- 1997: Volume 6, No. 1 Chartist Corner: Speed Lines Highlight Market Sensitivity

Trend line construction on charts takes many forms. The basic trend line is drawn from the start of a trend to a significant retracement level. More advanced trend line construction may use Fibonacci retracement levels to better quantify market support, resistance and targets. Speed lines combine simple trend lines with Fibonacci-like retracement values to create market sensitive zones of support and resistance.

Line Construction

Speed lines start with a simple trend line from a trend start to the extreme value of the move. The chart in Figure 1 shows a 200 day daily bar for Dollar-Yen. A renewed down trend got underway in early January so a trend line is drawn from the start of the decline to the lowest low for the move (19 April). This is different from drawing a regular trend line as it is not drawn to resist the decline but rather to meet an extreme point of the decline.

Figure 1

The vertical height of the January to April decline is then divided into thirds. (It is possible to substitute Fibonacci levels of 31.8% and 68.2% instead of 33% and 67% but the difference is negligible for all but the most mathematically oriented analysts.) In this case, the total vertical height is 20.7. This yields price coordinates of 86.68 and 93.58 on the date of the extreme low price (19 April). Lines drawn from the start of the decline through each of these two points are the speed lines for this market move.

These speed lines remain intact unless the market makes new lows. If it does, then the speed lines are redrawn based on the new data.

Interpretation

Speed lines are not restricted to skimming the tops or bottoms of price action like regular trend lines. They can and often do draw through price action and this does not diminish their value. Keep in mind that this apparent trend line violation is based on a line drawn well after the break and on an extreme price that had not yet occurred. Speed lines are used for price projection, not historical analysis.

In Figure 1, note that the 1/3 speed line (the lower line for a down trend) served as the breakout point for the early May rally (A) and the successfully tested support level for the late May retracement (B). The 2/3 line serves as a resistance for the July rally.

The simple rule for speed line analysis is that if a market breaks its 1/3 line, it will likely trade to the 2/3 line and be resisted (or supported) there. If it breaks the 2/3 line, then the 1/3 line changes to support (or resistance) and the next price target is the start of the original move. This is a 100% retracement and is also a Fibonacci level.

Of course, speed lines cannot be used alone to analyze a market. The May rally failed to reach the 2/3 line before correcting because of significant resistance at the 88 level. Along with the 2/3 line, the July rally also faces the same resistance. Should this level be penetrated, a significant rally can begin. Speed line analysis says that the next target would be 100. Standard Fibonacci analysis says that the low 90's will be the first stop.

The CAC-40 stock index in Paris peaked in early 1994 and fell to a low in early 1995. The 1/3 and 2/3 retracement lines are drawn in Figure 2 through these levels on the date of the low. As can be seen, the 1/3 line resisted the March-April rally (C) and when it finally broke, the market traded higher within the two lines. In April, the market paused to consolidate its gains, finding support on an important level near 1850. The next speed line target for the rally remains the 2/3 line although the 50% Fibonacci line near 2050 (not shown) will also provide resistance.

Figure 2

Speed line analysis can also be applied to the recent rally. Starting with the March bottom, the rally peaked in May. It broke the 1/3 line (the top line, in this case) and then successfully tested it in June. It continued to trade lower until it found support at the 2/3 line. Note that the market finally broke the 2/3 line but met strong support once again at 1850.

Speed lines can be a quick and easy way to find market targets. Because they are automatically adjusted to account for new highs or lows, they can help in market analysis long after they provide their first signals. When confirmed by support and resistance, regular trends and technical patterns, they round out the technician's tool box.

Michael N. Kahn is a columnist for Barron's Online based out of Florida. He also writes a free technical newsletter. To subscribe to this service, please visit www.midnighttrader.com. The complete collection of Michael Kahn's "Tips on Technicals" is available in Real World Technical Analysis.