While taking a technical analysis course it must be pointed out that as more and more market participants attempt to predicate every action on chart rules, the accumulative effect of those similar actions self-creates price fluctuations which might destroy much of the validity of all chart techniques.
As a chartist, you have lots of company. There are literally thousands of people charting exactly the same movements as you are. Thus when a major move is signaled, you are liable to have a lot of the same orders as yours hitting the trading pits. In particular, the placing of stop-loss orders at identical points by hundreds of chartists, may create false penetrations of trend lines and other formations. Charting is inevitably to some extent an inexact science.
It is a matter of choice what scale the chart is on and whether the mid-price or closing price is used. To plot price movements, both can be distorted. The latter is the most often used, but as it cums at the end of the day it is associated with a lot of profit-taking etc. Moreover, dynamic and unforeseeable events may play havoc with charts.
Charting is to some extent a lazy approach. The neat clinical look of a sheet of paper appeals to the many weaker brethren. Who have no time or inclination to delve deeper. Most people like to think it is more productive to look at all the wiggle-waggles. As technical analysis spreads, it will commence to defeat its own purpose, particularly in a ” thin ” market.
It is important to realize that if enough traders are using the usual chart interpretations to trade a given commodity, it will influence the price of that commodity in the direction chartists expect prices to move. Chart followers can prove their own theories right. While a pure chartist does not wish to know a thing about fundamentals, a wise trader will try to combine futures trading from both strategies. No chart formation is completely reliable. One must seek confirmation from other indicators, such as changes in production from year to year, variation in business cycles, and deviation in commodity prices or any other quantifiable sum, reduced to a single summary figure to register all diverse activities.
Often the commodity goes completely contrary to fundamental considerations due to technical and other factors. To succeed the chartist must be ready for thorough study and hard work and develop experience. It is an art because of its skill and the finesse and experience of the technician. These are without doubt the essential ingredients of profitable trading. The technician must constantly check and re-check.
Another weakness from charting stems from the belief that although all the facts of a commodity situation are known to the speculator these facts are also known by large trading houses and other professionals.
In reality, however, certain events can occur unexpectedly and affect all traders. Prices may not have completely discounted these occurrences, in which case the chartist may be caught off-guard and there is very little left that can be done to protect a position in such a situation except to be alert to recognize sudden change in the market trend and to be quick to act. (How about a hurricane carrying all the oranges into the Atlantic.)
Technicians are famous for making spectacular profits one week and enormous losses the next. It is a fact of life that prices will not fluctuate according to what their past performance dictates, although you do get some idea on a day to day basis with P&L charting.
The advisability of most systems is indictable because of the absence of a track record. Any approach must be regarded as unprofitable until it has proved otherwise. To be perfectly candid, there is very little objective explicit evidence available to support the commonly accepted rules of chart analysis. Many chartists tend to anticipate trends. This is a fallacy. One cannot assume or recognize a trend that does not exist. In attempting to utilize a trend following method, one must wait until the trend has demonstrated itself. Even then, the chartist’s motto with regards to a trend is that a trend continues until it stops. Once again, he attempts to anticipate the direction of a trend reversal as it evolves. This is impossible. One can only be aware of the new trend evolving as it occurs. Most technical systems cannot anticipate an trend or trend reversal. It can anticipate the likelihood of a trend developing, but only until the trend has evolved does one exist. (Am I right or wrong – think about it!)
If unexpected moves happen, many technicians have to start all over again. After a series of discouraging losses, many traders have abandoned their technical studies because they just don’t work. As it is a fairly common phenomenon, is further proof that there are no short cuts to trading success and no substitutes for experience, knowledge and hard work.
All we know for sure is that prices will fluctuate, but not how much.
Only in congestion areas are you protected because the congestion area defines you’re projection of losses. Prices fluctuate in congestions. Any technical approach that attempts to analyze congestion areas, and evolves a trading method therein, will provide the trader (and his broker through lots of commissions) glorious profits, as commodity prices are in congestion, one form or another 85 % of the time.
The universal problem known to the professional and novice alike is when to get in and out of the market. On this basis, technical analysis must encompass to a considerable degree the short term price fluctuations (Another plug for P&L charting).
The above material is excerpted from the book “How to Make Money in the Futures Market… And lots of it.” By Charles Drummond (Copyright © 1970 by Charles Drummond. All rights reserved).
Charles Drummond is a Canadian trader who has written nine books about trading and has created a method of technical analysis called “Drummond Geometry.” His biography and further information about his work can be found at the technical analysis course website. His complete body of work is contained in the technical analysis course.