When analyzing charts, we look for patterns—that is, objects or shapes that call to mind an image of a similar event in the past. Because patterns repeat, we can use them to determine the probability of a certain outcome.
Technical Analysis helps us tell whether it's imagination, illusion, fact or fiction—that is, to distinguish between what is real and what we think is real. This, in my not so humble opinion, is often found in many other types of analysis. Hence the reason I always say, "The charts never lie." The only thing that is real is where price is at the end of the day. Price, as stated in my last blog entry, is nothing more than investor emotions plotted on a grid in the form of lines or candlesticks that show what they feel about that particular stock or security.
It has often been stated that an individual difference in intelligence can only be detected through measures of complex processes such as memory, imagination, attention and comprehension. (I don't know who said it, but I do remember it being said, which is somewhat ironic, because after all I am talking about memory. But I digress.)
Memory, imagination, attention, and comprehension all play a role in the success we have as traders and technicians. So in this blog entry, I want to explore the importance of being able to build on the strengths of what we remember, why imagination plays a vital role in pattern recognition, attention to object identification (which for years has been used to help memory), and why comprehension is roughly the same meaning as understanding.
In the study of Technical Analysis, let's break down M.I.A.C. (memory, imagination, attention, and comprehension).
- Memory – Statistics; the set of past events affecting a given event in a stochastic process.
- Imagination – The formation of a mental image of something that is neither perceived as real nor present to the senses.
- Attention – Observant consideration.
- Comprehension – Logic; the sum of meanings and corresponding implications.
Chart Pattern Recognition by definition is a grouping of "sticks on a grid" that display "sentiment," which has an outcome to the direction and distance something might move or break. With that outcome, we have attached different odds of probability to the success or failure of that pattern.
Each pattern that is identified typically forms a geometrical shape, and this is where memory and imagination come into play. First, you need to remember that different patterns have different outcomes, and different outcomes have degrees of failure and success. Second, you need to be able to see what others may not in an ever-growing world of technology that is in constant one-upmanship or who can see what may be there faster than the guy sitting next to you.
The object of the game as always is to identify the highest-probability chart patterns and milk them for all they're worth. (In the terms of beating your opponent at his own game, you have no idea who your opponent is and lastly will never know why.)
Skillful Chart Pattern Recognition also requires the ability to remain constantly vigilant for the possibility that there is no "logic" in what we are looking at and trying to understand. We often call "Expanding Triangle" patterns "Nut Hut Patterns" because they defy logic and refute the very things we instinctively know as human beings. We are told, "higher highs are bullish." We are told, "lower lows are bearish." The "Nut Hut Pattern" has both!
Here's an example of what the Expanding Triangle looks like:
John, this was an awesome update. You have this incredible ability to see the future by detecting chart patterns.
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Timothy 11/05/07
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Ron K. 11/05/07
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