The Gann Theory
To make money in the market, you have to learn to play the angles.
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Gann Theory uses three key ingredients, or indicators, to project changes in trend and market direction. They are:
These indicators exert their influence with one or the other being more determinate under different conditions. But they are best applied in a balanced manner. According to James A Hyerczyk, the focus of the theory is to find their interlocking relationship. Specific price patterns and angles have special properties that can be used to predict future prices.
The indicators involve three studies:
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Prices have a way of repeating themselves -- of vibrating, as Gann says. Individual stocks follow their own law of vibration. Think of vibration as periodic oscillation, waves, or cycles, as in Cycle Theory. Connect the idea with electromagnetic waves, which are periodic, oscillating physical phenomena. Gann himself thought of market waves as physical phenomena. He felt that discovery of this natural characteristic of stocks can be a source of profit, because you can anticipate -- predict -- where the price will be. (See repositories of information.)
When Gann draws his "Gann" lines, he uses what he calls vibration lows and vibration highs. In other words, prices swing down to lower levels and turn around and go up again -- making a "vibration low." Or they swing up and turn around and come down again -- making a "vibration high." The idea is mostly intuitive:
Gann was a mathematician and thought of stocks in numerical terms. In this respect he might be compared to Fibonacci. Recall that in cycle theory the ratio of sequential Fibonacci numbers is used to predict the extent of price retracement to project future prices.
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Pattern, price, and time are intimately related. But it isn't simply the time plot of prices that links them. They're connected in a deeper, geometric sense, through geometric angles.
The Geometric Relationship
For Gann, the markets are geometric in design and in function -- they follow geometric laws when charted. To maintain a harmonic relationship between the indicators for a stock, you have to select an appropriate price scale. You do it by charting the stock to learn how it behaves. He based the scale on a rule that established a Gann angle. This was commonly a 45-degree angle -- a 1 by 1 angle, because it represents one unit of price and one unit of time.
You may recall that a 45-degree angle has a tangent equal to one.
You can see how the angle, price, and time together determine the size and shape of the pattern. This is the geometric relationship as expressed in a 1 by 1 Gann angle.
Horizontal and Diagonal Support and Resistance
It is common among technicians that horizontal lines can be support or resistance lines to price movement. For example, the neckline of a head and shoulders top is a support line for prices above it and becomes a resistance line when prices fall below it. In Gann theory there are diagonal as well as horizontal support and resistance lines, created by the Gann angles.
Gann angles are initiated either at swing tops or at swing bottoms. When a top forms, you create a downward Gann angle by drawing a line from the top, to the right and down. The precise angle depends on the stock -- how the stock behaves. Similarly, when a bottom has formed, you create an upward Gann angle by drawing a line from the bottom, to the right and up. Here, too, the proper angle is determined by empirical data about the stock.
The more commonly used angles are:
These angles are fine-tuned to adjust to the characteristics of individual stocks. I believe that this "fine tuning" renders the theory empirical. In other words, you have a guessing game on how the stock behaves and you build the triangle theory around your experience of its action.
The angles are best applied to intermediate-trend charts, because there would be too many lines in minor trend charts and too few lines in main trend charts. See Hyerczyk for details of Gann angles as applied to commodities.
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A bar chart is identified by the time interval of its price bar. So a chart that plots hourly data is an hourly chart. One that gives daily patterns is a daily chart. Weekly charts have weekly bars. Etc. Utility of the charts depends on the amount of data available to display patterns. A daily chart, for instance, needs at least one year of data. For weekly charts, you should have at least two years' worth. For monthly charts, you should have a database of at least five years.
To produce useful information on a chart for analysis, you have to format it properly. (This is where price experience comes in.) For the Gann analyst, the basic chart is the trend indicator or swing chart. It can be created for all time periods (hourly, daily, weekly, etc.), simply because all markets make swings and have trends. On each type of bar chart, you can generate minor, intermediate, and main trend (or major) swings.
Minor swings result when the market makes a bottom (top) in a bar and moves to a higher-high (lower-low) in the next bar. A minor trend line then goes from the recent low (high) to the new high (low).
Intermediate swings are two-bar swings, one-bar swings being ignored. Whether hourly, daily, weekly charts, the intermediate swing occurs when the market moves from an intermediate low (high) price to a new high (low) in two consecutive time periods. The intermediate trend then moves up (down) from the intermediate low (high) when the market makes a higher-high (lower-low) than the previous high (low) for two consecutive time periods.
Main trend swings are constructed in a similar way, except they require three-bar movements, in which case, one- and two- bar movements are ignored. The main trend thus moves up (down) from a main trend low (high) when the market makes a higher-high (lower-low) than the previous high (low) for three consecutive time periods.
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There is a difference between a change in trend and a correction, determined by the behavior of prices around previous tops or bottoms, as follows. If the trend of prices has been up, and the price falls toward a previous low but doesn't drop below it, the downward move is only a correction. Otherwise, it represents a change in trend from up to down.
In a down trending main trend, for example, in Hyerczyk words, the only way for the main trend to turn up is to cross a main top. If the market makes a main swing up that doesn't take out the previous main swing top, this is just a correction.
One measurement used by Gann to estimate where the reversal will occur is what he calls squaring the price. I don't know what the expression means, but it might refer to forming a right triangle, which pits the hypotenuse of the triangle against the sides. The measuring technique is to identify a "significant" price point, like a major high or low, and measure out the price at that point along the price line, either as days, weeks, or months. The reversal date would then be likely to occur on one or the other of those three days.
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