Saturday, May 4, 2013

IWM May 3 2013 - Shooting Star?

IWM after May 3 2013, showing Bollinger Bands

Japanese Candlesticks are useful for a variety of reasons. They differentiate between up and down days better than ordinary bars, and they form multi-day patterns. This analysis will look at whether a particular one-day candlestick is present in the above chart and what that might mean. Specifically, we want to know whether a Bearish Shooting Star occurred on May 3, 2013. Candlestick patterns usually have, on average, a three in four reliability of completing. Here, we are looking for the possibility of a Bearish Reversal.

Is This the Right Place for a Shooting Star?

First things first: to be considered a bearish reversal, there should be an existing uptrend to reverse. In the above chart, there is no question that there is both a short-term and medium-term uptrend. This also is part of a major uptrend that began in 2009.

Does The Action on May 3 Meet the Definition of Shooting Star?

By definition, the shooting star is made up of one candlestick (white or black) with a small body, long upper shadow and small or nonexistent lower shadow. The action on May 3 fits that definition.

The size of the upper shadow should be at least twice the length of the body and the high/low range should be relatively large. By "relatively large," we mean relative to the previous week or two. Looking at the previous ten candlesticks, the Candlestick formed on May 3 is larger than all of them.

For a candlestick to be in star position, it typically shows a gap away from the previous candlestick. While this chart does not show that because of the way I have it set up, in fact there was a nice gap after heavy buying hit upon the release of some economic data prior to the market open.The gap was roughly ten points. A gap is not necessarily necessary for a Shooting Star to form, but a gap enhances the robustness of the Shooting Star's effect.

Based on the definition, the action on May 3 2013 formed a Shooting Star pattern. This suggests the market is over-extended and is due for a break in the not-too-distant future. It does not imply that this will be "the big one" in terms of corrections, though in the market, anything is possible.

Might This Form Another Pattern?

Arguably, this could wind up forming an Abandoned Baby formation. This is a very rare pattern. The Abandoned Baby is characterized by a gap followed by a Doji, which is then followed by another gap in the opposite direction. The shadows on the Doji must completely gap below or above the shadows of the first and third day. The formation on May 3 2013 was not really a Doji, though it came close. I would argue, though, that if the rest of the pattern is completed, this would have the effect of an Abandoned Baby - a Bearish Reversal formation.

Another possibility, given the gap up, is an Island Reversal formation. The Island Top takes place whenever the price point “gaps” above a particular price range for a a quantity of days and also then is confirmed once the price “gaps” down below to the initial number. We won't know whether this is in effect unless or until there is a gap down below the May 3 gap up.

Is There Any Confirmation?

Candlestick Patterns always require confirmation, whether it be the price action of subsequent days or other technical indicators. Let's see if we can find any confirmation among the standard indicators, as the Shooting Star just formed and we don't have any subsequent chart data.

Incidentally, this is where it gets interesting. Indicators are only useful to a certain extent - if the market wants to go higher on Monday, it will, indicators or no indicators. We are simply using these as confirmation for the Shooting Star, which itself is just an indicator. Indicators give you some probability, based on historical data that justified their creation and continued use, but they never are a guarantee.

Overall, based on the below indicators, there is confirmation for the Shooting Star. Price action this week will provide the final verdict.

CCI indicator

Negative divergence in CCI.


Negative Divergence in the RSI EMA indicator.

Ehlers Distant Coefficient Filter

The Ehlers Distant Coefficient Filter has turned down despite the market hitting an all-time high again.


Negative Divergence in the MACD. The histogram looks primed to turn down.

Chaikin Money Flow

Negative Divergence in Chakin Money Flow.

Parabolic SAR lines

Rejection at the Parabolic SAR line. This isn't a common indicator like the others, so just disregard it if you wish. Also, obviously, with the market at an all-time high, there are no previous volume profiles at this level, which can be a positive, but also a negative, as the only volume attracting the market is lower.

Slow Stochastics

Negative Divergence, Slow Stochastics.

Fast Stochastics

Negative Divergence, Fast Stochastics.

Stochastic Momentum Index Signal

Stochastic Momentum Index Signal turned down on Thursday. It's just a black box signal, so nothing much to see beyond the little arrows, but these signals are fairly reliable. They have a tendency to take some time (sometimes several days) to really prove themselves, as shown by the previous such signal on the same chart, which was a few days before the last nasty little correction.

Williams percent Range

Negative divergence in the Williams Percent Range Indicator.

Overall, I don't see how anyone could call these indicators Bullish. But the market can, and will, do whatever it wants.

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