Mechanical Trading System: TD Sequential

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Mechanical Trading System: TD Sequential

Bloomberg

Technical Analysis of the markets

Technical Analysis of the markets

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TD Sequential(TD SEQ) is a trading indicator
companion to TD Combo. Both are designed
to anticipate prospective market bottoms
and tops prior to their completion

TD SEQUENTIAL

TD Sequential(TD SEQ) is a trading indicator companion to TD Combo.
Both are designed to anticipate prospective market bottoms and tops
prior to their completion. TD Sequential™ attempts to identify price
zones typically associated with the completion of a trend and the
establishment of a likely new trend in the opposite direction.

It is easy to buy when the market rallies and to sell when the market
declines. Human nature is such that most traders prefer to participate in
market moves rather than anticipate the termination of a move and the
inception of a new one. Most traders adhere to the adage "the trend is
your friend." We prefer to adopt a corollary to this phrase: "unless the
trend is about to end."

Having been involved in institutional investment for years, we recognize
the importance of buying into market weakness or prior to the
completion of a market bottom. Conversely, the need to sell into market
strength before a market's top has been completed is preferable to
selling after the top has been formed. Once a price reversal has
occurred and a trend has been established, it is often too late and
difficult to participate in the trend without exaggerating the move,
particularly if you are a major trading factor in the market.
Consequently, TD Sequential™ attempts to identify price zones typically
associated with the completion of a trend and the establishment of a
likely new trend in the opposite direction.

In applying TD Sequential, the identification of the exhaustion of a
downtrend or of an uptrend is our goal.

SETUP

Before you can enter the market as either a buyer or seller, the market
environment must be discovered. Once defined, the market disposition is
either vulnerable or susceptible to an advance or decline. Prerequisites
must be fulfilled first to establish the market bias. Initially, a series of
eight or more consecutive closes less than the close four price bars
earlier, or greater than the close four price bars earlier, was required to
complete a buy and a sell Setup, respectively.

As a result of extensive research, this requirement was subsequently
changed to nine or more price bars. Therefore, once a minimum series of
nine consecutive closes less than the close four price bars earlier are
completed, a buy Setup is recorded. Conversely, once a minimum series
of nine consecutive closes greater than the close four price bars earlier
is completed, a sell Setup is recorded. To initialize the first price bar of a
buy Setup series, the prior price bar's close must be greater than or
equal to the close four price bars earlier. Similarly, to initialize the first
price bar of a sell Setup series, the prior price bar's close must be less
than or equal to the close four price bars earlier. Once a Setup is
completed, the market has two options: it may continue its outstanding
trend or it may undergo a trend reversal. Usually, the distinction as to
which one will occur is dependent upon whether or not the market
successfully exceeds on a closing basis the extreme price level (known
as TD Setup Trend or TDST) formed by the prior Setup in the other
direction. In other words, the most recent market sell Setup exceeds the
highest price level of the prior buy Setup in the other direction on a
closing basis.

Often, if the highest high of the buy Setup is exceeded on a closing
basis, it indicates that the current market trend is strong and likely to
undergo Countdown as well as Setup before its trend will change.

On the other hand, should the current Setup fail to exceed on a closing
basis, the extreme price level of the prior Setup (TD Setup Trend or
TDST) in the other direction, a price reversal is likely to occur at that
time, rather than awaiting completion of Countdown. Regardless, once
Setup has been completed, it is prudent to commence Countdown just in
case the TDST rule fails to differentiate correctly between the
continuation of the ongoing trend and the start of a new trend.

Typically, after the minimum requirement for a buy setup is completed—9
consecutive closes less than the close 4 days earlier--a reflex rally
occurs regardless whether the market extends through countdown or
not. The only apparent prerequisite for this expected "hiccup" rally is
that price bars 8 or 9 of the buy setup be less than both price bars 6 and
7. Likewise after the minimum requirement for a sell setup is completed--
9 consecutive closes greater than the close 4 days earlier--a reflex
decline occurs regardless whether the market extends through
countdown or not. The only apparent prerequisite for this expected
"hiccup" correction is that price bars 8 or 9 of the sell setup be greater
than both price bars 6 and 7.

Whereas the buy Setup count sequence appears below each price bar,
convention requires that the sell Setup count series appear above the
upper price bar. This placement distinction quickly becomes second
nature, and whenever you rely upon chart reading to provide a
meaningful picture of the market landscape, it is certainly helpful. Once
again, typically both buy and sell Setups appear as the same color on
the chart, but their respective placements above and below the
respective price bars sufficiently differentiate the buy Setup (lower)
from the sell Setup (higher).

STANDARD COUNTDOWN

Commencement:

The standard, or basic, Countdown process
for TD Sequential compares
the current price bar's close with the high and the low two price bars
earlier. TD Sequential commences the Countdown process once the
minimum requirement for the Setup process of nine closes less than or
greater than the close four price bars earlier is completed. Once a total
of 13 comparisons are fulfilled, TD Sequential™ Countdown is completed.

In order to facilitate the fulfillment of a 13 Countdown, the last
Countdown price bar's close can be substituted with the open of the
same price bar, so that EITHER comparison will suffice. This elective is
referred to as Termination Count. It is a feature that only applies to the
last Countdown entry. It enables the last count of Countdown to be
completed by using either the close or, alternately, the same price bar's
open level. This simplifies the fulfillment of Countdown completion. In
order to ensure that the 13th or final countdown price bar for TD
Sequential™ is sufficiently positioned for a low-risk buy, the low of
Countdown bar 13 must be less than or equal to the close of Countdown
bar eight. Conversely, to ensure the 13th or final Countdown price bar
for TD Sequential™ is sufficiently positioned for a low-risk sell, the high
of Countdown bar 13 must be greater than or equal to the close of
Countdown bar eight.

To identify the TD Sequential™ Countdown price bars that fail to meet
the requirement that price bar 13's low/high Countdown must be less
than/greater than (depending on whether it is a low risk buy or low risk
sell) price bar eight's close, a "+" sign appears until the qualifier is
fulfilled.

AGGRESSIVE COUNTDOWN

The previous discussion is related to conventional Countdown
methodology for TD Sequential™. In recent years, volatility has
increased dramatically, particularly within the equity sector. To
accelerate the Countdown method, an alternate Countdown method can
be applied. It is referred to as the Aggressive Countdown process.

Very simply, this option replaces the closing Countdown buy comparisons
versus the respective lows two price bars earlier with just low
comparisons and the closing Countdown sell comparisons versus the
respective highs two price bars earlier with just high comparisons. In
other words, this substitution process compares the lows versus lows
two price bars earlier for buy Countdown. If it is less than or equal to
the low value two price bars earlier and any other buy prerequisite, such
as the low of Countdown 13 being less than or equal to the close of
Countdown eight as well, then an Aggressive buy Countdown number is
recorded. Likewise, this substitution process compares the highs versus
highs two price bars earlier for sell Countdown. If it is greater than or
equal to the high value two price bars earlier, and the other sell
prerequisite, such as the high of Countdown 13 being greater than or
equal to the Close of Countdown eight as well, then an Aggressive sell
Countdown number is recorded. Finally, to insure that the 13th, or final,
low-risk buy Countdown price bar is sufficiently positioned low for a low-
risk buy, the low of Countdown price bar 13 must be less than or equal
to the close of Countdown bar eight. Likewise, to insure the high of low-
risk sell Countdown price bar 13 is sufficiently positioned high for a low-
risk sell, the high of Countdown bar 13 must be greater than or equal to
the close of Countdown price bar eight.

The Aggressive Countdown method requires the user to remove the
"close" selection from the Countdown box and replace it with the
selection "low buy/high sell." In other words, instead of comparing the
close versus the low and the high two price bars earlier, this is a more
liberal approach that requires the current low be less than or equal to
the low or greater than or equal to the high two price bars earlier,
depending whether a low-risk buy or low-risk sell is being calculated. The
relationship between Countdown price bar eight and Countdown price
bar 13 described above applies as well.

RECYCLING

The market is dynamic, and both economic and corporate news changes
virtually by the second. Investors' perception of value and opportunities
are in a constant state of flux. It is the collective interpretation of all
traders and investors of how events and factors can influence the
market for securities that produces price change. It is all translated into
one variable—market price. Therefore, it is possible that a market, in an
up trend, is capable of extending its advance by attracting more buyers.
Conversely, down trending markets can behave similarly, only in
reverse.

How does TD Sequential™ address these periods of renewed influx of
unanticipated buyers or sellers? Very simply, the study undergoes a
process called Recycling that restarts the Countdown process and
extends the perceived ultimate market top or bottom.

Historically, the very basic nine Setup followed by 13 Countdown was
sufficient to identify prospective market bottom and top reversals. More
than likely, this was the result of most markets' tendency to operate
within trading ranges. Another contributing factor was the lack of
information flowing from the companies, economists, politicians, and
market analysts to the investment community.

Today, the amount of information is enormous and the response from its
dissemination to investment action is immediate. The playing field for
investment information has become level. Little, if any, advantage can
only be acquired by applying conventional or traditional market-timing
techniques. As a consequence, we developed proprietary market timing
tools specifically designed to deal with the intricacies of the market and,
therefore, sufficiently sensitive to decode market behavior.

Recycling, the unexpected increase in demand or decrease in supply in
an up trend or the unanticipated increase in supply or decrease in
demand in a down trend, produces an extension in a price movement. As
a result, it is critical to monitor and identify the resurgences of supply or
demand affecting a market in a trend.

How does recycling work? Once a buy or a sell Setup has occurred, the
current environment for a trader has been defined. If nine or more
consecutive closes less than the close four price bars earlier are
recorded, a trader should anticipate the formation of a market bottom.
If nine or more consecutive closes greater than the close four price bars
earlier are recorded, a trader should be inclined to expect a market top.

There are many occasions when a market will trough or peak once the
Setup process is complete provided that the buy Setup fails to decline
below the lowest price level established by the most recent sell Setup
completed in the other direction, or, in the alternative, the sell Setup
fails to exceed the highest price level set by the most recent buy Setup
completed in the other direction.

In those instances when the Setup process extends to Countdown,
Recycling is always an issue. This is due to the interruption of the
Countdown process by the formation of a new Setup. Therefore, the
prior Setup is void and the Countdown process is restarted. In its most
liberal interpretative sense, a Recycle occurs any time TD Sequential™
records a new series of nine or more consecutive closes less than the
close four price bars earlier, or nine or more closes greater than the
close four price bars earlier, depending on whether a renewed buy
Setup or sell Setup occurs prior to, coincident with, or subsequent to the
perfection of Countdown. Buy Countdown perfection requires a close
greater than or equal to the close four price bars earlier before a new
buy Setup occurs and Sell Countdown perfection requires a close less
than or equal to the close four price bars earlier before a new sell Setup
occurs. If the Countdown is not perfected and a new Setup appears, it
replaces the prior Setup and Countdown is restarted unless some other
method is applied that ignores certain instances of Recycling such as
Recycle Count 12.

Obviously, Recycling prevents premature top and bottom identification.
However, there are times when the highs and lows occur, but the
traditional Recycling process precludes taking advantage of the trading
opportunity. Therefore, the exceptions to the basic approach to
Recycling are critical.

After 30 years of research, two options have been developed to avoid
those instances when conventional Recycling would be applied and
therefore prohibit a potential trading opportunity.

The first and somewhat less complex alternative to Recycling requires
the most recent Setup to discontinue its Setup process prior to recording
12 or more consecutive price bar comparisons. In other words, if the
Recycle process terminates somewhere between the minimum Setup
requirement of nine consecutive closes less than the close four price
bars earlier for buy Setup and 12 consecutive closes, thereby failing to
record at least 12 or more consecutive closing comparisons, then the
Setup is ignored as a Recycle possibility and the Countdown process
continues through completion. In other words, we require the market to
demonstrate or justify the Recycle by recognizing only those instances
when Setup continues for at least 12 consecutive price bars since only
then is there a proven period of a new, legitimate Setup.

The second method used to determine whether a renewed Setup causes
a Recycle is slightly more complex. Namely, the price distance covered
by the first Setup must be compared to the more recent Setup's price
distance. If the more recent Setup from intra-day high to intra-day low is
less than the prior Setup or if the more current Setup is larger than
1.618 times the original or prior Setup, then the current Setup is ignored
and no Recycling is applied. Remember that Setup includes nine or more
consecutive closes greater than the close four price bars earlier for a sell
Setup and includes nine or more consecutive closes less than the close
four price bars earlier for a buy Setup. This Setup process does not
complete for purposes of measurement comparison until a close takes
place that interrupts the consecutive series of closing comparisons.

Therefore, this method to cancel Recycling compares successive price
thrusts and ignores Recycling those which are less than the previous
Setup or those greater than the previous Setup by a factor of 161.8%.

CANCELLATION OF A SETUP

There are three ways to cancel either a buy Setup or a sell Setup:

CANCELLATION METHOD #1

Buy Setup Cancellation

If the highest true high of the entire buy Setup period (nine or more
consecutive closes less than the close four price bars earlier) is
exceeded upside by a true low at any time subsequent to the completion
of at least nine consecutive closes less than the close four price bars
earlier and prior to the completion of Countdown, then buy Countdown
is cancelled. In other words, if a true low occurs above the TD Setup
Trend (TDST) level after Setup and prior to Countdown, then buy
Countdown is cancelled and the Setup must be reset.

Sell Setup Cancellation

If the lowest true low of the entire sell Setup period (nine or more
consecutive closes less than the close four price bars earlier) is
exceeded downside by a true high at any time subsequent to the
completion of at least nine consecutive closes greater than the close
four price bars earlier and prior to the completion of Countdown, then
sell Countdown is cancelled. In other words, if a true high occurs below
the TD Setup Trend (TDST) level after Setup and prior to Countdown,
then sell Countdown is cancelled and the Setup must be reset.

CANCELLATION METHOD #2

If, at any time subsequent to the completion of a minimal buy Setup
series of nine consecutive closes less then the close four price bars
earlier and prior to the completion of buy Countdown, a minimum sell
Setup series of nine consecutive closes greater than the close four price
bars earlier is completed, then the original buy Setup is replaced by the
opposing sell Setup. Conversely, if, at any time subsequent to the
completion of a minimal sell Setup series of nine consecutive closes
greater than the close four price bars earlier and prior to the completion
of sell Countdown, a minimum buy Setup series of nine consecutive
closes less than the close four price bars earlier is completed, then the
original sell Setup is replaced by the opposing buy Setup.

Whereas we believe that Cancellation Method #1 is important and
should always be active, it appears that there are instances when
Cancellation Method #2 can be ignored and an uninterrupted
Countdown series occurs. As a result, valuable low-risk signals have
been generated. This observation is particularly valid when the TDST
level is not exceeded. Nevertheless, we have chosen to activate
Cancellation Method #2 at all times, just like Cancellation Method #1.

CANCELLATION METHOD #3

If, at any time subsequent to the completion of a minimum buy Setup
series of at least nine consecutive closes less than the close four price
bars earlier and prior to the completion of buy Countdown, a second buy
Setup series occurs, then the original buy Setup is typically recycled and
replaced by the second, more recent, buy Setup. However, an
exception to this rule does exist. Specifically, if the closes of each new
Setup price bar is contained within the highest true high and lowest true
low of the original Setup, then the first buy Setup is not replaced by the
more recent buy Setup and the original Countdown process is continued.
This process applies in reverse to a sell Setup.



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