The GMMA-Trading the Breakout

7/18/2019 The GMMA-Trading the Breakout

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THE GMMA – TRADING THE BREAKOUT

The Guppy Multiple Moving Average (GMMA)indicator was first mentioned in Trading Tactics in1997. ince then the use and application of the indicator

has !een refined. "n response to re#uests from readers$this series of notes !rings together these modificationsand improvements.

Aggressive traders attempt to identify a change inthe downtrend % an up trend !rea&out % as soon as ithappens$ or even !efore it happens. This is aggressivetrading !ecause it carries a higher level of failure. 'nlessthe trader has e cellent trading discipline there is thedanger of holding onto a stoc& as it continues to go downin the hope that it will eventually re!ound.

A more common$ and in some ways$ safer

approach$ is to trade the trend !rea&out in the days orwee&s after it has happened. This does reduce profitswhen compared with an earlier entry$ !ut this reduction iscounter!alanced !y the increased pro!a!ility that thetrend !rea& will develop into a sustaina!le new trend.ew traders are content with *oining these trends at any

price point. Most try to get the !est entry possi!le$ !asedon a pull!ac& in price. "f we understand the nature of thetrend and the !rea&out using the techni#ues discussed lastwee&$ then we can ta&e advantage of these points of pricewea&ness !ecause we are confident in our analysis of the

developing trend.The GMMA is applied in real time to assess the !est entry opportunities after the

!rea&out is confirmed. "t gives us an answer to the #uestion+ "s this price collapse part ofa general new trend collapse$ or an entry opportunity, This is a significant #uestion

!ecause young trends are wea&. There is a higher pro!a!ility of trend collapse. -rea&outs come in two important formats. The most common is the /0 shaped

!rea&out where a clear downtrend develops into a clear up trend. This is clearretrospectively$ although at the time the process can !e frightening and many tradersdelay the entry !ecause they are worried a!out a trend collapse.

The less common is a !rea&out from a trading range$ or a prolonged sidewaysmovement. This is an important characteristic of !ear mar&et recoveries and it presented

a common pattern in the first months of 223. "t also applied to stoc&s that have !eenloc&ed in a downtrend for e tended periods. These rarely !ounce in a /0 recovery."nstead they drift sideways for months. 4hen they do !rea& out they can deliver veryattractive profits. 4e start with this pattern.

"n assessing the GMMA relationships in !rea&out trades we consider fourrelationships. The first two apply to the longer term group of averages$ and the secondgroup to the short term group of averages. 4e loo& for+

TRADERS GLOSSARY

-56A 8'T A !rea&out ta&es placewhen price moves away fromits e isting pattern. This can !ethe change from a downtrend toan up trend$ or from an up trendto a downtrend. "t can also !e a

price move a!ove a wellesta!lished support orresistance level. A !rea&out is

price activity that is differentfrom the general pattern of

price activity that has e istedfor days or wee&s previous.

-rea&out tradingcarries high ris& !ecause thereis no guarantee that the

!rea&out will persist. Many !rea&outs are false$ so tradersloo& for other indicators toconfirm that the !rea&out is forreal. 5eal !rea&outs are very

profita!le. onservative tradersloo& for !rea&outs$ !ut thenloo& for confirmation that thetrend has changed.



• ompression. 6arly in the !rea&out the long term group compresses asinvestors reach agreement on the value of the stoc&.

• :irection. ompression indicates agreement. The direction of thecompression provides clues to the future development of the trend. 4eloo& for compression and an upwards !ias.

• ollapse. "t ta&es a lot of effort to !rea& out of a downtrend. These ralliesare short lived$ and we e pect them to collapse. The nature of the collapsein the short term group provides clues to the strength of trader activity.

• 5apid !ounce. A fast !ounce and recovery in the short term groupconfirms increased trading activity and this forces interested investors to

!id higher to get stoc&.The A;6 !ar chart highlights the pro!lems we face in many !rea&out trades. irst$

we pro!a!ly missed the initial !rea&out. -y the time it shows up on a once a wee& searchof the data!ase$ the initial opportunity has passed. 4e leave it on our watch list to see

how it !ehaves when prices collapse after theinitial rally. At thedecision point shown weneed to decide on the

pro!a!ility of a !ounceoccurring. Get thiscorrect and we can tradefrom around <=.>2 to<?.12 or even higher if afull trend develops.

The GMMAindicator help us to ma&e a !etter decision at the decision point shown !y the verticalline. 4e start with the analysis of the long term group. @o trend can survive without

!uying support from long term investors. 4e may intend to ta&e a trading approach tothis opportunity$ !ut unless investors are there to lend a helping hand$ we do not get theopportunity to *oin a prolonged trend.

ompression is an easy #uestion to answer. Already the long term group is wellseparated. "t shows no sign of compression in response to the drop in prices seen on the

!ar chart and shown here !y the collapse of the short term group of averages.The direction of the long term group is still upwards$ even though the speed of the

rise has slowed slightly. The compression and direction suggest this trend has strength sowe can trade with increased confidence and ta&e advantage of this temporary low in

prices.

This analysis is confirmed when we turn our attention to the short term group.Trader activity always leads investor activity as traders pro!e for wea&ness in downtrends$ and test the strength of up trends. This has !een a orderly collapse in prices.Traders are not panic&ed. "t does not ta&e long !efore new traders come into the mar&etand start !uying. They see the fall in prices as an opportunity rather than an alert signal toa!andon a wea& trend. The period of compression and agreement is short$ and thee pansion starts #uic&ly.



"f we choose to wait a few days$ the rapid compression that precedes a rapid !ounce is revealed. At this decision point many traders will !uy A;6 in anticipation ofthis type of re!ound !ecause the first three factors % compression$ direction and collapse

% are consistent with a !rea&out developing into a longer term trend.This conclusion does !eg the

#uestion of how we decide that thisis a real !rea&out from the sideways pattern. The answer comes from thecomparison of area A and area -.4e start with the pull!ac& in theshort term group. "n area A this

pull!ac& never develops into are!ound. "n area -$ the degree of

pull!ac& is smaller$ and the pull!ac& #uic&ly develops into are!ound that carries the short term

group to new highs.This is further confirmed !ythe long term group. "n area A thisgroup does not get a chance toseparate. They do not e pand. Atthe time of the pull!ac& in the shortterm group$ the long term group is

*ust a thic& red line. ompare thiswith the pull!ac& relationship in area -. The long term group is well separated andclearly moving upwards.

This analysis confirms the !rea&out spi&e to <?.12 shown on the !ar chart has ahigher pro!a!ility of !ecoming part of a !road up trend development rather than *ust atemporary rally or spi&e.



"t is easier to apply GMMA analysis to the classic /0 shaped trend !rea&outwhere a downtrend #uic&ly develops into a new up trend. The danger in these youngtrends is that the !rea&out may turn out to !e *ust a short lived rally. 8ur fears areconfirmed when the !rea&out falters and prices dip !ac& from the initial highs. "s this a

!uy point$ or an e it signal,"n a classic$ te t !oo& e ample of the /0 shaped trend reversal this #uestion does

not arise. ;rice simply clearly change direction$ and do not loo& !ac&. There is no pointin waiting for a price pull!ac&$ or a rally collapse so it is important to recogni e these

!rea&out characteristics early. 4e can reach some initial conclusions at the decision pointshown. 4ait a wee& or so$ and the conclusions are clearly confirmed.

The &ey is the !ehavior of the long term group. They have gone from separatedand down to compressed and up. The direction of the long term group has changedrapidly. 5emem!er that the longest average in this group is a ?2 day calculation. Bet !ythe time of the decision point all the long term group of averages have turned up. This isan early confirmation of the trend !rea& and of the strength of the trend. Bou cannot getthis type of information from any other indicator$ and certainly not from *ust two movingaverages using a crossover signal.

The long term group has also compressed and this tells us that the investors are inagreement a!out the value of the stoc&. They are not waiting for a pull!ac& !efore ta&ing

action. They are worried they are going to miss out$ so they are aggressively starting toout!id each other to esta!lish a position.Traders see this and they choose not to sell. Coo& at the character of the short

term group of averages. They compress a few days !efore the decision point line$ andthen move upwards and spread out #uic&ly. There is a lot of steady !uying activity here.ompare this relationship with area on the A;6 GMMA display. 4e are !eing

aggressive at this decision point$ !ut the nature of this e pansion suggests strong traderand investor support. 4hen traders come to sell$ there are other traders who are prepared



to !uy at these prices. They are not waiting for a price pull!ac& to get an entry. As aresult there is no compression in the short term group. They #uic&ly move into a parallelrelationship. The circled area A is further confirmation of this. ee this pattern and you&now you have no choice !ut to ta&e the current price if you want to *oin this ro!usttrend.

Most time a trend !rea&outfollows a series of attempted

!rea&outs % the rally and retreat !ehavior discussed last wee&. 4henthe !rea&out develops we see a patternof rallies and retreats and re!ounds.The C chart illustrates how theseoccur and shows how we applyGMMA analysis to ma&e a !etter

*udgment a!out the advisa!ility of anentry at decision point 1 and .Although we are cautious in applyingthe GMMA as a means of anticipatinga trend !rea&$ the C display showshow this can !e achieved.

The !ar chart shows adowntrend defined !y the straightedge trend line. ;rices haveconsistently moved up to the line$ andthen dropped down. This pattern of

rise and retreat has defined the downtrend so there is no o!vious reason why we would !einterested in decision point 1. There has !een no !rea& a!ove the trend line. :ecision

point which follows the collapse of the initial !rea&out rally is the more traditionalapplication of the GMMA to !rea&out trading. 8ur concern is that if we !uy in this area

that prices may drop to the trend line$re!ound$ then retreat to the trend line againas shown !y the thic& red line. 4e use theGMMA to decide whether this is a li&elyoutcome$ or if prices are li&ely to re!ound ina new up trend as shown !y the thic&er !lueline.

The GMMA provides answers to !oth decision points. The &ey analysis thatfavors an entry at decision point one startswith the long term group of averages.Traders need investors$ so we need tounderstand their !ehavior. 4e start with thecompression and directional !ehavior shownin the area circled. The long term group is

!eginning to compress. ome investors are !eginning to thin& that C has a !righter



future. ompression tells us that investors are not ta&ing advantage of temporarily higher prices to sell. "t tells us they are !eginning to !uy as prices rise. ome of them are !eginning to worry that they might miss out on an opportunity.

Their action is most li&ely driven !y fundamental analysis. 4e do not need toread their analysis to &now that it is !ullish !ecause the direction of the compression is

upwards. This is a !ullish signal in a downtrend from the most conservative mar&et participants.hift our attention to the trader activity and it is the rally collapse and re!ound

!ehavior that attracts our interest. This is not a sharp rally. The collapse does notresem!le that shown in area A. This is a slower decline. Traders are not in a rush to ta&e

profits.The short term group does slip !elow the long term group$ and then it re!ounds as

shown !y the rapid compression. There is a lot of e citement here as traders *ostle eachother to !uy stoc&. They !elieve C is going to lift.

And the investors also !elieve this. The long term group continues to compressand the direction is up$ even after the minor stum!le in late May. This is a very !ullish

environment. Aggressive traders have no hesitation in !uying at decision point 1 !ecauseof the developing investor activity. Traders lead the way$ !ut we only follow wheninvestors are showing increased willingness to !ecome !uyers. This GMMA analysissignal leads the price !rea& a!ove the trend line !y several days.

The C !ar chart presents a different set of pro!lems at decision point . 4ehave the opportunity to *oin a developing trend at a point of price wea&ness. 4e have to&now that this is not a point of trend wea&ness. The important relationship is shown !ythe long term group. The group is not compressed. The wide spread that developed at thetop of this initial rise is largely maintained as the long term group !egins to turn downslightly. This degree of spread is also maintained as we move !eyond decision point .

The underlying feature of the GMMA is the compression and e pansionrelationship. ompression shows agreement. 6 pansion shows disagreement. "f the longterm group turned down$ and !egan to compress we would infer that investors are selling.4hen the long term group slows$ move sideways$ or ta&es a slight dip and remains wellseparated then we infer that investors are still !uying stoc&. They are not fools. They willnot pay more than they have to$ so as prices dip$ driven !y trader selling$ the investors donot have to pay as much to !uy. "n unison$ they lower their !id prices and we see a dip inthe long term group !ut the averages remain parallel with each other.

"t is the move towards compression which shows some investors are selling intothe price rise$ and selling into the price dip$ that is a cause for concern. This does nothappen at decision point .

The direction of the long term group is not down. This is certainly a pause$ and a !road move sideways$ !ut it is not a reversal. 4e can !e confident this trend is intact$ andstrong.

nowing the ground is firm underfoot. 4e can then turn to understanding howtraders are reacting. The price collapse is sudden$ !ut so is the re!ound. There is asignificant gap !etween the 3 and = day averages and the rest of the averages in the shortterm average group. hort term traders have sold down the stoc& aggressively$ !ut thosewith a slightly longer time frame are not so eager to sell. The most aggressive sellers dipinto the long term group of averages$ !ut the least aggressive see the price dip as a !uying



opportunity. The re!ound starts #uic&ly as the shorter averages turn up in a scram!le to !uy !ac& into the stoc&.

A successful !rea&out #uic&ly drags the long term investors with it. This groupseparates rapidly and does not react significantly to the inevita!le !rea&out rally collapse."t is this relationship that confirms that decision point is a safe entry point and that there

is a strong pro!a!ility that this new up trend will continue."t is the activity of investors that help us as traders to !etter understand the nature of the !rea&outopportunity and to asses the pro!a!ility of a young trend continuing. Typically traders spend a lot of timeon an entry decision and less time on the e it. The GMMA is a useful e it tool !ecause it helps us tounderstand the nature of the developing trend failure so we can select the most appropriate e it indicatorsand apply them at the most appropriate time. 4e loo& at these application ne t wee&.

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The GMMA-Trading the Breakout