Cloud charting is the second Japanese technique I have incorporated into my method. Ichimoku Kinko Hyo—the correct name for cloud charting—was invented by a Japanese journalist, Goichi Hosoda (1926-1983), who wrote under the pseudonym Ichimoku Sanjin. (The Chinese characters that make up his name translate roughly as “at one glance…of a man standing on a mountain.”) On the Bloomberg terminal, cloud charts are called General Overview Charts (type in an instrument code and then GOC), which gives a much better feel for what these charts can do. The method was revived by Hidenobu Sasaki (1950- ) who updated it in the very successful book Ichimoku Kinko Studies (Toshi Raider Publishing, 1996). For the mathematically minded, or for those who would like to set this up on a PC, the formula for the different lines is detailed in Figure 3.2, page 45 of the book. For those like me with a pathological fear of algebra, whose eyes glaze as soon as they see a Greek letter, we shall work through step-by-step in plain English how these charts are set up and how they work. (Also, remember that the Bloomberg terminal will draw all the lines for you.)
There are five steps necessary to set up these charts. Get the book
Working with the Ichimoku Clouds
The edges of the cloud also act as support and resistance, both for trending and sideways markets. In an ideal bull market, Leading Span 1 will lie below the nine-day and twenty-six-day averages and above the Leading Span 2. These support you all the way up and everything is plain sailing. The opposite happens in a perfect bear market: all the lines feel top-heavy and grind the market down. This is a series of four lines which should limit any corrective move. Picture them as two pairs. In the first pair, the longer moving average is more important than the short one. In the second pair, Span 2 is of critical importance, whereas Span 1 may or may not stem the move. I think of this as an advance force versus rearguard action. If prices move through leading Span 2, then any position should be cut and probably reversed. If this one goes, watch out! As always, at support and resistance levels watch for reversal-type candles which will hint that the level will hold. These often break through Span 2 intraday and then close back inside the cloud, forming a good reversal pattern.
The most interesting thing about the clouds is that they are plotted twenty-six days ahead of today’s prices. They therefore indicate where support and resistance levels will lie over the coming month. The thicker the cloud, the more likely it will contain price action. If it is thin, and if the lines cross from bull to bear, then the odds increase that the trend will change. So looking forward, the cloud gives you some idea whether to consider reversing tactics. In this situation, price action will be nonexistent. If coupled with a reversal candle at this point, whether it confirms that the trend will hold or hints that it will change, extra attention to detail and willingness to go with the move is warranted. The distance between the current price and the cloud is not considered important. It does not indicate whether the trend is overstretched, as the relative strength index (RSI) or other oscillators that try and measure market excesses would do. However, if the price had say shot up suddenly and far faster than usual, meaning the clouds were an awful long way down, and an evening star or a hanging man candle formed, then it may be worth taking profits as the corrective decline might not stop until a very long way down. Get the book
, by David Keller.
for this book
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