoon.It'sbettertosetprofittargetsusingsupportandresistancezones.
5. Answer10-5:CSettingstopsandprofittargetsallowsustocalculatereward/riskratios.Totheannoyanceofmosttraders,whipsawshappen,asmarkets
reverseintheirfavorrightaftertheygotstoppedout.Stopsprovidegenerallyreliablemeansofprotectingyouraccount,butunfortunately,don'tguaranteelimitingyourmaximumrisk
becausepricescangapacrossstoplevels.
6. Answer10-6:C(I,II,andIII)Placingstopsoutsideofthezoneofmarketnoisehelpsreducewhipsaws.Channels,
SafeZone,andATRsdrawthelinebetweennormalandabnormalswings,eachinitsownway.Notsosupportandresistance:buyingveryclosetosupportstill
exposesustomarketnoise.
7. Answer10-7:D(I,II,III,andIV)Stayawayfromthecrowd:ahighlyvisiblepriceextremeattractstoomanystops.Sodoround
numbers.Placeyourstopsslightlyawayfromboth.Astopisariskmanagementtool,andasatrademovesinyourfavor,youcanrelocateyourstoptoprotectashareofyour
profit.Nevermoveyourstoptogivemoreroomtoalosingtrade.
8. Answer10-8:CWhengoinglong,youwanttobuyasclosetothelowofthebarandasfarfromthe
highofthebaraspossible.Therangeofthedaywas$2($23minus$21).Youbought$1.50awayfromthehigh.Dividing$1.50by$2showsthatyourgradewas75%—excellent!Any
buygradeabove50%isgoodbecauseitshowsthatyouboughtinthebottomhalfofthebar.
9. Answer10-9:AYouwanttosellasclosetothetopofthebarandasfar
fromthelowofthebaraspossible.Therangeofthedaywas$3($29minus$26).Yousold$1awayfromthelow.Dividing$1by$3showsthatyourgradewas33%—so-so.Agoodsell
gradewouldbeabove50%,meaningyousoldinthetophalfofthebar.
10. Answer10-10:BOfthethreegradesforeverytrade—buy,sell,andoveralltradegrade—the
tradegradeisthemostimportant.Sincechannelsaredrawntocontain90to95%ofrecentprices,theheightofthechannelonthedayyouenterreflectsarealisticmaximum
availablegain.TakingonethirdormoreofachannelearnsanAgradeforthetrade.Inthisexample,youtook$2outofa$6channel—verygood!
11. Answer10-11:C
Agoodscancanfindagroupofcandidatesonwhichtofocusyourattention,butitdoesn'tguaranteeprofitabletrades.Beginbydefiningthepatterntolookfor,andthencastyour
scanningnetaswideorasnarrowasyoulike.Startoutscanningasmallgroup,andyoucanexpandlater.
12. Answer10-12:AYouhaveunlimitedchoicesin
settingupscanparameters.Youmayprogramittoexcludestockswhosevolumeistoolow,whosepricesareoutsideofyourpreferredrange,orwhosetrendclasheswithyourcurrent
marketview.Whatyoucan'tdoisfilteroutunprofitablestocks—thisissomethingyoutakeyourbestshotatduringthefinalreviewprocess,whenyouanalyzethelistofcandidates
deliveredbyyourscan.
■RatingYourself
1. 0-4correct:poor.Thisscoreiswaytoolowforatrader.Thismaynotmatterforatheoreticalanalyst,butatradershouldrereadthe
relevantchaptersandretakethetestbeforegoinganyfurther.
2. 5–8correct:fairlygood.Therearegapsinyourunderstandingofpracticalconcepts.Itisimportantto
knowhowtosetentries,targets,andstops,andhowtomeasureyourperformanceineverytrade.Pleasereviewyouranswerstothequestionsthatyoumissed,rereadthe
relevantchapters,andretakethistestafewdayslater.
3. 9–12correct:excellent.Youhaveaworkingknowledgeofsettingupentries,targets,andstops,and
measuringyourperformance.Differenttradersusedifferenttactics—pleasereviewthequestionsforwhichyouranswersdifferedfromthoseinthisbooktosee
whetheryou'vemadeamistakeoritwasanhonestdifferenceofopinion.
ELEVEN
GoodRecord-Keeping
1. Answer11-1:CKeepinggoodrecordswillhelpyoulearnfromyourexperiences,improvediscipline,andreduceimpulsivity.It
willnotpreventyoufrommakingmistakes,butit'llhelpyoulearnfromthemandstoprepeatingthem.
2. Answer11-2:BReviewingyesterday's
performanceandadjustingstopsareimportant,butthepurposeofmorninghomeworkistofocusonfactorslikelytoberelevantfortoday'strading.Theymayincludethebehaviorof
theovernightmarkets,reviewoffundamentalreportsscheduledforreleasetoday,andallotherfactorsmeaningfultoyourdecisionmaking.
3. Answer11-3:
B(IIandIII)Therearedayswhenyourhealth,mood,andhomeworkmakeyouwell-preparedfortrading.Therearealsodayswhenyourhealthbothersyou,yourmoodis
gloomy,andyou'vedonelittleifanyhomework—onthosedaysyoushouldn'ttrade.Aquickself-test,tailoredtoyourpersonality,cangiveyouanobjectivemeasureof
yourreadinessfortrading.Don'tincreasetradesizewheneverythingisperfectbecauseonsuchdaysanychangecanonlybefortheworse.
4. Answer11-4:
DYouneedtodefinethestrategyyou'lluseforatradeandsetupyourentry,target,andstop.Allocatingasetamountofrisktoatradewillallowyou
tousetheIronTriangleofriskcontroltodecidehowmanysharesorcontractsyou'lltrade.Itisbetternottocountprofitsuntilatradeisclosed—concentrateonquality,andthemoneywill
follow.5. Answer11-5:
B(IIandIV)ThestructureofatradeApgarissimple:nomorethanfivequestions,withnomorethanthreepossibleanswerstoeachofthem.
AtradeApgarleadsyouonaquickreviewofwhetherastockdeservesatradeplan.Ifnot,moveontothenextcandidate,butifyes,thenworkupadetailedtradeplan.
6. Answer11-6:D(I,II,III,andIV)ATradebillisakeyplanningandtrackingdocumentforatrade.Youneedtoidentifythestrategyyou'lltrade;settheentry,target,
andstop;allocaterisk;andcalculatethetradesize.Italsoneedstoincludewrittenremindersoftheessentialfactors,suchasthedatesofearningsreports.
7. Answer11-7:
C(I,II,andIII)It'sessentialtodocumentyourstopsaswellasthelevelsatwhichyou'llmovethemtobreakeven.Suchdecisionsarebestmadeveryearlyinatrade.Same
withthediary—documentyourentrywhilethememoryisstillfresh.Itisbetternottocountprofitswhileatradeisopen—concentrateontrademanagementandcount
profitsafteryouexitatrade.
8. Answer11-8:DMostprivatetradersworkinisolationandreceivenofeedback.Thismakesreviewingyourpasttradesan
especiallyvaluablelearningdevice.ThereisaRussiansaying:“Don'tsteponthesameraketwice.”Whenyousteponarakelyinginthegrass,itstandsupandhitsyouonthe
forehead.Itcanhappentoanyone,butdon'tsteponitagain.Reviewingpasttradeshelpsyourememberwherethoserakesare.
9. Answer11-9:C
Alloftheactionslistedinthisquestionareimportant,butthemosteducationaloneisreturningtoeachtradeseveralweeksorevenmonthsafteryouexitedit
andreviewinganupdatedchart.Bythen,trendsandreversalsareclear,youcanseeexactlywhatyoudidrightorwrong—andusethoselessonsgoingforward.
■RatingYourself
1. 0-3correct:poor.Goodrecord-keepingisattheheartoftradingsuccess.Pleaserereadtherelevantchapters,andretakethetest
beforegoinganyfurther.
2. 4–6correct:fairlygood.Goodrecord-keepingisdirectlylinkedtobettertrading.Itisafairlysimplebutessentialskill—don'tsettlefora
“fairlygood”rating.Reviewyouranswerstothequestionsyoumissed,rereadtherelevantchapters,andretakethistestafewdayslater.
3. 7–9correct:excellent.
Youhaveaworkingknowledgeofrecord-keeping.Pleasebesuretoimplementit—startkeepingatradingdiary.It'llrepayyoureffortsandserveyouwellforyears
ahead.
Afterword
Now that you have testedyourknowledgeoftradingby
using this book, you're betterprepared for the biggest testofall—tradinginthemarkets.Financial trading is a never-ending test of your ability tothink straight under stress,make intelligent andunemotional decisions, andstay in control of the moneyinyouraccount.This book has given youseveral rating scales formeasuring your skills; it has
provided a reading list andhasallowedyoutoretakethetests that you failed at first.Themainratingscaleofyourmarket performance will bethe slope of your equitycurve.Thebestcurvesshowasteady growth of an account,with small drawdowns. Youneed to keep track of yourequityandstoptradingfortherest of the month if it dropsmorethan6percentfromtheend-point of the preceding
month.Be sure to keep a diary ofyour trades, including notonly dates, tickers, and sizesbut also charts and yourpersonalcomments.Thiswillhelp you learn from yourexperiencesandimproveyourperformance.I keep all my records in aTrade Journal atSpikeTrade.com, whoseformat has been sharpened
and polished over the years.Even if you want to designyour own record-keepingsystem, take a good look attheTradeJournal to seehowa good system should lookandwork.Keep quiet about your tradeswhile they are open. Talkingabout open positions isdangerous because it putsyour ego on the line.Once atrade is closed out, you can
benefit from the opinions offriendsyourespect.Thefactthatyouinvestedthetime and energy in studyingand taking the tests in thisbook shows that you areserious about trading.Continue to study themarkets, keep your cool, andfocus on growing youraccount equity with minimaldrawdowns. I wish yousuccess in fulfilling your
dream—tradingforaliving.
Dr.AlexanderElderNewYork—Vermont,2014.
Sources
This Study Guide is basedontheauthor'sbookTheNew
Trading for a Living(Hoboken,NJ:JohnWiley&Sons, 2014). In addition, thefollowing books containuseful information for adeeperunderstandingofthesequestionsandanswers:1. Belveal,L.Dee,ChartingCommodityMarketPriceBehavior(1969)(Homewood,IL:BusinessOneIrwin,
1985).
2. Douglas,Mark,TheDisciplinedTrader(NewYork:NewYorkInstituteofFinance,1990).
3. Edwards,RobertD.,andJohnMagee,TechnicalAnalysisofStockTrends(1948)(NewYork:NewYorkInstituteofFinance,1992).
4. Elder,Alexander&KerryLovvorn,TheNewHigh—NewLowIndex(Alabama:SpikeTrade,2012).
5. Kaufman,Perry,TradingSystemsandMethods(Hoboken,NJ:JohnWiley&Sons,2013).
6. LeBon,Gustave,TheCrowd(1897)(Atlanta,GA:Cherokee
Publishing,1982).
7. Lefevre,Edwin,ReminiscencesofaStockOperator(1923)(Greenville,SC:TradersPress,1985).
8. Mackay,Charles,ExtraordinaryPopularDelusionsandtheMadnessofCrowds(1841)(NewYork:CrownPublishers,1980).
9. Murphy,JohnJ.,TechnicalAnalysisoftheFinancialMarkets(NewYork:NewYorkInstituteofFinance,1999).
10. Neill,HumphreyB.,TheArtofContraryThinking(1954)(Caldwell,ID:CaxtonPrinters,1985).
11. Pring,MartinJ.,TechnicalAnalysis
Explained,5thedition(NewYork:McGraw-Hill,2013).
12. Vince,Ralph,PortfolioManagementFormulas(Hoboken,NJ:JohnWiley&Sons,1990).
AbouttheAuthor
Alexander Elder, MD, is a
professional trader andteacher of traders. He is theauthorof severalbest-sellers,considered modern classicsamong traders. He has alsowritten books about RussiaandNewZealand.Dr. Elder was born inLeningrad and grew up inEstonia, where he enteredmedical school at the age of16.At23,whileworkingasaship's doctor, he jumped a
Soviet ship in Africa andreceived political asylum intheUnitedStates.HeworkedasapsychiatristinNewYorkCity and taught at ColumbiaUniversity.Hisexperienceasa psychiatrist provided himwith unique insight into thepsychologyoftrading.Dr. Elder is an active trader,buthecontinuestoteachandis a sought-after speaker atconferences in the United
States and abroad. Dr. Elderis the originator of Traders'Camps—week-long classesfor traders.He is the founderof SpikeTrade group, acommunity of traders whosemembers share their beststock picks each week incompetitionforprizes.Dr. Elder's websites arewww.elder.com andwww.spiketrade.com.
WILEY END USERLICENSEAGREEMENT
Go towww.wiley.com/go/eula toaccessWiley’sebookEULA.
TableofContents
ABOUT THIS STUDYGUIDE
PART I: QUESTIONSRATINGSCALES
IntroductionONE: IndividualPsychologyTWO: MassPsychology
THREE: ClassicalChartAnalysisFOUR:ComputerizedTechnicalAnalysisFIVE: Volume andTimeSIX: GeneralMarketIndicatorsSEVEN: TradingSystemsEIGHT: TradingVehicles
Note
NINE: RiskManagementTEN: PracticalDetailsELEVEN: GoodRecord-Keeping
PART II: ANSWERS ANDCOMMENTS
IntroductionRatingYourself
ONE: IndividualPsychology
Rating
YourselfRecommendedReading
TWO: MassPsychology
RatingYourselfRecommendedReading
THREE: ClassicalChartAnalysis
RatingYourselfRecommended
ReadingFOUR:ComputerizedTechnicalAnalysis
RatingYourselfRecommendedReading
FIVE: Volume andTime
RatingYourselfRecommendedReading
SIX: GeneralMarketIndicators
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SEVEN: TradingSystems
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EIGHT: TradingVehicles
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NINE: RiskManagement
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TEN: PracticalDetails
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ELEVEN: GoodRecord-Keeping
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