|The bottom panel of Figure 1 is that of the Proshares UltraShort Russell 2000 ETF (TWM). This panel also shows the 50-day linear regression line (middle downsloping red line) along with its upper and lower two sigma channel lines. The linear regression line represents the trend and is often referred to as the linear regression trendline. The upper and lower two sigma channel lines represent the range in which price moves 95% of the time. In the majority of cases, once price moves outside the two sigma channel lines, it signals a high probability of a change in trend. |
However, on occasion once price moves outside the two sigma channel lines, it turns and moves back inside the channel lines. The reason is that 5% of the time it is statistically valid for price to move outside this range. Note in Figure 1 that in late May 2011 price did move outside the upper two sigma channel line but then turned and moved back inside the channel. The first of June, however, price did move outside the upper channel line and continued to move higher.
|FIGURE 1: TWM, DAILY. This chart shows the daily price chart of the Proshares UltraShort Russell 2000 ETF, in the bottom panel along with the 50-day intermediate-term linear regression trendline and its upper and lower two sigma channel lines, the linear regression slope indicator in the top panel, the R-squared indicator in the second panel, and the relative standard error index (RSEI) in the third.|
|Graphic provided by: MetaStock.|
|The top panel of Figure 1 shows the linear regression slope indicator. This indicator shows that on May 3, this indicator moved above its zero line signaling a reversal in the 50-day linear regression trendline from down to up, representing a change in the intermediate-term trend of TWM. This change in trend from down to up can also be seen in the bottom panel as shown by the green upsloping linear regression trendline. Note also that price has now moved up to the green upsloping linear regression channel line. |
This upper channel line acts as a line of resistance where the lower channel line acts as support. With price now at the upper channel line, two things can happen, price can either bounce off the channel line and move higher, or price can break down below this channel line and continue lower. To resolve this dilemma, I often move to a smaller time frame and redo my statistical analysis.
However, note also that the last trading bar has turned red. This is an indicator that also warns of a very short-term reversal in trend. Look at the other past red bars and you will see that in the majority of cases when the daily trading bar turned red price moved lower for several days. Thus, this latest red bar is signaling that price is now ready to move lower for the next several days. Note that there is at least one occasion when a red trading bar provided a false signal. Expect price to now move down to the upward sloping green 50-day linear regression trendline before continuing higher, however, to be on the lookout for a false signal and an immediate breakout above the upper linear regression channel line.
|The next window down from the top is that of the R-squared indicator. The R-squared indicator is a statistical measure of the strength of the trend. Note that this indicator has now moved above its critical level, indicating that there is now a 95% confidence level that the newly established intermediate-term upward trend will continue, however, with also a 5% chance that it will not.|
|The third panel from the top of Figure 1 is that of the relative standard error index (RSEI). The RSEI is a statistical measure of volatility. Note that the RSEI is below 0.5, indicating below-average relative volatility. This is an indication that the newly established upsloping trend is starting to settle down into its new trend.|
|In conclusion, the intermediate term statistical analysis shows that the TWM has now reversed from a downtrend to an uptrend. Intermediate-term trends normally last from a few weeks to a few months. As a result, we should expect to see price continue to move higher in the weeks ahead. However, before continuing to move higher, there is a chance that price may move back down to the linear regression trendline before resuming its upward climb.|
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