After the recent correction, we wanted to see what the E-mini market did and how much damage was done, as well as what levels we are at in terms of supply and demand.
Looking at the chart for the December E-mini S&P, it closed at 2877, up about 46 points.
“What we are looking at on the chart is the structure of the mean reversion,” Equity Management Academy CEO Patrick MontesDeOca said, “which the artificial intelligence in the Variable Changing Price Momentum Indicator (VC PMI), written in C++ on the TradeStation platform, is providing us for the E-mini.” The blue levels indicate levels of demand. What we see is a perfect Fibonacci structure that identifies the mean price, which is in green. It then gives us two levels above the mean—Sell 1 (S1) and Sell 2 (S2), as well as two levels below the mean, Buy 1 (B1) and Buy 2 (B2).
One key thing to understand about the VC PMI for self-directed traders is that when the price comes down for the first time to touch the support or resistance levels, the levels identify for us an extremely high probability that the market is an area of demand. It prepares us to see the price action in this area. The first time it comes down, it indicates that a new set-up is in place. We have come down and met the target from the extreme above the mean of S1 of 3032.25. The S2 level is all the way up to 3074.
“The market was not able to carry through the demand into the red area of supply,” MontesDeOca said.
When the price closes below the S1 level, it activates a short trigger. When the trigger is activated, it automatically activates the target below of 2960, all the way down to 2825 for the weekly structure.
The market price has come down not only to give us a setup, but today it has made a new low and closed above the B2 level, activating a buy signal on a weekly basis. Once the signal is activated, and in this case the VC PMI went long from 2878, you can use the B2 level of 2845 as your protective stop. Your first target, if you’re doing multiples is 2889. You can take off some of your positions, whether in futures, stocks or ETFs at this level. If the market closes above it again, it activates the higher levels above it at 2960 as the next target. If activated, you can go back up to 100% of your position and anticipate the target of 2960 to be completed. If you initiate the buy trigger from the B1 level, use the B1 level as your stop, which we are doing. We entered the market at 2878 and our stop is 2845 on a closing basis using the 15-minute bar and go neutral.
The VC PMI Automated Algorithm
We use the proprietary Variable Changing Price Momentum Indicator (VC PMI) to analyze the precious metals markets and several indices. The primary driver of the VC PMI is the principle of reversion to the mean ("Mean Reversion Models of Financial Markets," "The Power of Mean Reversion in Factor - Based Investing"), which is combined with a range of analytical tools, including fundamental logic, wave counts, Fibonacci ratios, Gann principles, supply and demand levels, pivot points, moving averages, and momentum indicators. The science of Vedic mathematics is used to combine these elements into a comprehensive, accurate, and highly predictive trading system.
Mean reversion trading seeks to capitalize on extreme changes in the price of a particular security or commodity, based on the assumption that it will revert to its previous state. This theory can be applied to both buying and selling, as it allows a trader to profit on unexpected upswings and buy low when an abnormal low occurs. By identifying the average price (the mean) or price equilibrium based on yesterday's supply and demand factors, we can extrapolate the extreme above this average price and the extreme below it. When prices trade at these extreme levels, it's between 90% (sell 1 or buy 1 level) and 95% (sell 2 or buy 2 level) probable that prices will revert to the mean by the end of the trading session. I use this system to analyze the gold and silver markets.
Strengths And Weaknesses
The main strength of the VC PMI is the ability to identify a specific structure which price level traders can execute with a high degree of accuracy. The program is flexible enough to adjust to market volatility and alerts you when such changes take place, so one can adjust strategies accordingly. Such changes include when the market breaks out of a consolidation phase or a trend accelerates. Such volatility usually happens when the market has produced a signal at the S2 or B2 level, and the market closes above or below these extreme levels.
The day trading program then confirms that a higher fractal in price has been identified, and the market will move significantly higher, although the same principle applies if the market falls significantly. The price closing above the S2 level indicates that the buying demand is greater than the supply. This means that the market has found support for the next price fractal. Conversely, the price closing below the B2 level indicates that the selling pressure has met demand greater than supply at the extreme below the mean, and prices should revert back to the mean.
The basic concept of the VC PMI is that the program trades the extremes of supply and demand based on the average price daily, weekly, and monthly.
The strongest relationship we find in the algorithm is when the daily price is harmonically in alignment with the weekly and monthly indicators. We call this "harmonic timing." Such an indication produces the highest probability (90%) that the price will revert from these levels to its daily, weekly, or monthly average.
To learn more about how the VC PMI works and receive weekly reports on the E-mini, gold and silver, check out our Marketplace service, Mean Reversion Trading.
Disclosure: I am/we are long SPXL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.