NOTE*** This post is part of an ongoing project to update my “How I Pick Stocks” page on the sidebar to the left. For every new section/update that I make to the page, I will post addition here as a post as well as amend the page itself so that all the information can be read together.
Next to Price & Volume, the TRIX Indicator is the primary indicator that I rely upon in my trading. Instead of spending my time writing about what exactly the TRIX is, Iâ€™m going to focus more on how I use it. For those of you who are interested in getting a little more info about it, take a look at this Investopedia.com Article About TRIX.
If youâ€™ve been following this blog for any period of time, you have no doubted seen the Green & Red indicator that accompanies practically all of my charts, that is a version of the TRIX that my friend Bill over at ViperSpeedTrader put together for me. As such, it is not at my discretion to give it to others. However, if you have eSignal or TradeStation then you can easily formulate a rough version that does pretty much the same thing as mine with the defaults that come with the programs.
To find out how to add your own version with TradeStation, Click Here
By far where the TRIX earns its weight in gold is by spotting divergences. The two kinds of divergences that I look for are TRIX Divergences and Price Divergences.
TRIX Divergences occur when price is increasing and makes and equal or higher high while the TRIX makes a lower high and then rolls over (& vice-versa when prices are falling). An example of a TRIX Divergence can be found in my 5-22-06 Futures Play of the Day post where a very nice positive divergence occurs around 10:55AM as the markets declined to a lower low while the TRIX mapped out a higher lower before turning positive.
One important note about TRIX divergences is that they are more reliable when the second TRIX hook occurs outside of the overbought/oversold regions. If a divergence occurs beyond the OB/OS regions I may enter for a quick scalp but I will be much more hesitant in staying for very long or betting on a reversal.
TRIX Divergences on higher timeframes are where I catch some of my biggest and most powerful moves. That being said they are not infallible and, as always, careful money management guidelines must be adhered to. Divergences that occur on the 55-tick chart often fail and are easily the most unreliable kinds to take. I will usually take them only for a quick scalp & even then only with confirmation from some other source.
This is a perfect example of a price divergence from a few days back on July 11th. This is a 610-tick chart and what you’ll notice is that after the huge advance marked #1, you see a decending flag correction marked at 2. Now look at the TRIX. On move #1 the TRIX went from 0 to +6 and price moved +7 points. Then the TRIX reverted and went from +6 to 0 only this time price only corrected -2 points. Which way is the momentum going?
In this situation, I would do 2 things. 1st, I would draw 2 trendlines outlining the border of the declining channel and look for a close above it & subsequent break out above that closing bar. I would also wait for the TRIX to change color from red to green. They would likely occur at the same time but in this situation, where the momentum is so undeniably going to push this market higher, I would get on at whichever one of those 2 things happend first. This is a trade I would take 100% of the time as it has a huge + E.V.
One note about price divergences is that they work best after prices have come from OB/OS conditions and are retracing. To gauge the momentum using this method is simple, merely mark off equal corrective moves on the TRIX and see whether price moved more when the TRIX went from say 0 to 4 or whether or moved more when the TRIX declined from 4 to 0. This is how you can keep your finger on the pulse of the market and be alerted to possible turning points ahead of the majority.
Based solely on this information alone, you should be able to trade profitably. Proper utilization of the TRIX in conjunction with the price & volume techniques I had been using is what turned my equity curve around.
A quick warning when about 55-tick TRIX divergences. One reason why they often fail is that you may see a wave formation that maps out what looks like a single or even double TRIX divergence on the 55-tick chart but on closer look what is really happening is that a Price Divergence is occuring on a higher timeframe (610-tick or 5-minute for example). This kind of false divergence happens frequently and this is when proper volume analysis can really come in handy.
Volume can help highlight when a divergence is more likely to be real and when it is more likely to fail and simply trace out a consolidation on a higher timeframe. When in doubt stay out and merely observe. Or for you compulsive gamblers out there who must be in the trade, I emplore you to use a tighter stop.
Basically, I use the TRIX as a momentum oscillator not unlike RSI, MACD, or the like. I use the TRIX instead because I personally find that it operates much smoother and a little faster than the others. While, I’ll admit that they all do tend to move together and you can trade just as effectively with any of them (I know because I’ve tried them all), I have just found that the TRIX works best for me personally but I encourage you to try them all and find the ONE that fits you best. With emphasis on “One” because that is all you need. I’ve seen many traders who use all of them to look for confirmation & re-confirmation. All this does is to make you second-guess yourself to the point of rendering any benefit which may have been derived from the indicator in the first place useless.
When day trading and scalping I use the 55-tick charts quite frequently. One rule I have is to never take a trade in the oposite direction of an overbought or oversold TRIX. What does this mean exacly? It means that if the 55-tick TRIX is in an overbought condition, I will not go long. If the conditions are right I may very well short when the price & TRIX hook down, but I will not go long (& Vice-versa when it is oversold).
One thing that is important to understand about the TRIX is that the Overbought & Oversold regions vary by security & timeframe. So what I do is have 2 horizontal lines that I draw on each of the TRIX charts. Each marks off the OB / OS areas respectively. I try to position these such that about 80% of the TRIX movement oscillates between the lines with 10% above & 10% below. For the Russell 2000 e-mini (ER2), I use +/- 1.50 on the 55-tick charts, +/- 4.00 on the 610-tick & 5-minute charts, +/- 12.00 on the 15-minute chart & +/- 20 on the 60-minute chart. This is my primary trading vehicle and requires adjustment for each market/security that is traded but gives you an idea of how I gauge the regions.
Another way I use the TRIX is in conjunction with multiple-timeframe analysis. For example, if the TRIX is heading down on the 5, 15, & 60 minute charts, then I will be more inclined to treat any positive hooks in the 55-tick TRIX with extreme caution.