Think3x Investing Blog

One recommendation that I have seen quite often is the use of overlayed charts of correlated pairs. The idea is pretty simple: you put the pair (e.g. AUDUSD and NZDUSD) on a single chart. If the charts are at first separate but later joined, you enter a trade with the assumption that the since the are correlated, eventually the prices are going to separate again. There are several problems with this assumption, but in this article I am going to discuss just the simple one: visualization problem in charting. Due to difference in the scales for different pairs, sometimes you see a crossing in the chart which do not exist in real price action. Let me illustrate with some charts.

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As discussed in part 1, underlying any correlated pair of currencies, there is a correlating currency that correlate the two in the pair. An example used in part 1 is the pair GBPJPY and USDJPY. They are highly correlated, and the underlying correlating current is GBPUSD. Correlation investing strategy says that you can buy or sell GBPJP and USDJPY at the same time, and because of the high correlation, they move in the same direction until you get some “window of opportunity” when by some known or unknown market reasons, the prices diverge, and you can make a profit out it by entering or exiting your trade. We will try to examine how good correlation investing is (or is not).

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Many years ago I was introduced to the concept of correlation and its use on Forex. I tried it and frankly had some success with it. Basically I picked a pair whose price actions correlated well with each other and trade them simultaneously as if they were one entity. Most of the time the prices moved together in the same direction, so there wasn’t much gain or loss. Occasionally they differed in direction. If both were gaining, I sold both off and kept the profit. If both were losing, I watched until I felt they had diverged far enough, then I entered more positions. The underlying assumption was since the pair was correlated, eventually they will converge, so entering while they diverge would allow me to have some gain later when they converged. Most of the time the system worked.

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In this article we are going to look at some common uses of momentum oscillator, specifically the Rate-of-Change (ROC) oscillator. The use of Relative Strength Index (RSI) is similar and will not be disccused here. As in the case for moving average, we will try to examine each case by “translating” the statement into English and then see if they make sense at all.

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In order to succeed in any investment or trading, be it buying a security or opening a restaurant or having a share in a local ice-cream store, you have to know exactly what you are doing instead of simply relying in a number of a set of numbers.

In this article we are going to look at the momentum oscillators. My belief has always been that in order to use an indicator/oscillator properly, you need to truly understand what it is and how it is computed and what it means practically (and that is different from how to use it magically). You cannot use any indicator as a magic tool as in buying or selling if the momentum is above or below a certain value.  There is no such magic number. Each tool must be used with proper understanding.

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This is a 6 month daily chart of a stock. It is recent (up to yesterday). The 15 day 30 days moving averages are also shown in the chart. The vertical grids show months starting from Feb. 2010. There are a couple of nice crossovers… as nice as those usually shown in textbooks or articles promoting the use of moving averages. My question for you is as simple as this: do you think we should buy or sell now?

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If you have read any of my posts on moving average, you know I dislike or discourage the use of moving average in making decisions. In this post I will discuss a use of moving average which I consider reasonable because it is using moving average (a chart of past data) to get a feel of what has happened in the past. This is certain more reasonable that using the past to blindly predict future.

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In my previous post I talked about the logical fallacy of using moving average. Basically it goes like this: if it rains, the ground gets wet. A wrong conclusion is made if one says if the ground is wet, it is raining or it must have rained. In using moving average, the fallacy is even worse as one often says “if the ground is wet, it is going to rain….”

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I will start my first blog on moving average, which I think it is a much abused and misused indicator. If you have read anything on moving average, you must have noticed that most authors tell you that it is a lagging indicator, i.e. it only tells you what has happened in the past. Yet most author will then describe, usually in the same article, how moving average can be use to predict future!

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