The McGinley Dynamic is a little known yet highly reliable indicator invented by John McGinley somewhere in the late 80’s, early 90’s. Almost nothing has been published regarding the McGinley Dynamic since its inception either by Mr.McGinley or fellow traders. We may not learn the calculations of his indicator but we can learn the value of his indicator by its characteristics. I base my assumptions of the McGinley Dynamic first from a one page journal article published almost 20 years ago and because I have used this indicator and find great value in its use.
The McGinley Dynamic can be easily described as a 10 day simple and exponential moving average with a smoother, a filter that smoothes the data to avoid whipsaws.Yet its reliability as an indicator is much more reliable than a moving average since moving averages tend to forecast false signals, especially during periods of whipsaw price action such as an out of sync economic release or periods of stops and starts of trends. The McGinley Dynamic may look and act like a moving average but due to the filter, it gives this indicator its profound reliability.
To further understand the McGinley Dynamic, a quick lesson in moving averages may help since we lack calculations of this indicator. Simple moving averages smoothes out price action by calculating past closing prices and divide by the number of periods.. To calculate a 10 day moving average, add closing prices of the last 10 days and divide by 10. The hope is to forecast future prices based on past price action.. The smoother the moving average, the slower to react to prices. A 50 day moving average moves slower than a 10 day moving average. A 10 and 20 day moving average can at times experience volatility of prices which cannot always gauge future price action. False signals may occur during these periods catching traders for losses because prices may get far ahead of the market.
An exponential moving average responds to prices much quicker than a simple moving average but may cause false breaks due to volatility or price spikes. Its a good indicator for the short term and great to catch short term trends so this is why traders use both simple and exponential moving averages simultaneously for entry and exits. Yet as stand alone indicators, traders could get caught with losses if not careful with a steadfast eye on the screen, hence the reason the McGinley Dynamic was anchored as a moving average.
What separates the McGinley Dynamic from its moving average counterparts is it tracks like a moving average in trending markets yet its more of a constant indicator and holds its consistency both in the long and short term due to the mysterious filter. The draw back is simple.
The McGinley Dynamic lags prices and candles. This can scare traders and force them to make erroneous decisions regarding future price movements. Know that as long as the McGinley Dynamic line is pointing up or down, traders can feel confident regarding direction. Don’t be fooled by the color of a candle along the trend. Certain volatility periods will exist with this indicator because its an indicator that forecasts trends not short term volatilities. As a trend indicator for the long term, its a good and reliable signal. The longer the time frames used, the better the forecast of a trend. For time frames shorter than 60 minutes, this indicator works but like any indicator in shorter time spans, its buyer beware.
If markets gain momentum, simple and exponential moving averages can lag while the McGinley Dynamic moves with prices. This is why the term dynamic is used, its dynamic because the line moves with prices up or down unless prices experience drastic spikes. In this instance, look at the dynamic line as a mean in a standard deviation equation. Prices will always revert back to the mean. So extreme price spikes should always be sold in uptrends and bought in downtrends until they again approach the dynamic line. The dynamic line always speeds up or slows down dynamically with prices, its a constant line that moves but not as fast as moving average lines.
In instances of extreme volatility, the McGinley Dynamic can’t react fast enough to market changes. The best decision is use a volatility indicator such as Bollinger Bands or a stochastic oscillator with the McGinley Dynamic.This method will serve traders well.
Because the Dynamic Line is a forcaster of trends, periods of range bound markets can be complicated. In this example, shorter time frame charts may be the answer to determine future direction. This would serve scalpers well and discourage swing traders. For periods of market uncertainty, the McGinley Dynamic tracks almost the same as Parabolic SAR, stop and reverse and the Tenkan line in the Ichimoku indicator. No indicator should ever be deployed alone because we can never be absolutely positive regarding market tendencies. Confirmation of trend direction is always useful.
Entry and exits are tricky as a stand alone indicator. In uptrends, exit when the Dynamic Line flattens or when prices breach the Line. Always be careful of false breaks especially in fast markets as this can be a tendency even on longer term charts with this indicator. Be mindful that prices revert back to the mean. Enter an uptrend when the Dynamic Line turns up.
Enter downtrends when prices breach the line downward and exit when prices either breach the line upside or the line flattens.
The Dynamic Line is set as a standard 14 periods yet these periods can be adjusted. For faster response to prices, set the periods lower but beware of true false breaks and whipsaws. This indicator will then act more like an oscillator than a moving average. For slower response periods, set the number higher. This will give a true reading of the market but may take longer to achieve price objectives. Yet why would you want to change the status quo when 14 periods correctly forecasts trends.
The true objective to learn about the McGinley Dynamic is watch and analyze prices as the indicator moves. Use various time framed charts and more importantly, learn entry and exit points. Its an 18 year old indicator that lives up to its reputation for its reliability.
October 2009 Brian Twomey
Brian Twomey is a currency trader and adjunct professor of Political Science at Gardner-Webb University