The ACD Method

[justrading]

LOL, nah it's OK. If he gets Mav to talk it's always interesting.

 

[Robert Yanks]

Mav at this point I think it'll be easier if you just trade Roberts account

I'm working on it.

 

[ignl]

One of our active followers sent me an e-mail asking for me to expand on my comments from last week on what I meant by a "puke". I'll try to clarify. Markets have a certain structure to them that is governed by human behavior. Human behavior is often defined as unpredictable thereby making market behavior unpredictable. But this is not always true. For example. If I'm in a building and scream there is a fire (whether there is an actual fire or not) I can model very precisely how people will act. If we take a product in the marketplace that is very elastic in price and take that price to an extreme, we know EXACTLY what people will do. For those of you non econ guys, something that is elastic simply means we are very sensitive to it's price and it's easy to substitute for something else. So put a different way, extreme behavior usually begets predictable responses. Whereas status quo can illicit any number of responses.

This is why market crashes are so one directional and easier to trade. In panics, there is not much to guess. Where as bull markets are slow grinds of back and forth. In a bull market people have choices. In a crash you have one choice. So to get back to pukes here, a puke is a one choice market. The marginal buyer (defined here as the buyer with the highest cost) sets the price. He/she is the most sensitive to market price. In a puke, all the marginal buyers get taken out. It happens because there are too many of them. The price action is very predictable. In a strong upward trend this is very common. These are usually the best buying opportunities in a given product.

So let's walk through some logic on this. Say we created a formula or model to determine just when this opportunity presents itself. First, we would need to define a marginal buyer and one who is highly elastic. We want to understand why is he/she in this product to begin with and why are we so sure they will puke. And how do we know that this price action is just a puke and not the start of something bigger.

The weaker buyer is often attracted to really strong products but often at very bad prices. He chases. So these types show up in products that provide very few pullbacks for them to get in. So they throw in the towel and get in at bad prices, very bad prices. You can define their sensitivity by just how bad of a price they got. The steeper the slope, the worse the buyer they are. Because of just how bad a price they got, they are extremely sensitive to a normal ordinary pullback. But remember the fire example, human behavior becomes "extremely" predictable at the extremes. We know very strong products attract these types and we know when they get in (steep slope). So we absolutely know they will get flushed out. And when they do, a buying opportunity presents itself. Why? Just because the product is down a lot? No. Because you ALWAYS want to be long "in front" of the weak marginal buyer. They are going to take your product down. So the optimal entry will always be when the most of them are gone. And the worst entry will be when the most of them are long.

This can happen in a day, a week, a month. I have found that the ACD levels work very well with the lows of these pukes. Now how we do know this is not something bigger? ACD! That was easy right? LOL. You do NOT, I repeat do NOT, abandon your risk management. If that product is confirming an "active" level on a given time frame, you wait. Remember time ultimately erases those levels. So you wait. There is absolutely no mathematical way possible for you guys to get stuck long. It simply is not possible. That is why the A levels are there. They are your risk management tool!

I know this was kind of long but I wanted to provide the "intuition" behind this and not simply say, follow your ACD rules.

Wow great insights! I had this somewhat similar thoughts about why acd levels work. My reasoning was that during OR time a lot of market participants initiate new positions. Then lets say half of them find themselves on the wrong side of the market. When price approaches a pain point (around our A levels) they might give up and puke which probably helps reaching target goals for other half luckier traders. It also presents opportunity for smart buyers, maybe some loosers reverse their positions, maybe some trend followers or other timeframe traders join in and voila we have failed a down. If hovever there is not enough support we make A down, but there are other traders who are long now because they though its a buying opportunity. Also it is probable that some smart money positioned and still building their shorts(someone has to keep price low for some time to make A down). That is of course not a very good situation to be long. However they are loading up to long side because of some support level, ma or whatever, but we already know its A down and its dangerous. Once that support is broken there might be nice move down. This could also explain why levels are less efficient later on. There are no critical mass of traders left by that time and their entries are now mostly outside OR so their levels are a bit different. It is not very helpful framework for trading but could be usefull for asking yourself a question - am i that unlucky guy/marginal buyer or am i getting in front of them? Your expanded version made me think about product selection more, and in general about market psychology. Thanks!

 

[wow12]

Mav, I have question for you and the other posters with regards to time it might seem a bit weird but I thought i might as well put it out their ;

Does time really exist within the financial market ?

Can something such as value of share price for example be right and wrong at the same time ?

Apologise for the weird question just try-in grasp other people thoughts on some abstract ideas and thoughts.

 

[ignl]

During usdjpy drop US stocks actually went up considerably. Correlation didn't work. I am interested maybe you have some thoughts on that? What actually happened?

 

[ignl]

Mav, I have question for you and the other posters with regards to time it might seem a bit weird but I thought i might as well put it out their ;

Does time really exist within the financial market ?

Can something such as value of share price for example be right and wrong at the same time ?

Apologise for the weird question just try-in grasp other people thoughts on some abstract ideas and thoughts.

If I say product A cost 100. No other information. Tell me is it cheap or expensive?

 

[Maverick74]

Thank you Mav.

Regarding volatility, would I be correct that you are referring to something along the lines of “Relative Volatility” as measured by ….. say the ATR?

Everything is relative. It's very rare to get useful info from nominal values.

 

[Maverick74]

Thank you Mav,

Now, I am a rather dull witted Norwegian. For my own clarity, are these your confirmation numbers (meaning not your OR numbers)?

If yes, it appears all your confirmation numbers, like mine, mirror the OR numbers (no ½ numbers like Fisher describes). Your intraday of 30 minutes is interesting because I wrongly assumed you used primarily a 5 minute for constructing your numerlines.

I didn't know you were Norwegian. I have a lot of Norwegian blood in me.

Correct...confirmation.

 

[Maverick74]

Hello Mav,

Say you are going to buy a stock that has pulled back into what you consider a good puke candidate and you decide to go long. How do you enter?

Thank you.

Now Robert....this is in the ebook. LOL. You can enter at whatever level optimizes your risk/reward. So if you are leaning against a given A level and your exit is another A level, then choose the appropriate level that provides an attractive return on risk.

 

[Maverick74]

Mav, I have question for you and the other posters with regards to time it might seem a bit weird but I thought i might as well put it out their ;

Does time really exist within the financial market ?

Can something such as value of share price for example be right and wrong at the same time ?

Apologise for the weird question just try-in grasp other people thoughts on some abstract ideas and thoughts.

Time actually is very important in most financial models. This is because money has different values across time. For example the cost of money i.e. interest. Bonds are priced off of their present value of future cash cash flows. A $100 a year from now is NOT worth $100 today. It's discounted by a time factor and possibly even a risk factor.

In the ACD world, time is an opportunity cost. A big one at that. Example, say I put 10k into AAPL stock at time zero. At t+1 AAPL has showed no gain. But the other stock I was thinking of buying, NFLX is up 10% at t+1. This means the opportunity cost for holding AAPL was 1k. That's real money. Opportunity cost is one of the most important variables in finance and economics for that matter. It's because we are all faced with a capital constraint. We can't do everything we want, we have to make choices and those choices come at a cost. You always need to know what that cost is. Time is one of the most overlooked variables on ET. People on this forum just shout out predictions and calls with no regard to time hence the calls have no value.