Gartleys and counter factuals
Earlier today I tried to put together a semi-coherent post on technical trading, chart pattern stock trading, and a concept called researcher degrees of freedom. This will be a sort of continuation of that post. In particular, I think there was something I didn’t cover earlier that I should: what is the right way to evaluate the success of trading off Gartley patterns? What is the credible counter factual scenario that a Gartley trade should be measured against?
## Now A Little Thought Experiment
The issue that I want to raise here related to Gartley 222 chart pattern is this: is a Gartley reversal any different from the thousands of price reversals apparent in the stock market on a daily basis? I mean, I’m convinced that the Gartley 222 is just sort of regular phenomenon with no special meaning or superpower…but if I haven’t convinced you yet, this example might help.
My basic premise here is that trading the Gartley 222 pattern basically amounts to:
labeling a price move as a “potential Gartley D point”
observing a set of conditions preceeding that point and if those conditions are met (AB is approximately 0.618(XA), AD is approximately 0.786(XA), etc.) taking a position on the D point (buy/sell).
If there is truly some magic to the Gartley then trades off of that set-up shouldn’t JUST be profitable…they should be more profitable more often than trades involving your run of the mill inflection point (a change in the direction of price movement that IS NOT preceeded by the magical Gartley movements).
Let’s start by considering this Gartley set up in the chart of Vista Gold Corp (VGZ) from June 2006 to around December 2006.
I’m going to use this Gartley in VGZ to illustrate the kind of comparison I think one needs to do in order to say that there really something special about the Gartley. This is a little ex-post strategy comparison:
Strategy 1: We got confirmation of a Gartley Buy signal (point “D”) on October 4, 2006. Suppose we bought the equity on the open the next day (at 8.79). Also, suppose we set our profit target at D + 0.618(C-D) which would be at 9.89. We would have achieved that on October 16, 2006 for a profit of 1.10.
Strategy 2: rather than wait for a Gartley to form we just trade off every inflection point on the chart. We set a stop at the break-even point and we take profits anytime they exceed 10%.
- we buy on the open each day following a confirmed price reversal
- stops are hard stops at the break even point
- we sell each long position or cover short position at exactly the price that gives us 10% even if the equity moved higher or lower during the day we close the position.
If we start with the inflection point labeled “A” on our original chart and just proceed to trade off every reversal here is what would happen over the course of the first 4 trades:
- we would sell on Sept 6 at 13.07. This is the opening price following the confirmed reversal on Sept 5. The equity moves down and we cover at 11.76. We pay a 7.00 commission on the short sale and the cover which means our profits are
On Sept. 13, following the reversal on Sept. 12, we buy on the open at 9.95. We get stopped out the next day. Our stop is set at break-even but we still pay the 7 commission on the purchase and the sale. This brings our capital down to 10,988 - 14.
On Sept. 18 we again buy on the open. We buy at 9.12 and get stopped out a day or so later for another 14 lose. Our capital is now at 10,967.
On Sept. 21 we buy on the open at 8.81. The equity runs to our profit target and we sell at 9.69. Our profits on this transaction are:
Our capital is now at 12,047. The single Gartley transaction got 1.1 on 1,137 shares for a profit of 1,237.42.
Strategy 1 (the Gartley):
- starting capital, 10,000
- ending capital 11,237
- starting capital, 10,000
- end capital 12,047
For starters the strategy I proposed of just trading off every inflection point is probably a really bad one. You likely to pay more in commission than you get off your trades and you’re also likely to incur substantial opportunity cost - having your capital at stake in a precarious Risk-Reward situation and unavailable when better opportunities arise.
However, I really like these “dumb” strategies for illustrative purposes. That is, if the Gartley is so great, why can’t it beat a strategy I just pulled out of my ass this morning and that I actually KNOW is a bad way to behave in the stock market?