Best Guess Put to the Test

The following is an excerpt from a Q&A session between Jack Schwager and Mark Ritchie from CRT in The New Market Wizards:

MR: Most people don't distinguish between drawdowns in open equity and drawdowns in closed equity. If I protected open equity [i.e., open profits] with the same care I protected closed equity, I would never be able to participate for a long-term move. Any sensible overall risk control measure could not withstand the normal volatility in such a move.

JS: In other words, in order to score the really large gains, you have to be willing to see those gains erode significantly before getting out of the market.

MR: I can't see any other way. If you get too careful about not risking your gains, you're not going to be able to extract a large profit.

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The CMI 3.0 apparently couldn't agree more. Due to price action and volatility, the CMI's long term buy signal overrides the short term sell signal (noted in the chart with an arrow on 2/25), and the trade continues until more convincing downside price action occurs. If the high of 2/16 represents 80% of the duration of this trade, using averages of previous trades, this QLD trade is approaching it's end. Keep in mind, this is just a rule of thumb.



Since the CMI is an unemotional beast, it uses the highest probabilities based on historical data and has determined that the high of 2/16 does not represent 80% of the duration of this trade. Just remember the dip in summer of '09 during the run up. The CMI ignored that too.

If correct, the trade should right itself and continue onward and upward. (A one-trade year is always possible, and extremely profitable). If wrong, a percentage of this trade's gains evaporate, and either a QID trade or a 'No Trade' signal will follow.