Friday, July 8, 2011

Positive and Inverse Positive Divergences

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To begin, I credit Monty's post with giving me the idea for this discussion. Thank you, Monty.
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Positive divergences and inverse positive divergences.
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We all know about positive divergences. They occur when price makes a lower low but the underlying momentum indicator, such as the True Strength Index (TSI) or Relative Strength Index (RSI) or Rate of Change (ROC) , does not agree with price movement - as it simultaneously makes a higher low.
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This disagreement of price strength and direction is usually resolved with price correcting the disagreement by moving higher.  In other words, a positive divergence is bullish and is usually successfully used as a BUY signal.
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But what if these two conditions are reversed? What if price is making a higher low while the momentum indicator is making a lower low? What in the world is that, what does it look like and how does price respond to this condition?
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Well, read on as I am about to show you.
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I call this setup the inverse positive divergence. People rarely notice it as they do not, apparently, know to look for it. I certainly have not head anyone talk about the inverse positive divergence or the inverse negative divergence, but I read about positive and negative divergences all the time!
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And yes, just as there is a negative divergence there is also an inverse negative divergence.
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Truth be told, the inverse positive divergence has the same effect on price as the positive divergence. That is, it is a bullish BUY signal.
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And, the inverse negative divergence has the same effect on price as the negative divergence. That is, it is a bearish SELL signal.
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Anyway, for this post I have made 6 charts.  I had my FreeStockCharts software set on weekly at the top of my alpabetical list of mining stocks and I went right down the list until I found 3 examples of positive divergence and 3 examples of inverse positive divergence. Then I quit making charts. But please know that I could have shown the same thing using daily charts, 4 hour charts, 1 hour charts, even 5 minute charts. When something is true..... well, it is true, of course!
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Here are the 6 charts. The first 3 illustrate positive divergence, the latter 3 illustrate the inverse positive divergence. Enjoy!
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Click on any chart to ENLARGE
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AZC
Positive Divergence
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BWLRF
Positive Divergence
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CXZ
Positive Divergence
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AGQ
Inverse Positive Divergence
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AUQ
Inverse Positive Divergence
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CPPMF
Inverse Positive Divergence
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16 comments:

  1. This is more commonly known as hidden divergence. This document is a nice presentation on the topic:

    http://www.getfreeebooks.com/wp-content/uploads/Hidden_Divergence.pdf

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  2. I think that the next 3-5 days should be selloffs on the Dow, hopefully a good rundown.
    I bought some LVS puts last night and sold this morning at the open. Good thing as casino stocks then turned and are up at this time. This is one only wrench in the Dow going down possibility, I've noticed gaming stocks are decent indicators of spending habit.

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  3. Hi John,

    Wonderful post as always..thank you.

    Should we get long gold/silver? or wait a bit more? any thoughts is appreciated?

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  4. Thanks cbritton for the link and excellent information.

    I think whatever we decide to call this thing is relevant, but probably even more relevant to know that it exists and how to benefit from it. Your contribution is appreciated.

    "But there are other forms of nonconfirmation I call hidden divergence (HD) that, when present, offer additional profit potential." Barbara Starr, Ph.D.

    Barbara calls it a hidden divergence.

    "An unusual, but normally reliable, discrepancy occurs when price leads the momentum indicator. This is the opposite of the norm, where it is the oscillator that leads the price. That is why I have termed this phenomenon a reverse divergence". Martin J. Pring, Momentum Indicators

    And Martin calls it a reverse divergence.

    "Divergence is a key concept behind many signals for oscillators as well as other indicators. Divergences can serve as a warning that the trend is about to change or set up a buy or sell signal. There are two types of divergences: positive and negative. In its most basic form, a positive divergence occurs when the indicator advances and the underlying security declines. A negative divergence occurs when an indicator declines and the underlying security advances". John Murphy, StockCharts.com

    And John Murphy, the unequaled expert I would respectfully give the last word, just looks the other way, apparently.

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    Hidden: being out of sight or not readily apparent - concealed

    Reverse: something directly contrary to something else - opposite

    Inverse: something of a contrary nature or quality - opposite, reverse

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    So call it what we will, it is hidden from most traders minds, contrary and opposite the "norm" of expectations, and it really does not only exist, it usually works, too!

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  5. Mr Miyagi - once again I find myself in agreement. Fingers crossed.

    Anon - buy gold/silver? ABSOLUTELY.

    I have this feeling that miners have gotten a little overbought, in general, and so I am not excited about buying today. But next week, yes.

    I started poking around the GDX chart, hoping to give you a decent answer, and I noticed something fascinating. Indeed, if I can get my chores done around the house soon, I will see about writing about it.

    In the meantime, GDX very often retraces exactly 50% of its rallies. This is what I will explore and hopefully demonstrate later.

    Sooooo..... GDX price at this moment is $56.00 And a 50% retracement of this rally looks like about $54.00. It's your money to invest as you wish, of course, but I think I will wait a bit longer and see if we get to that $54.00 intraday sometime soon. For now that seems to have strong odds.

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  6. John, what if this is a pump in dump going on in metals? Did you notice how gold has these interesting spikes around London close/NY open for last 60 days or so?

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  7. Anon - no I guess I had not noticed that, unless you are referring the the hour (thereabouts) before the NYSE begins trading. (Today and Wednesday being a good examples) Now that timeframe does indeed come with big surprises to the upside. You can see that on the one hour chart of /GC very easily.

    Anything is possible. Now that I have seen gold make a very short 14 day daily cycle, I am going to just shake my head and try to let the TSI tell me when to get in and out - and to heck with the fancy explanations.

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  8. Hello John: Not to be too harsh, but I contend that the real reason the positive divergence works in the charts that were shown is the flat to raising 50-ma. Watch what happens when the 50 declines. Thanks Fuzzy.

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  9. Hi Fuzzy - no offense taken, because if I am wrong and learn something from you I will really appreciate it.

    But talk about specifics, not generalities, and see where the facts shake out. Fair enough?

    Stocks with falling 50 dma:
    (Going right down my alphabetical list of miners)

    1. ANO - had a couple of positive divergences in mid June which resulted in price popping higher.
    2. ARREF - ditto as above, but earlier to mid-June
    3. AUY - 2nd half of June
    4. AXU - mid June
    5. BVN - later June

    And I could keep going, of course. Honestly I did not notice a positive divergence on a stock with a declining 50 dma that failed. But I am sure we could find some.

    Nothing works all the time. We all agree to that. I think the positive divergence works most of the time - even when the 50 dma is declining.

    But I will say this: when the 50 dma is declining the positive divergence may only work for a single day or two. And if that was roughly your point, then I am sure we agree. :-)

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  10. Hi John,
    I guess you are not updating this summary?
    https://spreadsheets.google.com/spreadsheet/pub?hl=en&key=0AijheptWf_dtdEMtSEd3VW01cWdIWDFDaWpVNlZjM2c&hl=en&gid=0
    thanks
    Dani

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  11. Nice google docs spreadsheet template! Is it available to download/use?

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  12. John

    Nice track record.

    Is the forumla for your TSI public or secret. It would be nice to know the formula. I am an old math guy. I like math.

    Actually I really like the oscillator I saw the other day by serailin the guy in australia who does the gold charts. It showed that gold broke out on last monday or tuesday to the upside. that the breakout has already occured.

    Ed Steers over at Casey Research showed the chart. You will like it. Maybe this Wednesday he did it. The title of the article was about the chinese new gold market. not connected to the good chart most of the way down in the daily report.

    this is my first time here. nice web site.

    OK I went and got it for you guys. it is way down the page.

    http://www.caseyresearch.com/gsd/edition/new-chinese-exchange-will-destroy-gold-and-silver-shorts-whistleblower-maguire-predicts

    Here's a chart that I ran about ten days ago...or less. It's courtesy of Nick Laird over at sharelynx.com...and it's entitled Gold Price Oscillator.

    Kenny

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  13. Hi Kenny. The inventor of the True Strength Index is Wm. Blau.

    The formula based on using an exponential average is:

    TSI = (ExpAverage(ExpAverage(diff, longLength), shortLength)) / (ExpAverage(ExpAverage(AbsValue(diff), longLength), shortLength)) * 100;

    - where diff = difference of current price and price one bar previous
    - longLength I generally set to 7
    - shortLength I generally set to 4

    I looked at your link and found it very interesting. Thank you for sharing it with us.

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  14. Hi John,
    I guess you are not updating this summary?
    https://spreadsheets.google.com/spreadsheet/pub?hl=en&key=0AijheptWf_dtdEMtSEd3VW01cWdIWDFDaWpVNlZjM2c&hl=en&gid=0
    thanks
    Dani

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  15. Hi Dani - I think the summary is up to date. All trades were closed on the date and at the price specified.

    We were entering a correction (early June) and I did not know when it would bottom so I suggested selling everything open.

    Now that the correction has concluded this would be a great time to get back to giving new buy trade ideas. I hope when I return from vacation at the end of July to get back to do just that.

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  16. Hi John,
    thanks for your answer...I thought there were a number of trades since June 2 - ZSL, DAG, TZA etc. - which are not mentioned in this spreadsheet - so I was wondering about them.
    Regards,
    Dani

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