Last week I mentioned some useful indicators to target the end of a move. The FTSE 100 overbought / oversold condition can be measured with three indicators: 34-day BTI, 13-day BTI and Top 20 Differential. These are my proprietary indicators and they are all reliable.
Difference between the three indicators
Basically 13-day BTI and Top 20 Differential warn of a short term move lasting a few days. The 34-day BTI warns of a move lasting longer (more than 2 weeks). The other difference is that the 34-day BTI is not considered a timing indicator because the expected move may not start immediately. Indeed, there have been some occasions where it took one or two months before the move started. People who use the 34-day BTI for timing will use a wide stop loss, if the expected move does not start immediately you need to give the market room to move. The advantage of being short when this indicator has given a signal is 1) a decline is nearly guaranteed, 2) the profit will be large. As the move will unfold over a long period of time (more than two weeks), normally the profit will be significant if you are on the right side. So you may get into the move a bit early with the 34-day BTI but the reward is huge. 34-day BTI vs FTSE 100
Here is the chart of 34-day BTI since April 2013, with the FTSE 100 as overlay (solid dark line). Each time the 34-day BTI rises above 400 the FTSE 100 becomes overbought and each time a decline follows.
Key dates when 34-day BTI rose above 400
22 May 2013: the decline in the FTSE 100 started immediately, the index lost nearly 11% in a month. 19 November 2013: the decline was already underway, the FTSE lost 4% in nearly a month. 19 May 2014: the decline started ten days later, the FTSE lost 4.5% in two months. 10 February 2015: the decline started two months later and the FTSE lost 17% in four months. 23 October 2015: the decline started immediately, the FTSE lost 14% in less than four months. 21 July 2016: it's been a month since the indicator rose above 400, a significant decline has yet to materialise.
Of course I trade short term so when a decline is underway I will not sit on a trade for months. I will use the other indicators, 13-day BTI and Top 20 Differential, to take profits when these indicators become oversold. For example if I am short based on the 34-day BTI and the 13-day BTI becomes oversold, I will close my short and wait for a bounce before going short again. That was the right approach during the decline from October 2015 to February 2016. There were huge rallies during the decline and going in and out was the right thing to do.
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When the market is stimulated the moves up will extend and the pullbacks will be short lived. This means if you want to go long you must do so early otherwise there is a good chance you will miss the rally. In this environment it is risky to go short, what is overbought becomes more overbought. If you want to go short, you must delay your trade i.e. wait as long as possible before shorting.
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If you are a short term trader you need good timing to profit from rising and falling prices. I have developed some reliable indicators to help you and these indicators work well in any condition, stimulated or non-stimulated. Using my indicators and applying Elliott wave analysis has helped our members more than double their money in the last 16 months (trading FTSE 100 and options).
Non-stimulated market: Elliott wave
A non-stimulated market is a normal market where central banks have little or no influence on the market. The FTSE 100 will be affected by economic reports, earnings and sentiment. In a non-stimulated market the Elliott wave is the primary tool and the BTI is the secondary tool. The BTI is a sentiment indicator used to assess the direction of the FTSE 100. Basically in this environment the Elliott wave will be accurate enough to forecast the market, I will use the BTI to confirm the Elliott wave. When the two tools point in the same direction the odds of making a profit are high.
Stimulated market: BTI
A stimulated market is one that is boosted by monetary policy. Here the central bank will provide stimulus / quantitative easing, this is what we are currently witnessing in the UK. In such a market I will give more importance to the BTI. In this environment the BTI is the primary tool and Elliott wave is the secondary tool. The strategy here is to follow the direction given by the BTI and trade in that direction, the wave count becomes the secondary tool to support the BTI. For example the BTI turned up on 29 June and has been rising ever since. This suggested the FTSE 100 would rally, the BTI was spot on and this explains why the BTI is the primary tool to forecast the stock market when the market is stimulated.
When the BTI is rising it is not recommended to go short, however the only time we can go short with a rising BTI is when the timing indicators (13-day BTI, 34-day BTI, Top 20 Differential) are overbought. I will discuss these indicators in my next article, basically these indicators identify important turning points. When they are overbought the FTSE will decline. For example right now the 34-day BTI is overbought.
If you have been confused by the recent rally I suggest you subscribe to www.bettertraderpremium.com or www.e-yield.com my research and analysis will greatly improve your performance. And you don't need to interpret my indicators, I will always tell you when it's time to buy or sell.
The rally extended once again, this time the FTSE 100 was boosted by rising oil prices and a declining pound. With regards to the most probable scenario nothing has changed, the wave count together with the indicators point to a short term decline.
I mentioned that the FTSE was strong despite the declining oil price, this occurred because the GBP/USD was declining. When the pound goes down it boosts the profits of FTSE 100 companies. If earnings improve due to the exchange rate, valuations will go up and the FTSE 100 will go up. So when oil rallies as well you get a double boost. Oil is not the issue because it won’t jump to 60 or 70 in a matter of days or weeks and to a certain extent it’s the same thing with the pound, it won’t collapse once again. We had the bulk of the decline after the referendum and now I expect some smaller fluctuations so I think when people use the price of oil and GBP/USD as an excuse to buy FTSE stocks I think it’s for the wrong reason and the rally in the FTSE is now overdone.
They forget that China is slowing, for example today’s Chinese industrial production was lower than expected. What’s going on in China is more important than the pound because if a UK exporter earn more selling to China because the pound is lower, this UK exporter could earn a lot less if China goes into a recession.
The rally in the FTSE 100 extended following a better than expected GDP number and rumours the Bank of Japan will announce a new stimulus package. Later in the evening the index pulled back after the release of the FOMC meeting minutes. The Fed kept interest rates unchanged but suggested a possible rate rise after the summer. This was expected because the US economy has been doing better. The question is will the S&P continue higher after the summer given the new cycle of rising rates and high valuations?
The S&P is trading at 17.2 times expected earnings which is high by historical standards. This combination of factors will cause the rally to stall, this should coincide with the end of the Elliott wave. Right now there is still upside potential, last night Facebook and Apple posted better than expected earnings and the stocks were sharply higher.
The fact that Japan will announce a new stimulus package 27 years after its stock market peaked is a clear indication that monetary policy on its own does not work. How many stimulus packages has Japan introduced in the last 27 years? I have not researched the numbers but I guess the Bank of Japan has been fighting deflation since 1989 and without success.
The Japanese stock market is down since 1989 and the economy is still weak, Japan is still in a deflationary cycle with negative interest rates. And Europe is going the same way, with negative interest rates and weak growth.
In the UK economic activity has deteriorated sharply in the last four weeks and there are rumours the Bank of England will introduce negative interest rates, like in Japan and Europe. The only difference is that inflation will go up as a result of the decline in the pound.
After the strong rally of the last five weeks the FTSE is losing momentum because the index is overbought. It is in the final wave up and this move is nearing an end. The top will be near 6800. I expect a move down to the 6600 area in the next few weeks.