Technical analysis in bitcoin trading

Tags: notes, bitcoin, and wyckoff


books

Notes from a book that seems to be suitable for bitcoin traders - a lot of psychology, the Wyckoff method plus a Twitter recommendation of @bbands.

Posted on 24 January, 2017

Whenever the market is ranging and going nowhere and whenever you’re just out waiting for the next setup, instead of trying to bet on the next move without any substantial reason as to where it will go it might be better to actually read up instead of trading the chop.

Here are some notes from a Henry Pruden book (“The three skills of top trading”) - take it for what it’s worth and make your own opinions.

Henry Pruden - The three skills of top trading

On studying multiple indicators

Whenever you watch a bitcoin TA video on Youtube you’ll see the author will look at multiple indicators. When there are multiple indicators pointing to the same price action target the author will say it makes the prediction more likely because when several indicators say the same thing it won’t be a coincidence.

One thing you’ll want to check though is whether the indicators are of different kind. If they are all, say, momentum indicators (RSI, StochRSI, SMA) they will show the same thing because they measure the same thing. That doesn’t make the prognosis more valid though.

One should be looking for indicators of different segments:

Indicator segments

PRICE - Current price and the short term price development.

  • Rising or declining momentum
  • Is the market trending or ranging?
  • Was there a price action climax? A climax can be as a sign of impending reversal (parabolic rise, abrupt slide-ish drop). If you draw PnF charts, that’s the time of PnF pole warning.

VOLUME - There is the gross indicator of actual trade volume and more refined indicators like OBV.

  • Volume shows the bandwagon-ish behavior of the crowd.
    • Rise in volume that results in a big price jump means more action in that direction is to follow in the very near future.
    • If only volume rise but price stays pretty much flat and wicks back into a flat range, the direction might reverse soon. The explanation for this phenomenon is that volume of new orders is getting eaten up by the other side of the crowd (for instance, dip buyers might prevail and the trend will start bottoming out).
  • OBV can help predict future price movement based on the idea that volume precedes price action.

TIME - Unless you are trading the 1M chart it is wiser to research future important events to make a projection and then focus on those significant dates rather than giving more significance to what is happening each day. All days are not made equal.

There are two kinds of time:

  • Static time = market cycles (like the “sell in may” situation of summer doldrum or quarterly cycles due to the big BTCUSD quarterly futures market). The cycles can be well spotted on slow moving averages plotted back half their timespan (which filters out the fluctuations and removes the lag). One cycle is a “wave” from bottom to bottom.
  • Dynamic time = typical “dynamic wave” on a stock market goes on for about 50 months (4 years) from bottom to bottom. There should be three cycles of about 17 months in it. Those contain 6 smaller quarterly cycles. Each dynamic segment has a current maximum price that is realistically possible - that means if market reaches this price level faster the cycle will be shorter. Then there’s the life cycle or life span of the market - that is in case of bitcoin the famous adoption curve. The life cycle helps to form a baseline and to determine the maximum realistic price.

SENTIMENT - This is the opinion of the less informed public, the most elastic indicator which changes fast.

Sentiment is influenced by the following elements:

  • Fear, Greed, Reaction to news, Expectations

  • The Adoption - Diffusion cycle. Information about value moves from insiders to more skillful observers, from them to less skillful observers, the general public and at last to the outsiders. Outsiders getting in marks the end of the cycle - the laggards are always buying when the value is lost.

  • The crowd psychology. People who are of similar thinking and read similar information will converge to similar decisions. They form groups based on the level of their skill and insight, as seen in previous point: innovators and insiders, smart money (value investors), laggards. The sentiment analysis aims at identifying who is in which group and how he trades. Each trend begins as an imbalance between insiders and the group of retail traders or purely technical investors with no insight and not enough power to move the market. That’s how the popular term of contrarian indicator came about: technical advisory services might be good place to look for contrarian indicator because when it’s in the news it’s already too late to trade it and when most small people claim they’re short it’s time to long. The danger here is there is a psychological barrier to hold a contrary opinion and to resist the pull of the crowd.

When there are multiple indicators of each one of these groups pointing at one direction one should start closely watch for an entry. That needs a general idea (longer timeframes) but also hunting for the entry point on short time frames.

ENTRY

An ideal trade is started by watching for the setup (prognosis of a direction with a target), waiting for the trigger and finally entering the market. Once the position is open one should closely monitor it to see if it indeed is in the green. If so, set a trailing stop. If not, cut your losers short and abort the trade.

Wyckoff provides “tests” for a good entry:

Long entry on accumulation

Short entry on distribution

EXIT

Other than aborting or getting stopped out there are three possible exits according to Wyckoff.

  • Exit on mad parabolic shit / massive slide (price action climax in the correct direction). Everyone is either greedy or fearful, “all bets are off” etc, you don’t see any reversal signal but it is probably close and the reversal will be too abrupt for you to get out once it is in. This exit needs mostly price and volume indicators and you should also watch open whale liquidations.
  • Exit on signs of reversal (combination of a volume indicator, rejection on resistance line, fundamental news, divergence and so on). This will be difficult due to emotions, namely greed. This is the situation when one wants to think it will keep going forever.
  • Exit from a trailing stop loss - passive approach but a stop should always be there to manage the risk.

Trader seeking value rather than gamble should not waste time on the chop:

More on the Wyckoff Method

The five steps of the Wyckoff method

Read more on it on StockCharts

  1. Determine the current situation and most likely near future
  2. For a long, pick stocks that are stronger than the market
  3. From the strong stocks select those that are in (re)accumulation phase (bottoming or consolidating in a strong trend)
  4. Determine how long it will take for the stock to move
  5. Watch for entry and decide on target

That means it is all about personal judgement which needs skill and experience. There is no fool-proof method that just works, every trader needs to develop their own feel for the market.

JOC (Jumping the creek)

JOC or Jumping of the creek is a story intuitively explaining the anatomy of the break upwards to a new price level.

The phases of JOC:

  • Accumulation or re-accumulation (if we remain in a strong uptrend)
  • A terminal shake-out at the end of the accumulation phase
  • A minor sign of strength as the market jumps across the minor creek
  • Major sign of strength as the market jumps the creek
  • A retrace to the edge of the creek (2nd test)
  • The last point of support which gains momentum for the jump
  • A spring - strong bounce off the support line
  • Finally the mark-up phase (“pump”)

Being out of the market

The Henry Pruden book also explains that the way you spend the time when you are not trading is important as well. If you don’t take any time off your judgement will go south and you will lose your insight. And even if it is not exhaustion - if you are missing adrenaline and adventure and thrill you should get some play time off the charts. If you are positive you are happy living for the charts only then so be it but most of the traders are not this way. If you miss the thrill you will be looking for the adventure in your trades which won’t be profitable in the long term: you should care about what the market wants from you, what you want from the market is irrelevant.