Market Manifesto

We speak here about repet­i­tive activ­i­ty with­in areas of con­ges­tion.

“Congestion action” is our term for that kind of trad­ing which goes up and down, up and down, between sup­port and resis­tance, and resis­tance and sup­port. This pat­tern occurs again and again, and occurs in a great major­i­ty of all mar­ket activ­i­ty. When you see the mar­ket bounc­ing back and forth across the PLdot with­out clos­ing three times in a row on one side – that’s con­ges­tion action.

Cer­tain­ly con­ges­tion action does take up a huge per­cent­age of mar­ket activ­i­ty if we include the kind of con­ges­tion action that we see in very slow trends up or down, when the whole con­ges­tion area itself is slow­ly on the move.

These slow­ly ris­ing or falling con­ges­tion areas are true con­ges­tions in our view, because they nev­er devel­op into a trend. In the Drum­mond Geom­e­try method­ol­o­gy, that would only occur – can only occur — when we have three con­sec­u­tive clos­es in a row on one side of the PLdot.

How­ev­er you cut it, one thing must be clear. Con­ges­tion action is the essence of nor­mal­i­ty. It is nor­mal, nor­mal, nor­mal, as com­mon­place as brush­ing your teeth, or wash­ing your hands, or walk­ing about.

One might sup­pose there are impli­ca­tions to this fact, and one would be right.

Nor­mal does not mean iden­ti­cal, because the nor­mal encom­pass­es infi­nite vari­ety.
Look at any com­mon ele­ment in nature – say the leaves on a shag­bark hick­o­ry, or the tines on white-tailed deer antlers. You could col­lect a hun­dred thou­sand leaves, and not find one that was iden­ti­cal to anoth­er. Yet if you were to chart out the nature of the dif­fer­ences you would find that the pat­terns of the leaves fell per­fect­ly with­in the known laws of sta­tis­ti­cal vari­a­tion and com­mon­al­i­ty.

Now deer antlers are inter­est­ing phe­nom­e­na. (What on earth do deer antlers have to do with trad­ing, you are per­haps ask­ing?) They clear­ly grow in a reg­u­lar pat­tern, as we see two antlers per stag head, usu­al­ly, and they seem to branch in sim­i­lar ways. But these appendages also have enor­mous vari­ety. And they grow larg­er each year, usu­al­ly in the same pat­tern for each deer, but not always…
Some of the ways that they vary – thick­ness, num­ber of tines, out­side spread side to side, height, inside spread, num­ber of tines up or tines down, the way the antlers split and branch, close to the head or high­er up in the tree. The vari­ety can be caused by age, diet, by stress, acci­dent and by hered­i­ty and shifts in the gene pool, in short by this and by that.

Hunters and col­lec­tors have an inter­est in see­ing who can come up with the largest set of antlers, but there are so many dif­fer­ent vari­a­tions that they have to estab­lish a spe­cial way of mea­sur­ing the dif­fer­ence between the antler sets. That way they can set­tle the argu­ments that inevitable arise between the hunter who has the deer antlers that spread espe­cial­ly wide and the hunter whose antler set spreads not so wide but has more tines, and so forth.

Well it turns out that there is a spe­cial set of com­bined mea­sure­ments that, when tak­en as a set, com­bine all of these many vari­a­tions and estab­lish a sin­gle num­ber which encom­pass­es all of the vari­ety into a sim­ple way of ensur­ing and com­par­ing these dif­fer­ing antlers. It’s called the Boone and Crock­ett score, a com­bined total of beam, tine, and spread, all mea­sured out to the eighth of an inch.

All this is a com­pli­cat­ed way of explain­ing that some­times we have to devel­op a sophis­ti­cat­ed way of mea­sur­ing nor­mal­i­ty so that we can also estab­lish the out­er lim­its of what occurs in nature. In the Drum­mond Geom­e­try method­ol­o­gy we do this through our def­i­n­i­tions of con­ges­tion and con­ges­tion action, the five kinds of trad­ing. And then we add the mon­i­tor­ing tools so that we have a com­plete method­ol­o­gy of estab­lish­ing the nor­mal and the not so nor­mal.

Nor­mal does mean com­mon­place, and thus pre­dictable, but only in a cer­tain way, and only in groups and sam­ples and selec­tions, not in spe­cif­ic cas­es. Most leaves are sym­met­ri­cal, but there are those anom­alies that are not. Most deer have match­ing antlers on both sides, but some do not, and in any case the word ‘matching’ implies pre­cise­ly iden­ti­cal, and that does not occur, for there are always small vari­a­tions, one side to the oth­er.

So “The Nor­mal” is a mat­ter of def­i­n­i­tion, of “screening”, or ”graining,” as in the “coarse grain­ing” and “fine grain­ing” we spoke of ear­li­er in these lessons.

Where do we draw the line? If we include all the out­ly­ing points – the dis­tant and aber­rant data points — then we would have no dif­fer­ence between the nor­mal and the abnor­mal.

The Nor­mal requires a def­i­n­i­tion of a range, and this is the busi­ness of sta­tis­tics.
We run across the con­cept many times in many dif­fer­ent types of mar­ket analy­ses. Sta­tis­ti­cians often mea­sure nor­mal­i­ty by mea­sur­ing the degree to which an indi­vid­ual val­ue in a prob­a­bil­i­ty dis­tri­b­u­tion tends to vary from the mean of the dis­tri­b­u­tion. This is called the stan­dard devi­a­tion, and prob­a­bil­i­ty can be mea­sured in terms of the num­ber of stan­dard devi­a­tions. About 68 per­cent fall with­in the first stan­dard devi­a­tion, 97 per­cent with­in the sec­ond stan­dard devi­a­tion, and so forth. These con­cepts have been known and stud­ied for cen­turies.

But the crit­i­cal point here is that one can­not pre­dict the place­ment of any sin­gle data point. One can not pre­dict the out­come of any sin­gle trade but you can pre­dict the per­cent­age out­come of many trades.

Trad­ing is a game of per­cent­ages. One can­not pre­dict every­thing and so there will be loss­es, and one must learn how to take these loss­es, and con­trol them. But if the trad­ing plan is sound there will be many more wins than loss­es, and that is where the poten­tial for win­ning comes in.

Let’s think about vari­a­tion and con­stan­cy in the nat­ur­al world.

This is nor­mal­i­ty, in its infi­nite vari­ety. Apply the right “screen” or “filter” and you can see clear­ly what is occur­ring.

So nor­mal­i­ty is a mat­ter of prob­a­bil­i­ty and per­cent­ages. A moment’s thought and you must real­ize that the obverse is also true – that the aber­rant, the abnor­mal, and the occa­sion­al are also a mat­ter of per­cent­ages. It’s just that the per­cent­age is much small­er.

Vir­tu­al­ly all sci­en­tists and social sci­en­tists are com­plete­ly at ease with these con­cepts. It is famil­iar mate­r­i­al in many fields.

Let’s think about the prac­tice of med­i­cine for a moment. A patient comes in to the physician’s office with this or that com­plaint and the physi­cian has to fig­ure out what might be caus­ing the symp­tom. After all, many com­plaints are vague and could result from many dif­fer­ent con­di­tions. The physi­cian has to take all of his knowl­edge and the sum total of his past obser­va­tions and make an edu­cat­ed guess, based upon the per­cent­ages. A child comes in with a sore spot on his leg. Chances are it is a bruise, not bone can­cer. A woman with a stress­ful job gets headaches. Prob­a­bly stress as opposed to a frac­tured skull. An over­weight mid­dle-aged man presents with a nag­ging painful spot by his ster­num after eat­ing. Chances are it is heart­burn as opposed to a heart attack. But in order to make the diag­no­sis, the physi­cian has to know what it could be as well as what it like­ly is. Oft-times the dif­fer­ence between the expe­ri­enced physi­cian and the rank begin­ning med­ical stu­dent is that the young stu­dent leans towards the extreme in diag­no­sis because all the pos­si­bil­i­ties for exot­ic or sta­tis­ti­cal­ly improb­a­bly actions are much more attrac­tive to him than the com­mon­place con­di­tion.

Physi­cians have a say­ing for this, “When you hear hooves, you think of hors­es, not zebras.”

To apply all this to the art of trad­ing? Well, it is not a big step. Learn to play the per­cent­ages, be real­is­tic about what is like­ly to hap­pen, and while you remain aware about the pos­si­bil­i­ties of this par­tic­u­lar move being a break­out, chances are that you will find that the nor­mal pre­vails yet once more.

Some games of chance are high­ly worked out, such as the gam­bling house games, where the prob­a­bil­i­ties are known to ten dec­i­mal places. Pok­er, where the prob­a­bil­i­ties of draw­ing into a roy­al flush have been worked out since the sev­en­teenth cen­tu­ry, is one exam­ple, and so the infor­ma­tion is per­pet­u­al­ly avail­able to all who will invest the time to learn it.

The idea of the nor­mal has been stud­ied and worked out in detail a series of bril­liant math­e­mat­i­cal inno­va­tions in the sev­en­teenth cen­tu­ry that have made the mod­ern sci­ence of risk man­age­ment pos­si­ble. The whole idea of the futures mar­ket is based on shift­ing risk from one par­ty to anoth­er, some­thing what would be impos­si­ble if we had no way to mea­sure, describe, or quan­ti­fy risk. Risk is the under­bel­ly of nor­mal­i­ty, and when we mea­sure the nor­mal we also have mea­sured risk.

It is for this rea­son that con­ges­tion action trad­ing is so inter­est­ing. We can mea­sure the prob­a­bil­i­ty of this or that hap­pen­ing with great sta­tis­ti­cal pre­ci­sion. We can learn how to trade this mar­ket con­di­tion in such a fash­ion that we are run­ning with the hors­es, not zebras.

The nor­mal is about bound­aries, and bound­aries are about lim­i­ta­tions, and trad­ing with lim­i­ta­tions means trad­ing with guide­lines. Trad­ing – any kind of trad­ing, but espe­cial­ly trad­ing in con­ges­tion action – is con­fus­ing and trou­bling when con­duct­ed with­out guide­lines. We must give def­i­n­i­tion to our approach to the mar­ket or we will be over­come with con­fu­sion. How­ev­er too many rules cre­ate harsh­ness, rebel­lion, and fur­ther con­fu­sion, so that there must be lim­its even on our lim­its.

In the end, that is the chal­lenge of con­ges­tion action trad­ing – to have the right con­cept of the nor­mal, spec­i­fied the right scale, the right “graining” for the sit­u­a­tion we are encoun­ter­ing. And then we must place this under­stand­ing of the nor­mal in the prop­er con­text, where we expect and react to things in the except­ed way, but in the back of our mind always stay aware of the pos­si­bil­i­ty that this time it could be dif­fer­ent.

This might make one think that exces­sive empha­sis is placed on trend fol­low­ing, as it is abnor­mal, almost an aber­ra­tion, in a way, except of course it is too glib to say such a thing.

Nev­er­the­less if we learn to under­stand the market’s nor­mal­i­ty, then we shall have the oppor­tu­ni­ty to tap this nor­mal­i­ty and turn it to our own pur­pos­es, and to cre­ate wealth, and if we are wise, to cre­ate free­dom with that wealth.