Stocks & Commodities V. 26:12 (44-48): The Special K, Part1 by ...

Stocks & Commodities V. 26:12 (44-48): The Special K, Part1 by Martin J. Pring INDICATORS

Trends, Triggers, And Reversals

The Special K Part 1 This indicator points you in the direction of the primary trend, triggers short-term buy & sell signals, and signals reversals in the primary trend at an early stage. In part 1, we look at how to identify the direction of the primary trend.

by Martin J. Pring ecently, I had the opportunity of cowriting a new technical book with my friend and partner, Assad Hamzeh, specifically aimed at Middle Eastern markets. As so often happens during such projects, I came up with what I believe to be a logical extension of the KST, an indicator that I originally introduced in a series of Technical Analysis of STOCKS & C OMMODITIES articles in the 1990s.

R

Price at any given time is determined by the interaction of numerous time cycles. Figure 1 features three of the most widely recognized ones. The thick green line represents the primary trend, commonly known as bull and bear markets. The bull and bear markets last on average between nine months to two years each and revolve around the four-year business cycle. Markets rarely move in straight lines, so the primary trend is interrupted by intermediate price movements that average between six weeks and nine months. This trend is represented by the blue line. Finally, the red dashed line flags short-term price movements that average between three to six weeks. The KST formulas I devised were an attempt to Copyright (c) Technical Analysis Inc.

SCOTT ANDERSON

THE THREE TRENDS

Stocks & Commodities V. 26:12 (44-48): The Special K, Part1 by Martin J. Pring Market Cycle Model Short-term trend

Copyright (c) Technical Analysis Inc.

PRING.COM

2–6 weeks

represent these three trends in the downside during a bear the form of smoothed momenmarket and slightly to the upside tum indicators. in a bull phase. If you refer back to Figure 1, There are two implications for Intermediate trend 6 weeks – 9 months it’s fairly obvious that the most this. First, if the long-term KST bullish short-term rallies dewere in a clear-cut declining velop in the lefthand part of the mode, it would be reasonable to Primary trend 9 months – 2 years diagram when the primary trend expect the short-term KST to peak is bullish. Similarly, the shortout from the upper level of the term trends with the greatest FIGURE 1: MARKET CYCLE MODEL. Here you see the primary trend, bearish trading zone and vice downside magnitude occur on intermediate trend, and short-term price movement. versa. Second, if you can see that the righthand side during the the KST has moved well beyond primary bear market. These are all pro trend moves. One of the norm of the recent trading range, then the odds of a primary the most common mistakes made by short-term traders trend reversal have increased. Such a signal was triggered at point A in early 2003, when (who trade a span of two to four weeks) is trading against the main (primary) trend. We all know that a rising tide lifts all the KST exceeded the upper area of the bear market trading boats, but we do not always put this adage into practice. range. The dashed vertical arrows show bear market shortThat’s because short-term signals that run counter to the term KST reversals that took place after the indicator fell primary trend often turn out to be whipsaws or downright below zero. These were contratrend signals, and with the exception of the late 2001 example, they were not followed unprofitable. The “Special K” indicator is designed to help in this by much of a rally. Contrast that to the solid green arrows, which indicate the respect. Essentially, it does three things. First, it points the direction of the primary trend (nine months to two years). pro trend signals — that is, buy signals in a bull market. For Second, it triggers short-term buy & sell signals within that the most part, they are far more profitable than the contratrend context, which means it’s less likely that a countercyclical signals. The final point to note is that zero crossovers by the trade will be executed. And third, it’s capable of signaling intermediate KST often confirm a primary trend change, as you can see from the small red and green arrows. reversals in the primary trend at a relatively early stage. That’s a brief look at how this KST arrangement is interpreted. But there is an alternative way to display that informaTHE KST Before we take a closer look at the Special K and see how tion, and it’s done by combining these three series into one it is interpreted, I would return to the KST (which is short for indicator — the Special K. “know sure thing”) and the idea of the three trends fea1700 MSCI World Stock Index 1600 tured in Figure 1. One of the 1500 ways in which I have found 1400 1300 the KST to be useful is to re1200 produce the short-, intermedi1100 ate-, and long-term trends in a 1000 stacked format as in Figure 2. 900 By looking at the long-term 800 KST, we get some perspective A 700 Short-term KST as to the direction and maturity of the primary trend. The 50 0 green and red waves reflect -50 these bull and bear market -100 trends as signaled by the diIntermediate KST 100 rection of the long-term se50 ries. Obviously, there is a bit 0 -50 of poetic license going on, as -100 Long-term KST -150 the KST reversed slightly to 300 200 the downside in 2005. How100 0 ever, one of the key points is -100 -200 to show you that the trading 2000 2001 2002 2003 2004 2005 2006 2007 2008 range of the short-term KST (the red and green dashed par- FIGURE 2: THE KST. Stacking the short-term, intermediate-term, and short-term price movements gives you some allel lines) shifts slightly to perspective as to the direction and maturity of the primary trend.

Stocks & Commodities V. 26:12 (44-48): The Special K, Part1 by Martin J. Pring 250

200

150

■ The weekly Special K The first, as in Figure 3, compares the Special K to the long-term 100 KST. This variation combines each of the indicators featured in Figure 2. If there is some long-term, pri500 mary trend cyclicality, it will show 400 300 Special K up in both the Special K and the 200 long-term KST. The latter is plot100 0 ted in the bottom panel to offer -100 some smoothed perspective be-200 -300 cause the Special K is often jagged. The dashed brown arrows indicate 300 Long-term KST 200 that the Special K typically turns 100 ahead of the KST, thereby offering 0 -100 an early bird warning that the pri-200 mary trend may be in the process 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 1989 of changing. The jagged action by FIGURE 3: SPECIAL K VS. LONG-TERM KST. Here you see five instances where the Special K trendline is broken. the Special K does come with a Four out of the five were timely. key advantage, and that is the abilTHE SPECIAL K ity to construct meaningful trendlines. The Special K gives us true summed Five turning points, where Special K trendline breaks have been cyclicality as the short-, intermediate-, confirmed by Dow Jones AIG violations, appear on the chart. and long-term indicators are all com- Four were timely but the fifth, in 2004, resulted in a false break. bined into one all-encompassing se- It’s also possible to use crossovers of the dashed smoothing ries. The calculation is made by add- line as an indication of when the Special K may have reversed. ing the short-term KST formula to that This signal line is a 26-week simple moving average of a 52of the intermediate- and long-term week simple moving average of the Special K itself. These are series. The formula is presented in the highlighted in Figure 4 by the vertical solid green and red sidebar. There are two arrangements, arrows. The orange ellipses show that not all is perfect since the depending on whether we are consid- indicator occasionally triggers whipsaw crossovers. ering daily or weekly data. Note also that because we are dealing in a summed rate of change concept, the confluence of 250 short-, intermediate-, and long-term KST turning points means that the 200 final peak and trough for the Special Dow Jones AIG Commodity Index K usually coincides with that of the 150 price it is monitoring. However, in some cases the indicator turns prematurely and sets up a divergence 100 with the price. Two negative divergences are flagged in Figure 4 by the dashed red arrows. These discrepanSpecial K 500 cies develop because the calculation 400 300 of the indicator assumes a normal 200 range for the four-year cycle. 100 0 If this is extended in any meanDow Jones AIG Commodity Index

-100 -200 -300

Long-term KST

300 200 100 0 -100 -200 1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

FIGURE 4: USING CROSSOVERS. The crossovers are identified by the vertical solid green and red arrows. The negative divergences are flagged by the dashed red arrows.


The Special K gives us true summed cyclicality as the short-, intermediate-, and longterm indicators are combined.

Stocks & Commodities V. 26:12 (44-48): The Special K, Part1 by Martin J. Pring SPECIAL K AND MA METASTOCK FORMULA WEEKLY

SPECIAL K FORMULA FOR WEEKLY CHARTS ROC Time EMA of Weight Total Span ROC

p1:=Input(“Enter MA Value”,1,500,52); p2:=Input(“Enter MA Value”,1,500,26);

4 5 6 8 10 13 15 20 39 52 78 104 Special K

(Mov(ROC(C,4,%),4, E)*1)+(Mov(ROC(C,5,%),5, E) *2)+(Mov(ROC(C,6,%),6, E)*3)+(Mov(ROC(C,8,%),6, E)*5)+ (Mov(ROC(C,10,%),10,E)*1)+((Mov(ROC(C,13,%),13,E)*2)+ (Mov(ROC(C,15,%),15,E)*3)+(Mov(ROC(C,20,%),20,E)*4)*1)+ ((Mov(ROC(C,39,%),26,E)*1)+(Mov(ROC(C,52,%),26,E)*2)+ (Mov(ROC(C,78,%),26,E)*3)+(Mov(ROC(C,104,%),39,E)*4)*1); Mov(Mov((Mov(ROC(C,4,%),4, E)*1)+(Mov(ROC(C,5,%),5, E)*2)+ (Mov(ROC(C,6,%),6, E)*3)+(Mov(ROC(C,8,%),6, E)*5)+ (Mov(ROC(C,10,%),10,E)*1)+((Mov(ROC(C,13,%),13,E)*2)+ (Mov(ROC(C,15,%),15,E)*3)+(Mov(ROC(C,20,%),20,E)*4)*1)+ ((Mov(ROC(C,39,%),26,E)*1)+(Mov(ROC(C,52,%),26,E)*2)+ (Mov(ROC(C,78,%),26,E)*3)+(Mov(ROC(C,104,%),39,E)*4)*1),p1,S),p2,S);

4 5 6 8 10 13 15 20 26 26 26 39

x x x x x x x x x x x x

1 2 3 4 1 2 3 4 1 2 3 4

4 10 18 32 10 26 45 80 26 52 78 156 537

SPECIAL K FORMULA FOR DAILY CHARTS ROC Time SMA of Weight Total Span ROC

zero:=0; zero;

10 15 20 30 50 65 75 100 195 265 390 530 Special K

SPECIAL K AND MA FORMULA FOR METASTOCK DAILY p1:= Input(“Enter First MA Time Span”,1,500,100); p2:= Input(“Enter First MA Time Span”,1,500,100); (Mov(ROC(C,10,%),10,S)*1)+(Mov(ROC(C,15,%),10,S)*2)+ (Mov(ROC(C,20,%),10,S)*3)+(Mov(ROC(C,30,%),15,S)*4)+ Mov(ROC(C,50,%),50,S)*1+(Mov(ROC(C,65,%),65,S)*2)+ (Mov(ROC(C,75,%),75,S)*3)+(Mov(ROC(C,100,%),100,S)*4)+ (Mov(ROC(C,195,%),130,S)*1)+(Mov(ROC(C,265,%),130,S)*2)+ (Mov(ROC(C,390,%),130,S)*3)+(Mov(ROC(C,530,%),195,S)*4); Mov(Mov((Mov(ROC(C,10,%),10,S)*1)+(Mov(ROC(C,15,%),10,S)*2)+ (Mov(ROC(C,20,%),10,S)*3)+(Mov(ROC(C,30,%),15,S)*4)+ Mov(ROC(C,50,%),50,S)*1+(Mov(ROC(C,65,%),65,S)*2)+ (Mov(ROC(C,75,%),75,S)*3)+(Mov(ROC(C,100,%),100,S)*4)+ (Mov(ROC(C,195,%),130,S)*1)+(Mov(ROC(C,265,%),130,S)*2)+ (Mov(ROC(C,390,%),130,S)*3)+(Mov(ROC(C,530,%),195,S)*4),p1,S),p2,S);

10 10 10 15 50 65 75 100 130 130 130 195

x x x x x x x x x x x x

1 2 3 4 1 2 3 4 1 2 3 4

10 20 30 60 50 130 225 400 130 260 390 780 2485

SIDEBAR FIGURE 1

zero:=0; zero;

zero:=0;

1600 1550 1500

ingful way, any longer-term momentum indicator will peak or trough prematurely.

1450 1400

S&P Composite

1350 1300 1250 1200 1150 1100

Special K Lower peaks and troughs signaled

250 200 150 100 50 0

Daily KST

-50 -100 50 0 -50

S O N D 2005 M A M J

J A


J A


J A


J

A S

FIGURE 5: DAILY SPECIAL K ARRANGEMENT. Here you see the movements in the daily KST and those in the Special K are very close.


■ The daily Special K My favorite method of displaying the Special K uses a calculation based on daily data and exclusively incorporating simple moving averages (MAs) (Figure 5). In this instance, the formula (see sidebar) assumes the same time frames as those plotted on the weekly chart. The difference? A simple MA is substituted for the exponential moving average (EMA) and the parameters are multiplied by 5 to simulate the weeks. This approach is not an exact simulation because some weeks only contain four trading days due to holidays, but this does not appear to unduly affect its accuracy.

Stocks & Commodities V. 26:12 (44-48): The Special K, Part1 by Martin J. Pring

If you compare movements in the daily KST in the bottom window with those of the Special K, you will see that they are very close indeed. The reason for including the daily KST is to show overbought and oversold conditions because these are not apparent from the summed cyclicality of the Special K. The Special K can be used in two broad ways, identifying major trend reversals and timing pro trend short-term moves. These will be discussed in part 2 of this series. Stay tuned! Martin J. Pring is the president of Pring Research and chairman of Pring Turner Capital, a money management firm. He is the author of several books, including the classic Technical Analysis Explained and Introduction to Technical Analysis, a workbook/CD-ROM tutorial. He may be reached at Pring.com. Either Special K template referred to in this article can be plotted for free at Pring.com (under KST charting) for any Yahoo symbol.

SUGGESTED READING Narcouzi, Christopher [2001]. “KST Revisited,” Technical Analysis of STOCKS & COMMODITIES, Volume 19: August. Pring, Martin J. [2004]. “Do Price Patterns Really Work?” Technical Analysis of STOCKS & COMMODITIES, Volume 22: April. _____ [1992]. “Identifying Trends With The KST Indicator,” Technical Analysis of STOCKS & COMMODITIES, Volume 10: October. _____ [2003]. Introducing The KST, DVD, Pring.com. _____ [1992]. “KST And Relative Strength,” Technical Analysis of STOCKS & COMMODITIES, Volume 19: November. _____ [1997]. Martin Pring’s Introduction To Technical Analysis, McGraw-Hill. _____ [2002]. Technical Analysis Explained: The Successful Investor’s Guide To Spotting Investment Trends And Turning Points, 4th ed., McGraw-Hill. S&C
