Currency Chart Congestion Counts

Some believe that currency markets are trending all the time and picking that one indicator that signals the buy or sell will instantly make one profitable because of the fast nature and reputation of these markets. When in actuality, currency markets are more ranging than they are trending. What happens to that one trend that falls prey to a range trade. Did that currency pair fail to breakout at the top or bottom of its range. Were you prepared for the failure.What I would like to focus on is a little known and not widely studied chart set up called congestion, in this instance currency congestion counts.
  Currency congestion in non academic terms can be easily defined as the location on a chart where the currency pair just gets bogged down and stuck, stuck in a place where defined ranges become smaller and smaller. Its a place where opening and closing prices are almost the same, up candles are preceded by down candles and down candles are preceded by up candles. Congestion can last for days and even weeks at a time causing traders frustration, time and absolute uncertainty in direction. Moreover, as time means money gained or lost, you the trader are left wondering where the next move will come, will you be profitable and how long will it take. To determine if a currency pair is in the congestion zone or better known as the fulcrum, count your daily candles and determine where highs and lows are the same or almost the same price. The number of candles within the small range is your currency congestion count or chart count.This is the congestion zone.
  Congestion occurs from two areas. One is after a trend, usually a long advance or decline. This is normally a period of consolidation anyway but uncertainty further hinders the next direction. Yet consolidation and congestion are quite different. Consolidation is nothing more than a short rest for a pair as it gains steam for the next leg up or down. While congestion doesn’t have a leg, its just stuck. The other occurs due to economic uncertainty, uncertainty in interest rates or general economic activity either in one particular nation or a general economic dilemma facing the entire world. One pair that may be in congestion doesn’t mean all pairs are in congestion. Non USD pairs such as the  EUR/USD and GBP/USD can easily become congested as much as USD pairs such as the USD/CHF and USD/JPY. Crosses such as the GBP/CHF, EUR/CHF and GBP/AUD can easily find themselves in congestion. All markets fast or slow fall prey to periods of congestion. We have to go back to historic beginnings of the markets however to find modern day answers to this dilemma.
  Alexander Wheelan wrote the Point and Figure Technique in 1954 where prices were charted on box graph paper using X’s and O’s to represent opening and closing prices.  Trends were found drawing trend lines at 45 degree angles. When prices found themselves in congestion, they were termed fulcrums, inverted fulcrums, compound fulcrums and the like. A fulcrum is the center that represents the balance of prices.
Some may argue that fulcrums are reversal patterns. We would know reversals using today’s candles by measuring support and resistance patterns within the congestion zones. A horizontal line was then drawn in the middle of the congestion zone. Wherever prices closed in relation to the line would signal the next direction. Typically two closing prices above or below the line was the perfect signal. Using today’s candlestick patterns, you would perform the same functions to determine the next direction. Lines should be drawn directly in the middle of the fulcrum and wait for two consecutive closes above or below the line. This horizontal line may be drawn directly through a candle as well to keep the fulcrum in equilibrium. Chances are this breakout may be sufficient to find the new direction and earn a profit. As Point and Figure charting must have been an extremely tedious practice to not only  find winning trades but working out problems of congestion must have been even more difficult. So the Bar Chart was invented.
  Bar charts are simple sticks where opening and closing prices are denoted by hash marks.  Congestion on bar charts ocurrs when prices close on four bars within the confines of a range of a single price bar. The single price bar may be a measuring bar. So you need at least four bars to be considered congestion. Any range extensions is still considered congestion because prices fall within the zone. This just adds to the overall congestion count. Bar charts made the analysis of charting much easier than Point and Figure charts because it gave rise to trend lines and the ability to find more winning trades and work out dilemmas of congestion.
  The book Success in Commodities, the Congestion Phase System  by Eugene Nofri and his daughter Jeanette Nofri Steinberg fully opened the door to the study of congestion and congestion counts. Congestion for the Nofri’s was based on closing prices. Congestion was defined as “if a high or low is not broken and followed by two closes in the opposite direction, market congestion exists. Price may break congestion but find itself back within two or three days”. This is a new congestion zone using new highs and lows as the foundation. Next plot seven days closing prices to ensure stabilization in congestion zones.
The Nofri’s used 32 chart examples to highlight trend patterns in congestion zones. Based on this two day closing price
principle, the Nofri’s traded commodities (Grains) on the assumption that when prices close lower or higher for the second day in a row, you buy it or sell it on the close expecting prices to close higher or lower on the third day. The trade closes on the third day. The authors claim of 75 percent accuracy in trades was independently verified. Success in Commodities was a historic breakthrough in many respects. It gave us a clearer understanding of congestion and congestion counts, introduced modern day traders to a better understanding of support and resistance, introduced the  radical idea the trend may not necessarily be your friend at all times. What this book really gave us was a new concept called the range trade.These concepts opened the door to further academic studies and new models based on these 1970’s practices.
 The first academic studies were solely based on this radical concept of measuring close to close ratios. Later such studies as the Parkinson Estimator, Garman and Klass and older Garch models began investigating price volatility based on a market’s highs and lows and open and closes. The common theme of these studies is the range trade can be and was extremely profitable.
  Even with the advent of candlestick patterns equipped with an understanding of congestion based on historical  standards and the understanding of charts and chart patterns, not a trader exists that hasn’t fallen prey to this phenomenon of the markets. So the questions left unanswered is how did we get to congestion and what can be done about it will be highlighted next.
  Because ranges get smaller and smaller as prices move towards congestion, the early warning sign of this phenomenon is what is known as the stalled candlestick pattern. Usually after a long advance or decline, an upward pattern that looks like a bullish three white soldiers pattern develops. The problem materializes when the third candle upward in a three white soldiers pattern fails. The opposite occurs in a three black crows pattern downward where the third candle fails, where a new high or low is not made in either pattern and represents indecision. These patterns are fakeout patterns as one would believe that a downward or upward spiral will continue. Instead congestion occurs and ranges get smaller and smaller so a trader that bought or sold into these positions is stuck for a temporary period.
 What usually occurs next is the symmetrical triangle after a stalled pattern. This is confirmation of congestion because ranges are really small as the symmetrical triangle gets smaller. The only answer is wait for the two opposing lines of the triangle to meet in a point and follow the breakout up or down.
 For those periods of congestion where trading ranges occur, draw horizontal lines through the fulcrum as well as marking out highs and lows of the range with an upper line of support  and lower line of resistance.  Now trade the range while waiting for a breakout. This is also known loosely as the box pattern. To complete this scenario fully, measure the ranges by adding the range from high to low and subtract those values. The answer will be where prices will go up or down upon a breakout. Many will know this pattern as the rectangle where the horizontal lines are support and resistance and the vertical lines are the measure of the range.
 No better way to find a breakout by using ADX and DMI. Low ADX numbers will alert traders to an imminent  breakout especially if congestion lasted for a long period. Low ADX readings will alert traders further to the strength of the imminent breakout. DMI simply confirms the direction of the breakout. A positive cross above signals a breakout to the upside while a downward cross is the signal to the downside.
 Another aspect to congestion is pivot point analysis, an effective and popular tool for any market. A pivot point is simply a strong point of support or resistance used to test one moment of time in the market. Simply add the high,low and close and divide by three to determine where that point is located. These lines are solid points of support and resistance and can best measure congestion zones as well as trading ranges.
 The chances are probably good that congestion will form within a 50% Fibonacci zone simply because 50 % zones are marked by previous long advances or declines. If you measure the advance or decline by an A- B move, the C aspect of that corrective move usually marks congestion, the 50% or the indecision aspect of the market. Yet figuring out where the C move will go will help to know where the D or the breakout phase will come while congestion occurs. Swing traders may want to go a step further by predicting turning points for the D move based on Fibonacci days such as 13, 21, 34, 55 or 89 days in the future.
 Be careful of bid and ask prices. This is an early warning sign to congestion because bounces of  bid or ask prices can inflate the range by the average spread. This will ensure further congestion.
 Some may argue that breakouts will follow the previous direction before congestion occurred. This answer is not an absolute and can’t be relied upon for a profitable trade especially if congestion lasted for long periods. Fundamentals of the market may have changed during these long congestion periods.
 The last aspect of congestion is to factor  standard deviation to find where prices may travel out of the congestion zone. 1. Compute the mean of prices. 2. Compute deviation by subtracting the mean from each value. 3. Square each deviation. 4. Add the squared deviations. 5. Divide by 1 less than the sample size. 6. Take the square root. The square root is the variance where is measured the spread of prices. This again is one moment in time but it may hint at a breakout up or down based on the variance. The variance simply says are prices distributed more to the upside or downside.
 One aspect of congestion is the fact if congestion lasts for long periods, the breakout will be a strong breakout with a violent thrust up or down and can mean a very profitable situation.
 In the currency markets, many pairs exist that are natural to the range trade. Not necessarily congestion but the range trade. AUD/ CAD, EUR/GBP and the EUR/CHF are prime examples. During the month of April, the EUR/CHF ranged approximately 290 pips all month. AUD/CAD has barely 50 pip ranges on any given day. Know that the charts are trying to forwarn these profitable situations long in advance if traders take advantage of the message.
 Brian Twomey is a currency trader and Adjunct Professor of Political Science at Gardner-Webb University.
 Suggested readings: Success in Commodities, The Congestion Phase System, Eugene Nofri and Jeanette Nofri Steinberg. Success Publishing 1975
 Technical Analysis of the Financial Markets,  A Complete Guide  by John J. Murphy, 1999 New York Institute of Finance.
 Getting Started in Forex Trading Strategies, Featuring the Goodman Swing Count Index, Michael Duane Archer, Wiley 2008,
 Two Steps Forward and One Step Back: The Congestion Phase Charting System. Fred Gehm, MTA Journal Fall 1991
Chart Congestion Analysis, Holliston Hill Hurd, Stocks and Commodities 1992
 Vertical Horizontal Filter, Jayanthi Gopalakrishnan, Stocks and Commodities 1992
Goodman Swing Index, Michael Duane Archer
 May 2009
 Brian Twomey

 

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